Shearman & Sterling LLP | M&A Litigation Blog | Delaware Court Of Chancery Dismisses Demand-Refused Derivative Litigation, Notwithstanding Allegations Of Board Misrepresentations In Advance Of Demand<br >  
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  • Delaware Court Of Chancery Dismisses Demand-Refused Derivative Litigation, Notwithstanding Allegations Of Board Misrepresentations In Advance Of Demand
    On November 14, 2018, Chancellor Andre G. Bouchard of the Delaware Court of Chancery granted a motion to dismiss a stockholder derivative suit asserting breach of fiduciary duty claims against certain directors of Richardson Electronics (the “Company”).  Busch v. Richardson Electronics, Ltd., C.A. No. 2017-0868-AGB (Del. Ch. Nov. 14, 2018).  The claims were based on allegations that the board improperly refused plaintiff’s demand to take action to unwind certain allegedly improper related-party transactions.  Plaintiff also asserted he was misled by the board about its involvement in the underlying transactions before he issued the litigation demand.  Therefore, according to plaintiff, the motion to dismiss should have been evaluated under the test applicable when demand is excused, as articulated in Zapata Corp. v. Maldonado, 430 A.2d 779 (Del. 1981), which does not entail the same broad deference to a board’s decision whether to bring claims as the standard typically applicable in demand-refused cases under Spiegel v. Buntrock, 571 A.2d 767 (Del. 1990).  The Court rejected the argument that the Zapata standard applied and instead assessed the sufficiency of the complaint based on whether it adequately alleged that demand on the board was futile.  The Court concluded that under either a demand-futility test or the Spiegel test plaintiff’s claims were subject to dismissal. 

    While the Court indicated that there were certain “inaccurate factual representations” made to plaintiff, the Court nevertheless declined plaintiff’s request to apply the Zapata test, which it emphasized is “designed to address a specific scenario not present here,” i.e., where a purportedly independent committee of directors seeks to dismiss a derivative claim when the board as a whole is conflicted and a pre-suit demand on the board would be excused.  Instead, the Court first assessed plaintiff’s claim using the ordinary demand-refused standard under Spiegel. Under this framework, the board’s decision to refuse a plaintiff’s demand is afforded the protection of the business judgment rule unless the complaint pleads particularized facts that raise a reasonable doubt that the board’s decision to deny the demand was made on an informed basis and in good faith.  Here, the Court found the complaint failed to pass that threshold.  The Court noted that the board, in response to plaintiff’s demand, formed a special committee, which engaged independent counsel that undertook an investigation involving the review of documents, witness interviews, and the preparation of a 30-page report of findings.

    However, to address plaintiff’s claim that he should not have been considered to have conceded the board’s disinterest in light of the inaccurate representations, the Court also evaluated the complaint as if no demand had ever been made.  The Court found the complaint subject to dismissal under this test as well because it failed to demonstrate that demand would have been futile.  Specifically, the complaint did not allege “particularized facts demonstrating that a majority of the [b]oard was interested or lacked independence so as to compromise the board’s impartiality to consider claims or take action” concerning the underlying related-party transactions originally challenged by plaintiff.  Therefore, the Court granted the motion to dismiss.