Lenois v Lawal, et al. C.A. No. 11963-VCMR (Nov. 7, 2017) (Montgomery-Reeves, V.C.)
In this memorandum opinion, the Court of Chancery dismissed derivative breach of fiduciary duty claims brought by a minority stockholder against the controllers of a company for presenting, and the board of directors for approving, an allegedly unfair transaction. The Court held that demand was not excused as futile because the plaintiff failed to plead non-exculpated claims against the board of directors, other than the controlling director. The Court also dismissed direct breach of fiduciary duty claims against the board regarding alleged disclosure violations, holding that the alleged injury inured to the company and not to the stockholders.
The dispute arose after Erin Energy Corporation (the “Company”), an oil and gas exploration company, entered into certain transactions (the “Transactions”) facilitated by its chairman, CEO and controlling stockholder, Kase Lukman Lawal (“Lawal”). In connection with the Transactions a third-party entity, Public Investment Corporation Limited (“PIC”), invested $270 million into the Company in exchange for Company stock. The Company then transferred, among other things, $170 million in cash to a company, Allied Energy Plc (“Allied”), in which Lawal indirectly held a controlling interest. In exchange, the Company received certain oil mining rights held by Allied. In connection with the Transactions, the Company also distributed additional shares of Company stock to its existing stockholders.
The plaintiff alleged that the Transactions resulted from negotiations with PIC that Lawal conducted on Allied’s behalf without informing the other members of the Company’s board of directors (the “Director Defendants” and collectively with Lawal, the “Board”). After Lawal presented the Board with a proposed transaction, the Board formed a special committee (the “Special Committee”), which hired a financial advisor and retained legal counsel. The Special Committee exchanged multiple proposals with Allied and PIC, and during such time resisted attempts to rush the process and pushed back on a number of the deal terms. Following that process, the Special Committee’s financial advisor was unable to conclude that the proposed transactions were fair and negotiations were recommenced with Allied. The Special Committee then received a “best and final” proposal from Allied with certain changes to the deal structure, which the Special Committee’s financial advisor concluded was fair. The Special Committee approved the terms and recommended the Transactions to the Board, and in turn, the Board recommended that the stockholders approve the Transactions. The stockholders approved the Transactions with approximately 64% of the total outstanding minority shares cast in approval.
The plaintiff filed suit, asserting breach of fiduciary duty claims against the Director Defendants for approving the Transactions, alleging that the Company overpaid for the Allied assets by between $86.2 and $198.8 million. The plaintiff also asserted direct breach of fiduciary duty claims against the Board for alleged disclosure violations in the proxy relating to the Transactions. The defendants moved to dismiss all claims pursuant to Court of Chancery Rules 23.1 and 12(b)(6).
The Court first reviewed prior case law addressing the demand futility standard, holding that where an exculpatory charter provision exists, demand is excused as futile under Aronson v. Lewis only if a plaintiff demonstrates that a majority of the board faced a substantial likelihood of liability for non-exculpated claims. Applying this standard, the Court ruled that the plaintiff failed to satisfy the second prong of Aronson, concluding that demand was not excused as futile because the plaintiff failed to plead with particularity sufficient allegations to create a reasonable doubt that the Board, protected by an exculpatory charter provision, “act[ed] honestly and in good faith to advance corporate interest” when negotiating and approving the Transactions.
The Court found that the alleged behavior of the Director Defendants did not raise a reasonable doubt as to their good faith. In so finding, the Court looked to the spectrum of bad faith laid out by the Delaware Supreme Court in In re Walt Disney Co Deriv. Litig.– which ranged from gross negligence to intentional dereliction of duty to subjective bad faith. In determining whether the Director Defendants’ alleged behavior rose to the level of bad faith, the Court reviewed: (1) the Director Defendants’ interactions with Lawal during the negotiation process; (2) the Board’s reliance on the analysis of the Special Committee’s financial advisor; (3) the disclosures in the proxy filed in connection with the Transactions; and (4) facts suggesting that Allied had not paid the full contract price for the assets sold to the Company.
The Court noted that though the plaintiff pled with particularity that Lawal acted in bad faith, the plaintiff failed to plead with particularity facts sufficient to raise a reason to doubt that any of the Director Defendants, who constituted more than a majority of the Board, acted honestly and in good faith. The Court noted that: (1) the Special Committee, among other things, questioned Lawal after realizing that it lacked important information, meaningfully negotiated deal terms and pushed back on the speed of the transaction; (2) the plaintiff failed to adequately allege that the Director Defendants acted with knowledge that their financial advisor’s opinion was false; (3) the plaintiff failed to explain why any alleged omissions in the proxy would give rise to bad faith claims; and (4) the plaintiff offered no particularized facts to determine whether the Special Committee knew that Lawal/Allied had not paid the full contract price for the assets sold to the Company. The Court also noted that the plaintiff did not adequately plead a claim against the Board that the Transactions constituted waste. Without any basis to conclude that the Director Defendants faced a substantial likelihood of liability, the Court held that the Board retained the right to manage the litigation and plaintiff’s derivative claims must be dismissed for failure to make a demand.
Finally, the Court dismissed the plaintiff’s direct claims for breach of the duty of disclosure relating to alleged material omissions and misleading statements in the proxy statement. Citing In re J.P. Morgan Chase & Co. Shareholders Litigation, the Court held that although a disclosure violation impairing the stockholders’ right to cast an informed vote is a direct claim, such a claim should be dismissed where the damages allegedly caused by the alleged disclosure violation are identical to the damages to the company as a consequence of an underlying derivative claim. The Court found that the plaintiff offered no explanation as to why the damages allegedly caused by the disclosure violation were suffered only by the stockholders directly and not the Company.