Olenik v. Lodzinski

IN THE SUPREME COURT OF THE STATE OF DELAWARE
NICHOLAS OLENIK, Individually §
and on Behalf of All Others §
Similarly Situated, §
§ No. 392, 2018
Plaintiff Below, §
Appellant, § Court Below—Court of Chancery
§ of the State of Delaware
v. §
§ C.A. No. 2017-0414-JRS
FRANK A. LODZINSKI, RAY §
SINGLETON, DOUGLAS E. §
SWANSON, BRAD §
THIELEMANN, ROBERT L. §
ZORICH, JAY F. JOLIAT, §
ZACHARY G. URBAN, ENCAP §
INVESTMENTS L.P., BOLD §
ENERGY III LLC, BOLD ENERGY §
HOLDINGS, LLC and OAK §
VALLEY RESOURCES, LLC, §
§
Defendants Below, §
Appellees, §
§
and §
§
EARTHSTONE ENERGY, INC., §
a Delaware Corporation, §
§
Nominal Defendant Below, §
Appellee. §
Submitted: February 6, 2019
Decided: April 5, 2019
Before STRINE, Chief Justice; VALIHURA, and SEITZ, Justices.
Upon appeal from the Court of Chancery of the State of Delaware: AFFIRMED IN
PART, REVERSED IN PART, and REMANDED.
Jeremy S. Friedman, Esquire, Spencer Oster, Esquire, and David F.E. Tejtel,
Esquire, Friedman Oster & Tejtel, PLLC, New York, New York; Ned Weinburger,
Esquire (argued), and Thomas Curry, Esquire, Labaton Sucharow LLP,
Wilmington, Delaware; Peter B. Andrews, Esquire, Craig J. Springer, Esquire, and
David Sborz, Esquire, Andrews & Springer LCC, Wilmington, Delaware, for
Appellant, Nicholas Olenik.
Kenneth J. Nachbar, Esquire (argued), D. McKinley Measley, Esquire, and Lauren
Neal Bennett, Esquire, Morris, Nichols, Arsht & Tunnell LLP, Wilmington,
Delaware; Gerard G. Pecht, Esquire, Norton Rose Fulbright US LLP, Houston,
Texas; Peter A. Stokes, Esquire, and William Patrick Courtney, Esquire, Norton
Rose Fulbright US LLP, Austin, Texas, for Appellees Frank A. Lodzinski, Ray
Singleton, Bold Energy III LLC, and Earthstone Energy, Inc.
Rolin P. Bissell, Esquire, and James M. Yoch, Jr., Esquire, Young Conaway Stargatt
& Taylor, LLP, Wilmington, Delaware; Michael C. Holmes, Esquire, Craig E.
Zieminski, Esquire, Stephen S. Gilstrap, R. Kent Piacenti, Esquire, and Jeffrey
Crough, Esquire, Vinson & Elkins LLP, Dallas, Texas for Appellees Douglas E.
Swanson, Brad Thielemann, Robert L. Zorich, EnCap Investments L.P., Bold
Energy Holdings, LLC, and Oak Valley Resources, LLC.
2
SEITZ, Justice:
Nicholas Olenik, a stockholder of nominal defendant Earthstone Energy, Inc.,
brought class and derivative claims against the defendants challenging a business
combination between Earthstone and Bold Energy III LLC. As alleged in the
complaint, EnCap Investments L.P. controlled Earthstone and Bold and caused
Earthstone stockholders to approve an unfair transaction based on a misleading
proxy statement. The defendants moved to dismiss the complaint on several
grounds. They claimed that the proxy statement disclosed fully and fairly all
material facts about the transaction, and Earthstone conditioned its offer on the
approval of a special committee and the vote of a majority of the minority
stockholders. Thus, under Kahn v. M&F Worldwide Corp.,1 instead of the exacting
entire fairness standard of review, business judgment review should apply leading
to dismissal.
The Court of Chancery agreed with the defendants and dismissed the case.
Two grounds were central to the court’s ruling. First, the proxy statement informed
the stockholders of all material facts about the transaction. And second, although
the court recognized that EnCap, Earthstone, and Bold worked on the transaction for
months before the Earthstone special committee extended an offer with the so-called
MFW conditions, it found those lengthy interactions “never rose to the level of
1
88 A.3d 635 (Del. 2014).
3
bargaining: they were entirely exploratory in nature.”2 Thus, in the court’s view, the
MFW protections applied, and the transaction was subject to business judgment
review resulting in dismissal.
While the parties briefed this appeal, we decided Flood v. Synutra
International, Inc.3 Under Synutra, to invoke the MFW protections in a controller-
led transaction, the controller must “self-disable before the start of substantive
economic negotiations.”4 The controller and the board’s special committee must
also “bargain under the pressures exerted on both of them by these protections.”5
We cautioned that the MFW protections will not result in dismissal when the
“plaintiff has pled facts that support a reasonable inference that the two procedural
protections were not put in place early and before substantive economic negotiations
took place.”6
The Court of Chancery held correctly that the plaintiff failed to state a
disclosure claim. But, the complaint should not have been dismissed in its entirety.
Applying Synutra and its guidance on the MFW timing issue—which the Court of
Chancery did not have the benefit of at the time of its decision—the plaintiff has
pled facts supporting a reasonable inference that EnCap, Earthstone, and Bold
2
Olenik v. Lodzinski, 2018 WL 3493092, at *16 (Del. Ch. July 20, 2018).
3
195 A.3d 754 (Del. 2018).
4
Id. at 763.
5
Id.
6
Id. at 764.
4
engaged in substantive economic negotiations before the Earthstone special
committee put in place the MFW conditions. We also find no merit to the
defendants’ alternative ground for affirmance based on EnCap’s supposed lack of
control of Earthstone. The Court of Chancery’s decision is affirmed in part and
reversed in part, and the case remanded for further proceedings consistent with this
opinion.
I.
A.
According to the allegations of the complaint, which we accept as true at this
stage of the proceedings, nominal defendant Earthstone is an upstream oil and gas
company developing domestic oil and gas reserves. EnCap is a Delaware limited
partnership operating as a private equity and venture capital firm focusing on
domestic oil and gas ventures. EnCap had two holdings relevant to this appeal—
Oak Valley Resources, LLC, a Delaware limited liability company, which in turn
owned a controlling stake in Earthstone; and Bold, a Texas limited liability company
controlled by EnCap with substantial undeveloped oil and gas resources in Texas
and New Mexico.
Frank Lodzinski founded Oak Valley in 2012, and served as its president and
chief executive officer. Lodzinski and EnCap have a history of successful
investments in the oil and gas industry. EnCap came to control Oak Valley through
5
a reverse merger when EnCap contributed membership interests in three subsidiaries
in exchange for a controlling interest in Earthstone. Lodzinski and three other
members affiliated with EnCap made up four of the five Oak Valley board of
managers. Affiliates of EnCap had the contractual right to nominate a majority of
the Oak Valley board of managers.
From December 2014 through June 2016, EnCap owned more than 50% of
Earthstone through its majority membership interest in Oak Valley. After a 2016
reverse merger involving Earthstone and Oak Valley, Oak Valley’s ownership
interest in Earthstone dropped to 41%. The following chart shows Earthstone’s
corporate structure post-2016 reverse merger:
6
After investing in December 2014, EnCap installed new Earthstone
management, with Lodzinski as president and chief executive officer. Earthstone
also employed several individuals who work for an Oak Valley affiliate. At this
point, EnCap and certain of its affiliates “through their direct and indirect ownership
may be deemed to share the right to direct the disposition of the Common Stock held
by Oak Valley through the EnCap Oak Valley Funds’ interest in Oak Valley and
7
EnCap Fund IX’s ownership of Bold.”7 In its 10-K report following the 2016 reverse
merger, Earthstone stated that it remained a controlled company:
So long as OVR [Oak Valley] continues to control a significant amount
of our common stock, OVR will continue to be able to strongly
influence all matters requiring stockholder approval, regardless of
whether or not other stockholders believe that a potential transaction is
in their own best interests. In any of these matters, the interests of OVR
may differ or conflict with the interests of our other stockholders.
Moreover, this concentration of stock ownership may also adversely
affect the trading price of our common stock to the extent investors
perceive a disadvantage in owning stock of a company with a
controlling stockholder. As of March 1, 2017, OVR controls 9,162,452
shares of our common stock, or 41.1% of the outstanding shares.8
B.
Turning to the transaction at issue in this appeal, the Earthstone-Bold business
combination has its roots in mid-2015 when EnCap began looking for ways to sell
Bold or take it public. The plaintiff’s theory is that Bold required large capital
commitments from EnCap’s investment funds to sustain its oil and gas operations.
In the summer of 2015, EnCap reached the end of its capital commitments, was
hesitant to invest more capital into Bold, and saw problems taking Bold public.9
EnCap retained an investment banker “to determine whether there was a market for
Bold’s assets.”10 The banker came up dry due to falling oil and gas prices.
7
App. to Opening Br. at A254, 274, 314, 354 (Proxy Statement, at 10, 30, 69, 106).
8
Id. at A642 (Annual 10-K at 27-28, filed March 15, 2017) (emphasis added).
9
Id. at A68 (Am. Compl. ¶ 67).
10
Id. at A290 (Proxy Statement, at 45).
8
According to the plaintiff, EnCap had run out of options to meet Bold’s heavy capital
requirements and keep Bold afloat. Even with the final capital call from EnCap,
“Bold d[id] not have enough cash and drilling capacity to continue to run the
company . . . .”11
Meanwhile, Earthstone in 2014-15 was pursuing a number of acquisitions,
which led to its interest in an Earthstone/Bold transaction. In the fall of 2015
Lodzinski saw an opportunity to combine Earthstone’s cash-generating assets with
Bold’s undeveloped resources. He initiated discussions with EnCap about a possible
Earthstone-Bold transaction which, according to the plaintiff, was done without
informing the Earthstone board. Those early interactions included:
 11/2015 – EnCap provided Lodzinski and Earthstone management
with Bold’s marketing pitchbook followed by a conference call with
EnCap to discuss a business combination. Earthstone and EnCap
entered into a confidentiality agreement covering Bold’s internal
information. Bold shared financial information with Earthstone,
which included access to Bold’s data room set up from the earlier
unsuccessful market survey.
 11-12/2015 – Earthstone contacted Bold’s investment banker and
Earthstone’s and Bold’s technical employees met with a consultant
to discuss Bold’s assets. Earthstone and Bold entered into another
confidentiality agreement covering Bold technical, operational,
financial, and analytical information prepared by Bold and its
investment banker, followed by a banker presentation presenting a
technical overview of Bold’s assets to EnCap and Earthstone, and a
follow up meeting among the same parties.
11
Id. at A743 (Minutes of a Meeting of the Special Committee, July 22, 2016).
9
 12/15-1/16 – Lodzinski and Earthstone management met with
investment banking firms “to solicit their views on valuation
parameters related to Bold’s assets, methods to fund their
development, and equity market receptivity to potential acquisition
of Bold’s assets.”12
C.
Earthstone and EnCap put their discussions on hold in early 2016 when oil
prices reached a twelve-year low. But, in April 2016, Lodzinski rekindled his
interest in Bold and provided Earthstone’s board with a letter discussing
Earthstone’s operations. In that April 27 letter, Lodzinski described a transaction
with Bold as a “Current Deal[],” noted he was “updating analysis,” and also wrote
“intend to make offer.”13 For the next few months Lodzinski led substantive
financial discussions among EnCap, Earthstone, and Bold about a transaction:
 05/02/2016 – EnCap provided Earthstone more information on
Bold’s projects and “indicated it would begin to build an
independent evaluation model of Earthstone and Bold” to use “in
evaluating any potential business combination.”14
 05/11/2016 – Without assistance from an independent financial
advisor, Earthstone delivered a presentation to EnCap proposing an
equity valuation for Bold of approximately $305 million in
Earthstone common stock.15
12
Id. at A71 (Am. Compl. ¶ 75).
13
Id. at A740 (Apr. 27, 2016 Letter from Lodzinski to Earthstone Board of Directors, at 7).
14
Id. at A292 (Proxy Statement, at 47).
15
Id. at A76 (Am. Compl., ¶ 86).
10
 05/18/2016 – Earthstone revised their proposed valuation to $335
million after EnCap apparently made no response.16
 05/23/2016 – Earthstone granted EnCap access to its corporate data
room which included a combined corporate model of Earthstone and
Bold and an Earthstone net asset value model.17 Bold got access a
month later.
 06/03/2016 – Earthstone and Bold officers discussed “a suggested
action plan to be carried out during the ensuing weeks and months,
relating to a possible transaction.”18
 06/27/2016 – Earthstone and Bold management met to go over
Bold’s assets and visited some Bold operations.19
 07/06/2016 – Earthstone, EnCap, and EnCap counsel met “to
develop a preliminary timeline to complete a possible transaction,
identify the participants and their counsel, and assign
responsibilities to complete the proposed transaction.”20
D.
On July 8, 2016—over two months after Earthstone and EnCap restarted
discussions about a potential deal and almost eight months after the initial
discussions between Lodzinski and EnCap—Earthstone’s two independent
directors, Joliat and Urban, held a conference call with Earthstone management and
Earthstone’s legal counsel. Joliat and Urban said they would form a special
committee to oversee the potential transaction.
16
Id. at A77 (Am. Compl., ¶ 88). This increase was allegedly due to some recently acquired assets
of Bold not included in the first evaluation. Id. at A292 (Proxy Statement, at 48).
17
Id. at A292 (Proxy Statement, at 47).
18
Id. at A293 (Proxy Statement, at 49).
19
Id. at A79 (Am. Compl. ¶ 92).
20
Id. at A293 (Proxy Statement, at 48).
11
While the board was in the process of forming the special committee,
substantive discussions continued over the transaction. On July 12, 2016, Lodzinski
met with Bold’s chief financial officer and executive vice president for business
development to discuss, among other things, employee matters and the future
composition of the combined board.21 On July 19, 2016, Earthstone employees met
with Bold representatives and toured some Bold facilities.22 And, on July 22, 2016,
Lodzinski and Anderson made a presentation to the unofficial special committee
members about the status and plan for the transaction, including information about
what Earthstone would do with Bold’s assets, an updated valuation of Bold
reflecting a value between $300 and $350 million, possibly structuring the deal using
an initially tax-free “Up-C” structure, and a possible tax receivable agreement that
would benefit EnCap that Earthstone was working on with EnCap’s outside
counsel.23 Operational and technical employees of the two companies also
continued to meet and visit Bold’s drilling locations in West Texas.24
On July 29, 2016, the Earthstone board formally established the special
committee consisting of Joliat and Urban. According to the proxy statement, the
special committee’s charter gave the committee the power to:
21
Id.
22
Id. at A294 (Proxy Statement, at 49).
23
Id. at A742-44 (July 22, 2016 Minutes of a Meeting of the Special Committee).
24
Id. at A294 (Proxy Statement, at 49).
12
(i) “determine whether or not to make a formal offer of combination with
Bold and if so, the terms and conditions of such offer;
(ii) negotiate and oversee the documentation of any such offer;
(iii) retain its own financial advisor and legal counsel;
(iv) solicit the views of, and obtain information from, Earthstone’s
executive, financial and other officers; and
(v) reject the potential transaction, cease further negotiations and ‘walk
away.’”25
The charter also provided that the Earthstone board would not approve a transaction
without the special committee’s favorable recommendation.26 There was not,
however, a condition that any transaction be approved by a majority-of-the-minority
stockholder vote. About the same time, the special committee selected Stephens Inc.
as its financial advisor.
On August 10, 2016, the full board held a regularly scheduled meeting to
discuss the transaction. According to management-prepared discussion materials,
the plan was to “Announce Project Boldstone” in the third or fourth quarter.27
During the meeting, “the directors discussed the potential Bold transaction and its
pro forma financial and operational impact on Earthstone.”28 Like the board’s
previous meeting in May, the board held the meeting at EnCap’s offices and was
25
Id.
26
Id.
27
Id. at A88 (Am. Compl. ¶ 111).
28
Id. at A295 (Proxy Statement, at 50).
13
attended by the same two EnCap employees who attended the previous meeting.
“All directors were supportive of a transaction between Earthstone and Bold and
directed the proper officers to continue to pursue such a transaction.”29
On August 16, 2016, the special committee met with its counsel and Stephens
to receive Stephens’s preliminary financial analysis and discuss the terms of an offer
to Bold. Although the minutes of the meeting state that “the deal currently being
contemplated by [Earthstone] includes an equity split of 60% for Bold and 40% for
[Earthstone],” Stephens’s “contribution analysis show[ed] that the average
contribution is 37.2% for Bold and 62.8% for [Earthstone].”30 The Stephens
representative stated that “the Committee should be aware that the contribution
analysis does not support the currently proposed split between [Earthstone] and
Bold.”31 He also noted that Earthstone’s projections were based on a 10% discount
to the stock price and that he was “not sure why such a discount would be used in
this case.”32
Later that same day, the special committee met with Earthstone management
to continue discussions about the transaction. The committee discussed, “among
other matters, the proposed transaction, recent transactions in the Midland Basin,
29
Id.
30
Id. at A89 (Am. Compl. ¶ 113).
31
Id.
32
Id. at A90 (Am. Compl. ¶ 114).
14
competition, management’s current views on valuation and contribution analysis,
the sources of the information provided to Stephens, anticipated market impacts on
Earthstone and submission of a proposal to Bold.”33
On August 19, 2016, the special committee met again about the transaction.
According to the minutes, the committee “determined that the price of the
Company’s stock in the transaction should not be calculated at a discount, the
weighted average trading price for the 30 days prior to signing should be used to
determine the Company’s stock price,” and “the transaction should result in the
Company [Earthstone] owning more than 40% of the resulting entity,” with a $325
million purchase price based on Bold’s enterprise value.34 The minutes further
suggest that the special committee reduced the amount Earthstone would own in the
resulting entity from Stephens’s earlier analysis because that earlier analysis did not
estimate Bold’s cash flows far enough into the future. In other words, Bold was an
early-stage company with long-term potential but uncertain short-term prospects.
The committee then authorized Lodzinski to send an offer letter to Bold.
E.
Lodzinski sent a formal written proposal to Bold’s President, Castillo (the
“August 19 Letter”). Consistent with the special committee’s instructions, the
33
Id. at A295 (Proxy Statement, at 50).
34
Id. at A90 (Am. Compl. ¶ 115) (emphasis omitted).
15
August 19 Letter proposed to acquire all of Bold’s assets and liabilities through “a
private stock transaction with a face value of $325 million funded through the
issuance of shares of Earthstone’s common stock,” less net financial obligations not
to exceed $25 million.35 According to the proxy statement, assuming an equity
valuation of $300 million for Bold and $10.50 per share for Earthstone stock, “the
offer would have resulted in Bold owning about 55% of the combined entity on a
fully diluted basis.”36 The August 19 Letter also conditioned the transaction on
approval by the special committee and, apparently for the first time, “Earthstone’s
stockholders, including the holders of a majority of the common stock held by
persons other than EnCap Investments LP and its affiliates and associates.”37
Five days after the special committee sent the August 19 Letter, Lodzinski
met with Castillo to discuss Earthstone’s offer and “begin more detailed negotiations
on the broader terms of the proposed transaction.”38 A week later, Castillo formally
responded to Earthstone’s proposal. Bold’s counteroffer called for Bold to own
65.5% of the combined company.
35
App. to Opening Br. at A748 (Letter from Frank Lodzinski to Joseph L. Castillo).
36
Id. at A295 (Proxy Statement, at 50).
37
Id. at A748 (Letter from Frank Lodzinski to Joseph L. Castillo). The plaintiff claims that
Earthstone did not produce the August 19 Letter as part of the § 220 demand response, is not
incorporated by reference in the complaint, and therefore, should not be considered by this Court
on a motion to dismiss. Earthstone responds that the letter was produced before the plaintiff filed
his complaint. We do not have to resolve this dispute because it does not affect our analysis.
38
Id. at A92-93 (Am. Compl ¶ 120).
16
The special committee considered Bold’s counteroffer at two meetings with
its advisors on September 1 and September 6, 2016. At the second meeting,
Stephens advised the special committee that “the Company should try to end up at
approximately 40%” of the combined entity (i.e., 60% for Bold).39 The special
committee agreed, and on September 8, 2016, authorized Lodzinski to offer Bold
60% of the combined entity.
Castillo responded the next day to Earthstone’s counteroffer. His position was
that Bold should end up with 62.5% of the combined entity. Before the special
committee had a chance to digest this new offer, Lodzinski spoke to Castillo about
the offer. During this discussion, Lodzinski hinted “that Earthstone might be able
to increase its proposal,” and thereby increase Bold’s ownership of the combined
entity to 61.5%.40 Castillo was receptive to an offer in that range.
Based on his conversation with Castillo, Lodzinski spoke with Joliat and
encouraged him to consider accepting a deal at less than 40% ownership of the
combined entity. Joliat reported this conversation to his special committee colleague
at a September 13, 2016 meeting, but Stephens advised that “the Company should
attempt to negotiate for a transaction that results in an ownership percentage of at
least 40% for the Company.”41 The special committee agreed, and instructed
39
Id. at A93 (Am. Compl. ¶ 121).
40
Id. at A94 (Am. Compl. ¶ 123).
41
Id. at A95 (Am. Compl. ¶ 125).
17
Lodzinski “that the Committee would like to keep the Company’s ownership
percentage at approximately 40%.”42
Six days later, on September 19, 2016, Lodzinski and Castillo discussed the
transaction, and Lodzinski agreed to propose to the special committee a transaction
that would result in Earthstone owning 39% of the combined entity. Lodzinski also
told Castillo that he would request authority from the special committee to accept a
transaction that left Earthstone with 38.7% of the combined entity. A few days later,
Lodzinski took this proposal to the special committee. After “[a] very brief
discussion (the entire meeting lasted only 26 minutes), . . . the Special Committee
authorized Lodzinski to finalize the negotiations with Bold for” 38.7% of the
combined entity.43
After this point, negotiations moved quite rapidly. On October 7, 2016, the
special committee sent a draft Contribution Agreement to Bold.44 Bold responded
almost two weeks later.45 During this time, Lodzinski met with Castillo and other
members of Bold’s management team to iron out “employee matters” and other
transaction details. Negotiations were finalized during the last week of October and
42
Id.
43
Id. at A97 (Am. Compl. ¶ 128).
44
App. to Opening Br. at A297 (Proxy Statement, at 52).
45
Id.
18
the first week of November, when Earthstone and Bold negotiated the final
Contribution Agreement.
On November 7, 2016, Earthstone and Bold reached an agreement on the
structure and final economic terms of the transaction. Earthstone stockholders
would end up owning approximately 39% of the combined company. The special
committee met that day, received a fairness opinion from Stephens, and approved
the transaction. Later that same day, Earthstone’s full board met. After hearing the
special committee’s recommendation, the board approved the transaction. The
board announced the transaction the next day. On May 9, 2017, Earthstone’s
disinterested stockholders approved the deal. “Of the voted shares not held by Oak
Valley or the Company’s executive officers, 99.7% voted in favor of the
Transaction.”46
II.
The plaintiff filed his complaint for breach of fiduciary duties against the
Earthstone directors, EnCap/Oak Valley as Earthstone’s controlling stockholders,
Lodzinski and Singleton as officers of Earthstone, and the Bold entities for aiding
and abetting breaches of fiduciary duty. The Court of Chancery dismissed the
complaint because (1) EnCap/Earthstone preconditioned the deal on MFW’s dual
requirements up front in its August 19 Letter, (2) the special committee was well
46
Olenik, 2018 WL 3493092, at *12.
19
functioning, and (3) the stockholder vote was informed and not coercive. According
to the court, the plaintiff had not pled facts sufficient to overcome the business
judgment standard of review requiring dismissal.
A.
Our standard of review of a decision granting a motion to dismiss is de novo.47
At the motion to dismiss stage, we must “accept as true all of the plaintiff’s well-
pleaded facts,” and “draw all reasonable inferences” in plaintiff’s favor.48 Further,
a motion to dismiss should be denied unless the facts pled support a reasonable
inference that the plaintiff can succeed on his claims.49
We address first the plaintiff’s argument that the Court of Chancery erred
when it found that MFW’s dual protections had been agreed to from the deal’s
inception. According to the plaintiff, although MFW requires that the dual
protections be put in place “up front,” the Court of Chancery failed to credit
reasonable inferences from well-pled facts that the MFW procedural protections
were not put in place until after almost eight months of substantive economic
dealings among the parties. More specifically, the plaintiff claims that, based on the
well-pled facts of the complaint, Lodzinski and EnCap substantially negotiated the
47
Brinckerhoff v. Enbridge Energy Co., 159 A.3d 242, 252 (Del. 2017).
48
Allen v. Encore Energy Partners, L.P., 72 A.3d 93, 100 (Del. 2013).
49
Cent. Mortg. Co. v. Morgan Stanley Mortg. Capital Holdings LLC, 27 A.3d 531, 536–37 (Del.
2011).
20
financial state of play between the companies before special committee involvement
and the MFW conditions.
The defendants respond by pointing to the August 19 Letter from the special
committee with the MFW conditions. According to the defendants, the interactions
among Lodzinski, Earthstone, EnCap, and Bold that preceded the letter did not
equate to substantive financial negotiations or “horse-trading” because “neither side
changed its position on any issue” before the letter. Thus, under MFW, the
complaint’s allegations were insufficient to avoid a pleading-stage dismissal of the
complaint.
B.
In Kahn v. M&F Worldwide Corp. we held that the business judgment
standard of review governs mergers proposed by a controlling stockholder and its
corporate subsidiary when conditioned from the beginning “upon the approval of an
independent, adequately-empowered Special Committee that fulfills its duty of care;
and the uncoerced, informed vote of a majority-of-the-minority of stockholders.”50
The most rigorous standard of review—entire fairness—was not needed to protect
minority stockholders from overreaching because the controller “irrevocably and
publicly disables itself from using its control to dictate the outcome of the
50
88 A.3d 635, 644 (Del. 2014). Although the Earthstone/Bold transaction is not a transaction
between the controlling stockholder and a controlled company, the same principles apply whether
the controller is directly or indirectly exerting its influence over the transaction.
21
negotiations and the shareholder vote.”51 With the controller’s influence neutralized
by the MFW conditions, the transaction takes on the “characteristics of third-party,
arm’s-length mergers, which are reviewed under the business judgment standard.”52
Relying on the Court of Chancery’s reasoning in MFW, we also explained that
the MFW protections must be established “up front” if they are to serve as a “potent
tool to extract good value for the minority.”53 In other words, “from inception, the
controlling stockholder knows that it cannot bypass the special committee’s ability
to say no,” and “cannot dangle a majority-of-the-minority vote before the special
committee late in the process as a deal-closer rather than having to make a price
move.”54 But, “if a plaintiff that can plead a reasonably conceivable set of facts
showing that any or all of those enumerated conditions did not exist, that complaint
would state a claim for relief that would entitle the plaintiff to proceed and conduct
discovery.”55
More recently, in Flood v. Synutra,56 we considered in greater detail the “up
front” requirement. In Synutra, the controlling stockholder’s first expression of
interest was quickly followed by the MFW dual requirements before any substantive
51
Id.
52
Id.
53
Id.
54
Id.
55
Id. at 645.
56
195 A.3d 754 (2018); see also in re Books-A-Million, Inc. Stockholders Litig., 2016 WL
5874974, at *9 (Del. Ch. Oct. 10, 2016), aff'd, 164 A.3d 56 (Del. 2017) (finding a rejected offer
made in 2012 without MFW conditions did not preclude MFW applying to a new 2015 offer).
22
negotiations took place between the controller and the special committee. Taking a
pragmatic approach, we held in Synutra that the defendants satisfied the MFW
requirements because the controller “condition[ed] its offer on the key protections
at the germination stage of the Special Committee process, when it [was] selecting
its advisors, establish[ed] its method of proceeding, beg[an] its due diligence, and
ha[d] not commenced substantive economic negotiations with the controller.”57 We
recognized, however, that “when a plaintiff has pled facts that support a reasonable
inference that the two procedural protections were not put in place early and before
substantive economic negotiation took place,” the court should “refuse to dismiss
the case.”58 That is, MFW is not satisfied if a controller has not “accept[ed] that no
transaction goes forward without special committee and disinterested stockholder
approval early in the process and before there has been any economic horse
trading.”59
The Court of Chancery held correctly that preliminary discussions between a
controller’s representatives and representatives of the controlled company do not
pass the point of no return for invoking MFW’s protections. But, based on our
57
Synutra, 195 A.3d at 765.
58
Id. at 765. Here, the plaintiff also raised a technical argument—the offer with the MFW
conditions did not come directly from the controller but instead from the special committee. Under
the facts of this case, the distinction does not make a difference in our analysis. EnCap indirectly
controlled Earthstone and appeared to agree with the special committee’s insistence on the MFW
conditions.
59
Id. at 756.
23
review of the plaintiff’s complaint, as informed by our Synutra decision, the well-
pled facts “support a reasonable inference” that the MFW requirements “were not
put in place early and before substantive economic negotiation took place.”60
First, in April 2016 Lodzinski told the Earthstone board that he was “updating
analysis” of Bold and intended to make “an offer.”61 And, in his August 1, 2016
letter to the Earthstone board, Lodzinski said he was “negotiating”62 with Bold while
the special committee and its advisors were still “getting up to speed.”63
Second, viewed along the negotiating continuum, the well pled facts show that
substantial economic negotiations took place well before the August 19 Letter with
the MFW conditions:
 During early discussions in November 2015, the controller, EnCap, provided
Earthstone with a presentation that EnCap’s investment bank, TPH, had used
the previous summer to market the target company, Bold; Earthstone
management and EnCap held a conference call to discuss a potential deal;
and Earthstone and EnCap executed a confidentiality agreement governing
the exchange of information about Bold.
 The next month, EnCap provided Earthstone with information about Bold,
including access to a data room and confidential technical, operational,
financial, and analytic information about Bold; Earthstone entered a
confidentiality agreement with Bold; Earthstone management spoke with
TPH; TPH provided a technical overview of Bold’s assets to Earthstone and
EnCap; and Earthstone, EnCap, and TPH met again to discuss Bold’s assets.
60
Id. at 764.
61
App. to Opening Br. at A740 (Apr. 27, 2016 Letter from Lodzinski to Earthstone Board of
Directors, at 7).
62
Id. at A1050 (August 1, 2016 Letter from Lodzinski to the Earthstone Board, at 3).
63
Id. at A88 (Am. Compl. ¶ 110) (quoting Minutes of a Meeting of the Special Committee, Aug.
3, 2016).
24
 During that same month, Earthstone management met with three separate
investment banks to get their views on valuation parameters related to
Bold’s assets, methods to fund their development, and equity market
receptivity to a possible deal with Bold.
 In April 2016, when Lodzinski decided to restart negotiations as the oil and
gas market began recovering, Earthstone management met with EnCap to
discuss moving forward on the Bold deal.
 Presentation materials from the Earthstone board’s May 3, 2016 meeting
indicated an “Active” potential deal where Bold was listed as the “Seller”
and EnCap as a “Financial Partner.”64
 In May 2016, there were multiple substantive economic communications
between Earthstone and EnCap. Earthstone management delivered a
presentation to EnCap about the proposed deal indicating an equity valuation
for Bold of approximately $305 million, which EnCap said it would review
with TPH. Then, about a week later, Earthstone management made another
presentation to EnCap about the transaction, this time raising its valuation of
Bold to about $335 million. Several days after that second presentation,
Earthstone communicated with EnCap and TPH again about the transaction
and gave TPH access to Earthstone’s data room, which included
Earthstone’s combined corporate model of the two companies as well as a
model of Earthstone’s net asset valuation.
 In June and July 2016, there were numerous meetings between various
representatives of Earthstone, EnCap, Bold, and TPH, including meaningful
on-site due diligence regarding Bold’s assets in West Texas.
While some of the early interactions between Earthstone and EnCap could be
fairly described as preliminary discussions outside of MFW’s “from the beginning”
requirement, the well-pled facts in the complaint support a pleading stage inference
that the preliminary discussions transitioned to substantive economic negotiations
64
App. to Opening Br. at AA74 (Am. Compl. ¶ 83).
25
when the parties engaged in a joint exercise to value Earthstone and Bold. In the
presentations made by Earthstone to EnCap, Earthstone management valued Bold at
$305 million in the first presentation and $335 million in the second presentation.
Based on these facts, it is reasonable to infer that these valuations set the field of
play for the economic negotiations to come by fixing the range in which offers and
counteroffers might be made.65 According to the complaint, that generally turned
out to be the case. Earthstone’s first formal offer—the one in which the MFW
conditions were finally mentioned—reflected an equity valuation for Bold of about
$300 million, and the final deal reflected an equity valuation for Bold of around $333
million.66 Additionally, at the August 10 board meeting management presented a
transaction with an already presumed timeline (to be announced in “Q3/Q4” of that
year) and an “assumed” price of $333 million.67
In Synutra we described the ordinary meaning of “from the beginning” as the
first stage of an ongoing process.68 According to the complaint’s well-pled
allegations, EnCap, Earthstone, and Bold were engaged in substantive economic
discussions during some of the eight months before the MFW protections were put
65
See generally Amos Tversky & Daniel Kahneman, Judgment Under Uncertainty: Heuristics
and Biases, 185 SCIENCE 1124, 1128–30 (1974) (coining the term “anchoring” to describe the
phenomenon in which a starting value biases future adjustments toward that initial value).
66
If a 55/45 split in Bold’s favor implies a $300 million equity valuation for Bold, then the final
61/49 split implies a $333 million equity valuation for Bold.
67
Id. at A1059, 1077 (August 10, 2016 Earthstone Board Meeting, at 6, 24).
68
Synutra, 195 A.3d at 761–62.
26
place. Where, as here, the plaintiff “has pled facts that support a reasonable
inference that the two procedural protections were not put in place early and before
substantive economic negotiation took place,” the plaintiff has met his pleading-
stage burden and the complaint should not have been dismissed on MFW grounds.69
C.
The defendants ask us to affirm the Court of Chancery’s decision on an
alternative ground not considered by the court—that EnCap shed its controller status
before the Earthstone special committee’s August 19 Letter containing the MFW
conditions. Until mid-June 2016, EnCap owned a majority of Oak Valley’s units,
which in turn owned a majority of Earthstone stock. After the 2016 reverse merger
involving Earthstone and Oak Valley, Oak Valley’s ownership interest in Earthstone
dropped to about forty percent. The defendants rely on the drop below majority
ownership before the August 19 Letter as dispositive of the control issue.
We agree with the defendants that a controlling stockholder must own a
majority of a corporation’s voting power or have “effective control of the board” and
exercise control over the corporation’s conduct.70 And, we agree that around mid-
June, 2016, EnCap through Oak Valley no longer held a majority of Earthstone’s
69
Id. at 764.
70
Corwin v. KKR Fin. Holdings LLC, 125 A.3d 304, 307 (Del. 2015); see also Weinstein
Enterprises, Inc. v. Orloff, 870 A.2d 499, 507 (Del. 2005) (“[T]he plaintiff must establish the actual
exercise of control over the corporation’s conduct by that otherwise minority stockholder.”).
27
stock. But, the plaintiff has pled facts that support a claim that EnCap controlled
Earthstone after the 2016 reverse merger and also held a majority of Earthstone’s
stock while substantive economic negotiations took place that fixed the field of play
for the eventual transaction price.
First, in Earthstone’s March 2017 10-K—issued after the August 19 Letter
with the MFW conditions—Earthstone described itself as a “company with a
controlling shareholder.”71 Further, the plaintiff has pled that EnCap, through
Lodzinski, led the negotiations for the transaction.72 According to the complaint,
Lodzinski was a conflicted negotiator because of his long-term relationship with
EnCap. And, according to the complaint, Lodzinski negotiated his continued
employment with Earthstone before Earthstone formally created the special
committee.73
Further, as pled in the complaint, key substantive economic negotiations
occurred before the August 19 Letter when it is undisputed that EnCap controlled
Oak Valley and Earthstone. The two valuations of Bold proposed by Lodzinski
occurred in May, 2016. And there were multiple other meetings, confidentiality
71
App. to Opening Br. at A642 (March 17, 2017 Earthstone Annual Report (Form 10-k), at 28).
Additionally, the inclusion of the MFW conditions in August continue to suggest that Earthstone
viewed EnCap as its controlling shareholder.
72
See In re Crimson Expl. Inc. Stockholder Litig., 2014 WL 5449419, at *16 (Del. Ch. Oct. 24,
2014) (requiring a plaintiff to show that the stockholder “actually controlled the board’s decision
about the transaction at issue”) (emphasis added).
73
App. to Opening Br. at A44 (Am. Compl. ¶ 12).
28
agreements, due diligence, and logistical discussions while EnCap was a majority
stockholder. Thus, the defendants are not entitled to a pleading stage dismissal based
on lack of control because the facts pled support the reasonable inference that EnCap
acted as Earthstone’s controlling stockholder while key economic negotiations took
place between Earthstone and Bold which set the financial playing field for later
negotiations.74
D.
Finally, we turn to the plaintiff’s disclosure claims. On appeal, the plaintiff
claims the Court of Chancery erred in dismissing the disclosure claims because the
proxy statement failed to disclose that (1) Stephens’s initial contribution analysis did
not support a 40/60 Earthstone/Bold split for the transaction; (2) Stephens was
74
The defendants also raise two other arguments. First, they claim that the plaintiff failed to plead
facts that the transaction was not entirely fair. To survive a motion to dismiss in an entire fairness
case, the plaintiff must plead facts that, with all reasonable inferences drawn in their favor, show
the transaction was unfair. Soloman v. Pathe Commc’ns Corp., 672 A.2d 35, at 38 (Del. 1996);
See also Calma v. Templeton, 114 A.3d 563, 589 (Del. Ch. 2015) (quoting Solomon v. Pathe
Commc’ns Corp., 1995 WL 250374, at *5 (Del. Ch. Apr. 21, 1995)) (requiring “some facts that
tend to show that the transaction was not fair.”). Here, the plaintiff has met his burden. The
plaintiff has pled that Bold’s cash position required EnCap to sell Bold; Earthstone’s financial
advisor at one time proposed a ratio with Earthstone acquiring 60% of the combined entity; and
Lodzinski, as a conflicted negotiator due to his ties with EnCap, assumed what should have been
the special committee’s lead role in the financial negotiations. App. to Opening Br. at A41, 44-
45, 89 (Am. Compl. ¶¶ 5, 12, 113). Defendants Lodzinski and Singleton also claim that the
plaintiff has not pled non-exculpated claims against them. See 8 Del. C. § 102(b)(7). We agree
with the plaintiff, however, that the complaint has pled non-exculpated claims. The plaintiff pled
both breach of loyalty claims and claims against them as corporate officers, neither of which are
subject to exculpation under 8 Del. C. § 102.
29
pressured to revise its analysis, which helped support the final split; and (3) EnCap
was motivated to sell Bold due to its cash position.
Directors “have a fiduciary duty to disclose fully and fairly all material
information within the board’s control that would have a significant effect upon a
stockholder vote when it seeks or recommends a shareholder action.”75 Omitted
information is material “if there is a substantial likelihood that the disclosure of the
omitted fact would have been viewed by the reasonable investor as having
significantly altered the ‘total mix’ of information made available.”76 To be material
the missing information does not have to cause a reasonable shareholder to change
her vote.77
We agree with the Court of Chancery that the plaintiff failed to state a
disclosure claim. Although the proxy does not discuss the changes in Stephens’s
analysis, it does include projections for each of the years 2017-19. Stephens
emphasized that it “did not regard the relative contribution metrics as meaningful”
given the “difference in development stages” of the two companies.78 From those
yearly projections it is apparent that the contribution analysis favors Earthstone in
75
Appel v. Berkman, 180 A.3d 1055, 1060 (Del. 2018).
76
Morrison v. Berry, 191 A.3d 268, 283 (Del. 2018) (quoting Rosenblatt v. Getty Oil Co., 493
A.2d 929, 944 (Del. 1985)).
77
RBC Capital Markets, LLC v. Jervis, 129 A.3d 816, 859 (Del. 2015) (quoting Rosenblatt, 493
A.2d at 944).
78
App. to Opening Br. at A31. See Olenik, 2018 WL 3493092, at *22 (the proxy “made clear that,
in Stephens’ opinion, the growth dynamic between the two companies diminished the relevance
of the contribution analysis as an indicator of value.”).
30
the early years and Bold in the later years. Investors were free to place the emphasis
where warranted. Although the plaintiff alleges that Stephens should have disclosed
that it was allegedly pressured to change its analysis, the defendants do not have to
adopt “plaintiff’s characterization of the facts.”79 And finally, as for EnCap’s reason
for selling Bold—that “Bold [was] in dire need of cash and EnCap [was] on the hook
for further capital infusions”80—the reason was apparent on the face of the proxy.81
The proxy disclosed Bold’s financials. They showed that Bold was in a poor cash
position. As the Court of Chancery held, “the Board was not obliged to characterize
Bold’s cash position, particularly when the facts were disclosed and neither the
Special Committee nor the Board actually concluded that Bold was distressed and
needed to sell.”82
79
Shaev v. Adkerson, 2015 WL 5882942, at *10 (Del. Ch. Oct. 5, 2015) (quoting Seibert v. Harper
& Ros, Publishers, Inc., 1984 WL 21874, at *6 (Del. Ch. Dec. 5, 1984); see also Frank v. Arnelle,
725 A.2d 441, 1999 WL 89284, at *2 (Del. Jan. 22, 1999) (no requirement to disclose “soft
information” of a financial advisor’s opinion on value); Brody v. Zaucha, 697 A.2d 749, 754 (Del.
1997) (not requiring a director to adopt “his opponents’ current explanation of why he was
removed”).
80
Opening Br. at 46.
81
App. to Opening Br. at A263, A341-49 (Proxy Statement, at 19, 94-101) (disclosing Bold’s
financial position and noting that its “primary sources of liquidity . . . has been equity investments
from EnCap and Bold’s management and employees”).
82
Olenik, 2018 WL 3493092, at *23.
31
III.
The Court of Chancery’s decision dismissing the complaint is affirmed in part
and reversed in part. The case is remanded for proceedings consistent with this
opinion. Jurisdiction is not retained.
32