Decisions without Published Opinions, Affirmed.
a dividend, a standstill agreement, and a street sweep — met the
Unocal test for a reasonable and proportional response to a perceived threat to the corporation).
Like any strong medicine, however, a pill can be misused. The Delaware Supreme Court understood from the outset that a rights plan can be deployed inappropriately to benefit incumbent managers and directors at the stockholders' expense. Therefore when deploying a rights plan, "directors must at minimum convince the court that they have not acted for an inequitable purpose." And more than mere subjective good faith is required. Human judgment can be clouded by subtle influences like the prestige and perquisites of board membership, personal relationships with management, or animosity towards a bidder. Because of the omnipresent specter that directors could use a rights plan improperly, even when acting subjectively in good faith, Unocal and its progeny require that this Court also review the use of a rights plan objectively. Like other defensive measures, a rights plan cannot be used preclusively or coercively; nor can its use fall outside the "range of reasonableness."
See, e.g., Unocal, 493 A.2d at 954 ("Because of the omnipresent specter that a board may be acting primarily in its own interests, rather than those of the corporation and its shareholders, there is an enhanced duty which calls for judicial examination at the threshold before the protections of the business judgment rule may be conferred."). See also Selectica, Inc., 2010 WL 703062, at *12 (applying enhanced scrutiny due to the omnipresent specter discussed in Unocal); Kahn on Behalf of DeKalb Genetics Corp. v. Roberts, 679 A.2d 460, 464 (Del. 1996) (acknowledging the omnipresent specter discussed in Unocal); Unitrin, Inc. v. Am. Gen. Corp., 651 A.2d 1361, 1373 (Del. 1995) (noting that the Delaware Supreme Court "has recognized that directors are often confronted with an inherent conflict of interest during contests for corporate control because of the omnipresent specter that a board may be acting primarily in its own interests, rather than those of the corporation and its shareholders.") (quotation omitted).
Mercier v. Inter-Tel (Delaware), Inc., 929 A.2d 786, 807 (Del. Ch. 2007) (citing Unocal, 493 A.2d at 955).
See, e.g., Venhill Ltd. P'ship ex rel. Stallkamp, 2008 WL 2270488, at *1 (Del. Ch. June 3, 2008) ("[I]t is not only greed that can inspire disloyal behavior by a business fiduciary."); In re RJR Nabisco, Inc. S'holders Litig., 1989 WL 7036, at *15 (Del. Ch. Jan. 31, 1989) ("Greed is not the only human emotion that can pull one from the path of propriety; so might hatred, lust, envy, revenge, or, as is here alleged, shame or pride. Indeed any human emotion may cause a director to place his own interests, preferences or appetites before the welfare of the corporation. . . ."); Interco Inc., 551 A.2d at 796 ("[H]uman nature may incline even one acting in subjective good faith to rationalize as right that which is merely personally beneficial.").
See Unitrin, Inc., 651 A.2d at 1387-88 ("If a defensive measure is not draconian, however, because it is not either coercive or preclusive, the Unocal proportionality test requires the focus of enhanced judicial scrutiny to shift to `the range of reasonableness'") (citing Paramount Commc'ns, Inc. v. QVC Network, Inc., 637 A.2d 34, 45-46 (Del. 1994)); see also Chesapeake Corp. v. Shore, 771 A.2d 293, 323, 329 (Del. Ch. 2000) (explaining that although the Court will "afford a reasonable degree of deference to a properly functioning board that identifies a threat and adopts proportionate defenses after a careful and good faith inquiry," "subjectively well-intentioned board action that has preclusive or coercive effects" is nonetheless subject to intermediate scrutiny by the Court); see generally Mercier, 929 A.2d 786.
This case involves a unique set of facts heretofore not seen in the context of a challenge to a rights plan. To my knowledge, no decision under Delaware law has addressed a challenge to a rights plan adopted by a privately held company with so few stockholders. The ample case law addressing rights plans almost invariably involves publicly traded corporations with a widely dispersed, potentially disempowered, and arguably vulnerable stockholder base. In cases involving rights plans to date, Delaware courts have typically and understandably approved the use of rights plans to remedy the collective action problems that stockholders face, including but not limited to the classically coercive prisoner's dilemma imposed by a two-tiered offer. At the same time, Delaware courts have guarded against the overt risk of entrenchment and the less visible, yet more pernicious risk that incumbents acting in subjective good faith might nevertheless deprive stockholders of value-maximizing opportunities.
Experts in this field have noted the rarity of a private company adopting a rights plan. See, e.g., LOU R. KLING EILEEN T. NUGENT, NEGOTIATED ACQUISITIONS OF COMPANIES, SUBSIDIARIES AND DIVISIONS, § 16.06 n. 1 (2010) ("In theory, there is no reason why a private company, if its shares were sufficiently widely held, could not adopt such a plan. In our experience, this rarely occurs, either because the ownership of such companies is not sufficiently dispersed to make them vulnerable to hostile takeovers or, conversely, because the shareholders do not wish to cede to their boards the ability to control such a powerful defensive weapon if an unsolicited takeover were attempted.").
In this unique case, I do not face those same concerns. Jim and Craig are not dispersed, disempowered, or vulnerable stockholders. They are the majority. Jim and Craig are not using the Rights Plan improperly to preclude craigslist stockholders from considering and opting for a value-maximizing transaction. As the majority, Jim and Craig can consider and opt-for a value-maximizing transaction whenever they want.
Nor are Jim and Craig using the Rights Plan to protect their board seats. Together Jim and Craig own an overwhelming majority of craigslist's voting power, and they have entered into the Jim-Craig Voting Agreement which ensures that each votes the other onto the board. If eBay were to sell its entire interest in craigslist to some third party, that third party would not be able to unseat either Jim or Craig because, like eBay, it would only own a minority interest. Neither eBay nor any third party who might purchase eBay's craigslist shares could threaten Jim or Craig with a proxy fight. Under their voting agreement, Jim cannot grant a proxy to unseat Craig, and Craig cannot grant a proxy to unseat Jim. Furthermore, as rationally self-interested actors, Jim and Craig will not give someone a proxy to unseat themselves.
These unique factors do not, however, eliminate Unocal's usefulness. Unocal has correctly been described as "the most innovative and promising" case in our corporation law and one whose insights "will [] continue to resonate with judges." The intermediate standard of review is not limited to the historic and now classic paradigm. Fiduciary duties apply regardless of whether a corporation is "registered and publicly traded, dark and delisted, or closely held." It is entirely possible that the board of a closely held company such as craigslist could deploy a rights plan improperly. The Unocal standard of review is best equipped to address this concern.
Interco Inc., 551 A.2d at 796.
William T. Allen, Jack B. Jacobs Leo E. Strine, Jr., The Great Takeover Debate: A Meditation on Bridging the Conceptual Divide, 69 U. CHI. L. REV. 1067, 1093 (2002) (discussing "[t]he original insight in Unocal that justifies [a] more intensive form of review," and describing that insight as the consideration "that when directors and managers face displacement by an offer they did not solicit, a variety of human emotions can potentially compromise their ability to respond to that offer impartially.").
Kurz v. Holbrook, 989 A.2d 140, 183 (Del. Ch. 2010), rev'd on other grounds, 992 A.2d 337 (Del. 2010).
Thus, the two main issues I confront are: First, did Jim and Craig properly and reasonably perceive a threat to craigslist's corporate policy and effectiveness? Second, if they did, is the Rights Plan a proportional response to that threat?
As discussed above, there are several recognized and accepted corporate purposes for adopting a rights plan. Nevertheless, there is no formal exhaustive list of valid reasons for doing so. As Vice Chancellor Noble demonstrated earlier this year, the Court of Chancery is mindful of changing conditions in the corporate world that may warrant the Court's recognition of a new, valid corporate purpose for adopting a rights plan. In that spirit, I have carefully considered Jim and Craig's contentions in this case and the evidence they presented in support of those contentions. I conclude, based on all of the evidence, that Jim and Craig in fact did not adopt the Rights Plan in response to a reasonably perceived threat or for a proper corporate purpose.
See Selectica, Inc. v. Versata Enters., Inc., 2010 WL 703062 (Del. Ch. Feb. 26, 2010) (declaring valid a board's decision to adopt and deploy a poison pill with a low trigger of 4.99% in an effort to preserve the company's right to use its tax-advantageous net operating losses).
Jim and Craig contend that they identified a threat to craigslist and its corporate policies that will materialize after they both die and their craigslist shares are distributed to their heirs. At that point, they say, "eBay's acquisition of control [via the anticipated acquisition of Jim or Craig's shares from some combination of their heirs] would fundamentally alter craigslist's values, culture and business model, including departing from [craigslist's] public-service mission in favor of increased monetization of craigslist." To prevent this unwanted potential future reality, Jim and Craig have adopted the Rights Plan now so that their vision of craigslist's culture can bind future fiduciaries and stockholders from beyond the grave. Having given new meaning to the concept of a "dead-hand pill," Jim and Craig ask this Court to validate their attempt to use a pill to shape the future of the space-time continuum.
Defs.' Post-Trial Answering Br. 54.
It is true that on the unique facts of a particular case — Paramount Communications, Inc. v. Time Inc. — this Court and the Delaware Supreme Court accepted defensive action by the directors of a Delaware corporation as a good faith effort to protect a specific corporate culture. It was a muted embrace. Chancellor Allen wrote only that that he was "not persuaded that there may not be instances in which the law might recognize as valid a perceived threat to a `corporate culture' that is shown to be palpable (for lack of a better word), distinctive and advantageous." This conditional, limited, and double-negative-laden comment was offered in a case that involved the journalistic independence of an iconic American institution. Even in that fact-specific context, the acceptance of the amorphous purpose of "cultural protection" as a justification for defensive action did not escape criticism.
571 A.2d 1140 (Del. 1990).
The defendants also cite Kors v. Carey, 158 A.2d 136 (Del. Ch. 1960), a decision issued long before Mr. Lipton's invention of the pill and the Delaware Supreme Court's revolutionary creation of the intermediate standard of enhanced scrutiny. I cannot regard Kors as persuasive authority in light of the quite different approach to the review of defensive board action that prevailed during that era (the 1950's) and the watershed era of Unocal, Revlon, and Moran (the 1980's).
Paramount Commc'ns, Inc. v. Time Inc., 1989 WL 79880, at *4 (Del. Ch. July 14, 1989), aff'd, 571 A.2d 1140 (Del. 1990).
See Joel E. Friedlander, Corporation and Kulturkampf: Time Culture as Illegal Fiction, 29 CONN. L. REV. 31, 38-40, 115 (1996); Joel E. Friedlander, Overturn Time-Warner Three Different Ways, 33 DEL. J. CORP. L. 631 (2008); Alan E. Garfield, Paramount: The Mixed Merits of Mush, 17 DEL. J. CORP. L. 33 (1992).
More importantly, Time did not hold that corporate culture, standing alone, is worthy of protection as an end in itself. Promoting, protecting, or pursuing non-stockholder considerations must lead at some point to value for stockholders. When director decisions are reviewed under the business judgment rule, this Court will not question rational judgments about how promoting non-stockholder interests — be it through making a charitable contribution, paying employees higher salaries and benefits, or more general norms like promoting a particular corporate culture — ultimately promote stockholder value. Under the Unocal standard, however, the directors must act within the range of reasonableness.
E.g., Revlon Inc. v. MacAndrews Forbes Holdings, Inc., 506 A.2d 173, 183 (Del. 1986) ("Although such considerations [of non-stockholder corporate constituencies and interests] may be permissible, there are fundamental limitations upon that prerogative. A board may have regard for various constituencies in discharging its responsibilities, provided there are rationally related benefits accruing to the stockholders."). See also ROBERT C. CLARK, CORPORATE LAW § 16.2 (1986) (discussing views about the corporation's proper role); Jonathan Macey, A Close Read of an Excellent Commentary on Dodge v. Ford, 3 VA. L. BUS. REV. 177, 179 (2008) (suggesting that boards can take action that may not seem to directly maximize profits, so long as there is some plausible connection to a rational business purpose that ultimately benefits stockholders in some way; the benefit to other constituencies cannot be at the stockholders' expense).
Ultimately, defendants failed to prove that craigslist possesses a palpable, distinctive, and advantageous culture that sufficiently promotes stockholder value to support the indefinite implementation of a poison pill. Jim and Craig did not make any serious attempt to prove that the craigslist culture, which rejects any attempt to further monetize its services, translates into increased profitability for stockholders. I am sure that part of the reason craigslist is so popular is because it offers a free service that is also extremely useful. It may be that offering free classifieds is an essential component of a successful online classifieds venture. After all, by offering free classifieds, craigslist is able to attract such a large community of users that real estate brokers in New York City gladly pay fees to list apartment rentals in order to access the vast community of craigslist users. Likewise, employers in select cities happily pay fees to advertise job openings to craigslist users. Neither of these fee-generating activities would have been possible if craigslist did not provide brokers and employers access to a sufficiently large market of consumers, and brokers and employers may not have reached that market without craigslist's free classifieds.
Giving away services to attract business is a sales tactic, however, not a corporate culture. Jim, Craig, and the defense witnesses advisedly described craigslist's business using the language of "culture" because that was what carried the day in Time. To the extent business measures like loss-leading products, money-back coupons, or putting products on sale are cultural artifacts, they reflect the American capitalist culture, not something unique to craigslist. Having heard the evidence and judged witness credibility at trial, I find that there is nothing about craigslist's corporate culture that Time or Unocal protects. The existence of a distinctive craigslist "culture" was not proven at trial. It is a fiction, invoked almost talismanically for purposes of this trial in order to find deference under Time's dicta.
The defendants also failed to prove at trial that when adopting the Rights Plan, they concluded in good faith that there was a sufficient connection between the craigslist "culture" (however amorphous and intangible it might be) and the promotion of stockholder value. No evidence at trial suggested that Jim or Craig conducted any informed evaluation of alternative business strategies or tactics when adopting the Rights Plan. Jim and Craig simply disliked the possibility that the Grim Reaper someday will catch up with them and that a company like eBay might, in the future, purchase a controlling interest in craigslist. They considered this possible future state unpalatable, not because of how it affects the value of the entity for its stockholders, but rather because of their own personal preferences. Jim and Craig therefore failed to prove at trial that they acted in the good faith pursuit of a proper corporate purpose when they deployed the Rights Plan. Based on all of the evidence, I find instead that Jim and Craig resented eBay's decision to compete with craigslist and adopted the Rights Plan as a punitive response. They then cloaked this decision in the language of culture and post mortem corporate benefit. Although Jim and Craig (and the psychological culture they embrace) were the only known beneficiaries of the Rights Plan, such a motive is no substitute for their fiduciary duty to craigslist stockholders.
Jim and Craig did prove that they personally believe craigslist should not be about the business of stockholder wealth maximization, now or in the future. As an abstract matter, there is nothing inappropriate about an organization seeking to aid local, national, and global communities by providing a website for online classifieds that is largely devoid of monetized elements. Indeed, I personally appreciate and admire Jim's and Craig's desire to be of service to communities. The corporate form in which craigslist operates, however, is not an appropriate vehicle for purely philanthropic ends, at least not when there are other stockholders interested in realizing a return on their investment. Jim and Craig opted to form craigslist, Inc. as a for-profit Delaware corporation and voluntarily accepted millions of dollars from eBay as part of a transaction whereby eBay became a stockholder. Having chosen a for-profit corporate form, the craigslist directors are bound by the fiduciary duties and standards that accompany that form. Those standards include acting to promote the value of the corporation for the benefit of its stockholders. The "Inc." after the company name has to mean at least that. Thus, I cannot accept as valid for the purposes of implementing the Rights Plan a corporate policy that specifically, clearly, and admittedly seeks not to maximize the economic value of a for-profit Delaware corporation for the benefit of its stockholders — no matter whether those stockholders are individuals of modest means or a corporate titan of online commerce. If Jim and Craig were the only stockholders affected by their decisions, then there would be no one to object. eBay, however, holds a significant stake in craigslist, and Jim and Craig's actions affect others besides themselves.
The evidence does not suggest that Jim or Craig falls into the category of stockholders of modest means, at least according to the average person's definition of "modest."
Jim and Craig's defense of the Rights Plan thus fails the first prong of Unocal both factually and legally. I find that defendants failed to prove, as a factual matter, the existence of a distinctly protectable craigslist culture and further failed to prove, both factually and legally, that they actually decided to deploy the Rights Plan because of a craigslist culture. I find, instead, that Jim and Craig acted to punish eBay for competing with craigslist. Directors of a for-profit Delaware corporation cannot deploy a rights plan to defend a business strategy that openly eschews stockholder wealth maximization — at least not consistently with the directors' fiduciary duties under Delaware law.
Up to this point, I have evaluated the Rights Plan primarily though the lens of the first prong of Unocal. To the extent I assume for purposes of analysis that a craigslist culture was something that Jim and Craig reasonably could seek to protect, the Rights Plan nonetheless does not fall within the range of reasonable responses. In evaluating the range of reasonableness, it is important to note that Jim and Craig actually do not seek to protect the craigslist "culture" today. They are perfectly able to ensure the continuation of craiglist's "culture" so long as they remain majority stockholders. What they instead want is to preserve craiglist's "culture" over some indefinite period that starts at the (happily) unknowable moment when their natural lives come to a close. The attenuated nature of that goal further undercuts the degree to which "culture" can provide a basis for heavy-handed defensive action.
In their fight against the imperatives of time, Jim and Craig deployed a rights plan that singles out eBay and effectively precludes eBay from selling the entirety of its shares as one complete block. Because the Rights Plan is not fully preclusive — in that eBay can sell its shares in chunks no larger than 14.99% — the plan is more appropriately evaluated against the range of reasonableness.
The avowed purpose of the Rights Plan is to protect the craigslist "culture" at some point in the future unrelated to when eBay sells some or all of its shares. As long as Jim and Craig have control, however, they can maintain the craigslist "culture" regardless of whether eBay sells some or all of its shares. The Rights Plan neither affects when eBay can sell its shares nor affects when the craigslist culture can change. It therefore does not have a reasonable connection to Jim and Craig's professed goal. Assuming Jim and Craig sought to establish a corporate Academie Francaise to protect the cultural integrity of craigslist's business model, the Rights Plan simply does not serve that goal. It therefore falls outside the range of reasonableness. On the factual record presented at trial, therefore, the defendants also failed to meet their burden of proof under the second prong of Unocal.
See Mentor Graphics Corp. v. Quickturn Design Sys., Inc., 728 A.2d 25, 50-51 (Del. Ch. 1998) (enjoining a poison pill because, although it was neither coercive nor preclusive, it fell outside the range of reasonableness and therefore failed the proportionality test), aff'd on different grounds, 721 A.2d 1281 (Del. 1998).
Because defendants failed to prove that they acted to protect or defend a legitimate corporate interest and because they failed to prove that the rights plan was a reasonable response to a perceived threat to corporate policy or effectiveness, I rescind the Rights Plan in its entirety.
B. The Staggered Board Amendments
Before determining whether I should subject the Staggered Board Amendments to business judgment review or entire fairness review, I will first explain more fully why I conclude that the Staggered Board Amendments are not subject to Unocal review. Unlike the Rights Plan, the Staggered Board Amendments do not function as a defensive device under the unique facts of this case. Even if craigslist did not have a staggered board, Jim and Craig would control a majority of the board. The Jim-Craig Voting Agreement ensures that Jim's designee and Craig's designee will always fill two of the three director positions. At best, eBay places one director on the board; at worst, eBay places no directors on the board. So long as the Jim-Craig Voting Agreement remains in effect and there are only three authorized director positions, eBay will never have an opportunity to control the board. The number of authorized director positions will not change unless Jim and Craig, as the majority of the board, vote to change the number of director positions. Thus, the Staggered Board Amendments make it impossible for eBay to unilaterally place one of three directors on the board, but did not affect Jim and Craig's ability to control the board by filling two of the three director positions currently authorized by the craigslist bylaws. It would be inappropriate to apply Unocal to the Staggered Board Amendments because they do not implicate the concerns that drive Unocal; there is no "omnipresent specter" that the Staggered Board Amendments are being used for entrenchment purposes. I will now analyze whether the Staggered Board Amendments should be subject to the business judgment or the entire fairness standard of review.
See Restated Charter, Article VIII ("The number of directors of the corporation shall be fixed, and may be increased or decreased from time to time, exclusively by resolution approved by the affirmative vote of a majority of the whole Board of Directors[.]").
See Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946, 954 (Del. 1985).
Under the business judgment rule, when a party challenges the decisions of a board of directors, the Court begins with the "presumption that in making a business decision the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company." The business judgment standard of review is deferential. When applying this standard, the Court "will not substitute its judgment for that of the board if the [board's] decision can be `attributed to any rational business purpose.'" Thus, the business judgment rule protects against the risk that a court might "impos[e] itself unreasonably on the business and affairs of a corporation."
Unitrin, Inc. v. Am. Gen. Corp., 651 A.2d 1361, 1373 (Del. 1995) (quoting Aronson v. Lewis, 473 A.2d 805, 811 (Del. 1984)).
Id. (quoting Unocal, 493 A.2d at 954).
Cede Co. v. Technicolor, Inc., 634 A.2d 345, 360 (Del. 1993).
To avoid application of the deferential business judgment standard, the plaintiff must produce evidence that rebuts the business judgment presumption. There are a number of ways the plaintiff can rebut the business judgment presumption, including by showing that the majority of directors who approved the action (1) had a personal interest in the subject matter of the action, (2) were not fully informed in approving the action, or (3) did not act in good faith in approving the action. If the plaintiff rebuts the business judgment presumption, the Court applies the entire fairness standard of review to the challenged action and places the burden on the directors to prove that the action was entirely fair.
Cinerama, Inc. v. Technicolor, Inc., 663 A.2d 1156, 1162 (Del. 1995).
Aronson, 473 A.2d at 812.
Citron v. Fairchild Camera Instrument Corp., 569 A.2d 53, 64 (Del. 1989).
Id.
Cede Co. v. Technicolor, Inc., 634 A.2d at 361. These three alternatives are not an exhaustive list of ways a plaintiff may invoke entire fairness review.
eBay contends that the Staggered Board Amendments must pass muster under the entire fairness standard on two grounds: (1) Jim and Craig, as controlling stockholders and directors, were personally interested in the Staggered Board Amendments because implementing a staggered board redounded to their benefit but harmed eBay as the minority stockholder, and (2) Jim and Craig approved the Staggered Board Amendments in bad faith, with the intent to harm eBay. I will consider each argument in turn.
First, eBay contends that Jim and Craig are personally interested in the Staggered Board Amendments — even though they do not literally stand on both sides of that Action — because the Staggered Board Amendments treat eBay, the minority stockholder, differently than Jim and Craig, the majority stockholders and directors, by eliminating eBay's ability to unilaterally elect a director to the craigslist board but having no effect on Jim and Craig's abilities to elect craigslist directors. After they implemented the Staggered Board Amendments, Jim and Craig still were able to elect their director nominees to the craigslist board. In the years that the Class I and II director positions are up for election, the Jim-Craig Voting Agreement requires Jim and Craig to vote their shares together, thereby ensuring that their nominees will be elected. eBay, however, lost its ability to unilaterally elect an eBay nominee to the craigslist board. The Staggered Board Amendments leave eBay with only the mere possibility of having an eBay nominee elected in the year the Class III director position is voted upon. In that year, eBay has no guarantee that its nominee will be elected because eBay's minority ownership interest is insufficient to unilaterally elect a director if only one director position is up for election, even under a cumulative voting regime. Thus, eBay contends, the Staggered Board Amendments affect Jim and Craig differently than they affect eBay, and this disparate treatment between fiduciaries, on the one hand, and a minority stockholder, on the other hand, requires application of the entire fairness standard of review. eBay relies on In re John Q. Hammons Hotels, Inc. Shareholder Litigation, Hamilton v. Nozko, and Litle v. Waters to argue that whenever a board action affects directors or controlling stockholders differently than minority stockholders, entire fairness review applies.
2009 WL 3165613 (Del. Ch. Oct. 2, 2009).
1994 WL 413299 (Del. Ch. July 27, 1994).
1992 WL 25758 (Del. Ch. Feb. 11, 1992).
See, e.g., Pl.'s Post-Trial Op. Br. 53.
I am not persuaded that entire fairness review applies to the Staggered Board Amendments on the ground that eBay was affected differently than Jim and Craig by the implementation of a staggered board. The cases eBay relies on do not support a rule of law that would invoke entire fairness review any time a corporate action affects directors or controlling stockholders differently than minority stockholders. Entire fairness review ordinarily applies in cases where a fiduciary either literally stands on both sides of the challenged transaction or where the fiduciary "expects to derive personal financial benefit from the [challenged] transaction in the sense of self-dealing, as opposed to a benefit which devolves upon the corporation or all stockholders generally." The three cases eBay relies on — In re Hammons, Hamilton, and Litle — involved situations where a fiduciary allegedly derived a personal financial benefit from the challenged transaction at the expense of the minority stockholders. Such transactions involve classic self-dealing by a fiduciary and are subject to entire fairness review. The transactions challenged in those three cases are quite dissimilar from the Staggered Board Amendments. First, Jim and Craig did not realize a financial benefit by approving the Staggered Board Amendments so there was no self-dealing on the basis of financial considerations. Second, and more importantly, Delaware law does not require that minority stockholders such as eBay have board representation. Delaware corporations do not have to adopt cumulative voting for the benefit of minority stockholders, and Delaware corporations have the express power to implement staggered boards. If a corporation implements a staggered board, and this renders the corporation's cumulative voting system ineffective, minority stockholders have not been deprived of anything they are entitled to under the common law or the DGCL, because minority stockholders are not entitled to a cumulative voting system in the first instance. It is true that by approving the Staggered Board Amendments, Jim and Craig implemented a corporate governance structure that had a disparate and, from eBay's point of view, unfavorable impact on eBay. This is not the sort of disparate treatment, however, that can be classified as self-dealing because the law expressly allows majority stockholders to elect the entire board. Thus, the Staggered Board Amendments cannot be subjected to entire fairness review on the grounds that eliminating eBay's ability to elect a director was a form of self-dealing.
Disparate treatment of stockholders is not a per se violation of Delaware law. See Nixon v. Blackwell, 626 A.2d 1366 (Del. 1993) (concluding that defendants had established entire fairness of a policy that treated employee stockholders and non-employee stockholders differently).
Litle, 1992 WL 25758, at *4 (citing Aronson v. Lewis, 473 A.2d 805, 812 (Del. 1984)).
See In re John Q. Hammons Hotels, Inc., 2009 WL 3165613, at *18; Hamilton, 1994 WL 413299, at *7; Litle, 1992 WL 25758, at *4.
In In re John Q. Hammons Hotels, Inc., the Court held that certain procedural protections could have been implemented ab initio that would have neutralized the threat of self-dealing by the fiduciary and rendered the transaction subject to business judgment review. 2009 WL 3165613, at *12.
See 8 Del. C. § 214.
8 Del. C. § 141(d).
Of course, even where fiduciaries are legally permitted to take a particular action, the action will not be countenanced if it works an inequity. But the Staggered Board Amendments do not work an inequity. eBay's ability to unilaterally elect a director to the craigslist board was solely based on a cumulative voting system combined with a non-staggered board. Before eBay engaged in Competitive Activity, eBay was able to ensure this voting system and board structure remained in place because it had the contractual right under § 4.6(a)(iii) of the Shareholders' Agreement to consent to any charter amendment that would "adversely affect[] [eBay]." This consent right, however, was not indefeasible. Section 8.3 of the Shareholders' Agreement provides that "all of the rights and obligations of [eBay] set forth in Section[] . . . 4.6 . . . shall terminate" if eBay engages in Competitive Activity. Thus, eBay lost its consent rights over charter amendments by engaging in Competitive Activity. Throughout this dispute, eBay has protested that the 2008 Board Actions, including the Staggered Board Amendments, secured for Jim and Craig benefits that they were not able to obtain when negotiating the Shareholders' Agreement. The right to amend the craigslist charter, however, without eBay's consent if eBay chose to compete with craigslist was a benefit Jim and Craig negotiated for and secured in the Shareholders' Agreement. Section 8.3 plainly articulates that benefit. Thus, the Staggered Board Amendments cannot be inequitable because they were exactly the sort of consequence eBay accepted would occur if eBay decided to compete with craigslist.
Schnell v. Chris-Craft Indus., Inc., 285 A.2d 437, 439 (Del. 1971).
See, e.g., Pl.'s Post-Trial Opening Br. 1 ("The purpose of [the 2008 Board Actions] was (and is) to secure for [Jim and Craig] benefits they did not secure in 2004, when eBay negotiated the terms of its investment in craigslist.").
eBay argues that it negotiated for and secured the right to unilaterally elect a director to the craigslist board, even if eBay engaged in Competitive Activity, through § 6.18 of the SPA. The SPA required eBay to support craigslist's change in corporate domicile from California to Delaware in 2004 provided "that such [such] reincorporation shall not result in a material change in [eBay's] rights as a shareholder of [craigslist]." eBay contends that § 6.18 was intended to forever secure for eBay the rights of a stockholder in a non-listed California corporation. Because California law requires non-listed corporations to adopt cumulative voting and precludes staggered boards, eBay contends that the Staggered Board Amendments materially changed eBay's stockholder rights in violation of § 6.18. I am not persuaded by this argument. Section 6.18 confirmed the parties' intent to reincorporate craigslist in Delaware and contains a covenant, subject to a proviso, for eBay to consent to the reincorporation. The proviso would have allowed eBay to withhold its consent to reincorporation if the reincorporation were to materially change eBay's rights as a craigslist stockholder. eBay agreed with the terms of reincorporation in a signed written consent. DX-758 (written stockholders' consent approving merger of 1010 Cole Street into craigslist, signed on eBay's behalf by Brian Levey (Oct. 18, 2004)). Once craigslist reincorporated in Delaware, the proviso and covenant in § 6.18 were both satisfied and had no further application. From that point forward, eBay's stockholder rights were governed by Delaware law, not California law. Nothing in § 6.18 suggests that the parties intended for eBay to forever have the rights of a minority stockholder of a California corporation. Rights in contravention of the default rules of the DGCL must be clearly, unambiguously, and affirmatively expressed. See, e.g., Centaur Partners, IV v. Nat'l Intergroup, Inc., 582 A.2d 923, 926-27 (Del. 1990) ("In order to abrogate the [default DGCL rule] of plurality control, charter and by-law provisions purporting to have that effect must be clear and unambiguous"). Section 6.18 does not clearly express that eBay was forever entitled to cumulative voting and a non-staggered board.
By challenging the Staggered Board Amendments in this litigation, eBay, not Jim and Craig, seeks to obtain a benefit it was not able to obtain under the Shareholders' Agreement. In trying to undo the staggered board, and thereby protect its mathematical ability to fill a board seat, eBay is doing exactly what it accuses Jim and Craig of doing. eBay negotiated for and secured a fettered right to engage in Competitive Activity; the "fetter" being that eBay would lose its minority investor consent rights, including its right to block charter amendments, if eBay decided to compete with craigslist in online job postings in the United States. eBay engaged in Competitive Activity by launching Kijiji in the United States. eBay then chose not to cease its Competitive Activity (by either shutting down Kijiji or removing Kijiji's job listings) within the ninety-day cure period provided by § 8.3(e) after craigslist sent the Notice of Competitive Activity. The negotiated consequence of these decisions, as expressly provided for in the Shareholders' Agreement, is that eBay lost the ability to block charter amendments such as the Staggered Board Amendments. eBay now asks this Court to undo the Staggered Board Amendments even though they were expressly permitted by the Shareholders' Agreement. This strikes me as eBay's attempt to obtain a permanent board seat through litigation, when it could not obtain a permanent board seat through arms-length negotiations with Jim and Craig. I decline to facilitate eBay's attempt.
eBay also argues that entire fairness review should apply to the Staggered Board Amendments because Jim and Craig implemented the Staggered Board Amendments in bad faith, intending to harm eBay. Under Delaware law, when a plaintiff demonstrates the directors made a challenged decision in bad faith, the plaintiff rebuts the business judgment rule presumption, and the burden shifts to the directors to prove that the decision was entirely fair to the corporation and its stockholders. I find that eBay has failed to prove that Jim and Craig approved the Staggered Board Amendments in bad faith. Rather, as I will describe more fully below, the evidence at trial proves that Jim and Craig approved the Staggered Board Amendments in good faith to prevent eBay, a business competitor, from having access to confidential craigslist board discussions.
In re The Walt Disney Co. Derivative Litig., 906 A.2d 27, 52 (Del. 2006).
Because eBay failed to rebut the business judgment presumption in its challenge to the Staggered Board Amendments, I review the Staggered Board Amendments under the business judgment standard of review. When the business judgment rule applies, the board's business decisions "will not be disturbed if they can be attributed to any rational business purpose. A court under such circumstances will not substitute its own notions of what is or is not sound business judgment" for the board's notions. Accordingly, I will analyze the Staggered Board Amendments to see if they further any rational business purpose.
Sinclair Oil Corp. v. Levien, 280 A.2d 717, 720 (Del. 1971).
Throughout this dispute, Jim and Craig have argued that they designed the Staggered Board Amendments to keep eBay, a business competitor, from unilaterally being able to place a director on craigslist's board. Jim and Craig assert that competitively sensitive information is discussed in board meetings, and, even though craigslist does not typically concern itself with beating the competition, this competitively sensitive information could nevertheless be used by eBay to harm craigslist. Jim expressed this sentiment in his "Our Thoughts" email to Whitman shortly after eBay launched Kijiji. Moreover, eBay's own counsel represented to the NYAG that one reason the Shareholders' Agreement terminated eBay's consent rights if eBay engaged in Competitive Activity — including eBay's right to consent to an action like the Staggered Board Amendments — was to protect craigslist's "competitively sensitive information and its business in the event eBay becomes a competitor." Preventing a competitor that is also a minority stockholder from unilaterally placing a director on the board so that confidential corporate information will not be freely shared with that competitor is a legitimate and rational business purpose. It was rational for Jim and Craig to want to ensure that they could trust any director nominated by eBay not to use his or her board seat to access confidential information and then surreptitiously pass it on to eBay. Implementing a staggered board was one way to accomplish this. It does not matter that there were (and are) other alternatives available to Jim and Craig because the Staggered Board Amendments were sufficiently rational to satisfy business judgment review. Accordingly, I conclude that Jim and Craig did not breach their fiduciary duties by approving the Staggered Board Amendments, and I decline eBay's request that I rescind the Staggered Board Amendments.
DX-371 (letter from eBay's outside counsel to the NYAG (Apr. 27, 2005)).
Evidence presented in this case suggests that eBay liberally passed nonpublic craigslist information around within eBay's departments. Some of this nonpublic information was information eBay obtained at craigslist board meetings (e.g., craigslist's 2007 budget). It even appears that eBay used some of craigslist's nonpublic information to develop and launch Kijiji. Moreover, by the time Jim and Craig implemented the Staggered Board Amendments they were aware that Google AdWords were misdirecting internet users searching for "craigslist" to Kijiji. Jim and Craig had reason to suspect eBay was behind the misdirection, particularly because no one at eBay responded to Jim's accusation that eBay was misusing the AdWords. It was reasonable for Jim and Craig to further suspect that if eBay was willing to misuse AdWords to advantage Kijiji at craigslist's expense, eBay would also be willing to use, for its own advantage, nonpublic craigslist information obtained in craigslist board meetings. I discuss the evidence of eBay's alleged misuse of craigslist's nonpublic information simply to better illustrate why it would be rational for a corporate board to wish to limit competitor access to nonpublic information. Jim and Craig's suspicion that eBay was misusing information is not a basis for my opinion regarding the propriety of the staggered board; Jim and Craig would have acted rationally even if they did not already suspect eBay of malfeasance when they staggered the board. Whether there has been actual malfeasance or not, a rational business purpose is served by limiting a competitor's access to nonpublic information.
Cede Co. v. Technicolor, Inc., 634 A.2d 345, 361 (Del. 1993) ("[T]he business judgment rule . . . protect[s] corporate officers and directors and the decisions they make, and our courts will not second-guess these business judgments.").
C. The ROFR/Dilutive Issuance
The business judgment rule's protections only apply to transactions in which a majority of directors are disinterested and independent. A director is "interested" if he or she stands on both sides of a transaction or expects to derive a material personal financial benefit from the transaction that does not devolve on all stockholders generally. When the business judgment rule's protections do not apply, the burden is placed on the defendant directors to prove the challenged transaction is entirely fair. "When directors of a Delaware corporation are on both sides of a transaction, they are required to demonstrate their utmost good faith and the most scrupulous inherent fairness of the [transaction]." If directors structure a transaction that is unfair, they breach their duty of loyalty, and the Court may provide equitable relief to remedy the injury.
Aronson v. Lewis, 473 A.2d 805, 812 (Del. 1984); Orman v. Cullman, 794 A.2d 5, 22 (Del. Ch. 2002).
Cede Co. v. Technicolor, Inc., 634 A.2d at 363 (holding that an individual director is "interested" in a transaction only where the director's interest is material); Orman, 794 A.2d at 23.
Mills Acquisition Co. v. Macmillan, Inc., 559 A.2d 1261, 1279 (Del. 1988).
Weinberger v. UOP, Inc., 457 A.2d 701, 710 (Del. 1983).
See Mills Acquisition Co., 559 A.2d at 1264-65 (reversing the Court of Chancery's decision not to enjoin an asset option agreement that the board entered into in breach of its duties of loyalty and care).
To prove a transaction was entirely fair, directors must demonstrate that the transaction was (1) effectuated at a fair price and (2) the product of fair dealing. The fair price element relates to the economics of the transaction; it focuses on whether the transaction was economically fair to the plaintiff. The analysis of price can draw on any valuation methods or techniques generally accepted in the financial community. Fair dealing focuses on the conduct of the fiduciaries involved in the transaction. In analyzing fair dealing the Court may inquire into how the transaction was timed, initiated, negotiated, and structured, as well as how approvals of the directors and stockholders were obtained. The entire fairness test is not bifurcated; the Court must consider allegations of unfair dealing and unfair price. Price, however, is the paramount consideration because procedural aspects of the deal are circumstantial evidence of whether the price is fair.
Weinberger, 457 A.2d at 711.
Id.
Rosenblatt v. Getty Oil Co., 493 A.2d 929, 940 (Del. 1985).
Weinberger, 457 A.2d at 711.
Id.
Cinerama, Inc. v. Technicolor, Inc., 663 A.2d 1156, 1172 (Del. 1995) ("[A]rm's-length negotiation provides strong evidence that the transaction meets the test of fairness.") (internal quotations omitted); Monroe County Employees' Ret. Sys. v. Carlson, 2010 WL 2376890, at *2 (Del. Ch. June 7, 2010) (granting a motion to dismiss on the basis that, regardless of allegations relating to unfair dealing, there were " no factual allegations geared towards proving that the . . . transactions were executed at an unfair price.").
I conclude that the ROFR/Dilutive Issuance is subject to entire fairness review. Jim and Craig stood on both sides of that Action. The parties to the right of first refusal agreement underlying the ROFR/Dilutive Issuance are craigslist on the one side and Jim and Craig on the other. Jim and Craig approved the ROFR/Dilutive Issuance in their capacity as craigslist directors, and Jim, in his capacity as CEO, signed the right of first refusal agreement for craigslist. Jim and Craig then each counter-signed the right of first refusal agreement in their individual capacities as stockholders. The consideration in the right of first refusal agreement flows from craigslist to Jim and Craig (craigslist issuing shares to Jim and Craig) and vice-versa (Jim and Craig granting a right of first refusal to craigslist). In transactions such as this, where fiduciaries deal directly with the corporation, entire fairness is ordinarily the applicable standard of review.
But see 8 Del. C. § 144 (providing for three routes by which an interested director or officer can prevent invalidation of an agreement solely on the basis of his or her interest and involvement in the agreement); Gantler v. Stephens, 965 A.2d 695, 713 (Del. 2009) ("[R]estor[ing] coherence and clarity" to Delaware's common law doctrine of shareholder ratification by limiting the doctrine to "circumstances where a fully informed shareholder vote approves director action that does not legally require shareholder approval in order to become legally effective."); In re Wheelabrator Techs., Inc. S'holders Litig., 663 A.2d 1194, 1203 (Del. Ch. 1995) ("Approval by fully informed, disinterested shareholders pursuant to § 144(a)(2) invokes `the business judgment rule and limits judicial review to issues of gift or waste with the burden of proof upon the party attacking the transaction.'") (quoting Marciano v. Nakash, 535 A.2d 400, 405 n. 3 (Del. 1987)). There also is a burden-shifting mechanism, rather than standard-shifting mechanism, which applies to transactions between a corporation and its controlling stockholder — as compared to those between a corporation and its directors or officers. See id. (citing cases that hold when minority stockholders ratify such a transaction, "the standard of review remains entire fairness, but the burden of demonstrating that the [transaction] was unfair shifts to the plaintiff.") (citations omitted). However, neither mechanism applies here. Jim and Craig are not disinterested stockholders (meaning they cannot ratify their own decision as directors and shift the standard from entire fairness to business judgment), and eBay has not ratified a transaction as craigslist's minority stockholder (meaning there is no burden shift; indeed, eBay itself is the plaintiff). Thus, the appropriate standard of review is entire fairness, and it is Jim and Craig's burden to prove that the ROFR/Dilutive Issuance was entirely fair.
Under the terms of the ROFR/Dilutive Issuance, Jim and Craig received an additional share of craigslist stock for every five shares over which they granted craigslist a right of first refusal. Jim and Craig likely had the contractual ability to implement the ROFR/Dilutive Issuance. The Shareholders' Agreement provided that eBay would lose certain consent rights if it chose to engage in Competitive Activity. Among the rights eBay lost were the right to consent to (1) an increase in the authorized number of craigslist shares, (2) agreements between craigslist and its officers providing for the issuance of stock, and (3) preemptive rights to purchase newly issued craigslist shares. Each of these measures was necessary to carry out the ROFR/Dilutive Issuance. In addition, eBay lost any contractual right to receive notice that the board was deliberating about the right of first refusal agreement. After launching Kijiji, eBay unsuccessfully tried to renegotiate the terms of the Shareholders' Agreement. One of the rights eBay sought (but failed) to obtain via renegotiation was the right to fifteen days advance notice before craigslist undertook any actions to which eBay previously had a right to consent. Based on the foregoing considerations, Jim and Craig probably did not violate a technical provision of the Shareholders' Agreement when they approved the ROFR/Dilutive Issuance.
Shareholders' Agreement § 8.3.
Id. § 4.6(a)(i).
Id. § 4.6(a)(v).
Id. § 5.1.
The parties did not argue and I, therefore, need not decide whether the ROFR/Dilutive Issuance (which is governed by Delaware law) created a personal property interest, not held in trust, that might not vest within twenty-one years of a life in being at the time the interest was created, in violation of the rule against perpetuities. See Stuart Kingston, Inc. v. Robinson, 596 A.2d 1378, 1383 (Del. 1991).
But the question before me is whether Jim and Craig breached their fiduciary duty of loyalty by approving the ROFR/Dilutive Issuance. Even if eBay lost its contractual ability to prevent the ROFR/Dilutive Issuance, eBay was entitled to the fiduciary duties Jim and Craig owed it as a minority stockholder. As fiduciaries, Jim and Craig were bound not to approve an interested transaction unless that transaction was entirely fair to craigslist and to eBay.
To determine whether the ROFR/Dilutive Issuance was entirely fair, I will first analyze whether that Action was effectuated at a fair price. The "price" of receiving an additional craigslist share under the ROFR/Dilutive Issuance was the granting of a right of first refusal over five shares. This same deal (a 5:1 ratio) was offered to each craigslist stockholder. Jim and Craig argue that the ROFR/Dilutive Issuance was fair to craigslist stockholders because all stockholders were offered the same deal. Superficially, this appears to be true. Deeper reflection, however, reveals that it actually costs eBay more to grant a right of first refusal over five of its craigslist shares than it costs Jim or Craig to do the same. When eBay engaged in Competitive Activity by launching Kijiji, Jim and Craig had to decide whether to issue a Notice of Competitive Activity. If they chose to do so and if eBay failed to cure within ninety days, eBay would lose its contractual consent rights. But there was an upside for eBay if it failed to cure: the rights of first refusal Jim and Craig held over eBay's craigslist shares under § 7.2 of the Shareholders' Agreement would terminate, and eBay's shares would become freely transferable. The rights of first refusal Jim and Craig held over each other's shares under § 7.2 of the Shareholders' Agreement, however, would remain intact. eBay failed to cure within ninety days after receiving the Notice of Competitive Activity, and the craigslist shares it owns became freely transferable. Jim and Craig's craigslist shares remained encumbered. Thus, the price Jim and Craig had to pay for a new share under the ROFR/Dilutive Issuance was their granting a right of refusal to craigslist on five already-encumbered shares. The price eBay had to pay for a new share under the ROFR/Dilutive Issuance was its granting a right of first refusal to craigslist on five freely transferable shares. Although each craigslist stockholder had to grant a right of first refusal over the same number of shares to obtain a newly issued share, eBay had to surrender full transferability of its shares to craigslist, but Jim and Craig only had to substitute craigslist for themselves as the party holding a right of first refusal on their shares. Thus, the price of the ROFR/Dilutive Issuance is not fair because it requires eBay, the minority stockholder, to give up more value per share than either Jim or Craig, the majority stockholders and directors. This disproportionate "price" is sufficient, standing alone, to render the ROFR/Dilutive Issuance void.
Shareholders' Agreement § 8.3.
There is at least one other reason that the ROFR/Dilutive Issuance does not satisfy the fair price element of entire fairness. The ROFR/Dilutive Issuance put eBay in a position where it had to make one of two choices, and either choice would harm eBay economically while benefitting Jim and Craig. When Jim and Craig informed eBay of the ROFR/Dilutive Issuance, they told eBay that it had three years to decide whether to execute a joinder to the right of first refusal agreement. One of eBay's choices was to refrain from joining the right of first refusal agreement, thereby keeping its craigslist shares freely transferable. If eBay did this, however, its ownership interest in craigslist would be diluted from 28.4% to 24.9%. eBay's other choice was to join the right of first refusal agreement and receive a new craigslist share for every five shares it subjected to craigslist's right of first refusal. This would have allowed eBay to maintain its 28.4% ownership interest, but at the cost of encumbering its freely transferable craigslist shares.
Either of these two choices would deprive eBay of economic value while simultaneously benefitting Jim and Craig. The detrimental economic effects of the first choice are easiest to explain, so I will begin there. By choosing not to join the right of first refusal agreement, eBay's ownership interest was diluted from 28.4% to 24.9%. Jim and Craig's ownership interests were concomitantly increased from 29% to 30.4% and 42.6% to 44.7%, respectively. The economic effect of this choice was to transfer wealth from eBay to Jim and Craig by virtue of increasing Jim and Craig's ownership of craigslist at eBay's expense.
The second choice would also harm eBay economically. By encumbering its freely tradable craigslist shares with a right of first refusal, eBay would immediately suffer an illiquidity discount. The right of first refusal is in craigslist's favor, and craigslist is controlled by Jim and Craig. The expected value to third party bidders of eBay's ownership stake in craigslist would decrease because bidders would be aware that Jim and Craig have superior "inside" knowledge of craigslist's operations and are likely to place idiosyncratic value on craigslist's shares. Therefore, third-party bidders would be less willing to incur the transaction costs associated with bidding for craigslist shares (including due diligence costs) if Jim and Craig could simply cause craigslist to match their offer. Third-party bidders would also be dissuaded from bidding because, even if they outbid craigslist, craigslist would retain its right of first refusal over the shares in the hands of the third party. Most, if not all, bidders would not engage in a bidding war with craigslist for eBay's craigslist shares knowing that craigslist would continue to have a right of first refusal over the shares even if the bidder won the bidding war. It is the rare bidder who would engage in a bidding war for perpetually encumbered shares.
See D.I. Walker, Rethinking Rights of First Refusal, 5 STAN. J.L. BUS. FIN. 1, 18 (1999) ("The existence of an insider with an informational advantage affects the outsider's expected return and willingness to enter the bidding. If the better informed insider knows that the true property value is higher than the outsider believes, the insider will tend to buy. In the reverse situation, the insider will refrain. The net result should be that the informationally disadvantaged outsider tends to succeed when true value is low and to fail when true value is high.").
Id. at 17 ("The uncertainty created by the specter of potential insider idiosyncratic value reduces the outsider's expected payoff and generally lowers an outsider's interest. Intuition suggests that the potential for idiosyncratic value correlates roughly with uniqueness. Close corporation shares are quite unique and have a high potential for insider idiosyncratic value. Commercial property tends to be less unique and generally carries less idiosyncratic value.") (emphasis added).
Right of First Refusal Agreement § 3.1(a) ("[E]ach Stockholder agrees not to offer to sell all or any portion of such Stockholder's Equity Securities, unless: . . . (ii) the terms of such transfer require the proposed third-party transferee (the "Proposed Transferee") to enter into a Joinder Agreement and to acknowledge that any Offered Shares purchased by the Proposed Transferee shall continue to be subject to the rights of the Company pursuant to this Agreement.").
It is not immediately clear from the evidence offered at trial whether a wealth transfer from eBay to Jim and Craig would occur if eBay joined the right of first refusal agreement. It is certain, however, that Jim and Craig would benefit if eBay decided to grant craigslist a right of first refusal. I find, as a matter of fact, that Jim and Craig implemented the ROFR/Dilutive Issuance because they wanted to control whom eBay sold its craigslist shares to. Jim and Craig knew that eBay's shares had become freely transferable. This caused Jim and Craig to be concerned that another "Knowlton problem" was on the horizon; that is, they feared that eBay would sell its shares to a stockholder who did not fit with the craigslist culture. If Jim and Craig could coax eBay into giving craigslist a right of first refusal, then Jim and Craig could vote as directors to preempt eBay's sale to any unsuitable purchaser by simply having craigslist purchase eBay's shares. I find, as a matter of fact, that Jim and Craig desired a right of first refusal in craigslist's favor to protect their personal, sentimental interests in controlling the culture of craigslist, including the composition of its stockholders. Controlling the composition of stockholders or the respective ownership stakes of stockholders through a right of first refusal in the corporation's favor may be permitted, provided the right of first refusal bears some reasonably necessary relation to the corporation's best interests. Put another way, the right of first refusal must advance a valid corporate purpose. Moreover, when directors vote to issue new shares to themselves in exchange for giving the corporation a right of first refusal, and thus stand on both sides of the transaction, the right of first refusal arrangement must be entirely fair to the corporation and to its stockholders. The ROFR/Dilutive Issuance is invalid under Delaware law because Jim and Craig have sought to control craigslist's stockholder composition for their personal and sentimental benefit at eBay's expense. Thus, it fails the price element of the entire fairness test and does not advance a proper corporate purpose.
The illiquidity discount on eBay's shares may simply have resulted in a deadweight loss to eBay.
This factual determination is based primarily on my evaluation of Jim and Craig's trial testimony. It is also based on an extensive review of the trial record, including relevant exhibits and deposition transcripts.
8 Del. C. § 202(c)(1); Grynberg v. Burke, 378 A.2d 139, 142-43 (Del. Ch. 1977).
eBay alleges that the ROFR/Dilutive Issuance was also the product of unfair dealing. I need not explore those allegations because I have concluded that the ROFR/Dilutive Issuance does not satisfy the fair price element of the entire fairness test.
Jim and Craig breached their fiduciary duty of loyalty by using their power as directors and controlling stockholders to implement an interested transaction that was not entirely fair to eBay, the minority stockholder. All parties agree that the most appropriate remedy for a breach of fiduciary duty in this case is rescission. I concur with that assessment. Accordingly, I rescind the ROFR/Dilutive Issuance.
See Pl.'s Post-Trial Openng Br. 86 n. 60; Defs.' Post-Trial Answering Br. 79 n. 69.
D. The DGCL
eBay contends in Counts IV and V of the complaint that the ROFR/Dilutive Issuance violates 8 Del. C. §§ 152 and 202(b). Having concluded that the ROFR/Dilutive Issuance must be rescinded because it was not entirely fair to eBay, I need not address whether the ROFR/Dilutive Issuance violated the DGCL.
E. Attorneys' Fees
eBay asks the Court to order Jim and Craig to reimburse craigslist for all of the legal fees incurred in this action and for the legal fees relating to the 2008 Board Actions. eBay also asks the Court to award eBay the legal fees it has incurred in this action. I decline to order any shifting of fees.
eBay is not entitled to fees under § 9.8 of the Shareholders' Agreement because eBay did not bring a claim for breach of the Shareholders' Agreement or for breach of the implied covenant of good faith and fair dealing inherent in the Shareholders' Agreement. More importantly, however, the equities in this case do not mandate a shifting of attorneys' fees. Under Delaware law, parties are ordinarily responsible for paying their own attorneys' fees. Equity may make an exception and shift fees to a party that has acted in bad faith in connection with the prosecution or defense of the litigation. Fees may also be shifted to a losing party whose pre-litigation conduct was undertaken in bad faith and "was so egregious as to justify an award of attorneys' fees as an element of damages." The Court typically will not find a litigant acted in bad faith for purposes of shifting attorneys' fees unless the litigant's conduct rose to the level of "glaring egregiousness." "[M]erely being adjudicated a wrongdoer under our corporate law is not enough to justify fee shifting."
Section 9.8 provides: "In the event that any suit or action is instituted under or in relation to this Agreement, including, without limitation, to enforce any provision in this Agreement, the prevailing party in such dispute shall be entitled to recover from the losing party all fees, costs and expenses of enforcing any right of such prevailing party under or with respect to this Agreement, including, without limitation such reasonable fees and expenses of attorneys and accountants, which shall include, without limitation, all fees, costs and expenses of appeals."
Dover Historical Soc., Inv. v. City of Dover Planning Comm'n, 902 A.2d 1084, 1090 (Del. 2006).
Mainiero v. Tanter, 2003 WL 21003260, at *2 (Del. Ch. Apr. 25, 2003).
Reagan v. Randell, 2002 WL 1402233, at *3 (Del. Ch. June 21, 2002).
Kaung v. Cole Nat'l Corp., 2004 WL 1921249, at *6 (Del. Ch. Aug. 27, 2004), aff'd in part, rev'd in part, 884 A.2d 500 (Del. 2005).
VGS, Inc. v. Castiel, 2001 WL 1154430, at *2 (Del. Ch. Sept. 25, 2001).
Neither Jim nor Craig engaged in behavior that could be characterized as bad faith for purposes of fee shifting. Their conduct during litigation was typical of litigants before this Court; they vigorously defended their legal position without making frivolous arguments. Moreover, the 2008 Board Actions cannot be described as "glaring[ly] egregious" pre-litigation conduct. As should be evident by this point in the narrative, this is a unique case with distinct facts and difficult legal issues. I find, as a matter of fact, after evaluating the credibility and demeanor of Jim and Craig, that both men subjectively believed the 2008 Board Actions, despite their uniqueness, were legally permissible under Delaware law. Their judgment was wrong, in my view, with respect to the Rights Plan and the ROFR/Dilutive Issuance. But that does not mean that Jim and Craig implemented the Rights Plan and the ROFR/Dilutive Issuance in bad faith. Neither Jim nor Craig acted with the sort of vexatious, wanton, or frivolous conduct consistent with bad faith. Rather, they deliberated with counsel over a period of six months regarding the 2008 Board Actions, considered the possibility of a legal challenge to the Actions, and decided to move forward after concluding, albeit incorrectly, that the Actions were consistent with law.
In re Sunbelt Beverage Corp. S'holder Litig., 2010 WL 26539, at *15 (Del. Ch. Jan. 5, 2010) (holding that fee shifting was inappropriate where there was a legal issue in the case upon which the parties reasonably could differ).
See, e.g., Arbitrium (Cayman Islands) Handels AG v. Johnston, 705 A.2d 225 (Del. Ch. 1997) (finding that defendants acted in bad faith by, inter alia, opposing the action despite their knowledge that plaintiff's claim to majority stockholder status was valid, altering testimony, changing positions repeatedly, and falsifying evidence at trial), aff'd, 720 A.2d 542 (Del. 1998).
eBay also argues that it should be awarded fees because its lawsuit caused Jim and Craig to sign affidavits that they would not execute the director indemnification agreements that eBay challenged in Counts I and II of the complaint. The corporate-benefit exception applies only if the fee applicant demonstrates that "(1) the suit was meritorious when filed; (2) the action producing benefit to the corporation was taken by the defendants before a judicial resolution was achieved; and (3) the resulting corporate benefit was causally related to the lawsuit." Counts I and II were dismissed because "neither claim . . . [was] ripe for judicial review." The director indemnification agreements had not been executed when eBay filed the complaint so there was "no contract or transaction for me to examine under [the] self-dealing or waste claims" in Counts I and II. Therefore, Counts I and II were not meritorious when filed, and an award of fees for those claims "would not be appropriate."
Belanger v. Fab Indus., Inc., 2004 WL 3030517, at *1 (Del. Ch. Dec. 29, 2004) (internal quotations omitted).
eBay Domestic Holdings, Inc. v. Newmark, 2009 WL 3205674, at *2 (Del. Ch. Oct. 2, 2009).
Id.
Belanger, 2004 WL 3030517, at *2 ("Because Count I was premature and not ripe, Count I was not meritorious when filed.").
Id.
III. CONCLUSION
Based on the foregoing findings of fact and conclusions of law, I rescind the Rights Plan and the ROFR/Dilutive Issuance because Jim and Craig breached their fiduciary duties when they implemented those Actions. I do not rescind the Staggered Board Amendments because Jim and Craig did not breach their fiduciary duties when they implemented that Action. Further, I decline to order Jim and Craig to reimburse craigslist or eBay for attorneys' fees.
An Order has been entered consistent with this Opinion.