Segway, Inc. v. Hong Cai a/k/a Judy Cai ( 2023 )

IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
SEGWAY INC., a Delaware )
corporation, )
)
Plaintiff, )
)
v. ) C.A. No. 2022-1110-LWW
)
HONG CAI, a/k/a/ JUDY CAI, an )
individual, )
)
Defendant. )
MEMORANDUM OPINION
Date Submitted: September 25, 2023
Date Decided: December 14, 2023
Francis G.X. Pileggi & Sean M. Brennecke, LEWIS BRISBOIS BISGAARD &
SMITH LLP, Wilmington, Delaware; Counsel for Plaintiff Segway Inc.
T. Brad Davey & Mathew A. Golden, POTTER ANDERSON & CORROON LLP,
Wilmington, Delaware; Barry Pollack, POLLACK SOLOMON DUFFY LLP,
Boston, Massachusetts; Counsel for Defendant Judy Cai
WILL, Vice Chancellor
Segway Inc. brings this breach of fiduciary duty action against its former
President, Judy Cai. Cai was an officer at a time when Segway experienced
declining sales of its personal transportation devices and an increase in accounts
receivable. According to Segway, Cai was aware of but concealed and failed to
address these issues. The magnitude of the problems allegedly remained
undiscovered until after Segway was acquired.
One would be forgiven for assuming that Segway’s allegations underlie a
claim for breach of the duty of care. Yet Segway has disavowed any such claim. It
insists that it is pursuing a different theory against Cai for breaching her duty of
oversight.
Segway appears to believe that the high bar to plead a Caremark claim is
lowered when the claim is brought against an officer. This is a distressing reading
of our law. As conceived by Chancellor Allen in Caremark, directors have a duty
to implement systems to detect and address wrongdoing at lower levels of the
company. Liability can only attach in the rare case where fiduciaries knowingly
disregard this oversight obligation and trauma ensues. Despite a proliferation of
modern jurisprudence, bad faith remains a necessary predicate to any Caremark
claim. Segway’s attempt to hold a corporate officer accountable for unexceptional
financial struggles flouts these enduring principles.
Cai’s motion to dismiss is granted.
1
I. FACTUAL BACKGROUND
The following facts are drawn from the Verified Amended Complaint (the
“Complaint”) and the documents it incorporates by reference.1
A. Segway’s Acquisition
Plaintiff Segway Inc. is a designer and manufacturer of personal
transportation devices.2 As a standalone company, Segway remained relatively
small despite its early success. In 2015, for example, it had approximately $35
million of annual revenue and employed about 80 people nationwide.3
In April 2015, Segway was acquired by a subsidiary of Ninebot (Beijing) Tech
Co., Ltd., which also produces short-distance robotic transportation devices.4
Segway began distributing Ninebot products alongside its own.5 Segway otherwise
continued to operate as it had pre-acquisition. Segway maintained its own board of
directors, officers, employees, and financial and accounting systems separate from
Ninebot.6
1
Verified Am. Compl. for Breach of Fiduciary Duty (Dkt. 10) (“Am. Compl.”); see In re
Books-A-Million, Inc. S’holders Litig., 2016 WL 5874974, at *1 (Del. Ch. Oct. 10, 2016)
(citing In re Gen. Motors (Hughes) S’holder Litig., 897 A.2d 162, 170 (Del. 2006)).
2
Am. Compl. ¶ 6.
3
Id. ¶ 8.
4
Id. ¶¶ 3, 11.
5
Id. ¶ 12.
6
Id. ¶ 13.
2
B. Cai’s Role at Segway
Defendant Judy Cai is a former Segway employee.7 She was hired in 2015 as
Segway’s Vice President of Finance.8 In that role, she oversaw “the daily operations
of the finance department and provid[ed] leadership and coordination in [Segway’s]
administrative, business planning, accounting, and budgeting efforts.”9
In December 2015, Cai was appointed Segway’s interim President and was
reappointed to that position in February 2017.10 She became Segway’s President in
2018.11 Cai continued to function as Segway’s in-house accountant “with complete
responsibility for [Segway’s] tax matters.”12 She remained “involved in compiling
and/or reviewing” financial information for “Ninebot’s management.”13
C. Segway’s Downturn
After the Ninebot acquisition, Segway experienced declining sales and a
shrinking customer base.14 Segway turned away from its branded personal
7
Id. ¶ 9.
8
Id.
9
Id.
10
Id. ¶¶ 10, 14.
11
Id. ¶ 14.
12
Id. ¶ 15.
13
Id. ¶ 18.
14
Id. ¶ 21. Segway’s annual revenue from its personal transportation device line fell to
$3.5 million in 2020. Id.
3
transportation devices and focused on selling Ninebot products instead.15 Segway
also began downsizing its operations. By 2018, it had just 60 employees with a
finance department of “5 or 6 people, including Cai.”16
In 2020, Segway closed its Bedford, New Jersey headquarters and laid off
most of its employees.17 Cai stayed with the company.18 The remaining employees
were “tasked with transitioning [Segway’s] operations” and ensuring the orderly
closing of the [Bedford] facility.”19 Cai’s employment was terminated in November
2020, following the Bedford facility’s closure.20
D. The Financial Discrepancies
Segway continued to integrate its financial information into Ninebot’s
systems after Cai’s termination.21 During this process, “it became apparent that the
information Cai provided Ninebot did not match the actual numbers in Segway’s
financial records.”22 One “egregious discrepanc[y]” related to an excess of $5
15
Id.
16
Id. ¶ 20.
17
Id. ¶ 28.
18
Id.
19
Id.
20
Id. ¶ 29.
21
Id. ¶ 30.
22
Id. ¶ 31.
4
million in accounts receivable that were “not properly recorded and/or booked.”23
Ninebot’s management was unable to “reconcile the discrepancies” despite
“considerable time and resources [spent] attempting to” do so.24 Cai declined
Ninebot’s request for assistance.25
E. This Litigation
Segway commenced this action on December 2, 2022.26 Its initial complaint
advanced a single claim against Cai for breach of fiduciary duty.27 After Cai filed a
motion to dismiss, Segway filed its amended Complaint on February 24, 2023.28
Segway continued to press a breach of fiduciary duty claim against Cai and requested
money damages and an accounting for uncollected accounts receivable.29 Cai once
again moved to dismiss.30 After briefing was complete, the motion to dismiss was
argued on September 25, 2023.31
23
Id. ¶ 32.
24
Id. ¶ 33.
25
Id. ¶ 34.
26
Dkt. 1.
27
Id.
28
Dkts. 8, 10.
29
Am. Compl. ¶¶ 35-40, Prayer for Relief.
30
Dkts. 11-12; see also Dkts. 14, 15.
31
Dkt. 18; see Tr. of Sept. 25, 2023 Hr’g on Def.’s Mot. to Dismiss (Dkt. 19) (“Hr’g Tr.”).
5
II. LEGAL ANALYSIS
Segway seeks dismissal of the Complaint under Court of Chancery
Rule 12(b)(6) for failure to state a claim upon which relief can be granted. The
standard that governs her motion is as follows:
(i) all well-pleaded factual allegations are accepted as true; (ii) even
vague allegations are “well-pleaded” if they give the opposing party
notice of the claim; (iii) the Court must draw all reasonable inferences
in favor of the non-moving party; and [(iv)] dismissal is inappropriate
unless the “plaintiff would not be entitled to recover under any
reasonably conceivable set of circumstances susceptible of proof.”32
Although I “must draw reasonable inferences in favor” of Segway, I am “not
required to accept every strained interpretation of [its] allegations.”33
A. Segway’s Caremark Claim
The nature of Segway’s claim is not obvious from its Complaint. Segway
alleges that Cai “knew or should have known that there were potential issues” with
“some of [Segway’s] customers, which caused [Segway’s] accounts receivable to
continuously rise.”34 It further avers that Cai breached her fiduciary duties as an
officer of Segway by “continuously ignoring” these “issues (and the resulting impact
32
Savor, Inc. v. FMR Corp., 812 A.2d 894, 896-97 (Del. 2002) (citation omitted).
33
Gen. Motors (Hughes), 897 A.2d at 168 (quoting Malpiede v. Townson, 780 A.2d 1075,
1083 (Del. 2001)).
34
Am. Compl. ¶ 37.
6
on [Segway’s] profitability), fail[ing] to take any action to address them . . . and/or
fail[ing] to advise [Segway’s] board.”35
Based on these allegations, I assumed Segway was claiming that Cai breached
her duty of care by neglecting to adequately compile, review, and report Segway’s
financial information.36 But Segway is adamant that it only intends to advance a
claim for breach of Cai’s duty of loyalty—specifically, her oversight obligation.37
I will proceed accordingly.
Oversight duties arise from the duty of good faith, which is a subsidiary
element of the duty of loyalty.38 To plead a viable claim for breach of the duty of
oversight, a plaintiff must allege sufficient facts to support a reasonable inference
that the fiduciary acted in bad faith.39 Under Caremark, bad faith can be established
35
Id. ¶ 38.
36
See, e.g., id. ¶¶ 17-18. Even if Segway were raising a duty of care claim, it would fall
short of pleading gross negligence. See Buckley Fam. Tr. v. McCleary, Inc., 2020 WL
1522549, at *10 (Del. Ch. Mar. 31, 2020) (discussing the high standard applicable to the
duty of care and defining gross negligence as “conduct that constitutes reckless
indifference or actions that are without the bounds of reason”) (citation omitted).
37
Hr’g Tr. 28 (describing Segway’s claim as brought under Caremark “[p]rong two, just
in ignoring red flags and not advising the people who she needed to advise. That’s it.”);
id. (“We are not asserting a breach of care claim.”); see also Pl.’s Answering Br. in Opp’n
to Mot. to Dismiss Am. Compl. (Dkt. 14) (“Pl.’s Answering Br.”) 8 (asserting that Cai
argued under the “wrong” standard in moving to dismiss because she addressed gross
negligence while Segway was alleging bad faith).
38
See Marchand v. Barnhill, 212 A.3d 805, 820-21 (Del. 2019).
39
See Stone v. Ritter, 911 A.2d 362, 370 (Del. 2006) (“Where directors fail to act in the
face of a known duty to act, thereby demonstrating a conscious disregard for their
7
when fiduciaries (1) “utterly fail to implement any reporting or information system
or controls,” or (2) “having implemented such a system or controls, consciously fail
to monitor or oversee its operations,” which disables them “from being informed of
risks or problems requiring their attention.”40
Segway argues that it has stated such a claim against Cai based on its reading
of the recent McDonald’s decision.41 In McDonald’s, Vice Chancellor Laster
observed that officers of Delaware corporations owe context-specific “duties of
oversight comparable to those of directors.”42 He emphasized that—barring extreme
facts—an officer’s duty of oversight would only extend to matters within the
officer’s remit.43 But he did not (as Segway seems to intuit) craft a lower standard
for oversight claims brought against officers.44
responsibilities, they breach their duty of loyalty by failing to discharge that fiduciary
obligation in good faith.”) (citation omitted).
40
Id. (cleaned up).
41
See Pl.’s Answering Br. 6-8, 10, 13-18; id. at 13 (arguing that its allegations describe
conduct that “mirrors” McDonald’s).
42
In re McDonald’s Corp. S’holder Deriv. Litig., 289 A.3d 343, 370 (Del. Ch. 2023); see
also Gantler v. Stephens, 965 A.2d 695, 708-09 (Del. 2009) (explaining that “officers of
Delaware corporations, like directors, owe fiduciary duties of care and loyalty”).
43
McDonald’s, 289 A.3d at 370.
44
Id. (“Officers only will be liable for violations of the duty of oversight if a plaintiff can
prove that they acted in bad faith.”).
8
B. Whether Segway States a Claim
As President of Segway, Cai owed fiduciary duties to the company and its
stockholders.45 Segway contends that Cai breached those duties by “conscious[ly]
disregard[ing]” certain financial discrepancies, giving rise to a claim under the
second prong of Caremark.46 To state such a claim, Segway must adequately plead
that Cai “consciously failed to act after learning about evidence of illegality—the
proverbial ‘red flag.’”47 Applying the McDonald’s framework invoked by Segway,
the alleged oversight violation would need to fall within Cai’s sphere of corporate
responsibility.48
Cai was allegedly charged with overseeing Segway’s “financial performance,
including its accounts receivable.”49 She managed “the daily operations of the
finance department,” handled Segway’s “tax matters,” and was “involved in
45
See Hampshire Gp., Ltd. v. Kuttner, 2010 WL 2739995, at *1 (Del. Ch. July 12, 2010)
(“As a general matter, our Supreme Court has found that the duties of corporate officers
are similar to those of corporate directors.”) (citing Gantler, 965 A.2d at 709).
46
Am. Compl. ¶¶ 38-39; see Hr’g Tr. 28 (Segway’s counsel arguing that Cai “ignor[ed]
red flags and [did] not advis[e] the people who she needed to advise”); see also Stone, 911
A.2d at 370 (outlining the two formulations of a Caremark claim); Constr. Indus. Laborers
Pension Fund ex rel. SolarWinds Corp. v. Bingle, 2022 WL 4102492, at *6 (Del. Ch. Sept.
6, 2022) (explaining that the two types of oversight claims recognized in Stone are
“colloquially referred to as prongs one and two of Caremark”), aff’d, 297 A.3d 1083 (Del.
2023) (TABLE).
47
South v. Baker, 62 A.3d 1, 15 (Del. 2012).
48
See McDonald’s, 289 A.3d at 370.
49
Am. Compl. ¶ 14.
9
compiling and/or reviewing” summaries of Segway’s finances.50 According to
Segway, Cai “was aware of serious issues” with customers that “led to significant
increases” in accounts receivable and “willfully ignored” problems within her areas
of responsibility. Segway maintains that Cai should be held liable for failing to
address these matters or advise the board of directors about them.51
These allegations are an ill fit for a Caremark claim. No potential wrongdoing
(much less within Cai’s purview) is alleged. Segway does not, for example, state
that Cai overlooked accounting improprieties,52 fraudulent business practices,53 or
other material legal violations. It merely asserts that Cai learned (at some point)
about “issues” with unspecified customers, revenue decreases for a product line, and
increases in receivables.54 Such generic financial matters are far from the sort of red
flags that could give rise to Caremark liability if deliberately ignored.55
50
Id. ¶¶ 9, 18. Oddly, the Complaint discusses Cai’s reporting of financial summaries to
Ninebot management rather than to the Segway board of directors. This presents another
problem with Segway’s legal theory.
51
See id. ¶ 38.
52
See Ash v. McCall, 2000 WL 1370341, at *4, *15 (Del. Ch. Sept. 15, 2000) (dismissing
claims and observing that allegations about directors’ personal knowledge of reported
“potential accounting improprieties” might support demand futility).
53
See David B. Shaev Profit Sharing Acct. v. Armstrong, 2006 WL 391931, at *2 (Del. Ch.
Feb. 13, 2006) (dismissing Caremark claims concerning allegedly fraudulent business
practices where the plaintiff failed to allege bad faith).
54
Am. Compl. ¶ 22.
55
E.g., City of Detroit Police and Ret. Sys. v. Hamrock, 2022 WL 2387653, at *25 (Del.
Ch. June 30, 2022) (concluding that the board’s knowledge of “general risks” regarding
non-compliance with safety regulations was not a “red flag” of a “specific corporate
10
The Complaint also lacks facts suggesting that Cai acted in bad faith.
Segway—with 20/20 hindsight—wants Cai to answer for a decrease in sales and an
increase in receivables. “Oversight duties under Delaware law are not,” however,
“designed to subject [fiduciaries] to personal liability for failure to predict the future
and to properly evaluate business risk.”56 Bad things can happen to corporations
despite fiduciaries exercising the utmost good faith.57
The Caremark doctrine is not a tool to hold fiduciaries liable for everyday
business problems. Rather, it is intended to address the extraordinary case where
fiduciaries’ “utter failure” to implement an effective compliance system or
“conscious disregard” of the law gives rise to a corporate trauma.58 These tenets of
trauma” that could support a Caremark claim); In re ProAssurance Corp. S’holder Deriv.
Litig., 2023 WL 6426294, at *14 (Del. Ch. Oct. 2, 2023) (dismissing a Caremark claim
where the alleged misconduct involved a “classic business decision” and no “red flags of
illegality” had been pleaded); cf. McDonald’s, 289 A.3d at 378 (holding that it was
reasonably conceivable an officer faced Caremark liability where he allegedly ignored
“massive red flags” within his remit including multiple rounds of “coordinated EEOC
complaints,” widespread strikes, and a “thirty-city walkout”).
56
In re Citigroup Inc. S’holder Deriv. Litig., 964 A.2d 106, 131 (Del. Ch. 2009) (emphasis
omitted).
57
See Stone, 911 A.2d at 373 (explaining that Delaware courts will not “equate a bad
outcome with bad faith”); In re Goldman Sachs Grp., Inc. S’holder Litig., 2011 WL
4826104, at *23 (Del. Ch. Oct. 12, 2011) (“Good faith, not a good result, is what is required
. . . .”); see also Desimone v. Barrows, 924 A.2d 908, 940 (Del. Ch. 2007) (“Delaware
courts routinely reject the conclusory allegation that because illegal behavior occurred,
internal controls must have been deficient, and the board must have known so.”).
58
Stone, 911 A.2d at 370; see Melbourne Mun. Firefighters’ Pension Tr. Fund v. Jacobs,
2016 WL 4076369, at *8 (Del. Ch. Aug. 1, 2016) (observing that a “complained-of
‘corporate trauma’ . . . must be sufficiently similar to the misconduct caused by the ‘red
11
our law persist regardless of whether a Caremark claim is brought against a director
or an officer. Officers’ management of day-to-day matters does not make them
guarantors of negative outcomes from imperfect business decisions.59
* * *
Segway’s claim rests on the misimpression that an oversight claim pursued
against an officer is easier to plead than one against a director. Irrespective of the
defendant’s corporate title, a Caremark claim is “possibly the most difficult theory
in corporation law upon which a plaintiff might hope to win a judgment.”60 At a
minimum, a plaintiff pursuing an oversight claim against an officer would need to
demonstrate that the officer failed to make a good faith effort to monitor central
compliance risks within her remit that pose potential harm to the company or others.
No such reasonably conceivable claim is stated here.
III. CONCLUSION
For the foregoing reasons, Cai’s motion to dismiss is granted. The Complaint
is dismissed in its entirety under Rule 12(b)(6).
flags’ such that the board’s bad faith, ‘conscious inaction’ proximately caused that trauma”
(quoting South, 62 A.3d at 15, 17)), aff’d, 158 A.3d 449 (Del. 2017).
59
See Citigroup, 964 A.2d at 124 (explaining that Delaware courts faced with claims to
hold fiduciaries liable for “business decisions that, in hindsight, turned out poorly” have
“doctrines to deal with them—the fiduciary duty of care and the business judgment rule”).
60
In re Caremark Int’l Inc. Deriv. Litig., 698 A.2d 959, 967 (Del. Ch. 1996).
12