At the outset of stockholder litigation, the parties often expend significant energy establishing who will bear the burden of proof with respect to a challenged corporate transaction. Will the plaintiff be required to rebut the business judgment rule, which typically shields the board from second-guessing by the courts, or will the board or other corporate constituents have to prove that the transaction was entirely fair? This critical determination often turns on whether a majority of the directors, or the members of a special committee, are disinterested and independent with respect to the transaction at issue, as well as the presence or absence of a controlling stockholder.
Recently, both stockholder plaintiffs and the courts have relied on language from companies’ public statements, including filings with the U.S. Securities and Exchange Commission, to question whether individual directors are independent and disinterested, and to establish the existence of a controlling stockholder. Thus, as in so many other areas of the law, anything a company says publicly may (and likely will) be used against it.
Review of Nasdaq and NYSE Rules Governing Director Independence
Companies whose securities trade on public exchanges must disclose specific information, including regarding their directors. Specifically, both Nasdaq and the New York Stock Exchange rules require an affirmative determination of whether each director is independent. Nasdaq defines independence as:
An independent director is one who is not an executive officer or an employee of the company and who does not have a relationship that, in the opinion of the board of directors, would interfere with exercising independent judgment in carrying out a director’s responsibilities.[1]
Similarly, the NYSE defines independence as:
An independent director is one who the board of directors affirmatively determines has no material relationship with the company, either directly or as an officer, partner or stockholder of a company that has a relationship with the company.[2] The NYSE Listed Company Manual also warns that boards of directors making independence determinations should “broadly consider all relevant facts and circumstances.”[3]
The NYSE specifically suggests that relationships that might prevent directors from being independent include, but are not limited to, commercial, industrial, banking, consulting, legal, accounting, charitable and familial relationships. Importantly, both exchanges note that ownership of stock in the listed company (even a significant amount) does not, per se, disqualify a director from being considered independent.
Critically, the determination of a director’s independence for purposes of the stock exchanges is binary — a director is either considered independent or is not — without reference to a specific decision that the director has made or may make. In contrast, the determination of director independence under Delaware law involves a fact-intensive inquiry that is made on a transaction-specific basis. Thus, under Delaware law, a director may be independent with respect to one transaction or decision but lack independence with respect to another, and the “blanket” nature of the exchange rules — for example, the Nasdaq provision that officers and employees are never independent, or the NYSE provision that an independent director cannot have any material relationship with the company — does not (or at least should not) automatically apply under Delaware law.
Recent Illustrative Delaware Decisions
Recently, Delaware courts have relied on a company’s filings regarding a director’s independence under the stock exchange rules when assessing director independence under Delaware law. Examples include the 2013 Court of Chancery decision in In re MFW Shareholders Litigation and the 2016 Delaware Supreme Court decision in Sandys v. Pincus et al. (Zynga).[4] Additionally, in March 2018, in In re Tesla Motors Inc. Stockholder Litigation, the Court of Chancery relied on statements in a company’s filings to establish the existence of a controlling stockholder.[5]
Director Independence
In In re MFW, the court determined whether the business judgment standard of review would apply to a going-private merger that was conditioned upfront by the controlling stockholder on approval by both a properly empowered, independent committee and an informed and uncoerced majority-of-the-minority vote. In assessing whether the directors on the independent committee were in fact independent, then-Chancellor Leo Strine noted that MFW was an NYSE-listed company and therefore had itself assessed whether its directors were independent. Chancellor Strine stated that “[a]lthough the fact that directors qualify as independent under the NYSE rules does not mean that they are necessarily independent under [Delaware] law in particular circumstances,” nevertheless, “the NYSE rules governing director independence were influenced by experience in Delaware and other states and were the subject of intensive study by expert parties.”[6] As such, the NYSE rules “cover many of the key factors that tend to bear on [director] independence, and they are a useful source for this court to consider when assessing an argument that a director lacks independence.”[7] Chancellor Strine ruled that plaintiffs had failed to create a triable issue of fact that the committee members lacked independence, because the undisputed fact was that each of the directors on the committee was independent for purposes of the NYSE.[8]
In Zynga, now-Chief Justice Strine, writing for a majority of the Delaware Supreme Court, reversed the Court of Chancery’s dismissal of a shareholder derivative complaint, relying in significant part on the contents of the company’s public filings. The plaintiff had filed his complaint without making demand upon the board, alleging that demand would have been futile due to a majority of the directors’ lack of independence.[9] In support, the plaintiff pointed to Zynga’s public filings that two directors were not independent under the Nasdaq listing rules.[10] The Chancery Court noted, however, that Zynga did not articulate why those directors lacked independence and that the plaintiff failed to request that information in his books and records demand.[11] In dismissing the complaint, the Court of Chancery held that its finding of director independence was premised partially on “the plaintiff[’s] fail[ure] to specifically allege why [the directors] lack[ed] independence under the NASDAQ rules.”[12]
The Delaware Supreme Court, however, reached the opposite conclusion. Chief Justice Strine found the same disclosure highly persuasive in determining that those directors were not independent. While acknowledging that the “Delaware independence standard is context specific,” Chief Justice Strine emphasized that “the criteria NASDAQ has articulated as bearing on independence” is not only relevant under Delaware law, but is also likely influenced by it.[13]
Critically, the “bottom line under the NASDAQ rules is that a director is not independent if she has a ‘relationship which, in the opinion of the Company’s board of directors, would interfere with the exercise of independent judgment in carrying out the responsibilities of a director.’”[14] As such, in the case of a controlled company, like Zynga, “if a director cannot be presumed capable of acting independently because the director derives material benefits from her relationship with the company … she definitely cannot be presumed capable of acting independently of the company’s controlling stockholder.”[15] Dissenting, Justice Karen Valihura challenged this assumption, focusing on the fact that the Nasdaq disclosure alone did not indicate whether the directors lacked independence because of a relationship with Zynga, the controlling stockholder, or another executive within the company.[16]
Existence of a Controlling Stockholder
Recently, in In re Tesla Motors Inc. Stockholder Litigation, Vice Chancellor Joseph Slights denied a motion to dismiss direct and derivative breach of fiduciary duty claims based on allegations that the company’s CEO and largest stockholder — owning approximately 22 percent — used his influence to, inter alia, orchestrate the acquisition of a very financially troubled company with which he and other directors had material relationships.[17] While not the sole basis for denying the motion to dismiss, Vice Chancellor Slights found the company’s public statements regarding the stockholder highly persuasive in determining that the stockholder, despite owning only 22 percent, was a controller. Specifically, the company’s SEC filings disclosed that:
The CEO had served since 2008, and had contributed to the company significantly and actively since its earliest days, including by attracting investors;
The CEO spends significant time with the company and is highly active in its management; and
The company is “highly dependent” on the CEO’s services, and if the company were to lose his services, it could disrupt operations, delay the development and introduction of products and services, negatively impact the company’s business prospects and operating results, and cause the company’s stock price to decline.
Vice Chancellor Slights also noted that the company’s SEC filings further disclosed that the CEO stockholder and two other directors were not independent under Nasdaq rules. Relying on these public disclosures in conjunction with the other allegations in the complaint, Vice Chancellor Slights deemed it “reasonably conceivable” that the CEO was a controlling stockholder for purposes of the challenged transaction, and thus, that entire fairness review applied.
実践的ガイダンス
In summary, over the last several years, Delaware courts have increasingly relied on company filings to assess director independence and the existence (or absence) of a controlling stockholder.
Companies should seek to draft independence disclosures not only to comply with the exchange rules, but also with an eye to their potential use in litigation. For example:
- If a director lacks independence under the exchange rules, consider stating why if doing so may be helpful — so that a court can know, for example, that a blanket rule is at work, or a specific relationship with the company exists, and there isn’t a different or more pervasive reason that a plaintiff or a court might later presume.
- Conversely, if the board has determined that a director is independent despite having a current or prior relationship with the company (other than as a director), consider identifying the specific relationships that the board considered and determined would not interfere with the relevant director(s)’ exercise of independent judgment as a company director, such as a role with an important commercial partner of the company.
- By the same token, consider including a statement in the company’s proxy statement that the determination of director independence is being made under and solely for purposes of the applicable exchange rules, and should not be construed to bear on director independence with respect to any specific matter that the director may subsequently consider, which will be evaluated on a case-by-case basis under the applicable corporate law.
- When forming an independent committee, consider whether it can be comprised solely of directors who are deemed independent under the exchange rules, in order to reduce the risk of after-the-fact second-guessing, and if so, document this in the board minutes. Note that, consistent with standard practice, counsel should nonetheless separately assess and document that each director is in fact independent with respect to the matter being considered by the committee under the applicable corporate law.
- If any committee members are not independent under the stock exchange rules, the minutes should state why, and also why that director is nonetheless deemed independent for purposes of the matter being considered by the committee.
- Evaluate early and often whether any significant company stockholders could be deemed controllers. If so, consider whether any procedural protections are advisable to support the independence of a majority of the board, and evaluate any statements in the company’s public filings concerning that stockholder in that light. In so doing, counsel should go beyond mere percentage ownership, and conduct a holistic evaluation of the role the stockholder plays in the company, including through representation on the board, and how that role may be perceived by a plaintiff and, more importantly, by a court.
[1] See Rules 5005(a)(20) and 5605(a)(2), NASDAQ Listing Rules.
[2] See Section 303A.02(a)(i), NYSE Listed Company Manual.
[3] See Commentary to Section 303A.02(a), NYSE Listed Company Manual.
[4] See In re MFW Shareholders Litigation, 67 A.3d 496 (Del. Ch. 2013); see also Sandys v. Pincus et al., 152 A.3d 124 (Del. 2016).
[5] In re Tesla Motors Inc. Stockholder Litigation, Case No. 12711-VCS, 2018 WL 1560293 (Del. Ch. Mar. 28, 2018).
[6] In re MFW Shareholders Litigation, 67 A.3d at 510.
[7] Id.
[8] Id. at 536.
[9] Sandys, 152 A.3d at 130-131.
[10] Id. at 131.
[11] Id.
[12] Id.
[13] Id.
[14] Id. at 133.
[15] Id.
[16] Id.
[17] In re Tesla Motors Inc., 2018 WL 1560293 at *11.