By Lauren Garraux and Phillip Kardis
In his April 28, 2015 Memorandum Opinion, Vice Chancellor Parsons dismissed a derivative suit brought by ADT Corp. stockholder Walter E. Ryan, Jr. (“Plaintiff”) against the Company’s board of directors, Corvex Management LP (“Corvex”), a hedge fund investor, and Corvex’s principal arising out of the Company’s repurchase of $450 million in stock held by Corvex, a move that led to a drop in the Company’s stock price. Citing Chancery Court Rule 23.1, Vice Chancellor Parsons dismissed the suit because Plaintiff had neither made a pre-suit demand on the Company’s board nor met his burden of proving that demand should be excused as futile under Aronson.
Plaintiff commenced this derivative action on August 1, 2014 and filed an amended complaint on October 3, 2014, asserting claims of breach of fiduciary duties of care and loyalty against ADT’s board of directors, aiding and abetting those breaches against Corvex and unjust enrichment against Corvex and Corvex principal Keith Meister (“Meister”) who, during the time period relevant to the complaint, held a seat on ADT’s board and audit committee. Plaintiff’s claims arose out of what Plaintiff characterized as a self-interested “pump-and-dump” scheme pursuant to which Meister managed to “pump up” the price of ADT’s stock and then convinced his fellow board members to repurchase most of Corvex’s ADT stock in November 2013 at $44.01 per share for an approximate total of $450 million, the alleged “dump.” Following the repurchase, ADT was left in a “far-worse-than forecasted financial condition,” with “diminished future prospects” and a slipping stock price that ultimately settled around $28 per share in the first few days of February 2014.
All of the defendants moved to dismiss the amended complaint under Chancery Court Rule 23.1, arguing that Plaintiff failed to make a pre-suit demand on ADT’s board and, alternatively, failed to adequately plead that such a demand would have been futile and, therefore, was excused. Vice Chancellor Parsons granted defendants’ motions.
For a stockholder to bring a claim of the corporation on its behalf, s/he must either: (i) demand that the company’s board prosecute the claim (which the directors wrongfully refuse), or (ii) adequately plead in the complaint that demand would be been futile because the directors are incapable of making an impartial decision regarding whether to institute such litigation. If neither situation is present, the complaint must be dismissed under Chancery Court Rule 23.1, which sets forth the demand requirement. Here, because Plaintiff did not make a pre-suit demand on ADT’s board prior to instituting litigation, Vice Chancellor Parsons’ analysis focused on the second situation, that is, whether demand was excused as futile, a question governed by the Delaware Supreme Court’s decision in Aronson v. Lewis (“Aronson”).
Under Aronson, a plaintiff demonstrates demand futility by pleading particularized facts that create a reasonable doubt as to whether: (i) the directors made the challenged decision with disinterestedness and independence, or (ii) the challenged decision or transaction was otherwise the product of a valid exercise of business judgment. According to Vice Chancellor Parsons, Plaintiff did not satisfy either prong.
With respect to the first prong of Aronson, for example, Plaintiff relied heavily on his contention that the Company’s directors were driven by a desire to entrench themselves. In Vice Chancellor Parsons’ view, however, the non-conclusory allegations of the amended complaint did not raise a reasonable doubt as to the directors’ disinterestedness or independence based on such an “entrenchment” theory– Plaintiff did not allege that the directors were “actually threatened” with removal from their positions by Corvex and Meister, did not allege that Corvex or Meister took any action aimed at removing one or more of the directors, did not allege that Corvex or Meister publicly advocated for the board’s removal and did not identify any interest or motivation of the directors relating to the alleged entrenchment. Because Vice Chancellor Parsons could not infer, based on the non-conclusory allegations of the amended complaint, that the directors sought to entrench themselves, demand was not excused under the first prong of Aronson.
Vice Chancellor Parsons similarly determined that Plaintiff had failed to demonstrate demand futility under Aronson’s second prong, which requires the plaintiff to carry the “heavy burden” of showing that the business judgment rule should not apply and that the directors’ decision be measured by concepts of gross negligence. According to Vice Chancellor Parsons, the amended complaint contained no particularized allegations of fraud as to the repurchase price nor did it allow the Vice Chancellor to infer that the board agreed to pay a material “premium” in repurchasing the Corvex stock. Instead, the amended complaint revealed that the directors considered the merits of the challenged decisions, received information from expert advisors and held meetings in which they deliberated those decisions. These allegations, therefore, were insufficient to establish demand futility under Aronson’s second prong.
In addition to Rule 23.1, defendants also argued that the amended complaint should be dismissed for failure to state a claim under Chancery Court Rule 12(b)(6). Because of his ruling discussed above, however, Vice Chancellor Parsons did not reach or address defendants’ arguments under Rule 12(b)(6).