Delaware Court Of Chancery Dismisses Stockholder Challenge To Merger For Failure To Rebut Business Judgment Rule
On July 25, 2019, Vice Chancellor Kathaleen S. McCormick of the Delaware Court of Chancery dismissed a stockholder suit challenging the $18 billion merger of equals between Towers Watson & Co. and Willis Group Holdings plc, finding that plaintiffs failed to plead facts sufficient to rebut the presumption of the business judgment rule. In Re Towers Watson & Co. Stockholders Litigation, C.A. No. 2018-0132-KSJM (Del. Ch. July 25, 2019). Asserting claims for breaches of fiduciary duty, plaintiffs, who had been Towers Watson stockholders, argued that the company’s CEO did not properly disclose to the board a compensation proposal he had received from Willis’s second largest stockholder while the CEO was negotiating the merger. But the Court found that the compensation proposal was ultimately immaterial and that the otherwise independent board members were well aware that the merger would likely lead to increased compensation for the CEO. Noting that because the transaction was primarily a stock-for-stock merger, the Court explained that there was no dispute that the “business judgment rule presumptively applies,” and concluded that plaintiffs had failed to rebut that presumption.
More specifically, the Court explained that a plaintiff seeking to rebut the business judgment rule “based solely on the material conflicts of a minority of the directors” must plead facts showing that those conflicts “affected the majority of the board.” To do so, a plaintiff can demonstrate either that (i) the conflicted director “controls or dominates the board as a whole,” or (ii) “a reasonable board member would have regarded the existence of the [undisclosed] material interest as a significant fact in the evaluation of the proposed transaction.”
In this case, there was no dispute that the CEO did not control or dominate the board. Instead, plaintiffs focused their argument on the compensation proposal as an undisclosed material interest. But the Court rejected the contention that the board would have considered the proposal significant on the basis of three facts that “foreclose[d]” such an inference. First, the board already knew that the CEO had an interest in the consummation of the merger because he was already expected to be the CEO of the much larger combined entity, which would be likely to generate a much larger salary. Second, the board had been kept apprised of the merger negotiations. Third, the compensation proposal was “a proposal only” and although it offered substantially greater potential upside, that aspect of the proposal appeared to be based on unrealistic targets and scenarios. Moreover, the Court added, the CEO did not actually engage in any negotiations over his compensation until after the merger closed.
The Court also rejected plaintiffs’ assertion that they had nevertheless stated a claim under the business judgment rule on the grounds that the merger constituted waste. In this regard, plaintiffs argued that the directors acted in bad faith by abdicating their oversight responsibilities during a period leading up to a renegotiation of the merger consideration. But the Court found that—even though the CEO led the negotiations—there were other directors that attended certain meetings between the CEO and Willis, and the Towers Watson board met before approving the initial transaction and the renegotiated terms. Thus, the Court concluded that plaintiffs had failed to show the “extreme facts” necessary to demonstrate that the disinterested directors acted in bad faith, much less engaged in waste.