Matthew Sciabacucchi v. Liberty Broadband Corporation ( 2018 )

IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
MATTHEW SCIABACUCCHI, )
Individually and on Behalf of All Others )
Similarly Situated, )
)
Plaintiff, )
)
v. ) C.A. No. 11418-VCG
)
LIBERTY BROADBAND )
CORPORATION, JOHN MALONE, )
GREGORY MAFFEI, MICHAEL )
HUSEBY, BALAN NAIR, ERIC )
ZINTERHOFER, CRAIG JACOBSON, )
THOMAS RUTLEDGE, DAVID )
MERRITT, LANCE CONN, and JOHN )
MARKLEY, )
)
Defendants, )
)
and )
)
CHARTER COMMUNICATIONS, )
INC., )
)
Nominal Defendant. )
MEMORANDUM OPINION
Date Submitted: April 6, 2018
Date Decided: July 26, 2018
Kurt M. Heyman and Melissa N. Donimirski, of HEYMAN ENERIO GATTUSO
& HIRZEL LLP, Wilmington, Delaware; OF COUNSEL: Jason M. Leviton and
Joel A. Fleming, of BLOCK & LEVITON LLP, Boston, Massachusetts, Attorneys
for Plaintiff.
Martin S. Lessner, David C. McBride, James M. Yoch, Jr., and Paul J. Loughman,
of YOUNG CONAWAY STARGATT & TAYLOR, LLP, Wilmington, Delaware;
OF COUNSEL: William Savitt, Anitha Reddy, and David Kirk, of WACHTELL,
LIPTON, ROSEN & KATZ, New York, New York, Attorneys for Defendants
Michael Huseby, Balan Nair, Eric Zinterhofer, Craig Jacobson, Thomas Rutledge,
David Merritt, Lance Conn, John Markley, and Nominal Defendant Charter
Communications, Inc.
Donald J. Wolfe, Jr., Peter J. Walsh, Jr., Brian C. Ralston, Tyler J. Leavengood,
Jaclyn C. Levy, and Aaron R. Sims, of POTTER ANDERSON & CORROON LLP,
Wilmington, Delaware; OF COUNSEL: Richard B. Harper, of BAKER BOTTS
LLP, New York, New York, Attorneys for Defendants Liberty Broadband
Corporation, John Malone, and Gregory Maffei.
GLASSCOCK, Vice Chancellor
The Plaintiff here is a stockholder in Charter Communications, Inc., a media
company. In 2015, Charter made two major acquisitions, of Bright House
Networks and Time Warner Cable. Charter obtained stockholder approval of the
transactions, but conditioned the acquisitions on stockholder approval of a related
series of transactions, including an issuance of equity to Charter’s largest
blockholder, Liberty Broadband. The stockholders voting for the acquisitions were
told that those acquisitions would not close unless the issuance to Liberty was also
approved. The equity issuance would help finance, in small part, the acquisitions.
The transactions were approved; the Plaintiff here challenges, among other things,
the transfer of equity to Liberty Broadband.
The Defendants moved to dismiss, on the ground that the stockholder vote
had cleansed any breaches of duty, citing Corwin v. KKR Financial Holdings
LLC.1 By Memorandum Opinion of May 31, 2017, I found that the vote was
structured in such a way as to use approval of the lucrative acquisitions to coerce a
vote for the issuance and a related transaction, negating any ratifying effect of the
vote.2 The Defendants have also moved to dismiss on two additional grounds.
They argue that the claims are solely derivative in nature, and that the Plaintiff has
failed to demonstrate that the demand requirement of Court of Chancery Rule 23.1
1
125 A.3d 304 (Del. 2015).
2
Sciabacucchi v. Liberty Broadband Corp., 2017 WL 2352152, at *20–24 (Del. Ch. May 31,
2017).
1
should be excused. They also argue that the Complaint fails to state a claim under
Court of Chancery Rule 12(b)(6).
The Plaintiff has attempted to plead both derivative and direct claims. I
agree with the Defendants that the claims, in reality, are purely derivative.
Therefore, the direct claims are dismissed. I also find, however, that the Plaintiff
has adequately pled facts sufficient to excuse demand on the Charter board as
futile, and that the Complaint adequately pleads a claim sufficient to invoke entire
fairness. The Motion to Dismiss the derivative claims is denied, therefore. My
reasoning follows.
I. BACKGROUND3
The allegations of the Complaint are recounted in great detail in my initial
motion-to-dismiss opinion.4 I do not duplicate that effort here. Instead, I include
only those facts necessary to understand the issues that remain following my initial
decision.
A. Parties
Defendant Liberty Broadband Corporation is a Delaware corporation
headquartered in Englewood, Colorado.5 Liberty Broadband was once a wholly
owned subsidiary of non-party Liberty Media Corporation, but Liberty Broadband
3
The facts, drawn from the Complaint and other material I may consider on a motion to dismiss,
are presumed true for purposes of evaluating the Defendants’ Motions to Dismiss.
4
Liberty Broadband Corp., 2017 WL 2352152, at *4–13.
5
Compl. ¶ 12.
2
was spun-off in 2014, and now both Liberty Broadband and Liberty Media are
separate, publicly traded companies.6 Defendant John Malone owns approximately
47% of the voting power of both Liberty Media and Liberty Broadband.7 Malone
also chairs the boards of directors of both companies.8 I refer to Malone and
Liberty Broadband as the “Stockholder Defendants.”
Nominal Defendant Charter Communications, Inc. is a Delaware corporation
headquartered in Stamford, Connecticut.9 Charter is one of the largest cable
providers in the United States.10 Liberty Broadband is Charter’s largest
stockholder, holding approximately 26% of its stock.11
Charter’s board of directors consists of ten members, four of whom were
designated by Liberty Broadband.12 The directors are Defendants John Malone,
W. Lance Conn, Michael Huseby, Craig Jacobson, Gregory Maffei, John Markley,
Jr., David Merritt, Balan Nair, Thomas Rutledge, and Eric Zinterhofer (the
“Director Defendants”).13 Liberty Broadband’s four designees are Malone,
Huseby, Maffei, and Nair.14
6
Id.7
Id.8
Id. ¶ 13.
9
Id. ¶ 24.
10
Id.
11
Id. ¶ 2.
12
Id. ¶¶ 13–22, 34.
13
Id. ¶¶ 13–22.
14
Id. ¶¶ 13, 15, 17, 20.
3
Plaintiff Matthew Sciabacucchi held Charter stock at the time of the
challenged transactions, and he maintains his ownership interest today.15
B. Factual Background
1. Liberty Media Invests in Charter
In May 2013, Liberty Media purchased a 27% stake in Charter.16 As part of
its investment, Liberty Media entered into a stockholders agreement with Charter.17
That agreement gave Liberty Media the right to designate four directors to the
Charter board so long as its ownership interest remained at 20% or higher. 18 The
agreement also imposed several restrictions on Liberty Media: it could not acquire
over 35% of Charter’s voting stock before January 2016 (or more than 39.99%
after January 2016), and it was prohibited from soliciting proxies or consents.19
Liberty Media’s four board designees were, as just noted, Malone, Maffei, Nair,
and Huseby.20 In September 2014, Liberty Media assigned all of its rights and
obligations under the stockholders agreement to Liberty Broadband, one of the
Defendants in this action.21
Several years before Liberty Media’s investment, Charter had adopted
provisions in its certificate of incorporation that restricted the company’s ability to
15
Id. ¶ 11.
16
Id. ¶ 32.
17
Id. ¶ 33.
18
Id. ¶ 34.
19
Id. ¶ 35.
20
Id. ¶ 33.
21
Id. ¶ 37.
4
enter into transactions with large stockholders.22 Specifically, the certificate of
incorporation put restrictions on “Business Combinations” between Charter and an
“Interested Stockholder.”23 An “Interested Stockholder” was defined as any
person who held 10% or more of Charter’s voting stock, and “Business
Combination” was defined to include transfers of Charter assets (and issuances of
Charter securities) to an Interested Stockholder.24 Charter could not effect a
Business Combination unless (i) a majority of the directors unaffiliated with the
Interested Stockholder approved the transaction, and (ii) a majority of stockholders
unaffiliated with the Interested Stockholder voted in favor of the transaction.25
2. The Challenged Transactions
a. The Original Bright House Transaction
Soon after Liberty Media invested in Charter, Rutledge (Charter’s CEO) and
Maffei met with executives of Time Warner Cable Inc. to discuss a potential
acquisition of Time Warner.26 The discussions continued into late 2013 and early
2014, but they broke down in February 2014.27 That month, Comcast Corporation
and Time Warner announced that Comcast had agreed to acquire Time Warner for
22
Yoch Aff. Ex. A, Ex. 3.1, art. 8(a).
23
Id.
24
Id. art. 8(b)(i)(B), 8(b)(vi).
25
Id. art. 8(a), 8(b)(v).
26
Compl. ¶ 63.
27
Id. ¶ 64.
5
approximately $45 billion.28 Anticipating antitrust challenges to the merger,
Comcast and Time Warner decided to divest a number of subscribers.29 As part of
that divestment, Charter would enter into subscriber swaps with Comcast and Time
Warner, in addition to purchasing a Comcast subsidiary.30 These transactions were
contingent on the consummation of the Comcast-Time Warner merger.31
Meanwhile, having failed to acquire Time Warner, Charter set its sights on
Bright House Networks, LLC, a large cable company owned by
Advance/Newhouse Partnership.32 In June 2014, Advance/Newhouse sent Charter
a high-level term sheet under which Advance/Newhouse would contribute Bright
House to a partnership in exchange for, among other things, $1 billion in cash and
common and preferred partnership units.33 One week later, Charter proposed
revisions related to Advance/Newhouse’s influence over Charter, “particularly in
conjunction with the existing share ownership and governance rights of Liberty
Media Corporation.”34 Negotiations continued, and by October 2014, Charter and
Advance/Newhouse had reached agreement on a term sheet setting forth the
material terms of the transaction.35 The parties shared the term sheet with Liberty
28
Id. ¶ 65.
29
Id.
30
Id. ¶ 66.
31
Id.
32
Id. ¶ 68.
33
Yoch Aff. Ex. D, at 137.
34
Compl. ¶ 91 (emphasis omitted).
35
Yoch Aff. Ex. D, at 138.
6
Media, which proposed various changes, including that Advance/Newhouse “grant
Liberty Media a proxy . . . to vote as many of [Advance/Newhouse’s] shares in
Charter as would be required to increase Liberty Media’s total voting stake in
Charter to 25.01%.”36 Liberty Media also proposed that Charter give it
“preemptive rights to maintain its pro rata ownership stake in Charter after the
closing of the combination with Bright House in connection with any issuance of
equity securities of Charter after signing.”37
On October 24, the six Charter directors not appointed by Liberty Media met
to discuss the term sheet.38 The directors reviewed the potential conflicts of
interest of Charter’s legal and financial advisors, as well as the directors present at
the meeting.39 “The independent directors resolved to form a working group
comprising Eric L. Zinterhofer, Chairman of Charter, John D. Markley Jr. and
Lance Conn to meet as necessary to consider and negotiate the potential
transaction.”40 Because LionTree Advisors LLC, one of Charter’s financial
advisors, had “a substantial historic and ongoing relationship with Liberty,” “the
independent directors of the Charter board of directors negotiated and considered
the transactions with Liberty without the participation of LionTree.”41
36
Id.
37
Id. at 138–39.
38
Id. at 139.
39
Id.
40
Id.
41
Id.
7
Following several weeks of negotiations, on November 21, Charter and
Liberty Broadband (which had recently completed its spin-off from Liberty Media)
agreed to pursue the Bright House acquisition based on a revised term sheet that (i)
gave Liberty Broadband the right to maintain a 25.01% voting interest in Charter,
and (ii) provided for a thirteen-member board with three designees each for Liberty
Broadband and Advance/Newhouse.42 The purpose of maintaining a 25.01%
voting interest in Charter was to allow Liberty Broadband to escape regulation
under the Investment Company Act of 1940, which does not apply to entities
“primarily engaged . . . in a business or businesses other than that of investing,
reinvesting, owning, holding, or trading in securities.”43
On March 30, 2015, the Charter board met to consider the proposed
transactions.44 After discussing the benefits of the deal, the four directors
designated by Liberty Broadband voted to approve the acquisition.45 Those
directors (along with representatives of LionTree) then left the meeting.46 The
remaining six directors proceeded to review the proposed transactions between
Charter and Liberty Broadband.47 The remaining directors determined that the
42
Id.
43
15 U.S.C. § 80a-3(b)(1).
44
Yoch Aff. Ex. D, at 141.
45
Id.
46
Id.
47
Id.
8
contemplated transactions were fair to and in the best interests of Charter’s
stockholders.48
Charter announced the Bright House transaction the next day.49 Under the
agreement, Charter would pay Advance/Newhouse $2 billion in cash, $5.9 billion
in exchangeable common partnership units, and $2.5 billion in convertible
preferred partnership units.50 The partnership units would be exchangeable into
Charter common stock at $173 per share, which represented the sixty-day Charter
volume-weighted average price.51 Under a new stockholders agreement between
Charter, Liberty Broadband, and Advance/Newhouse, Advance/Newhouse would
retain a 26.3% ownership stake in the resulting company, and Liberty Broadband
would hold a 19.4% ownership stake.52 Advance/Newhouse also agreed to grant
Liberty Broadband a voting proxy on up to 6% of its shares, giving Liberty
Broadband voting power of at least 25.01% at closing. 53 Moreover, both
Advance/Newhouse and Liberty Broadband would receive preemptive rights
allowing them to maintain their pro rata ownership.54 Finally, Liberty Broadband
agreed to purchase $700 million of newly issued Charter shares at $173 per share.55
48
Id.
49
Compl. ¶ 69.
50
Id.
51
Id.
52
Id. ¶ 70.
53
Id.
54
Id.
55
Id.
9
The Bright House acquisition was contingent on the consummation of the
subscriber-divestment transactions Charter had entered into with Time Warner and
Comcast.56 The divestment transactions, in turn, would not close unless Comcast
merged with Time Warner.57 In April 2015, the Comcast/Time Warner merger
was terminated following reports that the Federal Communications Commission
would bring a lawsuit to block the deal.58 Thus, the divestment transactions and
the Bright House deal became void.59
b. The Time Warner Merger, and the New Bright House
Transaction
The same day Comcast and Time Warner called off the proposed merger,
Charter and Time Warner began discussing a potential combination.60 Rutledge,
Charter’s CEO, spoke with Maffei about Charter’s interest in a merger with Time
Warner, and Maffei indicated his support for such a transaction.61 Maffei also said
that Liberty Broadband was interested in pursuing “a significant additional
investment in Charter, including by exchanging its [Time Warner] shares for
Charter shares, . . . in light of Charter’s potential financing needs and Liberty
Broadband’s desire to maintain its percentage equity interest in Charter.”62
56
Compl. ¶ 69.
57
Id. ¶ 66.
58
Id. ¶ 74.
59
Id.
60
Yoch Aff. Ex. D, at 143.
61
Id.
62
Id.
10
Charter’s board met on May 4, 2015, to discuss the potential acquisition of
Time Warner.63 The board authorized Charter’s management to offer to acquire
Time Warner for approximately $172.50 per Time Warner share based on
Charter’s stock price as of May 4.64 The board also reaffirmed its willingness to
“complete the Bright House transaction on substantially the same economic and
governance terms as previously agreed.”65 About two weeks later, Charter and
Time Warner management discussed the “terms on which Liberty Broadband was
interested in making an additional investment in Charter shares to partially finance
the cash portion of the consideration to be paid to [Time Warner] stockholders and
the terms on which Liberty Broadband would consider exchanging [Time Warner]
shares for Charter shares.”66 The next day, “the independent directors of Charter’s
board of directors met to receive an update from Mr. Zinterhofer and Wachtell
Lipton[, Charter’s legal advisors,] regarding the Liberty Broadband investment,
including the ongoing discussions regarding the aggregate amount of the
investment and the per share price.”67
On May 26, 2015, Charter announced that it had reached an agreement to
merge with Time Warner for a mix of stock and cash.68 The merger valued Time
63
Id. at 144.
64
Id.
65
Id.
66
Id. at 147.
67
Id.
68
Compl ¶ 75.
11
Warner at approximately $78.7 billion.69 Charter agreed to provide $100 in cash
and shares equivalent to 0.5409 Charter shares for each outstanding Time Warner
share in a newly created public parent company, New Charter.70 Liberty
Broadband and Liberty Interactive would receive all stock for their Time Warner
shares.71 Charter also provided “an election option for each Time Warner Cable
stockholder, other than Liberty Broadband . . . or Liberty Interactive . . . to receive
$115.00 of cash and New Charter shares equivalent to 0.4562 shares” of Charter
for each Time Warner share.72 Upon the closing of the merger, Liberty Broadband
agreed to buy $4.3 billion of newly issued shares of New Charter at $176.95, the
closing price of Charter as of May 20, 2015.73
At the same time that Charter announced the Time Warner merger, it
announced a new Bright House transaction with similar terms as the original
Bright House transaction.74 Once again, pursuant to a new stockholders agreement
between Charter, Liberty Broadband, and Advance/Newhouse,
Advance/Newhouse agreed to grant Liberty Broadband a voting proxy on up to 6%
of its shares.75 Liberty Broadband also agreed to purchase $700 million of newly
69
Id.
70
Id.
71
Id.
72
Id.
73
Id. ¶¶ 79, 81.
74
Id. ¶ 77.
75
Id. ¶ 83.
12
issued Charter shares at the previously agreed-to price of $173 per share.76 Liberty
Broadband received the right to “purchase from any issuance of equity in
conjunction with capital raising efforts sufficient shares to maintain its investment
in the Company,” and was carved out from any future stockholders rights plan
Charter might adopt.77 The Time Warner merger and the Bright House transaction
were conditioned on the Charter stockholders’ approving (i) the stock issuances to
Liberty Broadband and (ii) the voting proxy agreement.78
All of these transactions had been approved at a Charter board meeting held
on May 23.79 At that meeting, the four directors designated by Liberty Broadband
first unanimously approved the proposed transactions with Time Warner and
Advance/Newhouse as fair and in the best interests of Charter’s stockholders.80
They then left the meeting.81 The remaining six directors proceeded to review the
negotiations over the agreements with Liberty Broadband and Bright House.82
“After further consideration and consultation with their advisors,” the remaining
directors unanimously approved the Time Warner merger and the transactions with
Liberty Broadband and Bright House.83
76
Id. ¶ 79.
77
Id. ¶ 84.
78
Id. ¶ 99.
79
Yoch Aff. Ex. D, at 151–52.
80
Id. at 152.
81
Id.
82
Id.
83
Id.
13
On August 20, 2015, Charter filed a definitive proxy statement with the
Securities and Exchange Commission in connection with the Time Warner merger
and the agreements with Bright House and Advance/Newhouse.84 On September
21, 2015, 90% of outstanding Charter shares approved the Time Warner merger.85
Excluding shares beneficially owned by Liberty Broadband and its affiliates,
approximately 86% of outstanding Charter shares, in a single vote, voted in favor
of issuing stock to Liberty Broadband, allowing Liberty Broadband and Liberty
Interactive to receive all stock for their Time Warner shares, and granting Liberty
Broadband a voting proxy on up to 6% of Advance/Newhouse’s shares.86 The
Time Warner merger and the Bright House transaction closed on May 18, 2016.
Before the transactions just described, Charter, Time Warner, and Bright
House were separate entities. Bright House was wholly owned by
Advance/Newhouse. Liberty Broadband owned 26% of Charter. After the
transactions, Charter owned Bright House and had merged with Time Warner.
Time Warner stockholders owned between 40% and 44% of Charter,
Advance/Newhouse owned between 13% and 14%, and Liberty Broadband owned
between 19% and 20%. As a result of its voting proxy, however, Liberty
84
Yoch Aff. Ex. D.
85
Yoch Aff. Ex. F.
86
Id.
14
Broadband retained an additional voting interest of approximately 6%, keeping its
total voting power about the same as it stood before the transactions.
***
To recap, the Plaintiff does not challenge the Time Warner merger or the
Bright House acquisition. Instead, he attacks four “side deals” Charter entered into
with Liberty Broadband in connection with the Time Warner and Bright House
transactions.87 First, the Plaintiff challenges Charter’s issuance of $700 million in
stock to Liberty Broadband as part of the Bright House acquisition. According to
the Plaintiff, that issuance was unfair because it was priced at $173 per share,
which represented a discount to Charter’s market price at the time. 88 Second, the
Plaintiff questions the fairness of Charter’s decision to issue Liberty Broadband
$4.3 billion in stock valued at $176.95 per share, an issuance made in connection
with the Time Warner merger. In the Plaintiff’s view, that transaction was unfair
because, while $176.95 represented Charter’s market price at the time, that price
failed to take account of financial projections suggesting that the company would
be worth far more than $176.95 per share once the transactions closed.89
Third, the Plaintiff challenges Charter’s decision to allow only Liberty
Broadband to receive all stock for its Time Warner shares. That decision
87
Compl. ¶ 99.
88
Id. ¶ 6.
89
Id. ¶ 7 & n.3.
15
purportedly gave Liberty Broadband “a tax benefit not available to public
stockholders” and enabled it to “fully enjoy the future benefits and synergies of the
[t]ransactions.”90 Fourth and finally, the Plaintiff attacks Liberty Broadband’s
receipt of the 6% voting proxy, which allowed it to maintain its preexisting voting
power. As a result, Liberty Broadband was “the only shareholder to avoid
significant dilution of its voting interest upon the consummation of the
[t]ransactions.”91
C. This Litigation
One day after Charter filed the proxy, the Plaintiff filed his original
complaint for breach of fiduciary duties, alleging that the proxy was materially
misleading because it failed to disclose certain unlevered free cash flow projections
and the text of the voting proxy agreement. The Plaintiff sought to enjoin the
acquisitions based on these purported breaches. Charter supplemented the proxy
on September 9, 2015, providing the requested projections and the text of the
voting proxy agreement. The Plaintiff then withdrew his request for injunctive
relief, acknowledging that “the additional disclosures . . . moot[ed] Plaintiff’s
pending motions.”92
90
Id. ¶ 9.
91
Id. ¶ 8.
92
Sept. 10, 2015 Letter to the Court.
16
The Plaintiff amended his complaint on April 22, 2016. The Complaint
contains four counts. Count I is brought as a direct claim; it alleges that the
Director Defendants breached their fiduciary duties by (i) approving the stock
issuances to Liberty Broadband and the voting proxy agreement, and (ii) “failing to
disclose all material facts necessary for shareholders to cast an informed vote on . .
. whether to enter into the [t]ransactions and issue the shares contemplated
thereunder.”93 The Plaintiff claims that the stock issuances and the voting proxy
agreement “unfairly expropriate[d] and transfer[red] voting and economic power
from Charter’s public shareholders to the Stockholder Defendants.”94 Like Count
I, Count II is brought as a direct claim, and it alleges that the Stockholder
Defendants, as Charter’s controlling stockholders, breached their fiduciary duties
by causing the Charter board to approve the transactions challenged in Count I.95
Counts III and IV mirror Counts I and II, except that they are brought derivatively
rather than directly.96
On July 22, 2016, the Defendants moved to dismiss the Complaint under
Court of Chancery Rules 12(b)(6) and 23.1. On May 31, 2017, I issued a
Memorandum Opinion holding that (i) the Stockholder Defendants were not
controlling stockholders, and (ii) any purported breaches of fiduciary duty were not
93
Compl. ¶¶ 157–60.
94
Id. ¶ 159.
95
Id. ¶¶ 161–64.
96
Id. ¶¶ 165–72.
17
cleansed by the stockholder vote, because the Complaint adequately alleged that
the vote was structurally coerced.97 Specifically, I held that the contractual
restrictions imposed on the Stockholder Defendants—for example, Liberty
Broadband could not acquire over 35% of Charter’s stock, designate more than
four out of ten directors, or solicit proxies or consents—defeated any inference that
the Stockholder Defendants were controlling stockholders.98 I then held that the
Complaint supported a reasonable inference that the stockholder vote in favor of
the challenged transactions was coerced.99 The coercion stemmed from the way
the transactions were presented to the stockholders. The Bright House acquisition
and the Time Warner merger—neither of which the Plaintiff challenges—were
contingent on stockholder approval of the challenged transactions, that is, the share
issuances to Liberty Broadband and the voting proxy agreement. Thus, the Charter
board allegedly “presented the stockholders with a simple choice: accept (disloyal)
equity issuances to the [c]ompany’s largest stockholder, and an agreement granting
that stockholder greater voting power, or lose two beneficial transactions.”100 That,
in my view, prevented the stockholder vote from having ratifying effect at the
pleading stage.101
97
Liberty Broadband Corp., 2017 WL 2352152, at *14–24.
98
Id. at *16–20.
99
Id. at *20–24.
100
Id. at *22.
101
Id. at *24.
18
Having found that the stockholder vote did not cleanse any purported
breaches of fiduciary duty at the motion-to-dismiss stage, I then requested
supplemental briefing on whether the Plaintiff’s claims are direct or derivative.102
The parties provided that briefing, and I heard oral argument on the remaining
issues on April 6, 2018. The Plaintiff concedes in supplemental briefing that
Counts II and IV, which rest on the allegation that the Stockholder Defendants
controlled Charter, must be dismissed in light of my holding that the Complaint
fails to adequately allege those Defendants’ controller status. Thus, this
Memorandum Opinion considers only whether Counts I and III state viable claims
for relief.
II. ANALYSIS
The Complaint alleges that the following four transactions “unfairly
expropriate[d] and transfer[red] voting and economic power from Charter’s public
shareholders to the Stockholder Defendants”: (i) Charter’s issuance of $700
million in Charter shares to Liberty Broadband at $173 per share, (ii) Liberty
Broadband’s receipt of a voting proxy from Advance/Newhouse to vote up to 6%
of its shares, (iii) Charter’s issuance of $4.3 billion in Charter shares to Liberty
Broadband at $176.95 per share, and (iv) Liberty Broadband’s receipt of all
102
Id.
19
Charter stock for its Time Warner shares.103 The threshold question is whether
these allegedly unfair transactions give rise to purely derivative claims. I turn to
that question now.
A. The Plaintiff’s Claims Are Solely Derivative
“To determine whether a claim is derivative or direct, this Court must
consider ‘(1) who suffered the alleged harm (the corporation or the suing
stockholders, individually); and (2) who would receive the benefit of any recovery
or other remedy (the corporation or the stockholders, individually)?’”104 To plead
a direct claim, “[t]he stockholder must demonstrate that the duty breached was
owed to the stockholder and that he or she can prevail without showing an injury to
the corporation.”105 By contrast, “[w]here all of a corporation’s stockholders are
harmed and would recover pro rata in proportion with their ownership of the
corporation’s stock solely because they are stockholders, then the claim is
derivative in nature.”106 Tooley requires this Court to look beyond the labels used
to describe the claim, evaluating instead the nature of the wrong alleged.107
“In the typical corporate overpayment case, a claim against the corporation’s
fiduciaries for redress is regarded as exclusively derivative, irrespective of whether
103
Compl. ¶ 159.
104
Carsanaro v. Bloodhound Techs., Inc., 65 A.3d 618, 655 (Del. Ch. 2013) (quoting Tooley v.
Donaldson, Lufkin & Jenrette, Inc., 845 A.2d 1031, 1033 (Del. 2004)).
105
Tooley, 845 A.2d at 1039.
106
Feldman v. Cutaia, 951 A.2d 727, 733 (Del. 2008).
107
E.g., In re J.P. Morgan Chase & Co. S’holder Litig., 906 A.2d 808, 817 (Del. Ch. 2005),
aff’d, 906 A.2d 766 (Del. 2006).
20
the currency or form of overpayment is cash or the corporation’s stock.”108 The
reason is that, in the typical corporate overpayment case, “any dilution in value of
the corporation’s stock is merely the unavoidable result (from an accounting
standpoint) of the reduction in the value of the entire corporate entity, of which
each share of equity represents an equal fraction.”109 In Gentile, however, the
Supreme Court pointed to “at least one transactional paradigm—a species of
corporate overpayment claim—that Delaware case law recognizes as being both
derivative and direct in character.”110 Gentile held that a corporate overpayment
claim may be both direct and derivative where:
(1) a stockholder having majority or effective control causes the
corporation to issue “excessive” shares of its stock in exchange for
assets of the controlling stockholder that have a lesser value; and (2)
the exchange causes an increase in the percentage of the outstanding
shares owned by the controlling stockholder, and a corresponding
decrease in the share percentage owned by the public (minority)
shareholders.111
Post-Gentile, Delaware courts have struggled to define the boundaries of
dual-natured claims.112 In Feldman, this Court took a limited view of Gentile’s
reach, finding it “clear” “that the Delaware Supreme Court intended to confine the
scope of its rulings to only those situations where a controlling stockholder
108
Gentile v. Rossette, 906 A.2d 91, 99 (Del. 2006).
109
Id.110
Id.111
Id. at 100.
112
See Chester Cty. Emps.’ Ret. Fund v. New Residential Inv. Corp., 2016 WL 5865004, at *7
(Del. Ch. Oct. 7, 2016) (“There is some tension in recent cases about how far to extend
Gentile.”), aff’d, 2018 WL 2146483 (Del. May 10, 2018).
21
exists.”113 Feldman reasoned that “any other interpretation would swallow the
general rule that equity dilution claims are solely derivative, and would cast great
doubt on the continuing vitality of the Tooley framework.”114 Thus, under
Feldman, a dual-natured claim arises only where “a controlling stockholder, with
sufficient power to manipulate the corporate processes, engineers a dilutive
transaction whereby that stockholder receives an exclusive benefit of increased
equity ownership and voting power for inadequate consideration.”115
Other decisions have taken a more expansive view of Gentile. In
Carsanaro, this Court held that a dual-natured claim does not require the presence
of a controlling stockholder on both sides of the transaction.116 According to
Carsanaro, Gentile also applies to self-interested stock issuances effectuated by a
board that lacks a disinterested and independent majority.117 In In re Nine Systems
Corp. Shareholders Litigation, Vice Chancellor Noble agreed with Carsanaro’s
approach, reasoning that it made little sense “to hold a controlling stockholder to a
higher standard than the board of directors.”118 Vice Chancellor Noble also
emphasized that Gentile “expressly recognized that it only addressed what was ‘at
least one transactional paradigm’ that had the dual nature of causing direct and
113
Feldman v. Cutaia, 956 A.2d 644, 657 (Del. Ch. 2007), aff’d, 951 A.2d 727.
114
Id.115
Id.116
65 A.3d at 658.
117
Id.118
2014 WL 4383127, at *28 (Del. Ch. Sept. 4, 2014), aff’d sub nom. Fuchs v. Wren Holdings,
LLC, 129 A.3d 882 (Table) (Del. 2015).
22
derivative harm and permitting direct and derivative recovery.”119 Accordingly,
any “[b]roader language in Gentile . . . about situations not involving a controlling
stockholder would arguably have been dictum.”120
The Supreme Court revisited Gentile in El Paso Pipeline GP Co., L.L.C. v.
Brinckerhoff.121 El Paso involved a limited partner’s claim that the partnership had
overpaid the controlling general partner for assets held by the general partner’s
parent.122 The limited partner did not attempt to prove that the overpayment
increased the general partner’s voting power at the expense of the unaffiliated
unitholders.123 Instead, the injury stemmed solely from “the extraction of . . .
economic value from the minority by a controlling stockholder.”124 Nevertheless,
the limited partner argued that his challenge to the overpayment gave rise to a
dual-natured claim under Gentile.125 The Supreme Court rejected the limited
partner’s attempt to fit his claim into the Gentile framework.126
The Supreme Court emphasized that Gentile involved “a controlling
shareholder and transactions that resulted in an improper transfer of both economic
value and voting power from the minority stockholders to the controlling
119
Id. at *27 (quoting Gentile, 906 A.2d at 99).
120
Id.121
152 A.3d 1248 (Del. 2016).
122
Id. at 1252–53.
123
Id. at 1264.
124
Id.125
Id.126
Id.23
stockholder.”127 Because the challenged transactions in El Paso did not dilute the
unitholders’ voting rights, the limited partner’s claim failed to “satisfy the unique
circumstances presented by the Gentile ‘species of corporate overpayment
claim[s].’”128 The limited partner conceded that he had proved only expropriation
of economic value, and not any dilution of voting rights.129 According to the
limited partner, however, this distinction was “immaterial.”130 The Supreme Court
disagreed.131 It expressly “decline[d] the invitation to further expand the universe
of claims that can be asserted ‘dually’ to hold here that the extraction of solely
economic value from the minority by a controlling stockholder constitutes direct
injury.”132 Thus, the Supreme Court held that the limited partner’s overpayment
claim was “exclusively derivative under Tooley.”133
Chief Justice Strine wrote separately in El Paso to note that Gentile “is
difficult to reconcile with traditional doctrine” on the direct/derivative
distinction.134 As the Chief Justice pointed out, “[a]ll dilution claims involve, by
definition, dilution.”135 Thus,
127
Id. at 1263.
128
Id. at 1264 (emphasis added) (quoting Gentile, 906 A.2d at 99).
129
Id.130
Id.131
Id.132
Id.133
Id. at 1265.
134
Id. at 1266 (Strine, C.J., concurring).
135
Id.
24
[t]o suggest that, in any situation where other investors have less
voting power after a dilutive transaction, a direct claim also exists
turns the most traditional type of derivative claim—an argument that
the entity got too little value in exchange for shares—into one always
able to be prosecuted directly.136
The Chief Justice found this result to be problematic.137
Following El Paso, this Court has had two occasions to consider whether
Gentile applies in the absence of a controlling stockholder. In Carr v. New
Enterprise Associates, Inc., Chancellor Bouchard held that, “to invoke the dual
dynamic recognized in Gentile, a controlling stockholder must exist before the
challenged transaction.”138 Because there was no controller at the time of the
challenged transaction, the complaint in Carr failed to plead facts giving rise to a
dual-natured claim.139 The Chancellor confronted this issue again in Cirillo Family
Trust v. Moezinia.140 There, the Court reached the same conclusion, holding that
“the Gentile paradigm only applies when a stockholder already possessing
majority or effective control causes the corporation to issue more shares to it for
inadequate consideration.”141 As in Carr, the Gentile framework did not apply in
136
Id.
137
Id.
138
2018 WL 1472336, at *9 (Del. Ch. Mar. 26, 2018).
139
Id. at *9–10.
140
2018 WL 3388398 (Del. Ch. July 11, 2018).
141
Id. at *16.
25
Moezinia because there was no controlling stockholder (or control group) at the
corporation before the purportedly improper dilution.142
Here, the Plaintiff alleges that Charter overpaid Liberty Broadband by
issuing it stock for allegedly unfair consideration. Likewise, the Plaintiff pleads
that Charter received inadequate consideration from Liberty Broadband in
exchange for agreeing to grant it the 6% voting proxy. These allegations amount
to a corporate overpayment claim—Charter purportedly transferred assets to
Liberty Broadband for inadequate consideration. Thus, unless the facts alleged in
the Complaint fit the Gentile paradigm, they give rise only to derivative claims. In
my view, Gentile does not apply to the challenged transactions, and the Plaintiff’s
claims are thus solely derivative.
In my initial motion-to-dismiss decision, I held that the Complaint failed to
adequately allege that John Malone and Liberty Broadband were Charter’s
controlling stockholders.143 That, according to post-El Paso caselaw, is dispositive
of the direct/derivative question. Because Gentile is limited to transactions
involving controlling stockholders, the absence of a controller here means that the
Plaintiff’s claims are not dual-natured.
142
Id. In ACP Master, Ltd. v. Sprint Corp., 2017 WL 3421142, at *26 n.206 (Del. Ch. July 21,
2017), aff’d, 184 A.3d 1291 (Table) (Del. 2018), Vice Chancellor Laster went further, writing
that “[w]hether Gentile is still good law is debatable.”
143
Liberty Broadband Corp., 2017 WL 2352152, at *16–20.
26
Before El Paso, this Court was split on the question whether Gentile applied
to transactions that did not involve controlling stockholders. El Paso clarified this
uncertainty by limiting Gentile to “the unique circumstances presented” in that
case.144 As the Plaintiff correctly points out, El Paso did not squarely address
whether Gentile is limited to controller transactions. But the Supreme Court in El
Paso was faced with a similar question: Should Gentile be limited to its facts—that
is, a transaction that both diluted voting power and expropriated economic value—
or should it be extended to a different set of transactions, namely, those that extract
only economic value from the minority holders? The Supreme Court answered the
question in the negative. It rejected the limited partner’s “invitation to further
expand the universe of claims that can be asserted ‘dually.’”145
In my view, the reasoning of El Paso, applied here, means that Gentile must
be limited to its facts, which involved a dilutive stock issuance to a controlling
stockholder. El Paso thus implicitly rejected the reasoning of decisions such as
Carsanaro and Nine Systems, which had extended Gentile to any dilutive issuance
approved by a conflicted board. Notably, the two post-El Paso decisions to have
considered the question have concluded that Gentile does not apply absent a
controlling stockholder.146 Because the Complaint here fails to adequately allege
144
El Paso Pipeline GP Co., L.L.C., 152 A.3d at 1264.
145
Id.146
Moezinia, 2018 WL 3388398, at *16; Carr, 2018 WL 1472336, at *9–10.
27
that the Stockholder Defendants controlled Charter, Gentile does not apply, and the
Plaintiff’s claims are solely derivative.147
B. Demand is Excused as to the Challenged Transactions
Because the Plaintiff’s challenges to the allegedly unfair transactions give
rise to purely derivative claims, the Complaint must comply with Court of
Chancery Rule 23.1.148 The Defendants have moved to dismiss the Complaint for
failure to plead demand futility. The demand requirement is an extension of the
fundamental principle that “directors, rather than shareholders, manage the
business and affairs of the corporation.”149 Directors’ control over a corporation
embraces the disposition of its assets, including its choses in action. Thus, under
Rule 23.1, a derivative plaintiff must “allege with particularity the efforts, if any,
made by the plaintiff to obtain the action the plaintiff desires from the directors or
comparable authority and the reasons for the plaintiff’s failure to obtain the action
or for not making the effort.”150
147
In candor, limiting Gentile to controller situations, rather than expanding it to conflicted board
non-controller dilution cases, or overruling it entirely, is, as a matter of doctrine, unsatisfying. I
find that the Supreme Court’s treatment in El Paso controls here, however.
148
Because the Plaintiff’s claims are solely derivative rather than dual-natured, I need not decide
whether the heightened pleading requirements of Rule 23.1 apply to dual-natured claims brought
by stockholders whose ownership stake has not been eliminated by a merger. See, e.g., Calesa
Assocs., L.P. v. Am. Capital, Ltd., 2016 WL 770251, at *9 (Del. Ch. Feb. 29, 2016) (suggesting
that “a dual-natured claim should be addressed under the particularized pleading standard of
Rule 23.1”).
149
Aronson v. Lewis, 473 A.2d 805, 811 (Del. 1984) (citing 8 Del. C. § 141(a)), overruled on
other grounds by Brehm v. Eisner, 746 A.2d 244 (Del. 2000).
150
Ct. Ch. R. 23.1(a).
28
Where, as here, the plaintiff has failed to make a presuit demand on the
board, the Court must dismiss the complaint “unless it alleges particularized facts
showing that demand would have been futile.”151 The plaintiff’s “pleadings must
comply with stringent requirements of factual particularity that differ substantially
from the permissive notice pleadings governed solely by Chancery Rule 8(a).”152
Under the heightened pleading requirements of Rule 23.1, conclusory “allegations
of fact or law not supported by allegations of specific fact may not be taken as
true.”153 Nonetheless, the plaintiff is “entitled to all reasonable factual inferences
that logically flow from the particularized facts alleged.”154 In deciding a Rule
23.1 motion, I am limited to “the well-pled allegations of the complaint, documents
incorporated into the complaint by reference, and judicially noticed facts.”155
This Court analyzes demand futility under the test set out in Rales v.
Blasband.156 Rales requires a derivative plaintiff to allege particularized facts
raising a reasonable doubt that, if a demand had been made, “the board of directors
could have properly exercised its independent and disinterested business judgment
151
Ryan v. Gursahaney, 2015 WL 1915911, at *5 (Del. Ch. Apr. 28, 2015), aff’d, 128 A.3d 991(Table) (Del. 2015).
152
Brehm, 746 A.2d at 254.
153
Grobow v. Perot, 539 A.2d 180, 187 (Del. 1988), overruled on other grounds by Brehm, 746
A.2d 244.
154
Brehm, 746 A.2d at 255.
155
Breedy-Fryson v. Towne Estates Condo. Owners Ass’n, Inc., 2010 WL 718619, at *9 (Del.
Ch. Feb. 25, 2010).
156
634 A.2d 927 (Del. 1993).
29
in responding to [it].”157 Aronson v. Lewis addresses the subset of cases, as here, in
which the plaintiff is challenging an action taken by the current board.158 To
establish demand futility under Aronson, the plaintiff must allege particularized
facts creating a reasonable doubt that “the directors are disinterested and
independent” or the “challenged transaction was otherwise the product of a valid
exercise of business judgment.”159 The tests articulated in Aronson and Rales are
“complementary versions of the same inquiry.”160 That inquiry asks whether the
board is capable of exercising its business judgment in considering a demand.161
Here, the Plaintiff argues that demand is futile because at least half of
Charter’s ten-person board lacks independence from Malone, who is indisputably
interested in the challenged transactions. Delaware law is clear that directors are
presumed to be independent for purposes of evaluating demand futility.162
“Independence means that a director’s decision is based on the corporate merits of
the subject before the board rather than extraneous considerations or influences.”163
157
Id. at 934.
158
See id. at 933–34 (explaining that Aronson does not apply unless the plaintiff is challenging a
business decision by the board of directors that would be considering the demand).
159
473 A.2d at 814.
160
In re China Agritech, Inc. S’holder Derivative Litig., 2013 WL 2181514, at *16 (Del. Ch.
May 21, 2013); see also David B. Shaev Profit Sharing Account v. Armstrong, 2006 WL 391931,
at *4 (Del. Ch. Feb. 13, 2006) (“This court has held in the past that the Rales test, in reality, folds
the two-pronged Aronson test into one broader examination.”).
161
In re Duke Energy Corp. Derivative Litig., 2016 WL 4543788, at *14 (Del. Ch. Aug. 31,
2016).
162
See Beam v. Stewart, 845 A.2d 1040, 1055 (Del. 2004) (noting that in “the demand-excusal
context, . . . the board is presumed to be independent”).
163
Aronson, 473 A.2d at 816.
30
A plaintiff may establish that a director lacks independence by alleging with
particularity that the director “is sufficiently loyal to, beholden to, or otherwise
influenced by an interested party to undermine the director’s ability to judge the
matter on its merits.”164 Put differently, a director is not independent if
particularized facts support a reasonable inference that she “would be more willing
to risk . . . her reputation than risk the relationship with the interested [person].”165
“Allegations of mere personal friendship or a mere outside business
relationship, standing alone, are insufficient to raise a reasonable doubt about a
director’s independence.”166 Nevertheless, “[s]ome professional or personal
friendships, which may border on or even exceed familial loyalty and closeness,
may raise a reasonable doubt whether a director can appropriately consider
demand.”167 Likewise, “substantial past or current relationships . . . of a business .
. . nature” may, if material to the director, give rise to a pleading-stage inference of
beholdenness.168 In conducting the independence inquiry, I must “consider all the
particularized facts pled by the plaintiff[] about the relationships between the
director and the interested party in their totality and not in isolation from each
164
Frederick Hsu Living Trust v. ODN Holding Corp., 2017 WL 1437308, at *26 (Del. Ch. Apr.
14, 2017).
165
Beam, 845 A.2d at 1050.
166
Id.167
Id.; see also Del. Cty. Emps. Ret. Fund v. Sanchez, 124 A.3d 1017, 1022 (Del. 2015) (“Close
friendships [lasting fifty years] are likely considered precious by many people, and are rare.
People drift apart for many reasons, and when a close relationship endures for that long, a
pleading stage inference arises that it is important to the parties.”).
168
In re Primedia Inc. Derivative Litig., 910 A.2d 248, 261 n.45 (Del. Ch. 2006).
31
other.”169 “Evaluating a board’s ability to consider a demand impartially thus
requires a ‘contextual inquiry.’”170
In this case, the relevant board for demand-futility purposes consists of ten
individuals: Malone, Conn, Huseby, Jacobson, Maffei, Markley, Merritt, Nair,
Rutledge, and Zinterhofer. The Plaintiff does not challenge the independence of
Conn, Markley, or Merritt. For their part, the Defendants concede that Malone and
Maffei lack independence. Thus, to adequately allege demand futility, the Plaintiff
must plead with particularity that at least three of the remaining five directors lack
independence from Malone. In my view, the Plaintiff has cleared this hurdle.
Demand is therefore excused.
1. Nair
Nair has been a Charter director since May 2013, when he became one of
Liberty Media’s four designees.171 Nair serves as Executive Vice President and
Chief Technology Officer of Liberty Global plc.172 Malone is the chairman and
largest stockholder of Liberty Global, in which he holds a 25% stake.173 These
allegations raise a reasonable doubt that Nair could impartially consider a demand
to sue Malone.
169
Sanchez, 124 A.3d at 1019.
170
In re EZCORP Inc. Consulting Agreement Derivative Litig., 2016 WL 301245, at *34 (Del.
Ch. Jan. 25, 2016) (quoting Beam, 845 A.2d at 1049), reconsideration granted in part, 2016 WL
727771 (Del. Ch. Feb. 23, 2016).
171
Compl. ¶ 20.
172
Id.173
Id. ¶ 13; Yoch Aff. Ex. B, at I-63.
32
Delaware law is clear that “when a director is employed by or receives
compensation from other entities, and where the interested party who would be
adversely affected by purs[u]ing litigation controls or has substantial influence
over those entities, a reasonable doubt exists about that director’s ability to
impartially consider a litigation demand.”174 To establish a lack of independence, a
plaintiff need not allege that “the interested party can directly fire a director from
his day job.”175 Instead, the question is whether “the director’s ability to act
impartially on a matter important to the interested party can be doubted because
that director may feel either subject to the interested party’s dominion or beholden
to that interested party.”176 Delaware law has also recognized that, “[a]bsent some
unusual fact—such as the possession of inherited wealth—the remuneration a
person receives from her full-time job is typically of great consequence to her.”177
Mizel v. Connelly178 illustrates these principles. There, this Court held that
two senior executives could not be considered independent of the company’s CEO,
who also held a 32.7% stake.179 The Court found it “doubtful” that these two
executives could “consider the demand on its merits without also pondering
174
In re EZCORP Inc. Consulting Agreement Derivative Litig., 2016 WL 301245, at *36.
175
Sanchez, 124 A.3d at 1023 n.25.
176
Id.177
In re The Student Loan Corp. Derivative Litig., 2002 WL 75479, at *3 n.3 (Del. Ch. Jan. 8,
2002).
178
1999 WL 550369 (Del. Ch. July 22, 1999).
179
Id. at *1, 3.
33
whether an affirmative vote would endanger their continued employment.”180
Importantly, the Court noted that while “a 32.7% block may not be sufficient to
constitute control for certain corporation law purposes,” “the pragmatic, realist
approach dictated by Rales” demanded giving “great weight to the practical power
wielded by a stockholder controlling such a block.”181 Other courts in this state
have reached the same conclusion on similar facts.182
Here, while the Complaint does not expressly allege that Nair’s positions as
Executive Vice President and CTO of Liberty Global constitute his primary
employment, that is certainly a reasonable inference. Thus, I infer from the
Complaint, Nair works full-time at a company in which Malone is a 25%
stockholder. Significantly, Malone is also the chairman of that company’s board
of directors. The Complaint does not allege that Malone controls Liberty Global,
or that he holds a managerial position at the company. Nonetheless, Malone is the
company’s largest stockholder and chairman, and that puts him “in a position to
exert considerable influence over” Nair.183 Moreover, while the Complaint does
not detail Nair’s compensation at Liberty Global, that does not negate a pleading-
180
Id. at *3.
181
Id. at *3 n.1.
182
See, e.g., Rales, 634 A.2d at 937 (holding that a director who was also the CEO could not act
independently of two brothers who held a 44% stake in the company); Steiner v. Meyerson, 1995
WL 441999, at *10 (Del. Ch. July 19, 1995) (“The facts alleged appear to raise a reasonable
doubt that Wipff, as president, chief operating officer, and chief financial officer, would be
unaffected by [the CEO and significant blockholder’s] interest in the transactions that plaintiff
attacks.”).
183
Rales, 634 A.2d at 937.
34
stage inference of materiality, because the compensation a person receives from
her full-time employment is “typically of great consequence to her.”184 In short,
the facts alleged in the Complaint suggest that Nair would be unable to objectively
determine whether to initiate litigation against Malone. Nair thus lacks
independence for pleading-stage purposes.
2. Rutledge
Rutledge has served as Charter’s CEO since February 2012; he has also been
a board member since that time.185 The Complaint alleges that Rutledge is a full-
time Charter employee who depends on the company for his livelihood.186 In
2014, Rutledge received $16 million in compensation from Charter.187 As noted
above, Liberty Broadband controls 26% of the voting stock of Charter, and four of
Charter’s ten directors are Liberty Broadband appointees. Malone, in turn, owns
47% of Liberty Broadband. Notably, Rutledge gave an interview to the New York
Times in which he “did not deny Malone’s influence, stating ‘[w]hen he talks, I
listen. And he is a significant talker.’”188 These allegations are sufficient, to my
mind, to cast doubt on Rutledge’s independence from Malone.
184
In re The Student Loan Corp. Derivative Litig., 2002 WL 75479, at *3 n.3. Indeed, such
compensation is “usually the method by which bills get paid, health insurance is affordably
procured, children’s educations are funded, and retirement savings are accumulated.” Id.185
Compl. ¶ 21.
186
Id.187
Id. ¶ 61.
188
Id. ¶ 88 (alteration in original) (emphasis omitted).
35
The considerations supporting demand futility with respect to Nair apply
with even more significance to Rutledge. While the Complaint does not
adequately plead that Malone controls Charter, the facts alleged support a
reasonable inference that he exercises substantial influence over the company
through his ownership stake in Liberty Broadband. Indeed, Malone serves on the
Charter board, and three other directors are designated by Liberty Broadband.
Malone’s influence over Charter, and Rutledge specifically, is further evidenced by
Rutledge’s admission that “[w]hen [Malone] talks, I listen. And he is a significant
talker.”189 Rutledge is a highly compensated senior executive at Charter. Given
that Rutledge presumably receives his primary income from his employment at
Charter, “it is doubtful that [he] can consider the demand on its merits without also
pondering whether an affirmative vote would endanger [his] continued
employment.”190 Thus, like Nair, Rutledge cannot be considered independent from
Malone at the pleading stage.
3. Zinterhofer
Zinterhofer has served on the Charter board since 2009, and he has been its
chairman since December 2009.191 Zinterhofer formerly worked as a partner at
189
Id. (alteration in original) (emphasis omitted).
190
Mizel, 1999 WL 550369, at *3.
191
Compl. ¶ 22.
36
Apollo Management, L.P. and Morgan Stanley Dean Witter & Co.192 Zinterhofer
is also one of three founders of Searchlight Capital Partners, LLC, a private equity
firm.193 In November 2012, a joint venture between Searchlight and Liberty
Global bought a Puerto Rican cable company for approximately $585 million.194
Searchlight owns 40% of the joint-venture entity; Liberty Global owns 60%.195
Two years after this partnership, Liberty Global and Searchlight announced
another joint venture to purchase a Puerto Rican cable company, this time for $272
million.196 The combined business that resulted from this transaction was again a
60/40 joint venture between Liberty Global and Searchlight, and it became the
largest cable company in Puerto Rico.197 Thus, as the Complaint points out,
“Zinterhofer is a current business partner with Liberty Global and Malone in
corporate enterprises worth almost $1 billion.”198 As noted above, Malone owns
25% of Liberty Global’s voting stock, and he chairs its board.
It is true that “[a]llegations of . . . a mere outside business relationship,
standing alone, are insufficient to raise a reasonable doubt about a director’s
192
Id.193
Id. ¶¶ 22, 55.
194
Id. ¶ 55.
195
Id.
196
Id. ¶ 56.
197
Id.
198
Id. ¶ 57.
37
independence.”199 But it does not follow that a business relationship between a
director and an interested party can never undermine the presumption of director
independence.200 A pleading-stage inference of beholdenness may arise where the
plaintiff pleads with particularity that a director’s business relationship with an
interested party is material to the director.201 Moreover, the Supreme Court has
recently recognized “the importance of . . . mutually beneficial ongoing business
relationship[s].”202 Indeed, “it is reasonable to expect that [such] . . .
relationship[s] might have a material effect on the parties’ ability to act adversely
toward each other.”203
In this case, Zinterhofer (through Searchlight) and Malone (through Liberty
Global) are engaged in joint ventures worth almost $1 billion. One of those joint
ventures involves running the largest cable company in Puerto Rico. It is
199
Beam, 845 A.2d at 1050; see also Orman v. Cullman, 794 A.2d 5, 27 (Del. Ch. 2002) (“The
naked assertion of a previous business relationship is not enough to overcome the presumption of
a director’s independence.”).
200
See, e.g., Caspian Select Credit Master Fund Ltd. v. Gohl, 2015 WL 5718592, at *7 (Del. Ch.
Sept. 28, 2015) (“As explained, Campion and Davis operate in the same line of business as
Wayzata Partners, which has nominated them to numerous boards of directors. Both have
engaged in various business dealings with Wayzata Partners, and expect future business
relations. Wayzata Partners manages investment funds that acquire controlling interests in
distressed companies. One can reasonably infer that Campion and Davis expect to be considered
for directorships in companies the Wayzata funds acquire in the future. Even if the actual extent
of their relationships with Wayzata Partners is not altogether clear at this point in the litigation,
the existence of these interests and relationships is enough to defeat a motion to dismiss.”
(alterations and internal quotation marks omitted)).
201
See Khanna v. McMinn, 2006 WL 1388744, at *17 (Del. Ch. May 9, 2006) (“Ultimately, the
inquiry into independence turns in this instance on whether Covad’s business relationship with
BEA Systems was material to BEA or to Crandall himself as a director of BEA.”).
202
Sandys v. Pincus, 152 A.3d 124, 134 (Del. 2016).
203
Id.38
reasonable to infer that, if Zinterhofer voted to authorize a derivative suit against
Malone, the relationship between Searchlight and Liberty Global might be in
jeopardy. After all, “[c]ausing a lawsuit to be brought against another person is no
small matter, and is the sort of thing that might plausibly endanger a
relationship.”204 True, the Complaint does not (i) compare the value of
Searchlight’s interest in the joint ventures to the overall value of its investment
portfolio, (ii) allege the size of Zinterhofer’s interest in Searchlight, or (iii) plead
facts regarding Zinterhofer’s net worth or compensation. And the Complaint
mentions that Zinterhofer was once a partner at Apollo and Morgan Stanley,
perhaps suggesting that he is a wealthy man. But at the pleading stage, it is
reasonable to infer that joint ventures of this size are important to their principals,
even if those principals have a high net worth. It is equally reasonable to infer that
joint ventures totaling almost $1 billion are material to the firms involved, even
absent details regarding the size of those firms’ investment portfolios. Thus, while
more information would perhaps have made the pleadings stronger, for purposes of
the current Motion the Complaint adequately alleges that the possibility of
endangering the Liberty Global/Searchlight joint ventures would weigh heavily on
204
Id.39
Zinterhofer in evaluating a demand to sue Malone. In my view, that suffices to
impugn Zinterhofer’s independence at the pleading stage.205
***
Because Malone, Maffei, Nair, Rutledge, and Zinterhofer lack independence
for pleading-stage purposes, at least half of the ten Charter directors who would be
asked to consider a demand are conflicted. Thus, demand is excused, and I need
not consider the Plaintiff’s allegations that Huseby and Jacobson lack
independence for purposes of my analysis under Rule 23.1.
C. The Complaint Pleads a Viable Claim for Breach of Fiduciary Duty
Charter’s board did not change in composition between the approval of the
challenged transactions and the filing of the Complaint. Accordingly, for the same
reasons discussed in connection with the demand-futility analysis, the Charter
board lacked an independent and disinterested majority at the time of the
challenged transactions. “If a board is evenly divided between compromised and
non-compromised directors, then the plaintiff has succeeded in rebutting the
205
Park Employees’ & Retirement Board Employees’ Annuity & Benefit Fund of Chicago v.
Smith, 2017 WL 1382597 (Del. Ch. Apr. 18, 2017), is not to the contrary. There, the plaintiff
alleged that a director was beholden to an investment bank because he was the cofounder and
managing partner of a firm that held a minority interest in a corporation that had received advice
and underwriting services from the investment bank. Id. at *8–9. This Court held that these
allegations were insufficient to impugn the director’s independence. Id. at *9. Notably, unlike
the Plaintiff here, the plaintiff in Smith did not plead any facts regarding the size of the business
relationship between the director and the investment bank. Id. at *8–9.
40
business judgment rule.”206 Once a plaintiff has rebutted the business judgment
rule, “the court will review the board’s decision for entire fairness,”207 which
typically precludes dismissal of a complaint under Rule 12(b)(6).208
Ordinarily, then, my finding of demand futility would be the end of the
analysis. As this Court has recognized, “[t]he standard for pleading demand
futility under Rule 23.1 is more stringent than the standard under Rule 12(b)(6),
and a complaint that survives a motion to dismiss pursuant to Rule 23.1 will also
survive a 12(b)(6) motion to dismiss, assuming that it otherwise . . . state[s] a
cognizable claim.”209 Under the familiar Rule 12(b)(6) standard, a complaint will
not be dismissed “unless the plaintiff would not be entitled to recover under any
reasonably conceivable set of circumstances.”210
Nevertheless, the Defendants argue that even if demand is excused, the
Complaint must be dismissed because it fails to state a claim for breach of
fiduciary duty. They point out that, in accordance with Charter’s certificate of
incorporation, the challenged transactions were not approved by the full Charter
board. Instead, they were approved by the six directors not designated by Liberty
206
Frederick Hsu Living Trust, 2017 WL 1437308, at *26.
207
Id.208
See, e.g., Orman, 794 A.2d at 21 n.36 (noting that a finding that entire fairness applies
“normally will preclude dismissal of a complaint on a Rule 12(b)(6) motion to dismiss”). The
Defendants do not argue that, even if entire fairness applies, the Complaint should be dismissed
because it fails to adequately allege that the challenged transactions were unfair.
209
Feuer v. Redstone, 2018 WL 1870074, at *16 (Del. Ch. Apr. 19, 2018) (citation omitted).
210
Cent. Mortg. Co. v. Morgan Stanley Mortg. Capital Holdings LLC, 27 A.3d 531, 535 (Del.
2011).
41
Broadband: Markley, Merritt, Conn, Jacobson, Zinterhofer, and Rutledge. Thus,
the Defendants argue, the Complaint cannot rebut the business judgment rule
unless it successfully attacks the independence of at least three of these six
directors. If that is correct, the demand-futility analysis and the Rule 12(b)(6)
analysis could produce different results. Suppose, for example, that Jacobson,
Markley, Merritt, and Conn were deemed independent, but Malone, Maffei, Nair,
Rutledge, and Zinterhofer were found to lack independence. In that case, a
majority of the six directors who approved the challenged transactions would be
disinterested and independent.211 Of course, demand would be excused because
the full board lacked an independent majority; but because the relevant decision-
making body contained an unconflicted majority, the business judgment rule, in the
Defendants’ view at least, would apply.212
211
Under 8 Del. C. § 141(b), “[a] majority of the total number of directors shall constitute a
quorum for the transaction of business unless the certificate of incorporation or the bylaws
require a greater number.” Charter’s certificate does not require a greater number, and thus the
six directors not appointed by Liberty Broadband constituted a quorum.
212
See In re INFOUSA, Inc. S’holders Litig., 953 A.2d 963, 995 (Del. Ch. 2007) (“[T]he
directors implicated by the substantive allegations of the amended consolidated complaint are not
necessarily the same as must be considered with regard to excusal of demand. Rather, the Court
focuses on the directors actually alleged to be implicated in the challenged act (or failure to
act).”); 1 David A. Drexler et al., Delaware Corporation Law and Practice § 15.05[1] (2017)
(“Although useful as a rule of thumb, it may be something of an over-generalization to state that
corporate self-interest is automatically created unless a majority of the corporation’s directors is
individually disinterested. Consider the following example: Assume six of a ten-director board
have an interest in a particular transaction. If all directors are present at the meeting where the
transaction is approved, it is an interested corporate transaction, since the affirmative votes of at
least two interested directors are required for action. However, if only a quorum of six, including
the four disinterested directors, is present and the transaction is approved with the affirmative
votes of the four disinterested directors, the transaction arguably may be disinterested. . . . It may
42
The Plaintiff offers three responses to this argument. First, he argues that
the Complaint successfully challenges the independence of Jacobson, Zinterhofer,
and Rutledge. Thus, three of the six directors who approved the challenged
transactions were conflicted. Second, according to the Plaintiff, the Defendants are
actually arguing that the six directors not designated by Liberty Broadband
functioned as a special committee whose approval secured business judgment rule
review for the transactions at issue. The problem, says the Plaintiff, is that the
Defendants have failed to meet their burden of showing the six directors in fact
acted as a properly empowered special committee.
Third, the Plaintiff stresses that the Liberty Broadband designees did
approve the acquisitions of Bright House and Time Warner, which were
inextricably linked to the challenged transactions. The Plaintiff’s syllogism runs as
follows. The acquisitions were contingent on stockholder approval of the
challenged transactions, and I have already held that this transaction structure
caused the stockholder vote to be structurally coerced. Specifically, if the
stockholders voted down the challenged transactions, they would lose the
thus be possible to narrow significantly the scope of interested transactions by mechanical means
such as limiting the participation of interested directors in board meetings where the transaction
in which they are interested is considered or delegating decision-making power over such
decisions to committees of disinterested directors only.”); 1 Stephen A. Radin, The Business
Judgment Rule 819 (6th ed. 2009) (“[E]ven where a majority of a corporation’s directors are
interested, the business judgment rule still may govern if the challenged conduct or transaction is
approved by a majority of the corporation’s disinterested directors or a committee of
disinterested directors.”).
43
acquisitions, which both parties agree were beneficial to Charter. The six directors
who approved the challenged transactions were presumably in a similar position: If
they declined to recommend the allegedly unfair deals with Liberty Broadband,
Charter would lose out on the opportunity to acquire Time Warner and Bright
House. Thus, the Liberty Broadband designees’ approval of the acquisitions led to
the challenged transactions being presented to both the remaining directors and the
stockholders in a structurally coercive manner. Because all ten Charter directors
played a role in securing the approval of the challenged transactions, it is the full
board whose independence counts for Rule 12(b)(6) purposes.
I need not reach the Plaintiff’s first and second arguments, because his third
argument persuades me that the independence of all ten Charter directors must be
considered under the Rule 12(b)(6) analysis. The four Liberty Broadband
designees did not vote on the challenged transactions. But they approved the
acquisitions of Time Warner and Bright House, and the structure whereby those
deals would not close unless the challenged transactions received stockholder
approval. Thus, by signing off on the structurally coercive terms of the
acquisitions, the Liberty Broadband designees helped “‘strong-arm[]’ the
stockholders into voting for the [challenged] transaction[s] ‘for reasons outside of
44
the economic merit’ of the decision.”213 They placed the six “independent”
directors in the same “take it or leave it” circumstances. I find, therefore, that to
rebut the business judgment rule, the Plaintiff need only plead that at least half of
Charter’s ten directors lacked independence from Malone.214 Because the Plaintiff
has alleged with particularity that at least five Charter directors are beholden to
Malone, entire fairness applies, and the Complaint states a claim for breach of
fiduciary duty.215
D. The Disclosure Claim
Finally, the Plaintiff purports to assert a disclosure claim based on allegedly
misleading statements in the proxy. According to the Plaintiff, the proxy is
materially misleading because it describes Zinterhofer as “independent” without
disclosing Searchlight’s bias-producing business relationship with Liberty
213
Liberty Broadband Corp., 2017 WL 2352152, at *21 (quoting Gradient OC Master, Ltd. v.
NBC Universal, Inc., 930 A.2d 104, 119 (Del. Ch. July 12, 2007)).
214
Cf. Valeant Pharm. Int’l v. Jerney, 921 A.2d 732, 753 (Del. 2007) (“Generally speaking, a
director who does not attend or participate in the board’s deliberations or approval of a proposal
will not be held liable. This is not an invariable rule and the result may differ where the absent
director plays a role in the negotiation, structuring, or approval of the proposal.” (footnote
omitted)).
215
I do not reach the question whether the business judgment rule would apply if the Liberty
Broadband designees had not approved the acquisitions. Moreover, to the extent the Defendants
continue to maintain that entire fairness does not apply to the voting proxy agreement, I reject
that argument. Charter approved the stock issuance to Advance/Newhouse; that issuance
transferred voting power to Advance/Newhouse; and Advance/Newhouse agreed to transfer
some of its newly acquired voting power to Liberty Broadband. These transactions were
approved by both the six Charter directors not designated by Liberty Broadband and a majority
of the stockholders. Because at least half of Charter’s directors suffered from disabling conflicts,
the voting proxy—like the other challenged transactions—is subject to entire fairness review.
45
Global.216 The Complaint appears to suggest that the stockholders would not have
approved the allegedly unfair transactions with Liberty Broadband if they had
known of Zinterhofer’s conflicts. In other words, Charter would not have overpaid
Liberty Broadband if the proxy had not been materially misleading. In my view,
the Plaintiff’s disclosure claim must be dismissed.
I have already held that the Complaint states a derivative claim based on
alleged corporate overpayments. Any recovery for that claim would flow to the
company, and not to the stockholders individually.217 Nevertheless, the Plaintiff’s
disclosure claim is brought directly, and, just like the derivative claim, it seeks
recovery for damage done to Charter by the overpayments to Liberty Broadband.
The Supreme Court confronted a similar situation in In re J.P. Morgan Chase &
Co. Shareholder Litigation.218 There, the plaintiffs brought a derivative corporate
overpayment claim and a direct disclosure claim.219 The disclosure claim rested on
the allegation that inaccuracies in the proxy statement caused stockholders to
approve the overpayment.220 The Supreme Court affirmed this Court’s dismissal
of the disclosure claim to the extent it sought compensatory damages for the
216
Compl. ¶ 142.
217
See, e.g., Tooley, 845 A.2d at 1036 (“Because a derivative suit is being brought on behalf of
the corporation, the recovery, if any, must go to the corporation.”).
218
906 A.2d 766 (Del. 2006).
219
Id. at 768.
220
Id.
46
overpayment.221 Specifically, the Court held that “‘compensatory damages . . .
from the [proxy] disclosure violation’ are disallowed when those damages would
be ‘identical to the damages that would flow to [the company] as a consequence of
. . . [the] underlying derivative [] claim.’”222 As the Court pointed out, the
plaintiffs’ damages theory implied that “the directors of an acquiring corporation
would be liable to pay both the corporation and its shareholders the same
compensatory damages for the same injury.”223 “That simply cannot be,” said the
Court.224
J.P. Morgan compels the dismissal of the Plaintiff’s disclosure claim. Just
like in J.P. Morgan, the Plaintiff in this case seeks compensatory damages for both
his derivative corporate overpayment claim and his direct disclosure claim. And
just like in J.P. Morgan, the damages sought for the direct and derivative claims
are identical. The derivative claim alleges that Charter suffered injury when it
gave Liberty Broadband corporate assets for too little value. Likewise, the direct
claim alleges that inaccuracies in the proxy statement caused the stockholders to
approve the very same transactions, which gave away Charter assets for too little
value. As the J.P. Morgan Court recognized, permitting the stockholders to
221
Id. at 773–74.
222
Lenois v. Lawal, 2017 WL 5289611, at *20 (Del. Ch. Nov. 7, 2017) (quoting In re J.P.
Morgan Chase & Co. S’holder Litig., 906 A.2d at 772).
223
In re J.P. Morgan Chase & Co. S’holder Litig., 906 A.2d at 773.
224
Id.
47
recover individually in these circumstances would violate “the fundamental
principle governing entitlement to compensatory damages, which is that the
damages must be logically and reasonably related to the harm or injury for which
compensation is being awarded.”225 Thus, because the Plaintiff seeks only
compensatory damages for his direct disclosure claim, that claim must be
dismissed.226
***
To sum up, Counts II and IV, which rest on the premise that the Stockholder
Defendants control Charter, are dismissed. Count I, which is brought as a direct
claim, is dismissed because (i) the challenged transactions give rise to purely
derivative claims, and (ii) the direct disclosure claim fails. Count III survives
because the Complaint adequately alleges demand futility and pleads a viable
derivative claim for breach of fiduciary duty based on the challenged transactions.
225
Id.
226
At oral argument, the Plaintiff’s counsel expressly disclaimed any intention of seeking
nominal damages. See Apr. 6, 2018 Oral Arg. Tr. 49:16–17 (“MR. HEYMAN: We’re not
pursuing nominal damages.”). And while the Complaint generally seeks “equitable relief,”
Compl. at 67, a plaintiff cannot avoid the holding of J.P. Morgan by tacking on a makeweight
request for equitable remedies in her complaint, cf. Lenois, 2017 WL 5289611, at *20 (“Plaintiff
contends that, because he has requested rescissory instead of compensatory damages, J.P.
Morgan does not apply. Plaintiff misses the point. . . . Were rescission reasonable and
appropriate, I would undo the Transactions and put the Company back together into its previous
state. That remedy seems quite obviously to belong to the Company. Rescissory damages, then,
would flow to the same party, namely the Company.” (footnote omitted)).
48
III. CONCLUSION
For the foregoing reasons, the Defendants’ Motions to Dismiss are granted
in part and denied in part. The parties should submit an appropriate form of order.
49