Effective August 1, 2021, the Delaware Limited Liability Company Act (“LLC Act”), the Delaware Revised Uniform Limited Partnership Act (“LP Act”) and the Delaware Revised Uniform Partnership Act (“Partnership Act”) have been amended to require that the “necessary and essential” standard apply to books and records inspection demands made under statutory or contractual grounds, subject to the LLC or partnership agreement expanding or restricting such inspection rights.

The amendments specifically apply to Section 18-305 of the LLC Act (6 Del. C. § 18-305), Section 17-305 of the LP Act (6 Del. C. § 17-305), and Section 15-403 of the Partnership Act (Del. C. § 15-403).  The amendments were first introduced earlier this year in Delaware Senate Bill No. 114 (to amend the LLC Act), Senate Bill No. 115 (to amend the Partnership Act), and Senate Bill No. 116 (to amend the LP Act).

In light of the amendments, the scope of documentation to which a member of a Delaware LLC or partner of a Delaware limited partnership or general partnership is entitled is now more limited, consistent with 8 Del. C. § 220, the books and records inspection statute pertaining to Delaware corporations.  Under case law construing Section 220 of the Delaware General Corporation Law (DGCL), the burden is placed upon a stockholder to demonstrate that the requested books and records are “necessary and essential” to a stated purpose.

The amendments were adopted to address the Delaware Supreme Court decision of Murfey, et al. v. WHC Ventures, LLC, et al., Del. Supr., No 294, 2019 (July 13, 2020).  In Murfey, the Delaware Supreme Court found that the “necessary and essential” standard did not apply to a books and records demand made under a limited partnership’s agreement, because that condition was not expressly conditioned by the limited partnership agreement.

The author of this post represented the prevailing appellants in the Murfey appeal.  A prior post discussing the Murfey decision can be found here.

Under each of the amendments, the right to obtain or examine information may be expanded or restricted in the original LLC or partnership agreement, or in an amendment thereto signed by all members or partners of the entity or in compliance with any applicable requirements of the LLC or partnership agreement.

Key Takeaway:

Absent the LLC or partnership agreement stating otherwise, a member or partner seeking to inspect books and records of a Delaware alternative entity will now have the burden to show that the documents sought are “necessary and essential” to a stated purpose.  Accordingly, these inspection amendments should be considered by any party to a books and records dispute involving a Delaware limited liability company, limited partnership or a general partnership.

Moreover, members or partners and their counsel should consider these amendments when forming an alternative entity and entering into an LLC or partnership agreement.  If the members or partners desire to contract for full transparency into company books and records without the added burden of showing that such requested documents are “necessary and essential” to a stated purpose, they should consider negotiating for such rights at the onset and ensure that the agreement expands their inspection rights beyond the default now set by statute.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

The Delaware Court of Chancery recently dismissed a derivative lawsuit asserting a Caremark claim for failure to adequately allege demand futility under Court of Chancery Rule 23.1.  The opinion, Pettry v. Smith, et al., C.A. No. 2019-0795-JRS (Del. Ch. June 28, 2021), provides a helpful roadmap regarding the assertion of demand futility under Delaware law, and is an important read for any party or practitioner litigating a Caremark claim.

In Pettry, the plaintiff stockholder alleged that the board of FedEx Corporation (the “Company”) failed to oversee compliance with state and federal laws governing the shipment of cigarettes, despite being placed on notice by a report of misconduct in 2012.  The lawsuit sought compensation from the director defendants for a $35 million settlement of suits brought by the State of New York and New York City, along with corporate governance reforms and disgorgement of profits.

The plaintiff, Pettry, did not make a demand upon the board.  Rather, Pettry argued that demand would have been futile because each board member would face a substantial likelihood of personal liability.  Accordingly, Pettry argued demand futility, which would excuse plaintiff’s obligation to make a demand upon the board.

Defendants disagreed and moved to dismiss the Complaint under Court of Chancery Rule 23.1 for failure to plead demand futility.  Alternatively, Defendants moved to dismiss under Chancery Rule 12(b)(6) for failure to state a claim.

Vice Chancellor Slights agreed with defendants, and granted their motion to dismiss under Chancery Rule 23.1.  Specifically, the Court ruled that plaintiff failed to adequately plead that a majority of the Board faces a substantial likelihood of liability on her claims or were otherwise disabled by interest or lack of independence.

The Court wrote that, under Delaware law, a stockholder must “satisfy the threshold demand requirements of Court of Chancery Rule 23.1” before being permitted to pursue a derivative claim on behalf of a corporation.  Slip op. at 15.  “To meet the Rule 23.1 requirements, the stockholder must plead with particularity either that she made a demand on the company’s board of directors to pursue particular claims or why any such demand would be futile, thereby excusing the need to make a demand altogether.” Id.

The Court noted that a Caremark claim, which is a claim that corporate fiduciaries breached their duties by failing to monitor corporate affairs, is “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.”  Slip op. at 19 (quoting Caremark Int’l Inc. Deriv. Litig., 698 A.2d 959, 967 (Del. Ch. 1996)).  The Court addressed what must be plead in order to adequately allege such a claim:

At the pleadings stage, a plaintiff must allege particularized facts that satisfy one of the necessary conditions for director oversight liability articulated in Caremark: either that (1) the directors utterly failed to implement any reporting or information system or controls; or (2) having implemented such a system or controls, [the directors] consciously failed to monitor or oversee its operations thus disabling themselves from being informed of risks or problems requiring their attention.

Slip op. at 19 (internal quotations and citations omitted).

Plaintiff asserted that the director defendants violated their Caremark duties under the second prong referenced above.  In granting defendants’ motion to dismiss, Vice Chancellor Slights held that the Complaint failed to sufficiently plead that the director defendants consciously disregarded “red flags”.

Specifically, the Court noted that the entire board and audit committee were apprised of the ongoing enforcement actions through settlement.  Moreover, the board formed a Demand Committee to consider a stockholder demand related to the alleged improper cigarette shipments, which found that that the Company should not bring claims against the director defendants for violation of their duty of oversight because there was no evidence of bad faith. In addition, plaintiff acknowledged that various Company personnel were reprimanded.  Finally, the Complaint acknowledged that by 2016, the Company had banned nearly all tobacco shipments, and in 2019, it introduced numerous training programs and implemented measures to increase the detection of illegal cigarette shipments.

Key Takeaway:

This opinion demonstrates the difficulty in sufficiently pleading demand futility under Court of Chancery Rule 23.1 in connection with a Caremark claim.  This is especially true if the board has been appropriately apprised of potential issues, formed an independent committee, and has taken appropriate steps to remediate any potential infractions, including reprimanding employees along with other corrective actions.  The opinion should be carefully considered by any board member faced with a Caremark claim before the Delaware Court of Chancery.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

In the recent decision of DG BF, LLC, et al. v. Michael Ray, et al., C.A. No. 2020-0459-MTZ (Del. Ch. June 30, 2021), the Delaware Court of Chancery declined to exercise subject matter jurisdiction over a defamation claim despite the parties stipulating to have the Court hear such claim under the clean-up doctrine.

Earlier, on March 1, 2021, the Court issued a Memorandum Opinion addressing defendant’s motion to dismiss, and ordered supplemental briefing on whether the Court had subject matter jurisdiction over plaintiffs’ defamation claim, which seeks damages but not injunctive relief.  Rather than brief that question, the parties instead submitted a stipulation agreeing that the Court had subject matter jurisdiction over the claim.

While Vice Chancellor Zurn considered the pending motion’s substantive merits, Vice Chancellor Slights issued an opinion in the case of Smith v. Scott, 2021 WL 1592463, at *13–14 (Del. Ch. Apr. 23, 2021) which addressed whether the same issue, i.e. whether the Court has subject matter jurisdiction over a defamation claim.

In Smith, Vice Chancellor Slights concluded that “the Court of Chancery, in all instances, lacks subject matter jurisdiction to adjudicate the questions of whether a defendant made a false statement about the plaintiff and whether it did so with actual malice.” Id. (emphasis added).

The Court went on to state: “The ‘clean-up’ doctrine serves the important function of avoiding, when appropriate, piecemeal litigation, but the historical imperative that a jury, not a judge, should evaluate whether a defendant’s statements are defamatory shines even brighter.” Id.

Vice Chancellor Zurn adopted the rationale of Smith v. Scott, and therefore declined the parties’ request that the Court hear the defamation claim under the clean-up doctrine.  Rather, the Court dismissed the count, subject to plaintiffs’ right under 10 Del. C. § 1902 to transfer the claim to the Delaware Superior Court.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

In the recent decision of Agspring Holdco, LLC, et al. v. NGP X US Holdings, L.P., et al., C.A. No. 2019-0567-JRS (Del. Ch. June 28, 2021), the Delaware Court of Chancery issued a stay of discovery pending resolution of the parties’ cross-motions for summary judgment to confirm or vacate an arbitration ruling concerning advancement obligations.  Earlier in March 2021, an arbitration panel ruled that defendant was entitled to advancement from plaintiff.

The Court also opened the door to a stay of the entirety of the case in the event that the defendant prevailed on its cross-motion and plaintiffs failed to honor their advancement obligations.

Vice Chancellor Slights stated: “Granting a stay is appropriate where it would not prejudice the non-moving party and where it would spare the moving party unnecessary expense or burden.” Slip op. at 2 (internal quotations omitted).

The Court noted that the action was not expedited, and that a stay would not be prejudicial.  The Court held that the incurrence of further fees in the action was not warranted until the advancement issue is resolved.  Accordingly, the Court exercised its discretion and granted a stay of the case pending resolution of the cross-motions.

Of interest, the Vice Chancellor concluded by stating that, if defendant prevails on its advancement claim and plaintiffs fail to advance funds (as their CFO indicated may be the case), then “there are legitimate questions as to whether this action should be stayed until such time as Plaintiffs’ advancement obligations are fulfilled.”  Slip op. at 3 (citing Perryman v. Stimwave Techs. Inc., 2020 WL 2465720, at *4 (Del. Ch. May 13, 2020)) (“a delay in recognizing advancement rights may ultimately render those rights illusory.”).

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

On July 12, 2021, the Court of Chancery issued Standing Order No. 6.  The standing order extends the permitted use of unsworn declarations, verifications, certificates, statements, oaths, or affidavits in filings with the Court of Chancery, pursuant to 10 Del. C. § 3927, until September 30, 2021.

Citing that many law firms and businesses that litigate in the Court of Chancery continue to operate remotely to prevent the spread of COVID-19, the Court determined the continued use of unsworn declarations under 10 Del. C. § 3927 to be appropriate.  The unsworn declaration, verification, certificate, or statement must be in substantially the form approved by Section 3927.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

The United States District Court for the District of Delaware recently issued a Jury Trial Notice on April 5, 2021, stating that jury trials will resume, subject to the discretion of each individual judge as to whether and when any particular case will proceed to trial.

Previously, on February 5th, the Chief District Court Judge issued a Standing Order RE: Criminal and Civil Jury Trial Suspension, which cancelled all jury trials for two months, in light of the continuing impact of the COVID-19 pandemic.

Citing current conditions and after consultation with the Court’s Reopening Committee, the District Court of Delaware determined that it will not extend the February 5th Standing Order.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

In the recent decision of Blackmon v. O3 Insight, Inc., C.A. No. 2020-1014-SG (Del. Ch. Mar. 9, 2021), the Delaware Court of Chancery held that the arbitrability of a Delaware director’s claim for advancement must be determined by an arbitrator.

The Petitioner, Theodore Blackmon, is a director and stockholder of respondent O3 Insight, Inc. (the “Company”), a Delaware corporation.  In September of 2020, the Company sued Blackmon in Alabama alleging breach of his fiduciary duty to the Company. The Certificate of Incorporation and Bylaws of the Company provide for advancement following tender of an undertaking to repay.

Blackmon filed an action in the Delaware Court of Chancery seeking advancement of his legal fees. The Company moved to dismiss for lack of subject matter jurisdiction.  The Petitioner had signed an agreement (the “Stockholders Agreement”), which stated: “any dispute, controversy or claim arising out of, relating to, or in connection with, this Agreement . . . shall be finally settled by arbitration. The arbitration shall be conducted in accordance with the Commercial Arbitration Rules of the American Arbitration Association” (the “AAA rules”).

Vice Chancellor Glasscock noted that under the AAA rules, issues of arbitrability—whether the arbitrator is empowered to decide a particular issue—are reserved for the arbitrator.

The Company argued that because the Stockholders Agreement invokes the rules of the AAA, the Court of Chancery is without jurisdiction to determine whether the issue of the Petitioner’s entitlement to advancement of legal fees is reserved to arbitration.

In conducting its analysis, the Court noted that “Delaware arbitration law mirrors federal law”, and that “[j]ust as the arbitrability of the merits of a dispute depends upon whether the parties agreed to arbitrate that dispute, so the question of who has the primary power to decide arbitrability turns upon what the parties agreed about that matter.”  Slip op. at 3 (quoting James & Jackson, LLC v. Willie Gary, LLC, 906 A.2d 76, 78-79 (Del. 2006)).

Given that “the question of who decides arbitrability is itself a question of contract”, the Court analyzed whether the parties contractually bound themselves to have arbitrability in this context decided by an arbitrator.  The Court noted that the arbitration clause of the stockholders agreement submitted all issues “arising out of, relating to, or in connection with” the Stockholder’s Agreement to arbitration under the AAA rules. Slip op. at 4.

The Court, citing Willie Gary, found that the decision of whether the claims are subject to arbitration, a gateway issue referred to as “substantive arbitrability”, must be decided by the arbitrator in the first instance.  Accordingly, the Court granted the Company’s motion to stay the action pending the arbitrator’s decision on the arbitrability of the advancement claim.

Key Takeaway: Although the Delaware Court of Chancery is vested with subject matter jurisdiction to adjudicate advancement claims of directors of Delaware corporations, such jurisdiction may be contractually vested in an arbitrator, and the Court will look to the operative agreement to determine whether the Court, or the arbitrator, decides the arbitrability of the claim.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

In a recent letter opinion, 250ok, Inc. v. Message Sys., Inc., C.A. No. 2020-0588-JRS (Del. Ch. Jan. 22, 2021), the Court of Chancery held that a claim under the Delaware Uniform Trade Secrets Act (“DUTSA”), 6 Del. C. § 2001 et seq., preempted a common law claim for unjust enrichment, when both claims arose from the same purported wrongdoing.

In dismissing the unjust enrichment claim, Vice Chancellor Slights held that, under established Delaware Supreme Court precedent, a trade secret claim under the DUTSA “occupies the field” and preempts a common law unjust enrichment claim. Slip op. at 1.

The Court further explained that preemption applies not just to tort-based claims, but to any “alternative common law claims” ” beyond those expressly exempted from preemption in the statute.  Id. at 13. Moreover, preemption applies at the dismissal stage of a proceeding, even though the Court may later find that the DUTSA does not protect the information at issue. Accordingly, the Court of Chancery dismissed plaintiff’s unjust enrichment claim.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

In a noteworthy and recent Court of Chancery decision, Mehra v. Teller, C.A. No. 2019-0812-KSJM (Del. Ch. Jan. 29, 2021), the Delaware Court of Chancery ruled upon a member’s request to invalidate dissolution of a Delaware limited liability company.  The opinion is an important read as the Court considered whether the LLC deadlock–which provided the basis for dissolution–was genuine or simply “contrived” by one member to force the appearance of deadlock.

In this action, Plaintiff Mehra and Defendant Teller had equal say over the member and board decisions of the limited liability company at issue (“Company”), a consumer goods company.  After several successful years, the Company suffered a series of setbacks that soured the parties’ relationship and left Teller strapped for cash.

The LLC agreement contained a deadlock provision which, according to the Court, “created a trapdoor with a hair trigger” (slip op. at 1), in that one member could propose a business divorce to the board, declare deadlock if the other disagreed, and exit the shared-control arrangement between the two parties.

Here, Teller held a meeting whereby he proposed a resolution to remove Mehra as CFO of a Company subsidiary.  As the parties could not agree on this resolution, Teller declared the board deadlocked and dissolved the Company.

Mehra brought suit before the Delaware Court of Chancery to invalidate the dissolution in order to restore the shared-control arrangement among Mehra and Teller.  The Court resolved the issue in Teller’s favor, finding that although Teller may have contrived the circumstances giving rise to the deadlock, Teller nonetheless proved that the parties had an irreconcilable disagreement over Mehra’s continuing management of the Company.  As such, the Court found that the deadlock was genuine and sufficient to warrant dissolution.

The Court also denied Mehra’s assertion that dissolution should be rendered invalid due to Teller’s alleged breach of a “good faith” provision of the LLC Agreement.   The Court disagreed, finding that Teller acted with the honest belief that his conduct was necessary for the Company.

Key Takeaway:

This decision is notable in that while the Court found that Teller was the party responsible for creating the circumstances giving rise to deadlock, a genuine deadlock nonetheless existed, which warranted dissolution.  Members of a Delaware limited liability company who have equal rights and say over the affairs of such LLC should carefully take this opinion into consideration in the event that one member seeks to dissolve an entity over deadlock.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.

On January 29, 2021, Chief Judge Leonard P. Stark issued a Standing Order setting forth new procedures for the filing, service, and management of highly sensitive documents, defined as “HSD”. The Standing Order was issued in response to recent widespread disclosures of breaches of both private sector and government computer systems.

As the Order makes clear, most documents are presumptively deemed to not contain highly sensitive information (“HSI”), including “most sealed filings in civil cases, including the overwhelming majority (if not all) sealed documents filed in intellectual property and Chapter 11 cases.”  Standing Order, at 3.

If the document qualifies as an HSD, then the Standing Order provides a separate motion procedure the designating party must follow.

The Standing Order provides that the following documents are presumptively HSDs: (i) applications for electronic surveillance under 18 U.S.C. § 2518, and (ii) documents that adversely affect: national security; integrity of government operations; reputational interests of the US; a foreign sovereign interest; on-going law-enforcement investigations and intelligence-gathering operations; safety of public officials or individual cooperating with law enforcement; and the ability of an entity to maintain cybersecurity.

The Standing Order clarifies that few documents will qualify for this designation, however, stating that, in connection with business and other entities, “documents will likely constitute HSI only (if ever) when they are among the most sensitive records created in the entity’s history and that, if wrongfully disclosed, could result in catastrophic financial and/or other loss for the entity.” Standing Order, at 2.

Of significance, the Order clarifies that the HSD is “exceptional treatment” and the party moving to file the documents as such “bears the burden to justify such exceptional treatment.” Standing Order, at 2.

Carl D. Neff is a partner with the law firm of FisherBroyles, LLP, and practices in Delaware.  You can reach Carl at (302) 482-4244 or at Carl.Neff@FisherBroyles.com.