Monday, November 04, 2019

Pre-suit communication was a demand letter in the guise of an informal letter

By Rodney F. Tonkovic, J.D.

A letter that a shareholder argued was simply making suggestions to a company board had enough "legal bite" to constitute pre-suit demand, the Delaware Court of Chancery found. The shareholder claimed that his letter was simply an informal suggestion that the board look into its compensation practices, but the court said that the content of the letter looked enough like a demand for it to be construed as a pre-suit litigation demand for purposes of Rule 23.1 (Solak v. Welch, October 30, 2019, McCormick, K.).

The letter. The suit was brought a shareholder of Ultragenyx Pharmaceutical Inc., a biopharmaceutical company incorporated under Delaware law. In April 2018, Ultragenyx filed an updated compensation policy within its definitive proxy statement filed with the SEC. In June 2018, the shareholder sent a letter to the Ultragenyx Board of Directors suggesting that the board take immediate action to address excessive director compensation and other compensation practices and policies. The letter referred to a recent Delaware Supreme Court case in which the court said that shareholder ratification of an equity incentive plan does not foreclose review for breach of fiduciary duty. The letter did not expressly ask the board to initiate litigation (and contained a footnote to the effect that it was not to be considered a demand) but stated that the shareholder would pursue all available remedies if there was no response within 30 days.

In October 2018, the board responded, stating at the outset that it understood the letter to be a demand pursuant to Rule 23.1. The board then explained that it conducted an investigation with the assistance of counsel and described the approach used to set Ultragenyx's compensation policies. The response also said that the board unanimously resolved that it would neither change the compensation policy nor authorize commencement of a civil action.

This derivative action commenced in November 2018, based on the board’s allegedly excessive non-employee director compensation practices. The complaint asserted three causes of action: breach of fiduciary duty, unjust enrichment, and corporate waste. Eight of the directors serving at the time of the complaint were named as defendants. Ultragenyx moved to dismiss under Rule 23.1(a).

Demand. At issue was whether the shareholder's letter constituted a pre-suit demand on the board. The shareholder argued that the letter was simply an informal attempt to educate the board and encourage it to make changes to the compensation policies. The court disagreed.

The shareholder maintained that because the letter did not expressly demand that the board commence litigation, it could not be construed as a pre-suit litigation demand. The court cited precedent holding that pre-suit communications do not have to expressly demand litigation to constitute pre-suit demand. In this case, the letter articulated the need for "immediate remedial measures," proposes remedial action, and requested that the board take such action. While the letter said that it was not a demand, the court remarked that "these strong overtures of litigation very much make it look like one."

The court went on to note other factors that led to the conclusion that the letter constituted a demand. First, the fact that the complaint in this action was a near-copy of the letter weighed heavily in favor of deeming it a pre-suit demand. The remedial measures requested in the letter also resembled action commonly achieved through derivative litigation. The court noted in addition that a very similar letter by the same plaintiff had been had been held to constitute a pre-suit demand by a New York state court.

Finally, the court found in conclusion that the complaint did not plead with the required particularity that demand was wrongfully refused. The complaint failed to allege any facts supporting an inference that the demand was wrongfully rejected and did not even acknowledge the board's response. The court accordingly granted the motion to dismiss.

The case is No. 2018-0810.