Delaware County Employees Retirement Fund v. Sanchez, No. 702, 2014 (Del. Oct. 2, 2015) (Strine, C.J.)

In this en banc decision, the Delaware Supreme Court reversed the Court of Chancery’s dismissal of derivative claims for failure to plead demand futility adequately.  The Court held that a director’s “deep friendship” with an interested party, along with the director’s employment at a company over which the interested party had a substantial influence, supported an inference that the director could not act independently of the interested party.

The action arose from a transaction between Sanchez Energy Corporation (“Sanchez Public Company”), a public company, and Sanchez Resources, LLC (“Private Sanchez Company”), a private company owned by the family of Antonio Sanchez, Jr.  The plaintiffs brought a derivative action challenging the transaction, alleging that it unfairly benefitted Private Sanchez Company to the detriment of Sanchez Public Company.

Under Aronson v. Lewis, to plead demand futility adequately, a plaintiff must allege particularized facts sufficient to create a reasonable doubt that either a majority of the directors are disinterested and independent or the challenged transaction was otherwise the product of a valid exercise of business judgment.  The parties did not dispute the disinterestedness of two of the directors on the board of Sanchez Public Company—the chairman of the board, Antonio Sanchez, Jr., and his son, Antonio Sanchez, III.  Accordingly, demand futility hinged on whether the complaint created a reasonable doubt regarding the disinterestedness and independence of a third member of the board of Sanchez Public Company.

The Court of Chancery held that the complaint failed to do so.  One of the directors, Alan Jackson, had been close friends with Chairman Sanchez for over five decades, had contributed to Chairman Sanchez’s campaign to run for Governor of Texas, and was employed at IBC Insurance Agency, Ltd. (“IBC”), a company owned by another company of which Chairman Sanchez was the largest stockholder and a director on the board.  Further, IBC received business from Sanchez Public Company and other Sanchez affiliates.  The Court of Chancery, however, concluded that these facts did not overcome the presumption that Jackson was independent.

Emphasizing their de novo review of this issue, the Delaware Supreme Court reversed and held that the plaintiffs adequately pled demand futility.  In so holding, the Delaware Supreme Court faulted the Court of Chancery for separating its analysis of the personal and business relationships between Chairman Sanchez and Jackson rather than viewing them together to determine to “full context” of Jackson’s independence.  The Delaware Supreme Court first emphasized the close personal relationship between Chairman Sanchez and Jackson, describing it as far stronger than the “thin social-circle friendship” found insufficient in past cases.  The Court then turned to the business relationship between Chairman Sanchez and Jackson, emphasizing that Jackson’s employer, IBC, was a subsidiary of a company over which Chairman Sanchez had substantial influence and that Chairman Sanchez was an important source of work for IBC.  In a footnote, the Delaware Supreme Court rejected the notion that the interested party must have the unilateral power to terminate the director to demonstrate a disabling interest.  Rather, the Court noted that Chairman Sanchez’s influence was sufficient to create a threat of termination against Jackson at IBC, thereby threatening his livelihood. 

Taken together, according to the Delaware Supreme Court, these facts adequately supported an inference that Jackson, and thus a majority of the board of Sanchez Public Company, lacked independence.  Accordingly, the Court reversed and remanded to the Court of Chancery for further proceedings.

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