In October 2021, in United Food v. Zuckerberg, the Delaware Supreme Court adopted a new three-part test for evaluating whether demand is futile in derivative suits. Prior to Zuckerberg, demand futility was long governed by Aronson v. Lewis (1984) and Rales v. Blasband (1993). The Aronson test excuses demand as futile if the allegations raise a reasonable doubt that “the directors are disinterested and independent” or that “the challenged transaction was otherwise the product of a valid business judgment.” The Rales test excuses demand if the allegations create a reasonable doubt that a majority of the board in place at the time of the demand “could have properly exercised its independent and disinterested business judgment in responding to a demand.” Without expressly overruling Aronson and Rales, the Delaware Supreme Court in Zuckerberg adopted a new three-part test, applied on a director-by-director basis, that excuses demand as futile if any of the three parts is true for at least a majority of the members of the board. The Delaware Supreme Court’s affirmance of the Court of Chancery’s holding in In re Camping World that the plaintiffs did not properly plead that demand was futile further cements the utilization of the Zuckerberg standard as the governing law in demand futility analysis.
In Camping World, plaintiffs filed a stockholder derivative complaint claiming breach of fiduciary duty and unjust enrichment by Camping World insiders related to information provided in public disclosures in 2017 and 2018 about problems with Camping World’s integration of Gander Mountain Company. The plaintiffs did not make a demand before seeking to pursue claims on the company’s behalf, arguing that demand was futile because a majority of the board members were interested because they faced a substantial likelihood of liability on the claims and that certain directors lacked independence from an interested party. The Delaware Court of Chancery applied the Zuckerberg legal standard for demand excusal. Under the Zuckerberg standard, demand is excused as futile if the majority of the board (1) received a material personal benefit from the alleged misconduct, (2) faced a substantial likelihood of liability on any of the claims, or (3) lacked independence from someone who received a material personal benefit from the alleged misconduct. The Court of Chancery held that a majority of the board could exercise independent and disinterested judgment in responding to a demand, and that the plaintiff failed to plead particularized factual statements that are essential to the claim.
With Zuckerberg being further cemented as the standard for assessing demand futility in Delaware, companies facing derivative claims have greater clarity regarding the procedural standard they must meet. The key takeaway for the demand futility analysis will be whether a majority of the directors face a substantial likelihood of liability, or if they are otherwise unable to consider a demand because they are not independent from someone who does.
This post is as of the posting date stated above. Sidley Austin LLP assumes no duty to update this post or post about any subsequent developments having a bearing on this post.