In Re LendingClub Corp. Derivative Litigation

IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
IN RE LENDINGCLUB CORP. ) CONSOLIDATED
DERIVATIVE LITIGATION ) C.A. No. 12984-VCM
MEMORANDUM OPINION
Date Submitted: July 17, 2019
Date Decided: October 31, 2019
Seth D. Rigrodsky, Brian D. Long, Gina M. Serra, RIGRODSKY & LONG, P.A.,
Wilmington, Delaware; Robert I. Harwood, Matthew M. Houston, HARWOOD
FEFFER LLP, New York, New York; Brett D. Stecker, James M. Ficaro, THE
WEISER LAW FIRM, P.C., Berwyn, Pennsylvania; Counsel for Lead Plaintiffs
Chaile Steinberg, William A. Blazek, and William Rhangos.
Raymond J. DiCamillo, Eliezer Y. Feinstein, RICHARDS, LAYTON & FINGER,
P.A., Wilmington Delaware; Adam S. Paris, Natalie Muscatello, SULLIVAN &
CROMWELL LLP, Los Angeles, California; Counsel for Defendants John C.
Morris, Daniel T. Ciporin, Jeffrey Crowe, Mary Meeker, Scott Sanborn, Lawrence
H. Summers, and Simon Williams.
Raymond J. DiCamillo, Eliezer Y. Feinstein, RICHARDS, LAYTON & FINGER
P.A., Wilmington, Delaware; Jonathan D. Polkes, WEIL, GOTSHAL & MANGES
LLP, New York, New York; Counsel for Defendant John J. Mack.
Myron T. Steele, T. Brad Davey, Callan R. Jackson, POTTER ANDERSON &
CORROON LLP, Wilmington, Delaware; Robert J. Liubicic, MILBANK LLP, Los
Angeles, California; Scott A. Edelman, Adam Fee, Andrew Lichtenberg,
MILBANK LLP, New York, New York; Counsel for Defendant Renaud Laplanche.
Jody C. Barillare, MORGAN, LEWIS & BOCKIUS LLP, Wilmington, Delaware;
Charlene S. Shimada, Susan D. Resley, Lucy Wang, MORGAN, LEWIS &
BOCKIUS LLP, San Francisco, California; Marc J. Sonnenfeld, MORGAN, LEWIS
& BOCKIUS LLP, Philadelphia, Pennsylvania; Counsel for Defendant Carrie
Dolan.
William M. Lafferty, Susan W. Waesco, Sabrina M. Hendershot, MORRIS,
NICHOLS, ARSHT & TUNNELL LLP, Wilmington, Delaware; Diane M.
Doolittle, QUINN EMANUEL URQUHART & SULLIVAN LLP, Redwood
Shores, California; David M. Grable, Joseph C. Sarles, Jordan E. Alexander, QUINN
EMANUEL URQUHART & SULLIVAN LLP, Los Angeles, California; John
Potter, QUINN EMANUEL URQUHART & SULLIVAN LLP, San Francisco,
California; Counsel for Nominal Defendant LendingClub Corporation.
McCORMICK, V.C.
LendingClub Corporation operates an online platform that facilitates loans
issued by third parties. The company then purchases the loans and sells them to
investors based on the investors’ preferred loan characteristics. In March and April
2016, LendingClub sold to an institutional investor $22 million in near-prime loans
that did not meet the investor’s instructions concerning loan characteristics. When
whistleblowers alerted the company’s board of directors, the board conducted an
internal investigation with the assistance of independent outside counsel and a
forensic auditor.
The internal investigation surfaced other problems. Two members of the
board of directors, one of whom was the company’s CEO and board Chairman, failed
to disclose their personal investments in Cirrix Capital L.P. before the company
invested $10 million in Cirrix. Also, certain valuation adjustments made by
LendingClub’s wholly-owned subsidiary, LC Advisors, LLC, were not consistent
with generally accepted accounting principles such that LC Advisors exceeded the
investment parameters of one of the funds it managed.
The LendingClub board promptly self-reported the misconduct to the U.S.
Securities and Exchange Commission. Although the SEC’s investigation resulted
in a cease-and-desist order, the SEC issued a press release contemporaneously with
the order praising the LendingClub board for self-reporting, thoroughly remediating,
and cooperating with the SEC’s investigation. As part of LendingClub’s
remediation efforts, the board secured the departure of the employees involved
(including the CEO and CFO), bifurcated the roles of CEO and Chairman to increase
accountability, reviewed and ratified the Cirrix investment, and disclosed all
transactions between LendingClub and Cirrix on its financial statements as related
party transactions. The board also publicly disclosed the problems that prompted
the internal investigation, the results of the internal investigation, and its remediation
efforts.
Two groups of LendingClub stockholders commenced litigation in reaction to
the public disclosures. The first stockholder group filed a securities class action in
the U.S. District Court for the Northern District of California against the company,
the former CEO and CFO, and members of LendingClub’s board of directors. As to
the director defendants, the complaint alleged violations of Section 11 of the
Securities Act of 1933, which are essentially strict liability claims and do not require
a showing of scienter. The complaint alleged that LendingClub’s December 2014
registration statement contained misstatements in view of LendingClub’s later-
disclosed weaknesses in its internal controls.
The second group of stockholders commenced this derivative action claiming
that LendingClub’s board of directors breached its fiduciary duties. The complaint
does not challenge the propriety of the remedial actions taken by the board. Rather,
2
the complaint asserts claims under Caremark,1 contending that the LendingClub
board made no good faith effort to put in place a system of controls or, in the
alternative, that it consciously failed to monitor company operations and thus
disabled itself from being informed of problems requiring its attention.
The defendants in this action have moved to dismiss the complaint pursuant
to Court of Chancery Rule 23.1 for failure to plead demand futility. On a motion to
dismiss under Rule 23.1, a court evaluates whether the complaint alleges with
particularity facts sufficient to create a reasonable doubt that the board of directors
in place at the time the complaint was filed could have impartially considered a pre-
suit demand. To meet their pleading burden in this case, the plaintiffs’ primary
argument is that the majority of the demand board members were compromised
because they faced a substantial likelihood of personal liability relating to the subject
matter of the complaint. To prevail on a Caremark claim, however, a plaintiff must
prove that the director defendants acted in bad faith. The complaint does not contain
a single fact that would demonstrate bad faith on the part of the demand board
members, who were lauded for self-reporting, investigating, and remediating the
wrongdoing at the heart of this matter. This decision thus holds that the majority of
the demand board members did not face a substantial likelihood of liability arising
1
In re Caremark Int’l Inc. Deriv. Litig., 698 A.2d 959 (Del. Ch. 1996).
3
from the subject matter of the complaint at the time it was filed and grants the
defendants’ motion to dismiss.
I. FACTUAL BACKGROUND
The background facts come from the Consolidated Supplemented Verified
Stockholder Derivative Complaint (the “Complaint”) and the documents it
incorporates by reference.2
A. The Company
LendingClub Corporation (“LendingClub” or the “Company”) is a Delaware
corporation with its principal place of business in San Francisco, California. As an
alternative to the traditional banking system, the Company owns and operates an
online platform that facilitates loans. The platform allows borrowers to apply for
consumer, small business, and other types of loans using the LendingClub website,
and the Company relies on its issuing bank partners to originate those loans. The
Company then purchases the loans from its bank partners and sells them to investors
based on the investors’ preferred loan term and credit characteristics. Since its initial
launch in 2007, LendingClub has facilitated approximately $16 billion in loans. The
2
C.A. No. 12984-VCM, Docket (“Dkt.”) 131, Consolidated Suppl. Verified Stockholder
Derivative Compl. (“Compl.”).
4
Company filed a registration statement with the SEC and went public in December
2014. 3
B. The May 2016 Disclosures
In an SEC Form 8-K filed on May 9, 2016 (the “May 9 Form 8-K”), 4 the
Company announced that LendingClub’s Board of Directors (the “Board”) had
accepted the resignation of Chairman and CEO Renauld Laplanche, who is a
defendant in this action. According to the May 9 Form 8-K, Laplanche’s resignation
followed an internal review of certain “material weaknesses” in the Company’s
internal controls. 5 The May 9 Form 8-K identified two primary material
weaknesses.
The first identified material weakness involved the sale of non-conforming
loans to an investor. In March and April of 2016, LendingClub sold to an
institutional investor over $22 million in near-prime loans that did not meet the
investor’s express instructions as to certain desired loan characteristics. Certain
LendingClub personnel were aware that the loans did not meet the investor’s criteria.
3
LendingClub Corp., Registration Statement (Form S-1) (December 10, 2014)
(“Registration Statement”). The Court may consider the Registration Statement because
the Complaint quotes from and thus incorporates it by reference. Wal-Mart Stores, Inc. v.
AIG Life Ins. Co., 860 A.2d 312, 320 (Del. 2004).
4
LendingClub Corp., Current Report (Form 8-K) (May 9, 2016) (“May 9 Form 8-K”). The
Court may consider the May 9 Form 8-K because the Complaint quotes from and thus
incorporates it by reference. Wal-Mart Stores, 860 A.2d at 320.
5
May 9 Form 8-K at 2.
5
The Audit Committee learned of the sales in April 2016, and the Board created a
subcommittee, assisted by independent counsel and a forensic auditor, tasked with
investigating the transaction. The Company ultimately repurchased the loans at par
and resold them at par to another investor. Because of the repurchase, the loans were
recorded on the Company’s balance sheet as secured borrowings at fair value.
LendingClub was unable to recognize approximately $150,000 in revenue as a
result. Three senior managers involved in the initial sales were given the choice to
either be terminated or resign.
The second identified material weakness involved Board members failing to
disclose issues relevant to the Company’s investment in Cirrix, an entity formed in
2012 to invest in online marketplace loans, including those facilitated by
LendingClub. As of December 31, 2015, Laplanche owned a two percent stake in
Cirrix and another board member, Defendant John J. Mack, owned a ten percent
stake. Laplanche increased his interest in Cirrix to eight percent sometime between
January 1, 2016 and March 31, 2016, while Mack reduced his interest to eight
percent within that period.
As Laplanche was increasing his investment in Cirrix, he approached the
Board’s Risk Committee—which comprised Defendants John C. Morris, Daniel T.
Ciporin, Lawrence H. Summers, and Simon Williams—and proposed that
LendingClub invest $10 million to acquire a fifteen percent limited partnership
6
interest in Cirrix. Laplanche did not disclose the fact that he and Mack had financial
interests in Cirrix. The Risk Committee approved the investment, and LendingClub
thereafter acquired a fifteen percent stake in Cirrix, notwithstanding the Company’s
public statement that it would not assume credit risk or use its own capital to invest
in loans facilitated by the LendingClub marketplace. As of April 1, 2016, Laplanche,
Mack, and LendingClub owned approximately thirty-one percent of Cirrix. Once
the Board learned of Laplanche’s omission, he was asked to resign. The May 9 Form
8-K informed LendingClub’s stockholders that the Board would continue to take
remedial action.
The disclosures in the May 9 Form 8-K made headlines. Several large
institutional investors ceased purchasing loans from LendingClub. The Company’s
stock fell from $7.10 at the close of trading on May 6, 2016 to $4.62 at the close of
trading on May 9, 2016. By May 13, LendingClub stock closed at $3.51 per share.
On May 16, 2016, the Company filed its SEC Form 10-Q for the first quarter
of 2016.6 The Form 10-Q made additional disclosures, including the fact that the
Company had received a grand jury subpoena from the U.S. Department of Justice
and had contacted the SEC. The Form 10-Q explained that the “material weakness”
identified in the Form 8-K was the result of an aggregation of internal control
6
LendingClub Corp., Quarterly Report (Form 10-Q) (May 26, 2016) (“Form 10-Q”). The
Court may consider the Form 10-Q because the Complaint quotes from and thus
incorporates it by reference. Wal-Mart Stores, 860 A.2d at 320.
7
deficiencies caused by senior management’s improper “tone at the top.” 7 To address
these concerns, the Company requested the resignations of the senior managers
involved, requested the resignation of Laplanche as CEO and Chairman of the
Board, and bifurcated the roles of CEO and Chairman by appointing Defendant Scott
Sanborn (who also serves as the Company’s President) and Morris to those positions,
respectively.
The Form 10-Q further explained that the Risk and Audit Committees were
not fully aware of Laplanche’s and Mack’s Cirrix interests when the Company’s
Cirrix investment was approved. At no point did Laplanche or Mack disclose their
respective interests in Cirrix to the Board’s Audit Committee or Risk Committee.
Neither Laplanche nor Mack disclosed their respective interests in Cirrix in their
annual director questionnaires. The Form 10-Q concluded that the Company’s
controls were not effective to ensure that information about related party investments
would be adequately conveyed to the relevant Board committees on a timely basis.
Ultimately, when the Audit Committee learned of Laplanche’s omission in late April
2016, it decided to disclose all transactions between LendingClub and Cirrix as
related party transactions in the Company’s quarterly financial statements. On May
15, 2016, after Laplanche’s resignation, the Audit Committee ratified
7
Form 10-Q at 59–61; Compl. ¶ 134.
8
LendingClub’s and Mack’s respective investments in Cirrix as related party
transactions.
C. The Securities Class Action
In response to LendingClub’s May 2016 disclosures, stockholders of the
Company filed two securities class actions in the U.S. District Court for the Northern
District of California. The federal court consolidated those actions under the caption
In re LendingClub Securities Litigation (the “Securities Class Action”). The
Securities Class Action named as defendants LendingClub, former LendingClub
CFO Carrie Dolan (who is also a Defendant in this case), Laplanche, and several
members of the Board during the relevant period.8 The complaint alleged that all of
the named defendants violated Section 11 of the Securities Act of 1933.9 It further
alleged that LendingClub, Laplanche, and Dolan violated Section 10(b) of the
Securities Exchange Act of 1934 and SEC Rule 10b-5 promulgated thereunder.10
The complaint did not allege that the director defendants violated Section 10(b) or
Rule 10b-5.11
8
The Board at that time comprised Ciporin, Sanborn, Mack, Morris, Summers, Williams,
Jeffrey Crowe, Mary Meeker, and Rebecca Lynn. With the exception of Lynn, each of
these individuals is a named defendant in this action.
9
In re LendingClub Secs. Litig., 3:16-cv-03072-WHA, Order Re Mot. to Dismiss
Consolidated Compl. (“Securities Class Action Order”) at 6:6–7, ECF No. 29 (N.D. Cal.
May 25, 2017) (ORDER).
10
Id. at 6:8–10.
11
The Securities Class Action complaint also alleged that Laplanche, Dolan, and the
director defendants violated Section 15 of the Securities Act of 1933 and that LendingClub,
9
The Section 11 claims were premised on the allegation that LendingClub’s
December 2014 registration statement contained untrue statements or omissions of
material fact regarding “(i) the weaknesses in LendingClub’s internal controls, (ii)
LendingClub’s relationship with Cirrix, (iii) the adequacy of [LendingClub’s] loan-
approval process, and (iv) the adequacy of [LendingClub’s] data integrity and
security protocols.”12
On May 25, 2017, the federal court granted in part and denied in part the
defendants’ motions to dismiss for failure to state a claim in the Securities Class
Action. The court addressed each of the plaintiffs’ four Section 11 claims against
the named director defendants. It observed that Section 11 liability requires a
plaintiff to show only that “any part of the registration statement . . . contained an
untrue statement of a material fact or omitted to state a material fact.”13 The court
further noted that plaintiffs asserting claims under Section 11 typically “need not
prove . . . that the defendant acted with any intent to deceive or defraud.” 14 The
court ultimately sustained three of the Section 11 claims against the director
Laplanche, and Dolan violated Section 20(a) of the Securities Exchange Act of 1934. Id.
at 6:7–11.
12
Id. at 6:28–7:4.
13
Id. at 6:20–23 (quoting 15 U.S.C. 77(k)(a)).
14
Id. at 7:9–11 (quoting Omnicare, Inc. v. Laborers Dist. Council Constr. Indus. Pension
Fund, 135 S. Ct. 1318, 1333 (2015)).
10
defendants, 15 but it dismissed the claim alleging misstatements concerning
LendingClub’s loan approval process. 16
The court denied the defendants’ motion to dismiss the first 10b-5 claim—
that Laplanche and Dolan made misrepresentations about several material
weaknesses in LendingClub’s financial reporting internal controls—because
Laplanche and Dolan could not “escape allegations of scienter.” 17 The court then
allowed the plaintiffs’ second 10b-5 claim—that Laplanche and Dolan failed to
disclose the Cirrix-LendingClub relationship—to proceed as to defendant
Laplanche, since Laplanche “knew about his relationship with Cirrix and his
company’s relationship and the misleading nature of failing to disclose that
relationship.”18
More than a year after the order regarding the motion to dismiss, the federal
court approved a final settlement in the Securities Class Action totaling $125 million
plus interest.19 The order approving the settlement stated that the lead plaintiff in
15
Id. at 21–22.
16
Id. at 17:10–15.
17
Id. at 19:8–25.
18
Id. at 20:14–16. The court granted the defendants’ motion to dismiss with regard to this
claim against Dolan, since “there [were] no particularized allegations that CFO Dolan knew
or should have known of [Laplanche’s and Mack’s ownership interest in Cirrix].” Id. at
20:19–21.
19
In re LendingClub Secs. Litig., 3:16-cv-02627-WHA, Order Granting Mot. for Final
Approval of Settlement at 3:11–12, ECF No. 383 (N.D. Cal. July 20, 2018) (ORDER).
11
the action faced risks with continued litigation because the “defendants were actively
developing the argument that LendingClub’s internal control issues were
nonexistent at the time of the IPO.”20 All in all, the settlement comprised
“approximately 17 percent of the estimated $711 million in recoverable damages at
trial,” and the court found that it was fair and reasonable. 21 All of the defendants
“denied and continue[d] to deny all charges of wrongdoing or liability against them”
in the Securities Class Action,22 and the plaintiffs agreed on behalf of the class to
release claims against the defendants arising out of the facts alleged in the Securities
Class Action. 23 Accordingly, at present, none of the director defendants in this case
are at risk of any liability arising from the Securities Class Action.
D. The June 2016 Disclosures
On June 28, 2016, the Company filed another SEC Form 8-K (the “June 28
Form 8-K”) disclosing further accounting and compliance issues relating to the
Company’s wholly owned subsidiary, LC Advisors. 24 LC Advisors is a registered
investment advisor to certain private funds and accredited investors, and is thus
20
Id. at 3:21–23.
21
Id. at 3:12–13, 4:21–24.
22
In re LendingClub Secs. Litig., 3:16-cv-02627-WHA, Stipulation of Settlement at 5:20–
21, ECF No. 333-1 (N.D. Cal. Feb. 21, 2018).
23
Id. at 10:9–11, 20:11–14.
24
LendingClub Corp., Current Report (Form 8-K) (June 28, 2016). The Court may
consider the June 28 Form 8-K because the Complaint quotes from and thus incorporates
it by reference. Wal-Mart Stores, 860 A.2d at 320.
12
subject to regulatory and legal requirements—including those imposed under the
Investment Advisers Act of 1940 (the “Advisers Act”). LendingClub controlled LC
Advisors through an Investment Policy Committee whose three members were
Dolan, Laplanche, and the Company’s former general counsel.
The June 28 Form 8-K explained that the Company chose to review LC
Advisors’ asset valuation methodologies with respect to six particular funds it
managed. Because there was no quoted market price for the investment assets held
by those funds, LC Advisors determined the funds’ fair value using its own estimates
and calculations. The Company determined that adjustments made to the valuation
of those assets were not consistent with generally accepted accounting principles. It
further determined that LC Advisors exceeded the investment parameters of one of
the funds. To alleviate concerns regarding these events, the Company: (1) stated
that it would reimburse limited partners who entered or exited the funds and who
were adversely impacted by the improper adjustments; (2) engaged an independent
valuation firm to provide valuation services to the affected funds; and (3) established
a majority independent governing board for the affected funds.25
25
The June 28 Form 8-K also disclosed that thirty-two loans were made through the
LendingClub platform to Laplanche and three of his family members in December 2009.
The loans in question totaled more than $700,000 in originations and $25,000 in revenue.
The Company found that the loans were issued in an effort by Laplanche to help increase
reported platform loan volume for December 2009 but concluded that there were no other
situations involving inappropriate loan origination. These loans are not the subject of any
direct claims in this action.
13
E. The 2018 SEC Order
Two years after the June 2016 disclosures, on September 28, 2018, the SEC
issued an order instituting public administrative and cease-and-desist proceedings
against LC Advisors, Laplanche, and Dolan (the “SEC Order”).26 The SEC Order
made findings of fact concerning LC Advisors’ misconduct and the roles Laplanche
and Dolan played in that conduct. Ultimately, the SEC found that LC Advisors,
Laplanche, and Dolan had willfully violated various sections of the Advisers Act
and its accompanying regulations. Neither LendingClub nor any of the Company’s
directors—excluding Laplanche—were named as respondents in the SEC
proceedings. The SEC found that both LendingClub and LC Advisors provided
“significant cooperation” throughout the duration of its investigation and put forth
“extensive” remediation efforts.27 The SEC Order further acknowledged that
LendingClub self-reported the problematic conduct it identified after the Board first
initiated its review in May 2016.
26
The Court may consider the SEC Order because the Complaint quotes from and thus
incorporates it by reference. Wal-Mart Stores, 860 A.2d at 320. The SEC Order is attached
to Plaintiffs’ brief as Exhibit B. Dkt. 151, Pls.’ Omnibus Opp’n Br. to Defs.’ Mots. to
Dismiss the Consolidated Suppl. Verified Stockholder Derivative Compl. (“Pls.’
Answering Br.”) Ex. B.
27
Pls.’ Answering Br. Ex. B. at 2, 10.
14
F. This Litigation
On December 14, 2016, LendingClub stockholders filed this derivative action
based on allegations related to the Company’s May 2016 disclosures. While briefing
was underway on a motion to stay, a second derivative action was filed on August
18, 2017. The Court consolidated the two actions in October 2017, and the lead
plaintiffs—Chaile Steinberg, William A. Blazek, and William Rhangos
(“Plaintiffs”)—filed a consolidated complaint on December 1, 2017. After
settlement efforts proved unsuccessful, Plaintiffs filed their consolidated
supplemented complaint on January 8, 2019.
The Complaint names as defendants eight of the nine members of the Board
when the initial complaint was filed: Morris, Mack, Ciporin, Crowe, Meeker,
Sanborn, Summers, and Williams (the “Director Defendants”). The Complaint
separately names as defendants Dolan and Laplanche (with the Director Defendants,
“Defendants”) and LendingClub as a nominal defendant.
15
Defendants moved to dismiss the Complaint on February 22, 2019. The
parties fully briefed the motion,28 and the Court heard oral argument on
July 17, 2019.29
II. LEGAL ANALYSIS
Defendants have moved to dismiss the Complaint for failure to adequately
plead demand futility under Court of Chancery Rule 23.1.30 “A cardinal precept of
[Delaware law] is that directors, rather than shareholders, manage the business and
affairs of the corporation.”31 Because derivative litigation “impinges on the
managerial freedom of directors,” Rule 23.1 requires that stockholders exhaust their
28
Dkt. 142, Director Defs.’ Opening Br. in Supp. of Their Mot. to Dismiss the Consolidated
Suppl. Verified Stockholder Derivative Compl. (“Dir. Defs.’ Opening Br.”); Dkt. 138, Def.
Renauld Laplanche’s Br. in Supp. of his Mot. to Dismiss Pls.’ Consolidated Suppl. Verified
Stockholder Derivative Compl. (“Laplanche Opening Br.”); Dkt. 140, Def. Carrie Dolan’s
Opening Br. in Supp. of Mot. to Dismiss the Consolidated Suppl. Verified Stockholder
Derivative Compl. (“Dolan Opening Br.”); Dkt. 145, Nominal Def. LendingClub
Corporation’s Opening Br. in Supp. of its Mot. to Dismiss the Consolidated Suppl. Verified
Stockholder Derivative Compl.; Pls.’ Answering Br.; Dkt. 157, Director Defs.’ Reply Br.
in Supp. of Their Mot. to Dismiss the Consolidated Suppl. Verified Stockholder Derivative
Compl. (“Dir. Defs.’ Reply Br.”); Dkt. 161, Def. Renauld Laplanche’s Reply Br. in Further
Supp. of his Mot. to Dismiss Pls.’ Consolidated Suppl. Verified Stockholder Derivative
Compl.; Dkt. 158, Def. Carrie Dolan’s Reply Br. in Supp. of Mot. to Dismiss the
Consolidated Suppl. Verified Stockholder Derivative Compl.; Dkt. 156, Nominal Def.
LendingClub Corporation’s Joinder in the Director Defs.’ Reply Br.
29
Dkt. 174, Oral Argument on Defs.’ Mot. to Dismiss.
30
Defendants also moved to dismiss the Complaint pursuant to Court of Chancery Rule
12(b)(6). Because Defendants’ Rule 23.1 argument is dispositive, this decision need not
reach Defendants’ alternative Rule 12(b)(6) argument.
31
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).
16
intracorporate remedies before filing suit. 32 In order to satisfy the Rule 23.1
mandate, stockholders must either demand that the board of directors pursue the
claim on behalf of the corporation, or allege that making demand on the board would
have been futile.33 Stockholders choosing to allege demand futility rather than make
pre-suit demand “must comply with stringent requirements of factual particularity
that differ substantially from . . . permissive notice pleadings.” 34 “Vague or
conclusory allegations do not suffice, rather the pleader must set forth particularized
factual statements that are essential to the claim.” 35
Delaware courts apply one of two tests in evaluating whether demand is futile.
As the Delaware Supreme Court has instructed:
Demand futility under Rule 23.1 must be determined
pursuant to either the standards articulated in Aronson v.
Lewis or those set forth in Rales v. Blasband. Under the
two-part Aronson test, demand will be excused if the
derivative complaint pleads particularized facts creating a
reasonable doubt that “(1) the directors are disinterested
and independent or (2) the challenged transaction was
otherwise the product of a valid exercise of business
judgment.” In Rales v. Blasband, this Court identified
three circumstances in which the Aronson standard will
not be applied: “(1) where a business decision was made
by the board of a company, but a majority of the directors
making the decision has been replaced; (2) where the
32
Id.
33
Ct. Ch. R. 23.1(a).
34
Brehm, 746 A.2d at 254.
35
Postorivo v. AG Paintball Hldgs., Inc., 2008 WL 553205, at *4 (Del. Ch. Feb. 29, 2008)
(citing Brehm, 746 A.2d at 254).
17
subject of the derivative suit is not a business decision of
the board; and (3) where . . . the decision being challenged
was made by the board of a different corporation.” In
those situations, demand is excused only where
particularized factual allegations create a reasonable doubt
that, as of the time the complaint was filed, the board of
directors could have properly exercised its independent
and disinterested business judgment in responding to a
demand. 36
The Complaint contains two causes of action. The first cause of action alleges
that the Defendants breached their fiduciary duties in connection with (a) the Board’s
failure to implement internal controls at LendingClub, which resulted in allegedly
false and misleading statements in the Company’s public disclosures, (b) the Cirrix
investment, and (c) the non-conforming loans.37 The second cause of action alleges
(d) that the Defendants breached their fiduciary duties by failing to monitor LC
Advisors’ compliance with federal law and oversee LC Advisors’ risk
management. 38 Properly understood, the subject of each of these causes of action is
not a business decision of the board, but rather, alleged violations of the Board’s
36
Braddock v. Zimmerman, 906 A.2d 776, 784–85 (Del. 2006) (quoting Aronson, 473 A.2d
at 814; Rales v. Blasband, 634 A.2d 927, 934 (Del. 1993)).
37
Compl. ¶¶ 186–88.
38
Id. ¶ 194.
18
oversight duties under Caremark. 39 Thus, the Rales standard governs the demand
futility inquiry. 40
When conducting the Rales analysis, “[t]he operative question is whether the
Board could impartially consider the merits of a demand without being influenced
39
The parties dispute the nature of these claims. That dispute translates into a disagreement
as to whether the Aronson or Rales test applies. Plaintiffs describe these claims as
challenging the directors’ conscious failure to act affirmatively and thus subject to the
Aronson standard. Pls.’ Answering Br. at 36. Defendants interpret Plaintiffs’ claims as
Caremark claims subject to the Rales standard. See generally Dir. Defs.’ Opening Br. at
26–39. Plaintiffs’ description of their claims in briefing do not match up with Plaintiffs’
claims as pled. See, e.g., Pls.’ Answering Br. at 35. Defendants’ position better matches
the nature of the allegations.
The outcome of this decision is the same regardless of which standard applies. To meet
their burden on demand futility under both Aronson and Rales, Plaintiffs must plead
particularized facts sufficient to “impugn the ability of at least half of the directors in office
when [they] initiated [their] action . . . to have considered a demand impartially.”
Teamsters Union 25 Health Servs. & Ins. Plan v. Baiera, 119 A.3d 44, 57 (Del. Ch. 2015).
The Aronson and Rales tests are “complementary versions of the same inquiry.” In re
China Agritech, Inc. S’holder Deriv. Litig., 2013 WL 2181514, at *16 (Del. Ch.
May 21, 2013); see Baiera, 119 A.3d at 67 n.131 (memorializing Chancellor Bouchard’s
view that “our jurisprudence would benefit . . . from the adoption of a singular test to
address the question of demand futility”); David B. Shaev Profit Sharing Account v.
Armstrong, 2006 WL 391931, at *4 (Del. Ch. Feb. 13, 2006) (“[T]he Rales test, in reality,
folds the two-pronged Aronson test into one broader examination.”). That inquiry is
whether the board of directors in place at the time the complaint was filed was capable of
“exercis[ing] its business judgment on the corporate behalf” and “validly consider[ing] a
litigation demand.” In re Duke Energy Corp. Deriv. Litig., 2016 WL 4543788, at *14
(Del. Ch. Aug. 31, 2016); China Agritech, 2013 WL 2181514, at *16. Plaintiffs have failed
to meet their burden on this point for the reasons set forth in this Opinion.
40
City of Birmingham Ret. & Relief Sys. v. Good, 177 A.3d 47, 55 (Del. 2017) (“For alleged
violations of the board’s oversight duties under Caremark, the test articulated in Rales v.
Blasband applies to assess demand futility.” (citing Wood v. Baum, 953 A.2d 136, 140
(Del. 2008))).
19
by improper considerations.”41 This analysis focuses on the board in place “as of
the time the complaint was filed.” 42 In this case, the board in existence at the time
the complaint was filed comprised the eight Director Defendants and non-party
Timothy Mayoloulos (the “Demand Board”).43 To meet their pleading burden,
Plaintiffs must demonstrate that at least five of the nine directors serving on the
Demand Board would have been incapable of exercising their independent and
disinterested business judgment in responding to a pre-suit demand.
For the sake of argument, this decision assumes that Mack would have been
incapable of impartially considering a pre-suit demand with respect to the subject
matter of each of the four claims, 44 and evaluates Plaintiffs’ arguments as to the other
Demand Board members.
41
Pfeiffer v. Toll, 989 A.2d 683, 689 (Del. Ch. 2010), abrogated on other grounds by Kahn
v. Kolberg Kravis Roberts & Co., L.P., 23 A.3d 831 (Del. 2011).
42
Rales, 634 A.2d at 934; see also Aronson, 473 A.2d at 810 (stating that demand futility
is “gauged by the circumstances existing at the commencement of a derivative suit”).
43
In re Fuqua Indus., Inc. S’holder Litig., 1997 WL 257460, at *13 (Del. Ch.
May 13, 1997) (“The appropriate test, therefore, is whether the board in existence at the
time the complaint is filed is able to properly carry out its fiduciary duty to evaluate demand
in a disinterested and independent fashion.”). Because the amendments and supplements
to the initial complaint did not significantly alter the nature of the claims alleged, the
operative date for this analysis is the December 14, 2016 filing of the original complaint.
Braddock, 906 A.2d at 786. Plaintiffs do not dispute this. See Pls.’ Answering Br. at 35
(“At the time this Action was commenced, there were nine directors on the Board:
Defendants Morris, Mack, Ciporin, Crowe, Meeker, Sanborn, Summers, and Williams, and
non-party director Mayoloulos . . . .”).
44
Mack’s personal interests in Cirrix and failure to disclose that interest would arguably
taint his ability to impartially consider claims challenging the Cirrix investment. His
alleged personal relationship with Laplanche would arguably taint his ability to impartially
20
A. Interestedness
A plaintiff can demonstrate interestedness by alleging particularized facts
demonstrating that “a director has received, or is entitled to receive, a personal
financial benefit from the challenged transaction” 45 or that the directors “face a
‘substantial likelihood’ of personal liability” relating to the subject matter of the
complaint.46 A “mere threat of personal liability” is not enough to challenge a
director’s disinterestedness. 47 Where, as here, the corporation’s charter includes an
exculpatory provision, 48 “a substantial likelihood of liability ‘may only be found to
exist if the plaintiff pleads a non-exculpated claim against the directors based on
particularized facts.”49 With the exception of Mack, Plaintiffs do not allege that any
director derived a personal financial benefit from any of the challenged transactions.
consider a pre-suit demand concerning the other claims. This decision accepts these points
for the sake of argument only and does evaluate at a granular level the sufficiency of the
facts alleged in support of these arguments.
45
Rales, 634 A.2d at 933 (quoting Pogostin v. Rice, 480 A.2d 619, 624 (Del. 1984)).
46
Ryan v. Gifford, 918 A.2d 341, 355 (Del. Ch. 2007) (quoting In re Baxter Int’l, Inc.
S’holders Litig., 654 A.2d 1268, 1269 (Del. Ch. 1995)).
47
Rales, 634 A.2d at 936 (quoting Aronson, 473 A.2d at 815).
48
Dir. Defs.’ Opening Br. Ex. 5, LendingClub Corporation Restated Certificate of
Incorporation, at art. VII § 1 (“To the fullest extent permitted by law, no director of the
Corporation shall be personally liable for monetary damages for breach of fiduciary duty
as a director.”). Certificates of incorporation are judicially noticeable. In re Wheelabrator
Techs. Inc. S’holder Litig., 1992 WL 212595, at *11–12 (Del. Ch. Sept. 1, 1992).
49
Baiera, 119 A.3d at 62–63 (quoting Wood, 953 A.2d at 141).
21
They instead contend that a majority of the Demand Board faced a substantial
likelihood of liability from this action and the Securities Class Action.
1. The Derivative Claims
This Court evaluates whether a substantial likelihood of liability impugns the
impartiality of a demand board on a claim-by-claim basis. 50 As discussed above, the
Complaint contains two causes of action effectively asserting four separate claims.
The first cause of action alleges that the Defendants breached their fiduciary duties
in connection with (a) the Board’s failure to implement internal controls at
LendingClub, which resulted in allegedly false and misleading statements in the
Company’s public disclosures, (b) the Cirrix investment, and (c) the non-conforming
loans. 51 The second cause of action alleges (d) that the Defendants breached their
fiduciary duties by failing to monitor LC Advisors’ compliance with federal law and
oversee LC Advisors’ risk management. 52
a. Oversight of LendingClub
Plaintiffs’ first claim is that the Director Defendants breached their fiduciary
duties because “they failed to take steps to maintain adequate internal controls
necessary to prevent against the issuance of false and misleading statements” at
50
Beam ex rel. Martha Stewart Living Omnimedia, Inc. v. Stewart, 833 A.2d 961, 977 n.48
(Del. Ch. 2003), aff’d, 845 A.2d 1040 (Del. 2004) (“Demand futility analysis is conducted
on a claim-by-claim basis.”).
51
Compl. ¶¶ 186–88.
52
Id. ¶ 194.
22
LendingClub.53 These false and misleading statements allegedly surfaced in a
variety of the Company’s proxy statements, including in its December 2014
registration statement, where the Company stated that it would not “assume credit
risk or use [its] own capital to invest in loans facilitated by [the LendingClub]
marketplace”54 and that it maintained “an effective information security program.”55
This first claim calls for the application of Caremark, which sets out the
“standard for liability for failures of oversight that requires a showing that the
directors breached their duty of loyalty by failing to attend to their duties in good
faith.”56 Caremark articulates two categories of oversight claims: “(a) the directors
utterly failed to implement any reporting or information system or controls; or (b)
having implemented such a system or controls, consciously failed to monitor or
oversee its operations thus disabling themselves from being informed of risks or
problems requiring their attention.” 57 “In either case, imposition of liability requires
a showing that the directors knew that they were not discharging their fiduciary
53
Id. ¶ 188.
54
Id. ¶ 79 (citing Registration Statement).
55
Id. ¶ 83 (citing Registration Statement). The Complaint cites numerous other proxy
statements in which LendingClub allegedly made false and misleading statements,
including statements about the Company’s “transparency” with its borrowers and
investors. Id. ¶ 89 (citing LendingClub Corp., Annual Report (Form 10-K)
(Feb. 27, 2015)).
56
Guttman v. Huang, 823 A.2d 492, 505 (Del. Ch. 2003).
57
Stone ex rel. AmSouth Bancorp. v. Ritter, 911 A.2d 362, 370 (Del. 2006).
23
obligations.”58 As the Delaware Supreme Court recently explained: “[F]or a plaintiff
to prevail on a Caremark claim, the plaintiff must show that a fiduciary acted in bad
faith—‘the state of mind traditionally used to define the mindset of a disloyal
director.’” 59
58
Id.
59
Marchand v. Barnhill, 212 A.3d 805, 820–21 (Del. 2019) (quoting Desimone v. Barrows,
924 A.2d 908, 935 (Del. Ch. 2007)). The Delaware Supreme Court rendered its decision
in Marchand approximately one month before oral argument, but after the parties had
completed briefing on the motions to dismiss. The parties did not propose making
supplemental submissions concerning the relevance of Marchand, nor did they mention
Marchand at oral argument. See generally Dkt. 174, Oral Arg. on Defs.’ Mots. to Dismiss.
Regardless, Marchand does not change the outcome of this decision. The company
involved in Marchand produced and distributed ice cream, thus operating in the “heavily
regulated” food industry. 212 A.3d at 810. When a listeria outbreak at the company caused
three deaths and other consequences, several stockholders filed a derivative lawsuit
alleging violations of Caremark. Id. at 811. They alleged that, before the listeria outbreak,
“no board committee that addressed food safety existed,” despite food safety being
“essential and mission critical” to the company. Id. at 822, 824. The complaint further
alleged that “no regular process or protocols that required management to keep the board
apprised of food safety compliance practices, risks, or reports existed,” that “no schedule
for the board to consider on a regular basis . . . any key food safety risks existed,” and that
“the board meetings [were] devoid of any suggestion that there was any regular discussion
of food safety issues.” Id. at 822. The Court held that “the complaint support[ed] an
inference that no system of board-level compliance monitoring and reporting existed” at
the company. Id. This case is readily distinguishable from Marchand. In this action, the
Complaint concedes the existence of the Risk Committee and the Audit Committee. See,
e.g., Compl. ¶¶ 15, 18. It similarly concedes the former existence of the Investment Policy
Committee as the supervisory committee for LC Advisors. See, e.g., id. ¶ 108. And it
notes that the Company had an “independent auditor.” Id. ¶ 10. As the Delaware Supreme
Court in Marchand observed: “In decisions dismissing Caremark claims, the plaintiffs
usually lose because they must concede the existence of board-level systems of monitoring
and oversight such as a relevant committee, a regular protocol requiring board-level reports
about the relevant risks, or the board’s use of third-party monitors, auditors, or
consultants.” 212 A.3d at 823. Plaintiffs lose here for that very reason.
24
Because Plaintiffs’ first claim alleges a complete failure to maintain adequate
internal controls, it falls within Caremark’s first category. 60 On that point, Delaware
courts “give[] deference to boards and ha[ve] dismissed Caremark cases even when
illegal or harmful company activities escaped detection, when the plaintiffs have
been unable to plead that the board failed to make the required good faith effort to
put a reasonable compliance and reporting system in place.” 61
To demonstrate interestedness, Plaintiffs argue that the majority of the
Demand Board members faced a substantial likelihood of liability from their first
claim. 62 This argument fails. The Complaint “is empty of the kind of fact pleading
that is critical to a Caremark claim, such as contentions that the company lacked an
audit committee [or] that the company had an audit committee that met only
60
Plaintiffs dispute whether Caremark is the applicable standard, but regardless of how
Plaintiffs seek to characterize their claims, the gravamen of the Complaint is that the
directors failed to detect and prevent misconduct—in other words, that they failed in their
duty of oversight. See, e.g., Compl. ¶ 166 (“The Director Defendants’ failure to take
necessary and appropriate steps to ensure that the Company’s internal controls or internal
auditing, accounting, and risk controls were sufficiently robust and effective . . .
constitute[s] breach[] of fiduciary duties . . . .”); id. ¶ 186 (alleging that the directors “failed
to take steps to protect [LendingClub] from direct losses and the reputational damage
stemming from permitting directors to secretly invest in funds that, in turn, invest in
[LendingClub]”); id. ¶ 187 (alleging that the directors “failed to protect LendingClub from
the damage stemming from permitting directors and officers to cause investments in client
portfolios in contradiction to the client’s express instructions”); id. ¶ 188 (alleging that the
directors “failed to take steps to maintain adequate internal controls necessary to prevent
against the issuance of false and misleading statements, as well as the other conduct alleged
herein”). Caremark covers this.
61
Marchand, 212 A.3d at 821 & n.105 (collecting cases).
62
Compl. ¶ 166.
25
sporadically and devoted patently inadequate time to its work.” 63 The factual
allegations in the Complaint indicate that LendingClub’s Audit Committee both (1)
existed, and (2) met monthly. 64 The Complaint offers no facts concerning
LendingClub’s internal controls—or lack thereof—that would persuade a finding
that the Board faced a substantial likelihood of liability for utterly failing to
implement them. And the Complaint offers no factual support for a finding that a
majority of the Demand Board acted in bad faith.
b. Cirrix Investment
Plaintiffs’ second claim is that Defendants breached their fiduciary duties by
failing to prevent harm to the Company stemming from the Cirrix investment.65 This
claim falls within Caremark’s second category, since it alleges a conscious failure
to monitor such that the personal ownership interests of Laplanche and Mack in
Cirrix went undetected at the time the board approved the Cirrix investment. 66
To recover under the second prong of Caremark, Plaintiffs must demonstrate
that the directors, having implemented adequate internal controls, “consciously
63
Guttman, 823 A.2d at 507.
64
See Compl. ¶ 100 (describing the Audit Committee meeting of March 30, 2016);
id. ¶ 101 (describing the Audit Committee meeting of April 26, 2016); id. ¶ 132 (describing
the Audit Committee meeting of May 15, 2016).
65
Id. ¶ 186.
66
See, e.g., id. ¶¶ 117–18 (alleging that one of the “material weakness[es] in internal control
over financial reporting” was the “‘failure to disclose’ issue directly involv[ing]
Defendants Laplanche and Mack and their interests in Cirrix”).
26
failed to monitor or oversee [their] operations thus disabling themselves from being
informed of risks or problems requiring their attention.”67
Under this formulation of Caremark, a plaintiff may state
a valid oversight claim by pleading (1) that the directors
knew or should have known that the corporation was
violating the law, (2) that the directors acted in bad faith
by failing to prevent or remedy those violations, and (3)
that such failure resulted in damage to the corporation. In
practice, plaintiffs often attempt to satisfy the elements of
a Caremark claim by pleading that the board had
knowledge of certain “red flags” indicating corporate
misconduct and acted in bad faith by consciously
disregarding its duty to address that misconduct.68
In other words, Plaintiffs must allege that “the directors were conscious of the fact
that they were not doing their jobs, and that they ignored red flags indicating
misconduct.”69
To demonstrate that this claim compromises the Demand Board for demand
futility purposes, Plaintiffs argue that the Risk Committee members—Morris,
Ciporin, Summers, and Williams—faced a substantial likelihood of liability for
consciously failing to perform their duties in connection with the Cirrix
Investment. 70 Plaintiffs argue that conscious disregard can be inferred because the
67
Stone, 911 A.2d at 370.
68
Melbourne Mun. Firefighters’ Pension Tr. Fund v. Jacobs, 2016 WL 4076369, at *8
(Del. Ch. Aug. 1, 2016) (first citing Caremark, 698 A.2d at 971; then citing South v. Baker,
62 A.3d 1, 15 (Del. Ch. 2012)).
69
Guttman, 823 A.2d at 506.
70
Pls.’ Answering Br. at 46.
27
Risk Committee approved the Company’s Cirrix investment at Laplanche’s
recommendation “without so much as questioning the propriety of the action or
taking any steps to learn of Laplanche’s and Mack’s interests in Cirrix.”71
This Court “has consistently found that just being a director on the committee
where the alleged wrongdoing is ‘within [its] delegated authority’ does not give rise
to a substantial threat of personal liability under Caremark.”72 Thus, Plaintiffs must
make “supporting allegations of particularized facts showing bad faith” in order to
show that the members of the Risk Committee did not have the ability to impartially
consider pre-suit demand. 73 Plaintiffs have not met their burden on this point, as the
Complaint does not plead such facts with particularity. However, there was
significant overlap between the Audit and Risk Committees’ membership—three of
the members of the Audit Committee doubled as members of the Risk Committee.74
The Complaint portrays the Audit Committee as having actively discussed the
“significant and unusual non-routine” nature of the Cirrix investment. 75 The Risk
Committee members, through their diligence on the Audit Committee, certainly
71
Id. at 48.
72
In re China Automotive Sys. Inc. Deriv. Litig., 2013 WL 4672059, at *8 (Del. Ch.
Aug. 30, 2013) (quoting South, 62 A.3d at 17).
73
Id.
74
Compl. ¶¶ 53, 55, 60.
75
Id. ¶ 100.
28
seem to have “question[ed] the propriety” of the Cirrix investment, despite
Plaintiffs’ assertion to the contrary. 76 And, there are no facts indicating that the Risk
Committee knew or should have known about Laplanche’s and Mack’s Cirrix
investments. The Complaint affirmatively alleges that Mack and Laplanche did not
disclose their Cirrix interests to the Board’s Audit Committee or Risk Committee
and did not list their Cirrix interests in their director questionnaires.77
Further, upon discovering Laplanche’s and Mack’s interests in Cirrix, the
Audit Committee resolved that “all transactions between [Cirrix] and the Company
will be disclosed as related party transactions in [the Company’s] quarterly financial
statements.78 It then ratified the LendingClub-Cirrix and the Mack-Cirrix
investments as related party transactions.79 Plaintiffs do not plead facts sufficient to
support a finding that a majority of the Demand Board consciously ignored red flags
relating to the Cirrix investment such that it faced a substantial likelihood of liability
in this action.80
76
Pls.’ Answering Br. at 48.
77
Compl. ¶¶ 14, 134.
78
Id. ¶¶ 18, 104.
79
Id. ¶ 132.
80
Although Plaintiffs do not cite to In re Walt Disney Co. Derivative Litigation, 825 A.2d
275 (Del. Ch. 2003), aspects of this claim resemble Disney. In any event, like Caremark,
Disney also would require Plaintiffs to prove that Defendants acted in bad faith. Disney,
825 A.2d at 286. Thus, the demand futility analysis based on a likelihood of liability from
this claim does not change even if Disney is applied.
29
c. Sale of Non-Conforming Loans
Plaintiffs’ third claim is that Defendants breached their fiduciary duties by
failing to prevent the sale of non-conforming loans, either because they failed to
implement board-level oversight mechanisms or consciously ignored red flags.81
The legal standard applicable to this claim is the same as those applicable to
Plaintiff’s first and second claims.
In briefing, Plaintiffs do not make arguments specific to this claim in order to
demonstrate that the Demand Board was compromised for demand futility purposes.
The Complaint does not adequately allege that any of the Demand Board members
acted in bad faith such that they faced a substantial likelihood of liability in
connection with respect to the sale of non-conforming loans.
The Complaint does not allege that the Board utterly failed to implement an
oversight mechanism to safeguard the integrity of loan data. Rather, the Complaint
affirmatively alleges that, as of 2014, the Company “maintained an effective
information security program” that “establishe[d] policies and procedures to
safeguard the confidentially, integrity, and availability of borrower and investor
information.”82 The program also involved “an incident response program and
81
Id. ¶ 187.
82
Id. ¶ 77 (quoting Registration Statement).
30
continuous monitoring and review.”83 Though the Company later admitted that
deficiencies in this information security program allowed certain senior employees
to alter loan data, these deficiencies do not point to an utter failure to oversee the
Company.
Further, the Complaint contains no facts that speak to whether the Demand
Board members knew or should have known of certain high-level employees’ roles
in the sale of non-conforming loans to an investor. Despite its conclusory allegation
that “the Board did not take swift and decisive action commensurate with the
disclosed misconduct,” 84 the facts alleged in the Complaint support the opposite
conclusion. The Complaint explains that, upon discovering the sale of non-
conforming loans, the Company took remedial steps such as asking for the
resignations of the senior managers involved, 85 asking for the resignation of
Laplanche as CEO and Chairman of the Board, 86 and bifurcating the roles of CEO
and Chairman by appointing two different individuals—Sanborn and Morris,
respectively—to those positions.87 The Company additionally “conducted a review,
under the supervision of a sub-committee of the board of directors and with the
83
Id.
84
Id. ¶ 120.
85
Id. ¶ 113.
86
Id. ¶ 114.
87
Id. ¶ 115.
31
assistance of independent outside counsel and other advisors” including “forensic
auditors,”88 which led to its discovery of LC Advisors’ missteps. There is no
indication in the Complaint that a majority of the Demand Board acted in bad faith
with respect to the sale of non-conforming loans such that it faced a substantial
likelihood of liability in this action.
d. LC Advisors
Plaintiffs claim that the Defendants failed to oversee and monitor compliance
of LC Advisors with applicable federal, state, and local laws, and likewise failed to
oversee LC Advisor’s risk management.89 Plaintiffs concede that this claim calls for
the application of Caremark.90 More specifically, since this claim alleges an “utter[]
and complete[]” failure to monitor and oversee LC Advisors, Caremark’s first prong
applies. 91
To demonstrate that this claim compromises the Demand Board for demand
futility purposes, Plaintiffs allege that Demand Board failed to implement any
mechanism by which it could oversee LC Advisors, despite the Company’s
acknowledgment in one of its 2015 SEC filings that any violations of law by
88
Id. ¶¶ 7, 35.
89
Id. ¶¶ 192–93.
90
See Pls.’ Answering Br. at 35.
91
Compl. ¶ 194.
32
LC Advisors would affect LendingClub’s ability to meet the demands of its online
marketplace.92
The sole factual basis for Plaintiffs’ claims—the SEC Order—undercuts
Plaintiffs’ argument that a majority of the Demand Board faced a substantial
likelihood of liability in connection with a failure to oversee LC Advisors. The SEC
Order makes no mention of the LendingClub board of directors, aside from its
observation that the Board undertook remedial measures upon discovering LC
Advisors’ problematic conduct.93 Plaintiffs’ allegation that the Demand Board
“identified a material risk to the Company and then inexplicably failed to monitor
it”94 is conclusory at best. While the Demand Board may have understood the
importance of LC Advisors’ compliance with federal law, Plaintiffs plead no facts
sufficient to demonstrate that the Demand Board utterly failed to oversee LC
Advisors’ operations and thus face a substantial likelihood of liability with regard
92
Pls.’ Answering Br. at 45; Compl. ¶ 4 (“If our registered investment advisor, LC
Advisors, LLC, were found to have violated the Investment Advisers Act, our ability to
raise sufficient investor commitments to meet borrower demand could be impaired.”
(quoting LendingClub Corp., Annual Report (Form 10-K) (Feb. 22, 2016))).
93
Pls.’ Answering Br. Ex. B. at ¶ 43 (“Following a review initiated by LendingClub’s
board of directors in May 2016, LendingClub self-reported problematic conduct it
identified.”).
94
Pls.’ Answering Br. at 42.
33
thereto. In fact, the Complaint reflects that the Board created the Investment Policy
Committee specifically for this purpose. 95
According to the Complaint, the Investment Policy Committee did not
function as intended due to the conduct of two its three members—Laplanche and
Dolan. When the Board learned of the relevant facts, the Board abolished the
Investment Policy Committee, which ultimately led to the establishment of a “new
governing board comprised of a majority of independent members . . . to supervise
95
See Compl. ¶ 108 (explaining that the role of the Investment Policy Committee was to
provide, among other things, compliance expertise “that helps ensure that clients’ assets
are properly managed given their stated investment goals”); id. (“LC Advisors disclosed
that its [Investment Policy Committee] was responsible for overseeing the valuation
process . . . .”). Plaintiffs further point to statements made by LendingClub counsel in a
September 5, 2018 letter to the SEC. In re LendingClub Asset Mgmt., LLC, SEC No-Action
Letter, 2018 WL 4660350 (Sept. 28, 2018) (“SEC No-Action Letter”); Compl. ¶ 171; Pls.’
Answering Br. at 43. The letter sought to preserve LendingClub’s “ability to qualify as a
‘well-known seasoned issuer’” under SEC rules. SEC No-Action Letter, 2018 WL
4660350, at *2. As one of its grounds for demonstrating good cause that LendingClub
should not be deemed an ineligible issuer in light of LC Advisors’ violations of law, the
letter explained that the SEC Order—which had not yet been released—would not, among
other things, “(iv) state that members of the [LendingClub] board of directors . . . knew
about the violations; or (v) state that members of the [LendingClub] board of directors . . .
ignored any warning signs or ‘red flags’ regarding the violations.” Id. at *4. Plaintiffs pull
this statement out of context and allege that this was “a clear admission the Board knew
nothing about what was going on at LC Advisors, because it exercised no oversight
regarding LC Advisors or the Investment Policy Committee.” Pls.’ Answering Br. at 43.
But the Court does not interpret this particular cautious legal communication as an
admission to that effect.
34
[LC Advisors’] exercise of its fiduciary duties.” 96 Since then, LC Advisors’ new
governing board “regularly makes reports to [LendingClub’s] board of directors.” 97
Plaintiffs twist the meaning of these actions and argue that they show the
Board “recognized the gravity of its failures and shut the barn door far too late.”98
This, too, is unpersuasive. LC Advisors’ misconduct occurred somewhere between
December 2015 and April 2016.99 When that misconduct came to light in May 2016,
the LendingClub Board began taking remedial action immediately. And while it
may be true that “actions taken after the fact do not absolve past transgressions,”100
these allegations do not demonstrate that the Board failed to implement an oversight
mechanism with regard to LC Advisors. Rather, it demonstrates that the Board
implemented an oversight system and, when the Board first learned that it was not
working, created a new one.
2. The Securities Class Action Claims
The analysis of whether the threat of substantial liability compromises a
board’s ability to consider a demand often focuses solely on the claims asserted in
the derivative action itself. But liability from another lawsuit “relating to the subject
96
Id.
97
Id.
98
Pls.’ Answering Br. at 44.
99
SEC No-Action Letter, 2018 WL 4660350, at *5.
100
Pls.’ Answering Br. at 44.
35
matter of the complaint” also poses potential conflicts, as Vice Chancellor Laster
explained in Pfeiffer v. Toll.101 In that case, a majority of the directors on the demand
board were defendants in a companion federal securities action that survived a
motion to dismiss.102 The Vice Chancellor found that demand was futile because it
was not possible for the board to impartially consider a demand in light of the federal
securities action. He reasoned that “[i]f the Company pressed forward with its rights
of action against the defendants in this case the Company’s efforts would undercut
or even compromise the defense of the federal securities action.” 103
Relying on Pfeiffer, Plaintiffs here argue that seven of the nine Demand Board
directors faced a substantial likelihood of liability for violations of federal securities
laws arising from the same factual nexus as Plaintiffs’ derivative claims in this
action. 104 This argument is not relevant to Plaintiffs’ second cause of action, since
the Securities Class Action did not involve claims relating to LC Advisors. Rather,
the only claims against the Director Defendants in the Securities Class Action were
premised on the allegation that LendingClub’s December 2014 registration
statement contained misstatements or omissions regarding “(i) the weaknesses in
101
989 A.2d at 689 (citing Guttman, 823 A.2d at 503).
102
Id. at 690.
103
Id. (“[D]irectors can be compromised for purposes of considering a demand if they face
a significant likelihood of liability relating to the subject matter of the complaint.”).
104
Compl. ¶ 163; Pls.’ Answering Br. at 38–41.
36
LendingClub’s internal controls, (ii) LendingClub’s relationship with Cirrix, (iii) the
adequacy of [LendingClub’s] loan-approval process, and (iv) the adequacy of
[LendingClub’s] data integrity and security protocols.” 105 These issues pertain to
Plaintiffs’ first cause of action only.
Defendants distinguish Pfeiffer because, in that case, the federal securities
action had survived a motion to dismiss before the stockholder commenced a
derivative action.106 By contrast, in this case, Plaintiffs filed their initial derivative
complaint in December 2016, nearly six months before the federal securities action
had survived a motion to dismiss. 107 Defendants emphasize that demand futility “‘is
gauged by the circumstances existing at the commencement of a derivative suit’ and
not afterwards with the benefit of hindsight,”108 and thus ask the Court to disregard
the dismissal in the Securities Class Action on that basis. 109 Defendants’ analytical
framework is the correct one, and Delaware law instructs this Court to ignore events
105
Securities Class Action Order at 6:28–7:4.
106
Dir. Defs.’ Opening Br. at 43–44.
107
Dkt. 1, Verified Stockholder Derivative Compl; see generally Securities Class Action
Order.
108
Hartsel v. Vanguard Gp., 2011 WL 2421003, at *27 (Del. Ch. June 15, 2011), aff’d, 38
A.3d 1254 (Del. 2012) (TABLE) (quoting Aronson, 473 A.2d at 810).
109
Dir. Defs.’ Opening Br. at 44.
37
subsequent to the filing of a derivative action for the purposes of a demand futility
analysis.110
The Securities Class Action would not have compromised the Demand
Board’s ability to impartially consider a demand concerning the subject matter of
this action, namely because the claims against them in this action are exceptionally
weak. Distinguishing features of the two lawsuits further undermine Plaintiffs’
argument. To hold the Director Defendants liable in this action, Plaintiffs must
prove that the directors acted in bad faith—that is, there must be some factual support
speaking to the Director Defendants’ state of mind at the time the challenged conduct
occurred. 111 By contrast, the Section 11 claims sustained against the Director
Defendants in the Securities Class Action did not require a showing of scienter.112
110
Rales, 634 A.2d at 934 (holding that the Court “determine[s] whether or not the
particularized factual allegations of a derivative stockholder complaint create a reasonable
doubt that, as of the time the complaint is filed, the board of directors could have properly
exercised its independent and disinterested business judgment in responding to a demand”
(emphasis added)).
111
LendingClub’s charter contains an exculpatory provision. Dir. Defs.’ Opening Br. Ex.
5, LendingClub Corporation Restated Certificate of Incorporation, at art. VII § 1 (“To the
fullest extent permitted by law, no director of the Corporation shall be personally liable for
monetary damages for breach of fiduciary duty as a director.”). Because Delaware law
does not allow company charters to exculpate directors for breaching the duty of loyalty or
for acting in bad faith, Plaintiffs must “plead particularized facts that demonstrate that the
directors acted with scienter, i.e., that they had ‘actual or constructive knowledge’ that their
conduct was legally improper.” Wood, 953 A.2d at 141; see 8 Del. C. § 102(b)(7).
112
Glaser v. Norris, 1989 WL 78975, at *3 (Del. Ch. July 13, 1989); see Securities Class
Action Order at 8:8–11 (suggesting that Section 11 claims are “strict liability” claims
(quoting In re Daou Sys., Inc., Sec. Litig., 411 F.3d 1006, 1028 (9th Cir. 2005))).
38
The only claims that required a showing of scienter in the Securities Class Action
were the Section 10(b) and Rule 10b-5 claims asserted exclusively against Dolan
and Laplanche. Liability under Section 11 would not, in and of itself, have gotten
to the heart of whether the directors acted in bad faith concerning wrongdoing at
issue in both actions. There is thus no basis for this Court to conclude that the
Demand Board members would have viewed the Securities Class Action as posing
a substantial likelihood of liability concerning the Caremark claims in this case.
For the same reasons, the federal court’s decision to sustain the Section 11
claims in the Securities Class Action does not alter the analysis, because the Section
11 claims do not speak to the main ground in this case—the Director Defendants’
good faith. 113 Moreover, if the Court considers the federal court’s decision
113
This conclusion is complicated somewhat by the fact that the federal court applied the
Rule 9(b) pleading standard to all claims asserted in the Securities Class Action, including
the Section 11 claims. The federal court’s decision reflects two independent bases for this
approach. First, the court stated that the Section 11 claims were “grounded in fraud”
because they were rooted in the exact same factual allegations as the Section 10(b) claims.
Securities Class Action Order at 7:15–16, 8:13–18. Under those circumstances, the court
concluded that it was appropriate to review the Section 11 claims under a heightened
pleading standard. Id. at 8:17–18. Second, the court cited to a rule of convenience,
intimating that the strict liability Section 11 claims are the “lesser included” of the Section
10(b) claims. Id. at 8:7–12. Thus, if the Section 10(b) claims meet the heightened pleading
standard, then the court need not separately review whether the Section 11 claims based on
the same factual allegations meet the lesser standard. Id. at 8:19–20.
Because the court sustained the Section 11 claims as to the Demand Board members,
one might deduce from the federal court’s first basis for applying the Rule 9(b) pleading
standard that the complaint adequately alleged claims that were grounded in fraud against
the Demand Board members. A careful review of the dismissal decision, however, reveals
no factual discussion concerning the Demand Board members’ intent to deceive, with the
exception of perhaps Mack. Rather, the discussion of wrongdoing focuses on Laplanche
39
sustaining certain claims against the Demand Board members, then there is no
principled basis for ignoring the settlement of the Securities Class Action, which
eliminated any threat of liability to the Demand Board members.
B. Independence
“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.” 114 “At [the motion to dismiss] stage, a lack of independence can be
shown by pleading facts that support a reasonable inference that the director is
beholden to a controlling person or ‘so under their influence that their discretion
would be sterilized.’” 115
To meet their burden on this point, Plaintiffs must make allegations of control
supported by facts demonstrating that, “through personal or other relationships[,] the
directors are beholden to the controlling person” 116 such that “their discretion would
or Dolan. Thus, it seems more reasonable to conclude that when sustaining the Section 11
claims alleged against the Demand Board members, the federal court followed the “lesser
included” approach.
In any event, given the Demand Board members’ strong position concerning their
good faith conduct with respect to the wrongdoing at the heart of this action, the fact of the
Securities Class Action does not alter the conclusion that the Demand Board would not
have been compromised in responding to a pre-suit demand concerning the subject matter
of the complaint.
114
Aronson, 473 A.2d at 816.
115
In re Trados Inc. S’holder Litig., 2009 WL 2225958, at *7 (Del. Ch. July 24, 2009).
116
Aronson, 473 A.2d at 815.
40
be sterilized.” 117 “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.”118 Though some professional or personal
friendships “which may border on or even exceed familial loyalty and closeness”
may undercut director independence, “[n]ot all friendships, or even most of them,
rise to this level.”119
On the question of independence, Defendants concede that Sanborn’s status
as CEO of the Company derogates his independence from the Board to whom he
reports.120 This decision assumes that Mack is compromised.121 And Plaintiffs
concede (at the pleading stage) the independence of Morris, Ciporin, Crowe,
Williams, and Mayoloulos, by failing to assert argument as to these directors.
To impugn the independence of the remaining members of the Demand
Board, Plaintiffs first allege that: (i) Meeker cannot independently consider a
demand to bring claims implicating Mack because Meeker and Mack have
“significant business and social ties”—namely, Mack was Meeker’s former boss at
117
Rales, 634 A.2d 927.
118
Beam, 845 A.2d at 1050.
119
Id. (quoting Beam, 833 A.2d at 979).
120
Dir. Defs.’ Opening Br. at 49.
121
See supra note 44 and accompanying text.
41
Morgan Stanley; 122 and (ii) Summers lacks independence from Meeker because they
both sit on the board of directors of Square Inc.123 Because these arguments only
implicate three of the nine Demand Board members, they would not defeat
Defendants’ motion even if accepted. Plaintiffs’ challenges to Meeker’s and
Summers’s independence fail in any event.
Plaintiffs allege that Meeker lacked independence from Mack because the two
shared “significant business and social ties.” 124 Specifically, the Plaintiffs argue that
Mack and Meeker shared a “thirteen-year working relationship” by virtue of the fact
that they both worked at Morgan Stanley “from at least 1997 through 2010.” 125 The
Complaint provides no facts indicating whether Mack and Meeker worked in the
same office, held positions that required them to work together, or otherwise knew
each other while working for Morgan Stanley. Plaintiffs, therefore, fail to allege
particularized facts sufficient to support a finding that Meeker lacked independence
from Mack.
Plaintiffs next argue that Meeker and Summers lacked independence from one
another because they both serve as directors of another company called “Square,
122
Id. ¶ 182.
123
Id. ¶ 183.
124
Id. ¶ 182.
125
Pls.’ Answering Br. at 50.
42
Inc.,”126 but Plaintiffs do not explain the significance of this argument. Because
Meeker and Summers stood independent with respect to the subject matter of the
Complaint, their independence from one another is irrelevant. In any event,
Plaintiffs offer no additional facts that speak to the alleged closeness of the
relationship between Meeker and Summers, and this Court does not agree with
Plaintiffs’ conclusory allegation that the two cannot be considered independent
because they served on the same board.
Plaintiffs cast a wide net in a final argument, contending that the entire
Demand Board somehow lacked independence from Mack because it failed to
exclude Mack from deliberations regarding the internal review of the Cirrix
investment, terminate Mack, or require Mack to divest his Cirrix interests. 127 But
none of these allegations, individually or collectively, suggest that the Demand
Board members’ personal relationships or other ties to Mack motivated this conduct
or otherwise sterilized their discretion in considering a demand.128
126
Compl. ¶ 183.
127
Id. ¶¶ 176–79.
128
This Opinion primarily considers the Defendants’ Rule 23.1 arguments by reference to
the Director Defendants’ briefing. See Dir. Defs.’ Opening Br. at 22–50; Dir. Defs.’ Reply
Br. at 6–34. The briefs of Dolan and Laplanche effectively adopt the Director Defendants’
argumentation on this point. See Dolan Opening Br. at 5 (“As discussed in the Director
Defendants’ Motion to Dismiss, the Supplemented Complaint does not set forth
particularized factual allegations sufficient to excuse pre-suit demand on the Board.”);
Laplanche Opening Br. at 11 (“Mr. Laplanche joins the arguments in the Directors’ Brief
that the Complaint should be dismissed pursuant to Rule 23.1 because Plaintiffs failed to
make a demand on LendingClub’s management, and failed to sufficiently allege demand
43
III. CONCLUSION
In sum, Plaintiffs have failed to allege that a majority of the Demand Board
members were unable to impartially consider pre-suit demand with regard to any of
Plaintiffs’ claims. Because the Complaint fails to meet the requirements of Rule
23.1, this decision does not address Defendants’ arguments under Rule 12(b)(6). For
the foregoing reasons, Plaintiffs’ Consolidated Supplemented Verified Stockholder
Complaint is DISMISSED.
futility.”). Dolan correctly observes that, “regardless of the Director Defendants’ ability to
evaluate the claims against themselves personally, there is no question that the Board is
entirely independent from Ms. Dolan” or faced a “substantial likelihood of personal
liability for a claim against Ms. Dolan.” Dolan Opening Br. at 6. Laplanche similarly
emphasizes that “Plaintiffs’ demand futility arguments are particularly deficient as to
Mr. Laplanche given that he is no longer affiliated with the Company, and the Board
therefore can independently and disinterestedly assess potential claims against him.”
Laplanche Opening Br. at 11–12. These arguments are persuasive and provide additional
bases for dismissing the claims against Dolan and Laplanche.
44