On January 21, 2022, the Delaware Court of Chancery in Simons v. Brookfield Asset Management, Inc. dismissed a derivative action brought by a stockholder in GrafTech International Ltd. for failure to make a pre-suit litigation demand on the GrafTech Board of Directors in connection with GrafTech’s 2019 share repurchase from its controlling stockholder, Brookfield Asset Management.
After demanding documents from GrafTech under Section 220 in February of 2020, plaintiff filed suit challenging the share repurchase as a self-interested transaction and claiming that GrafTech’s appointment of a ninth director in August of 2020 violated a stockholder agreement between GrafTech and Brookfield and was in breach of the board’s fiduciary duties. Because plaintiff did not make a demand upon the GrafTech board before filing his derivative claim, he was required to show such a demand would be futile by showing that the majority of directors either lacked independence from Brookfield or faced significant personal liability.
The court first dismissed plaintiff’s claim that the board appointed the ninth director in breach of the stockholder agreement, calling it a transparent attempt to exclude the “indisputably independent” director from the demand-futility analysis. The court concluded that, where the stockholder agreement did not “set the exact number of directors,” the board was within its rights to “determine the exact number of directors” it wished to appoint. The court also held that the amount of time between plaintiff’s Section 220 demand and the ninth director’s appointment — about seven months — did not support plaintiff’s fiduciary breach claim. In rejecting plaintiff’s premise, the court reasoned that where Section 220 demands and changes in board composition are “common occurrences, which Delaware law often encourages,” plaintiff’s theory of liability placed the two “in tension,” and was therefore insufficient to support a claim for fiduciary breach.
The court then rejected plaintiff’s claim that the majority of directors lacked independence that would excuse a pre-suit demand. The court examined the independence of five of GrafTech’s outside directors, as defendants did not dispute that four of the nine were conflicted, finding that plaintiff did not adequately plead that the five outside directors received a material personal benefit, faced a substantial likelihood of personal liability from the suit, or lacked independence from Brookfield. Accordingly, with the legitimate addition of the independent ninth director, the majority of the board was capable of disinterestedly and independently considering a demand, prompting the court to dismiss the claim for plaintiff’s failure to make a pre-suit demand on the board.
Federal Illegality of Marijuana Industry Bars Relief for Numerous Investor Claims
On January 24, 2022, a Colorado federal magistrate judge dismissed with prejudice the majority of claims brought by investors against a cannabis company and its executives, and barred plaintiffs from pursuing their surviving claims derivatively, finding the court could not award plaintiffs much of the relief they sought, as to do so would violate the federal Controlled Substances Act.
The case stems from a lawsuit brought by investors in Clover Top Holdings LLC. Clover Top, according to the complaint, was meant to be a “mother ship” for multiple entities to produce, process, and sell marijuana and related products on a large scale. Plaintiffs brought claims against three groups of defendants, alleging that they made material misrepresentations about the company’s operations and diluted plaintiffs’ investment through the use of a “shell game.” Specifically, plaintiffs accused the defendants of creating numerous other entities that contrived corporate opportunities for and siphoned assets away from the business, resulting in a benefit to Clover Top’s executives at the expense of its investors. Based on these allegations, plaintiffs brought claims for unjust enrichment, breach of contract, breach of fiduciary, corporate waste, fraudulent misrepresentation, and RICO violations, as well as state and federal securities law violations. Plaintiffs claimed they suffered damages to be determined at trial, in excess of the $700,000 principal they invested in Clover Top, plus interest.
Two groups of defendants moved to dismiss the claims against them, relying primarily on the affirmative defense of illegality. Defendants argued that, because their business involved the production and sale of marijuana — activity which is considered illegal under the Controlled Substances Act — the federal court could not provide a remedy for the alleged violations since to do so would be to award plaintiffs the profits they should have realized from a scheme operating in violation of federal law. The magistrate largely agreed, dismissing claims for equitable relief, breach of contract, civil conspiracy, RICO violations, and all derivative claims on the basis of illegality, reasoning that the court could not “vindicate equity in or award profits from a business that grows, processes, and sells marijuana,” require defendants to act in violation of the Controlled Substances Act, or “award money damages paid from a marijuana asset or income stream.”
The surviving claims consist of those for which plaintiffs sought only the return of their investment principal as redress, including plaintiffs’ federal and state securities law claims. The magistrate held that this type of relief was not barred by the illegality defense, provided that defendants could refund the principal from money or assets that are not affiliated with any marijuana operations. The order of dismissal did not provide plaintiffs leave to replead the dismissed claims, as the subject complaint was already plaintiffs’ third bite at the apple, after the court dismissed an earlier version of this action in January 2021 and trimmed it further in May 2021 — also largely on the basis of illegality.
Although largely a loss for plaintiff-investors, the court’s dismissal does leave open the possibility for investors to recover from companies operating in the cannabis industry, so long as the requested relief can be granted without implicating the Controlled Substances Act.
LIBOR Convictions of Former Deutsche Bank Traders Reversed
On January 27, 2022, the U.S. Court of Appeals for the Second Circuit reversed the convictions of two former Deutsche Bank traders on charges of wire fraud and conspiracy to commit bank fraud in connection with their alleged manipulation of the London Interbank Offered Rate (“LIBOR”).
LIBOR is a benchmark interest rate, calculated by the British Bankers’ Association with the help of data analytics company Thompson Reuters, which reflects the rates at which various global banks may borrow from one another on any given day. Each participating bank has designated LIBOR submitters, whose responsibility it is to estimate the banks’ rates on a daily basis and report them to Thomson Reuters.
In 2018, defendants were convicted based on allegations that they illegally pressured LIBOR submitters to falsify their estimates in order to increase Deutsche Bank’s derivatives trades tied to the LIBOR benchmark. The prosecution arose out of a large and widely publicized investigation of alleged LIBOR manipulation in both the United States and the United Kingdom, with a particular focus on attempts to drive interest-rate derivatives. On appeal, the defendants argued that the government had not carried its burden of showing that they actually influenced Deutsche Bank’s LIBOR submissions, pointing to trial testimony that the Bank’s daily estimates are often based on subjective choices and that there is not “one true interest rate” mandated by the data that the LIBOR submitters considered.
The Second Circuit panel agreed with defendants, finding that there was insufficient evidence at trial that the rates defendants allegedly influenced were not “rates at which Deutsche Bank could request, receive offers and accept loans in Deutsche Bank’s typical loan amounts” such that the “government failed to show that any of the trader-influenced submissions were false, fraudulent or misleading.” This meant that the government had failed to establish a key element of the offenses charged: a false statement made by either defendant.
The panel remanded the case to the district court for the specific purpose of entering judgments of acquittal without further review.
Delaware Chancery Court Applies Corwin to Toss Out Fiduciary Duty Claims
On January 28, 2022, in Galindo v. Stover, et. al., the Delaware Court of Chancery applied the Corwin doctrine to dismiss breach of fiduciary duty claims brought by former stockholders of Noble Energy, Inc. in connection with the company’s late 2020 combination with Chevon Corporation.
Following Noble’s combination with Chevron, plaintiff stockholders brought claims against Noble’s board of directors, alleging “both an unfair process and an unfair price” and alleging that the board “owed stockholders a ‘duty of care, loyalty, good faith, candor, and independence.’” Director defendants moved to dismiss the claims, arguing that the merger was approved by a majority of Noble stockholders and, as a result, should be dismissed under the Corwin doctrine, which “cleanses” transactions that are approved by a fully informed, uncoerced majority of disinterested stockholders by applying the business judgment rule to such transactions and only allowing claims of corporate waste to proceed. Because plaintiffs alleged no claims of waste, defendants argued, their claims should be dismissed. Plaintiffs countered that Corwin did not apply because stockholders were not fully informed, pointing to various alleged material omissions dating back to 2018, including an acquisition proposal the board received and a decision the board made to provide officers with change-in-control compensation.
The court rejected plaintiffs’ allegations that stockholders were not fully informed at the time they voted to approve the merger, finding that the third-party’s alleged proposal to acquire certain of Noble’s assets more than a year and a half before the stockholder vote on the Chevron merger was not material, and did not alter the total mix of information available to stockholders, because it was remote in both time and circumstances from the merger — particularly because it predated important contextual developments, such as the COVID-19 pandemic. Further siding with defendants, the court found plaintiffs’ claims concerning the alleged omission of details regarding the executive change-of-control payments to be similarly without merit. The court concluded that Noble had explicitly disclosed “the precise benefits . . . flowing to the named executives,” which was all that needed to be done under the circumstances. The court reasoned that the additional information that plaintiffs claimed should have been disclosed — “the timeline for the contemplation” of the change-of-control payments — was immaterial in light of the company’s disclosure of the full text of the executive compensation plans and the specific awards executives would receive once the merger was consummated.
Because the court found that neither the 2018 proposal nor the timeline of the change-of-control payment considerations were material, the court applied Corwin and the business judgment rule to dismiss plaintiffs’ claims for breaches of fiduciary duty, as plaintiffs’ made no allegations of waste that could “survive the cleansing effect of the stockholder vote.”
Lawyers in Goodwin’s Securities and Shareholder Litigation and White Collar Defense practices have extensive experience before U.S. federal and state courts, legislative bodies and regulatory and enforcement agencies. We continually monitor notable developments in these venues to prepare the Securities Snapshot — a bi-weekly compilation of securities litigation news delivered to subscribers via email. This publication summarizes news from the civil and criminal securities law arenas in a succinct, digestible format. Topics covered include litigation and enforcement matters, legislation, rulemaking, and interpretive guidance from regulatory agencies.