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Delaware Supreme Court Reverses Dismissal Of Derivative Suit After Finding Directors Lacked Independence
12/12/2016On December 5, 2016, the Supreme Court of the State of Delaware reversed a dismissal of a shareholder derivative action after finding that the complaint adequately pled that a majority of the directors of Zynga Inc. (“Zynga”) lacked the independence to impartially consider a lawsuit asserting breach of fiduciary duty claims against Zynga’s controlling stockholder and former CEO and another director. Sandys v. Pincus, C.A. No. 9512-CB (Del. Dec. 5, 2016).
Plaintiff’s complaint alleged that Zynga’s former CEO, Mark Pincus, who is also the controlling shareholder (wielding 61% of the voting power), together with another Zynga director, breached their fiduciary duties when they sold Zynga stock in advance of negative company announcements. The complaint also alleged that the granting of exemptions from a company policy that would have prohibited such sales was a breach of the duty of loyalty by other Zynga directors. The Delaware Court of Chancery had dismissed the action under Court of Chancery Rule 23.1 after finding that a demand would not have been futile and that a majority of Zynga’s directors were independent and could impartially consider the complaint on behalf of the company.
On appeal, plaintiff successfully argued that the Court of Chancery had erred in finding three of Zynga’s directors to be independent. With respect to one such director, a majority of the Delaware Supreme Court ruled that co-ownership of a private airplane by the director and her husband and Pincus was “suggestive of the type of very close personal relationship that, like family ties, one would expect to heavily influence a human’s ability to exercise impartial judgment,” generating a reasonable doubt as to the director’s independence.
With respect to two other challenged directors, the majority focused on the facts that the directors were partners at a venture capital firm that owned 9.2% of Zynga’s equity, and that the venture capital firm also had investments in another entity founded by Pincus’s wife, as well as in a separate company on whose board the other defendant director also served and in which he also was invested. The majority also emphasized that Zynga’s most recent Proxy Statement did not classify the challenged directors as independent under applicable NASDAQ rules. The majority concluded that these factors were sufficient to give rise to reasonable doubts concerning the directors’ independence.
In a dissenting opinion, Justice Karen L. Valihura wrote that, although the case presented a “close call”, she would have affirmed the Chancery court’s “thoughtful” decision. Specifically, she noted that independence under NASDAQ rules is not dispositive of the question of independence under Delaware law. She also faulted plaintiff for failing to allege specific facts that would establish the materiality of the various business relationships that plaintiff argued showed a lack of independence on the part of the venture capital directors. Finally, drawing on prior decisions that make it clear that any impugned personal relationship must be of a “bias producing” nature in order to be adequate to call a director’s independence into question, Justice Valihura concluded that co-ownership of a small plane fell short of this mark.
