September 2022 in Brief: Business Litigation & Dispute Resolution

Business Litigation

Delaware Court of Chancery Provides New Guidance for Seeking Interim Distributions in Connection with Corporate Dissolution under Sections 280-282 of the DGCL

By Rafael Zahralddin, Lewis Brisbois

The Delaware Court of Chancery recently denied a request by a corporation for an interim distribution prior to final payment of creditors under the corporate dissolution process of sections 280 and 281 of the Delaware General Corporation Law. In re Anavrin, Inc. C.A. No. 2022-0197-JTL, Order 1 of 2 (Del.Ch. Aug. 16, 2022). Sections 280, 281, and 282 of the Delaware General Corporation Law comprise the statutory framework for an orderly corporate dissolution that provides finality for directors and the various constituencies owed payment, including unknown creditors. A corporation can either seek the Court’s assistance under 280 and 281(a) or use the unsupervised process under section 281(b), all of which shield directors from liability from post-dissolution lawsuits. Under the court-supervised process, the corporation will “smoke out claims, pay off claims in accordance with statutory priorities, and establish reserves for contingent claims.” Territory of U.S.V.I. v. Goldman Sachs & Co., 937 A.2d 760, 798 (Del. Ch. 2007), aff’d, 956 A.2d 32 (Del. 2008).

Vice Chancellor Travis Laster previously broke new ground with his decision in In re Altaba, 2020-0413-JTL, where he found that a company had met the high burden to make an interim distribution. Section 280 and 281(a) of the DGCL do not contemplate an interim distribution. However, the Court found that in certain rare circumstances, interim distributions could be available after a full evidentiary hearing. Applying the summary judgment standard, Vice Chancellor Laster found that the Altaba movant had established that a distribution was warranted because (i) business operations had ceased three years prior to the request, (ii) the buyer of the assets was assuming or indemnifying the corporation for many obligations (including some of the objecting creditors), and (iii) the movant proved that both the individual reserves and the overall reserves, which could be reallocated, could cover any overruns.

In denying the interim relief in Anavrin, however, Vice Chancellor Laster distinguished the circumstances in Anavrin from Altaba and provided a clear directive to the movant (and future movants). First, the resolution of claims amounts and the basis for reserves had to be supported with evidence as the high standard of a final judgment is contemplated by the statute. It follows that any Court-created remedies had to meet a similar exacting evidentiary hurdle, which the Court reiterated was akin to a summary judgment standard. Second, the Court, citing to Section 280(c), made it clear that this was not a matter in which the Court would defer to business judgment of the movant corporation or its directors, as the statute makes it clear that the Court has to make the determination. The Court also indicated that the evidentiary record would be better received by the Court if it consisted of a “business-oriented explanation, rather than documents that sound like lawyers wrote them.”

Construction Industry Laborers Pension Fund v. Bingle

By Alex B. Haims, Young Conaway Stargatt & Taylor LLP

In Construction Industry Laborers Pension Fund v. Bingle, Vice Chancellor Glasscock granted a motion to dismiss a derivative suit brought by stockholders of SolarWind Corporation (the “Company”) following a cyberattack on the Company’s software. The Plaintiffs alleged that the Company’s Board of Directors (the “Board”) breached their oversight duties under Caremark by failing to adequately address potential cybersecurity risks leading up to the attack, which caused the stock to drop significantly. The Court explained that to sustain a claim under Caremark, Plaintiffs must plead a lack of oversight “so extreme that it represents a breach of the duty of loyalty,” which requires “pleading of scienter, demonstrating bad faith.” In dismissing the suit, the Court held that while the Board’s reporting system was “subpar” and “failed to prevent a large corporate trauma,” the Plaintiffs were unable to plead specific facts for the Court “to infer bad faith liability” under Caremark.

The Court highlighted that the Board put in place “at least a minimal reporting system about corporate risk, including cybersecurity,” by establishing two subcommittees responsible for cybersecurity oversight following the Company’s 2018 IPO, including one which was briefed on cybersecurity in 2019. The Plaintiffs alleged that the subcommittee’s failing to report to the full Board following the briefing was an example of the Board failing to act in the face of a “red flag.” However, the Court held that the briefing was an “instance of oversight,” and while the subcommittee’s failure to report was “far from ideal,” it was not enough to establish liability under Caremark without specific allegations of what information the members possessed.

Accordingly, this case, along with the Court of Chancery’s decision in Firemen’s Retirement System of St. Louis on behalf of Marriott International, Inc. v. Sorenson, which also dismissed derivative claims in the context of cybersecurity breaches, emphasizes the difficult standard that Plaintiffs face in pleading Caremark claims in Delaware in this sphere.

Dispute Resolution

AAA Amends Commercial Arbitration Rules Effective September 1, 2022

By Armeen Mistry Shroff

The American Arbitration Association (AAA) updated its Commercial Rules and Mediation Procedures, concluding a two-year internal review. The new rules are effective September 1, 2022. The amendments provide for, among other things:

• a simpler process for expedited arbitrations,
• greater procedural discretion to arbitrators,
• increased amount-in-controversy requirements, and
• express confidentiality protections.

Expedited Procedures: The amendments update Expedited Procedure E-5 to include, under E-5(b) and E-5(c), that no motion practice is permitted absent showing good cause and permission from the arbitrator. Additionally, no emergency relief is available, and the parties to expedited procedures may not conduct discovery other than a basic exchange of exhibits.

Increased Arbitrator Discretion: The amended rules give arbitrators more leeway in conducting their arbitrations. Under new Rule R-8, parties may now file requests to consolidate arbitrations or join additional parties. If the parties do not agree, the initial arbitrator or a special consolidation arbitrator decides whether (i) the arbitrations raise common issues of law or fact, (ii) the agreements to arbitrate are compatible, and (iii) consolidation would further “justice and efficiency.” Under new Rule R-34, arbitrators now have the discretion to limit dispositive motion practice and to award fees and costs related to those motions. The rules also clarify optional remedies for non-payment of arbitration fees and costs that arbitrators may implement at their discretion.

Increased Amount-in-Controversy Requirements: The amended rules increase the amount-in-controversy requirements for several types of arbitrations. Claims of up to $100,000 now qualify for expedited arbitration under new Rule R-1(b) (up from $75,000). Under new Rule R-1(c), the amount-in-controversy requirement for the large, complex case track has increased to $1 million (up from $500,000). For a large, complex case to qualify for a panel of three arbitrators, Procedure L-2(a) mandates that claims be $3 million or more (up from $1 million).

Confidentiality: The amendments add a confidentiality provision in new Rule R-45, which codifies obligations of the arbitrators and the AAA to keep all matters related to an arbitration confidential. It also authorizes arbitrators to issue confidentiality orders under new Rule R-45(b).

Pandemic-Era Interpretations Codified: New Rules R-22, R-25, R-33, and Expedited Procedure E-7 codify the prior rules’ interpretation during the COVID-19 pandemic and expressly allow arbitrators to conduct hearings remotely. Building on lessons learned from the pandemic, arbitrators are also authorized to compel the use of video or electronic means for some or all of the hearing.

Awards: New Rule R-48 allows an arbitrator to electronically sign an award, unless applicable law requires otherwise, and new Rule R-52 is updated to allow an arbitrator, upon a party’s request, to interpret the award. This is in addition to modifying an award for clerical, typographical, or computational errors (as was previously allowed under former Rule R-50).

Ninth Circuit Court of Appeals Grants Rehearing Following Viking River Cruise

By Leslie A. Berkoff, Partner at Moritt Hock & Hamroff LLP, Chair of Dispute Resolution Department

The Ninth Circuit Court of Appeals just withdrew its prior decision in Chamber of Commerce v. Bonta and granted rehearing following the U.S. Supreme Court’s recent decision in Viking River Cruises, Inc. v. Moriana. In Viking River, the Court held that a California law precluding the division of actions under the Private Attorney General’s Act (PAGA) into individual and non-individual claims through an agreement to arbitrate was preempted by the Federal Arbitration Act (“FAA”). The original decision by the Ninth Circuit had upheld portions of a California Law enacted pursuant to Assembly Bill 51 (“AB 51”) prohibiting employers under the California Fair Employment and Housing Act, and/or the Labor Code, from requiring employees to sign an arbitration agreement as a condition of employment, continued employment, or the receipt of employment-related benefits. Critically, AB 51 did not invalidate the underlying arbitration agreement, but rather only imposed civil and criminal penalties upon offending employers.

Upon challenge by the U.S. Chamber of Commerce and other agencies, the District Court determined that AB 51 violated the FAA as it placed arbitration agreements on unequal footing with other agreements and subjected employers who required their employees to enter into arbitration agreements to civil and criminal penalties, thereby undermining the FAA’s goals of promoting arbitration. On appeal, the Ninth Circuit reversed the District Court’s decision in part and found that AB 51 was not entirely preempted by the FAA. The majority of the Court concluded that because AB 51 addressed only “pre-agreement employer behavior” and not the actual arbitration agreement, the law did not invalidate or render unenforceable arbitration agreements covered by the FAA and therefore was not preempted by the FAA. The majority went on to hold that the FAA preempted AB 51 only to the extent that this rule imposed civil or criminal penalties on employers who executed arbitration agreements governed by the FAA. The majority’s analysis was challenged in the dissenting opinion. The dissent found that the FAA resoundingly invalidated any law that impeded the formation of arbitration agreements and, as such, AB 51 on the whole violated the FAA. Moreover, the dissent considered the State of California’s attempt to “workaround” the FAA by focusing on pre-agreement behavior as an attempt to circumvent the FAA and thwart the preemptive provisions of the FAA.

Although the U.S. Chamber of Commerce (and other agencies) immediately filed a petition for rehearing en banc, the original Ninth Circuit panel deferred consideration of this petition, choosing to await the Supreme Court’s pending decision in Viking River Cruises. The recent decision to withdraw the opinion is important as it suggests that the panel may rule that the FAA preempts AB 51 in its entirety. No date has been set as of yet for the rehearing.