Wednesday, October 07, 2015

Director’s Close Ties to Interested Party Rendered Demand Futile

By Anne Sherry, J.D.

Shareholders are excused from demanding that directors of a public company investigate allegations of wrongdoing surrounding a transaction between the public company and a private company. Reversing the Delaware Chancery Court, the Delaware Supreme Court found that the plaintiffs did more than allege a close personal relationship between a director and an interested party; they also pleaded facts suggesting the director’s employment depended on that party. Taken as a whole rather than in isolation, these facts supported an inference that a majority of the board was not disinterested (Delaware County Employees Retirement Fund v. Sanchez, October 2, 2015, Strine, L.).

Parties and background. Sanchez Resources, LLC is wholly owned by the family of A.R. Sanchez, Jr.; the family also owns 16 percent of the public company, Sanchez Energy Corporation, which depends on the LLC for its management services. The plaintiffs, shareholders of the public corporation, sued the board derivatively over a transaction that allegedly involved a gross overpayment by the public company to the benefit of the private. The chancery court, “in a thorough and careful opinion,” held that the plaintiffs had insufficiently pleaded that demand was excused under either prong of Aronson.

Directors. The parties agreed that two of the five public company board members were not disinterested, so the outcome turned on whether there was a doubt as to the independence of another director. The complaint challenged the independence of a director with close ties to the private-company chairman. First, the complaint pleaded that the two men had been close friends for over 50 years. Second, it pleaded that the public-company director owed his job and his personal wealth to his connection with the chairman.

Totality of the pleading. The chancery court carefully analyzed Aronson and justified its decision that demand was not excused, but on de novo review, the Supreme Court came to a different decision. Instead of considering the personal relationship and business relationship between the men as separate issues as the chancery court had done, the high court considered the pleaded facts in context, drawing inferences in the plaintiffs’ favor. In a holistic and plaintiff-friendly view of the relationship, the plaintiffs created a reasonable doubt as to the director’s independence.

The case is No. 702, 2014.

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