Citing Exceptional Facts, Delaware Court Finds Board Had Compelling Justification to Thwart Stockholder Action
By Leah E. León and Shannon E. German
In a case presenting unusual facts, the Delaware Court of Chancery recently upheld, on remand, a board’s decision to pursue a stock sale to escape aIn Coster v. UIP Companies, Inc., Chancellor Kathaleen St. J. McCormick had previously found in a post-trial decision that the challenged stock sale was entirely On remand following an appeal, the Chancellor determined that the stock sale did not fall within limited application and that it satisfied review under
The late husband of Plaintiff Marion Coster owned 50% of UIP; Defendant Steven Schwat owned the other 50%. After her husband’s death, Plaintiff sought liquidity of the 50% she inherited, but would not accept Defendants’ proposed buyout price. Plaintiff called for special meetings of the UIP stockholders to elect directors to vacant board seats, which resulted in deadlock, so Plaintiff filed a complaint in the Court of Chancery seeking appointment of a custodian. The threat of a court-appointed custodian posed risks to UIP, which in response sold a third of its outstanding but unissued voting equity to a UIP executive. The stock sale had been developed previously as a succession plan “on a clear day before any deadlock loomed.” Plaintiff challenged the stock sale.
In her post-trial decision, Chancellor McCormick found that the stock sale was entirely fair to the UIP stockholders and entered judgment in favor of Defendants. On appeal, the Delaware Supreme Court concluded that the Chancellor should have also evaluated the stock sale under Schnell or Blasius, depending on whether the UIP board’s motives were impure or pure. The Supreme Court identified factual findings in the post-trial decision that could support a determination that the board acted for inequitable purposes under Schnell.
On remand, the Chancellor first analyzed whether the UIP board approved the stock sale for “inequitable purposes” under Schnell. The Chancellor observed that the “elusive nature of Schnell as a standard and the potentially harsh consequences of its application provide good reason to limit Schnell’s application.” Given that, the Court interpreted Schnell, in the context of stockholder-franchise challenges, as “applicable in the limited scenario wherein the directors have no good faith basis for approving the disenfranchising action.” The post-trial decision had found that the board had a good faith basis for pursuing the stock sale: it sought to reward and retain an essential employee, implement a previously contemplated succession plan, and avoid risk of default under key contracts. Thus, despite the Supreme Court’s suggestion to the contrary, the Court of Chancery determined on remand that the board had not acted inequitably under Schnell.
The Court next considered whether, under Blasius, the UIP board approved the stock sale for the “primary purpose of thwarting” Plaintiff’s vote to elect directors or reduce her leverage as an equal stockholder; and if so, whether it had a “compelling justification” for doing so. The Chancellor concluded that the stock sale was for the primary purpose of mooting Plaintiff’s action for appointment of a custodian. Even assuming this triggered Blasius, the Court nevertheless concluded that in the “exceptionally unique circumstances” presented, Defendants met the “onerous burden of demonstrating a compelling justification.” In particular, Defendants proved that the broad relief sought in the custodian action presented an “existential crisis” for UIP. The Court also relied on the fact that the stock sale was consistent with the company’s previously devised succession plan. Accordingly, judgment was entered once again for Defendants.