Delaware Court Of Chancery Declines To Dismiss Fiduciary Duty Breach Claims In Connection With Take-Private Acquisition Of Recently Delisted Company
On November 20, 2018, Vice Chancellor Joseph R. Slights III of the Delaware Court of Chancery denied a motion to dismiss a putative class action asserting claims for breach of fiduciary duty brought by former stockholders of Tangoe, Inc. (the “Company”) against former members of its board of directors in connection with the take-private acquisition of the Company by a private equity buyer group in June 2017. In Re Tangoe, Inc. Stockholders Litigation, C.A. No. 2017-0650-JRS (Del Ch. Nov. 20, 2018). Plaintiffs alleged that defendants recommended an ill-advised and self-interested sale while a restatement of audited financials was pending and following the NASDAQ delisting of the Company. Defendants contended that they were entitled to business judgment rule deference under Corwin v. KKR Financial Holdings LLC, 125 A.3d 304 (Del. 2015)—because a majority of stockholders tendered their shares—and that dismissal was also required because of an exculpatory charter provision pursuant to 8 Del. C. § 102(b)(7). But the Court concluded that the alleged failures to provide adequate company financial information and to disclose the status of the restatement efforts precluded dismissal under Corwin. The Court also found that plaintiffs adequately pled a non-exculpated claim for breach of the duty of loyalty, given the timing and structure of certain director compensation adjustments, which allegedly incentivized a change in control and supported an inference that defendants acted out of material self-interest.
In March 2016, the Company announced that it erroneously recognized certain revenue and would need to restate its financial results for the prior three-year period. Around the same time, the Company was facing pressure from activist investors to explore strategic options. According to the complaint, because applicable regulations barred the Company from making equity awards while the restatement was pending, defendants implemented a revised compensation award plan in June 2016, which granted each of the defendants replacement “measurement” shares that would fully vest upon a change of control. Defendants also allegedly directed the Company’s financial advisor to explore a potential sale of the Company. During the ensuing months, a number of potential buyers emerged, including the ultimate buyer group, which in November 2016 informed the Company that it was prepared to propose a transaction at $9.00 per share—a 9.3% premium to the trading price at the time. Over the same period, the Company failed to complete the restatement, which prompted the SEC to threaten deregistration and led to the delisting of the Company’s stock from the NASDAQ exchange in March 2017. The Company’s stock price thereafter declined to $6.01 per share (in over-the-counter trading). The buyer group subsequently submitted a revised acquisition proposal at a price of $6.50 per share, representing a 28% reduction from its initial offer. Defendants accepted this offer in April 2017, triggering their right to receive nearly $5 million collectively in exchange for the “measurement” shares they had received. The transaction closed in June 2017 with 78.2% of the Company’s common stockholders tendering into the deal.
Denying the motion to dismiss, the Court declined to rely on stockholder approval to “cleanse” the transaction under Corwin, finding the stockholders’ approval of the transaction—through the tender—was not fully informed for at least two reasons. First, the Company failed to provide audited financial statements and to disclose to stockholders a “quality of earnings report” that it obtained for purposes of the sale, resulting in a financial “information vacuum.” Second, the Company failed to provide “robust disclosures” regarding the status of the long-pending restatement, and thus stockholders were deprived of the “opportunity to consider whether to stay the course and allow the Restatement to proceed or whether to sell as the consequences of the unfinished Restatement were still unfolding.”
The Court also found that plaintiffs pleaded a non-exculpated claim for breach of the duty of loyalty. Specifically, the Court found that both the timing and structure of the revised compensation plan supported the inference that the sale was not completely disinterested. Additionally, the Court noted that the prospect of a looming proxy contest, when coupled with the other alleged facts, further supported this inference.