Finding That Allegedly Conflicted Acquisition Satisfied Entire Fairness Review, Delaware Court Of Chancery Rejects Breach Of Fiduciary Duty Claims
On April 27, 2022, Vice Chancellor Joseph R. Slights III of the Delaware Court of Chancery entered judgment in favor of defendant, the CEO/Founder and then-Chairman (the “Chairman”) of Tesla Motors, Inc. (the “Company”), following a trial on derivative claims for breach of fiduciary duty asserted by stockholders in connection with the Company’s acquisition of SolarCity Corporation (the “Target”). In re Tesla Motors, Inc. S’holder Litig., C.A. No. 12711-VCS (Del. Ch. Apr. 27, 2022). Plaintiffs alleged that at the time of the acquisition, the Chairman, who held approximately 22% of the Company’s stock, was its controlling stockholder. He also was the chairman of the board and largest stockholder of the Target. Plaintiffs asserted that the Chairman caused the Company’s allegedly conflicted Board to approve the deal—despite the Target’s alleged insolvency—at a purportedly “patently unfair price.” Assuming without deciding that the Chairman was the Company’s controlling stockholder and that a majority of the Company’s Board was conflicted, the Court reviewed the claims under an “entire fairness” standard. Noting that the process was “far from perfect” and that “defense verdicts after an entire fairness review” are “not commonplace,” the Court nevertheless found that the Company’s Board “meaningfully vetted” the acquisition and the price paid was “entirely fair in the truest sense of the word”—and rejected plaintiffs’ claims.
The deal involved the acquisition by an electric car manufacturer of a solar energy company in a stock-for-stock merger valued at approximately $2.1 billion when it closed in late 2016. Ultimately, 85% of votes cast by all stockholders of the Company were in favor. Plaintiffs alleged that, in addition to the Chairman, five of the other six directors of the Company were also conflicted with respect to the acquisition as a result of various financial and personal interests. Plaintiffs claimed that the Target was “insolvent,” and that the Chairman caused the Board to approve the acquisition at an inflated price to “bail out” his investment.
After an eleven-day trial, including fact and expert witness testimony, the Court found that, despite liquidity “problems,” the “evidence leaves little doubt that [the Target] was still a valuable company” at the time of the deal. Explaining that entire fairness entails both fair dealing and fair price, the Court noted that price is the “paramount consideration.”
As to the process, the Court concluded that notwithstanding the alleged involvement of the Chairman, there was an “indisputably independent director leading the way” and the Board was “well informed” and “placed the interests of [the Company’s] stockholders ahead of their own.” The Court noted that although the Board did not form a special committee of independent directors to negotiate the acquisition, it did condition the deal on an affirmative vote of a majority of the Company’s disinterested stockholders, even though not required by Delaware law. The Company also dictated the timing of the acquisition, declining to explore the transaction when first proposed and instead pursuing it when it made sense for the Company and at a time when the Target’s industry was facing “macroeconomic headwinds” that resulted in historic trading lows. In addition, the Court highlighted that the Board relied on “independent, top-tier” advisors. Indeed, the Court found that information discovered during the due diligence process was used by the Company to negotiate a lower price and that such price decreases “are strong evidence of fairness.”
As to the price, the Court concluded that the Target was “far from insolvent.” The Court noted that, while the Target was “cash-strapped to a dangerous degree,” it had been able to raise billions of dollars from sophisticated financial institutions and its “cash challenges were ramifications of rapid growth, not market disinterest . . . or poor business execution.” The Court added that the evidence indicated that the Company realized approximately $1 billion in nominal cash flows from the deal already and expects to realize at least $2 billion more.
The Court also determined that the fairness opinion and valuation work of the Company’s financial advisor “accurately captured” the Target’s value. In addition, the Court found that the market in advance of the deal was “sufficiently informed to reach a reliable assessment of [the Target’s] value.” Thus, the Company’s acquisition, which was ultimately consummated at a small discount compared to the Target’s unaffected stock price, was further evidence that the price paid was fair to the Company.
The Court also concluded that the acquisition was synergistic, including expected cost synergies of at least $150 million per year, as well as revenue synergies. The Court also pointed to “the astronomic rise” in the Company’s stock price in the years following the deal and noted that the combination had “allowed [the Company] to become what it has for years told the market and its stockholders it strives to be––an agent of change that will accelerate the world’s transition to sustainable energy.”
The Court did “observe,” however, that the Company potentially could have avoided “post-trial judicial second guessing” if it had adopted “more objectively evident procedural protections.” For example, the Court noted that the Chairman could have “stepped away from the . . . Board’s consideration of the Acquisition entirely” and the Board could have “formed a special committee comprised of indisputably independent directors, even if that meant it was a committee of one.” The Court suggested that these procedures could have led to “business judgment deference.”