Despite the ongoing impact of the COVID-19 pandemic, it was another busy year for the Delaware courts. The Delaware Supreme Court issued several major opinions, including adopting a new unified standard for pleading demand futility in derivative suits and clarifying that stockholder claims may no longer be classified as both derivative and direct.
Meanwhile, in the Delaware Court of Chancery, another opinion joined the small but growing list of cases where a plaintiff was found to have adequately pleaded a Caremark derivative claim. Most of the pandemic-related broken deal litigation analyzing material adverse effects has now been resolved, and the first opinion analyzing SPAC-related litigation was issued in the first few days of 2022. The Court also continued to refine the scope of books and records demands under Section 220 of the Delaware General Corporation Law (“DGCL”), and ordered fee shifting in a case where it found a company had been overly aggressive in opposing such demands. The Court also continued to clarify what it means to be a “controlling stockholder,” when the MFW standard of review will apply to transactions with a controller, and when Revlon enhanced scrutiny will apply. In other noteworthy opinions, the Court addressed the validity of an “extreme” poison pill, how a change in value between signing and closing affects fair value in an appraisal claim, and how to plead the “knowing participation” required for an aiding and abetting claim.
Finally, there have been a number of personnel changes on the Court of Chancery. Chancellor Bouchard stepped down and Kathaleen McCormick was elevated to be the first woman Chancellor in May 2021. In addition, Lori Will was sworn in as the newest Vice Chancellor, and Vice Chancellor Joseph Slights III announced his retirement shortly after the new year, so there will be at least one new jurist on the bench in 2022 as well.
Broken Deal Litigation and MAE Provisions
As we wrote about last year, there was a wave of broken deal litigation as a result of the COVID-19 pandemic, where buyers attempted to invoke material adverse effect (“MAE”) and other provisions to exit their merger agreements. With a few notable exceptions, most of those cases ended in settlement. Where the Delaware courts did issue opinions, they carefully analyzed the particular language in each agreement and were generally unwilling to let the parties out of a deal through an MAE.
For example, in Snow Phipps Group, LLC v. KCAKE Acquisition, Inc., a private equity sponsored acquisition entity agreed to acquire DecoPac Holdings, Inc., the parent of a supplier of cake decorations and products to supermarket bakeries in March 2020.1 To secure financing for the acquisition, the parties also entered into a debt commitment letter, within which they agreed to use their reasonable best efforts to work towards a definitive credit agreement. Shortly after signing, government entities around the country issued stay-at-home orders and DecoPac's weekly sales precipitously declined. In an effort to terminate the deal, the buyer was alleged to have provided potential lenders with a “draconian reforecast of DecoPac's projected sales” and demanded more favorable debt financing terms. When the lenders refused, the buyer relied on the unavailability of debt financing as a basis to not consummate the transaction. It also asserted that DecoPac had experienced an MAE due to the sales decline and had failed to operate in the ordinary course by drawing on a revolving credit facility and implementing cost-cutting measures. After a five-day trial, then-Vice Chancellor McCormick found that (1) DecoPac had not experienced an MAE, given the short duration of the sales decline; (2) even if it was reasonable to expect that COVID-19-related sales declines would give rise to an MAE, the seller-friendly exception in the contract for events “related to” government orders applied; and (3) DecoPac had not suffered disproportionately to comparable companies. The Court also found that DecoPac had not violated the ordinary course covenant because drawing on a credit line and cutting costs were consistent with its past practices. Instead, the Court found that the buyer had breached its obligation to use reasonable best efforts in connection with the debt financing, and ordered that the parties consummate the transaction.
In another closely-watched case, Level 4 Yoga, LLC v. CorePower Yoga, LLC, franchisors of the CorePower branded yoga studios were given a call option on 34 CorePower studios owned and operated by Level 4 Yoga, LLC. In early 2019, the franchisors expressed an interest in exercising that option, but sought to delay the closing date. The parties eventually came to an agreement whereby closing would be pushed to April 1, 2020 in exchange for no closing conditions and the buyers assuming any market or industry-wide risk associated with the delayed closing. When April 1, 2020 rolled around, however, CorePower sought to terminate the acquisition, claiming that Level 4's closure of studios in response to COVID 19-related orders from government entities resulted in an MAE. Level 4 sued, seeking a declaratory judgment, specific performance. and damages for CorePower's refusal to close. The trial in this matter took place in August 2021 and post trial briefing concluded in November 2021, but as of this writing, the Court has not yet issued a ruling.2
There was also broken deal litigation in 2021 unrelated to the COVID-19 pandemic. Bardy Diagnostics, Inc. v. Hill-Rom, Inc. concerned a transaction in which Hill-Rom, Inc. had agreed to acquire Bardy Diagnostics, Inc., a medical device startup.3 However, after Medicare announced that the reimbursement rates it would pay for Bardy's only medical device would be reduced by approximately 86%, Hill-Rom informed Bardy that it would not close on the deal because the decreased rates constituted an MAE between signing and closing. Bardy sued, and Hill-Rom countersued. Vice Chancellor Slights determined that there was no MAE because Hill-Rom failed to prove that the rate drop would have a durationally significant material effect on Bardy. Although the Court could have ended its analysis there, it further held that even if Hill-Rom had proven such an effect, a change in the Medicare rates was carved out from the MAE definition, and Hill-Rom failed to prove that the disproportionate-effect exception to that carve out applied. Addressing Hill-Rom's fallback common law frustration argument, the Court also held that the purpose of the merger had not been frustrated because, among other things, the parties had allocated the risk of a rate drop onto Bardy through the merger agreement's earn-out provision, thereby helping to offset any short-term losses Hill-Rom may suffer due to the rate drop. The Court ordered Hill Rom to close the transaction, and also awarded prejudgment interest running from the time the merger would have closed (this relief was not contested by the parties). The Court did not, however, award Bardy compensatory damages, finding that the award of prejudgment interest would adequately address any harm flowing from the delayed closing.
SPAC Litigation Heats Up
As the pace of broken deal litigation has wound down in 2021, litigation involving special purpose acquisition companies (“SPACs”) has picked up.
In a highly anticipated decision issued a few days into 2022, Vice Chancellor Will denied a motion to dismiss in In re MultiPlan Corp. Stockholders Litigation. 4 The claims in that case centered around the disclosures contained in the proxy statement issued by Churchill Capital Corp. III, the SPAC seeking stockholder approval of the de-SPAC transaction. Specifically, the plaintiffs claimed that the proxy statement disclosed that MultiPlan was heavily dependent on a single customer who was responsible for 35% of its revenues, but did not disclose that the customer was planning to move those accounts in-house. According to the plaintiffs, the alleged omissions “robbed” them of their right to make a fully informed decision about whether to redeem their shares prior to consummation of the transaction.
Footnotes
1 C.A. No. 2020-0282-KSJM, 2021 WL 1714202 (Del. Ch. Apr. 30, 2021).
2 C.A. No. 2020-0249 (Del. Ch. Apr. 3, 2020).
3 C.A. No. 2021-0175-JRS, 2021 WL 2886188 (Del. Ch. July 9, 2021).
4 --- A.3d ---, C.A. No. 2021-0300-LWW, 2022 WL 24060 (Del. Ch. Jan. 3, 2022).
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