Delaware Court Of Chancery Dismisses Caremark Claims For Failure To Plead Demand Futility
On June 28, 2021, Vice Chancellor Joseph R. Slights of the Delaware Court of Chancery dismissed a derivative lawsuit brought by a stockholder of FedEx Corporation (the “Company”) against the Company’s directors for failure to plead that pre-suit demand on the board would have been futile. Pettry v. Smith, et al., No. 2019-0795-JRS (Del. Ch. June 28, 2021). Plaintiff primarily alleged that defendants breached their Caremark duties by failing to oversee the Company’s compliance with laws governing the transportation and delivery of cigarettes. The Court, however, concluded that the complaint did not plead particularized facts demonstrating that a majority of the board faced a substantial likelihood of liability.
Plaintiff filed suit after the Company paid $35 million in 2018 to settle regulatory actions for its allegedly illicit delivery of untaxed, unstamped cigarettes. Plaintiff claimed that defendants consciously ignored “red flags” of the Company’s misconduct beginning with a report by the Company’s outside counsel in 2012 following an internal investigation. That report determined that the Company was not complying with an “Assurance of Compliance” agreement that the Company had entered in 2006 with the New York Attorney General in which the Company agreed to cease deliveries of cigarettes to unlicensed persons.
The Court explained that, under Caremark, a plaintiff can state a claim for oversight failure by pleading that the directors had no oversight systems in place or knew of evidence of corporate misconduct—i.e., via red flags—yet acted in bad faith by consciously disregarding their duty to address that misconduct. The Court added that a plaintiff must “plead particularized facts that allow a reasonable inference that the directors acted with scienter.”
The Court concluded that plaintiff’s allegation that defendants failed to “take any action” to address the unlawful practices was belied by other facts acknowledged in the complaint. For example, the Court highlighted that the board was kept apprised of ongoing enforcement actions. The Court also pointed out that the board previously appointed a demand committee to investigate allegations in a prior stockholder demand asserting similar allegations (and noted that the committee concluded it was not in the Company’s best interests to bring suit against the directors). Additionally, the Court found it significant that the Company had reprimanded personnel for involvement in noncompliance—even though it was not clear that the board knew about the reprimands—because they were “contrary to the ‘do nothing’ environment … that often fosters board-level Caremark liability.” Finally, the Company banned nearly all tobacco shipments by 2016 and introduced training programs and increased detection measures after the 2018 regulatory actions were settled.