The Dog That Didn’t Bark: Court of Chancery Decision Reaffirms the Strength of the Demand Futility Standard
In July, in Vladimir Gusinsky Revocable Tr. v. Hayes, No. CV 2022‑1124‑MTZ (July 23, 2024), Vice Chancellor Zurn issued an opinion reiterating the high bar a plaintiff must overcome to excuse demand.
The Gusinsky decision stems from the treatment of equity awards following the merger of United Technologies Corporation (“UTC”) and Raytheon Company to form Raytheon Technologies Corporation (“RTX”), a transaction that also involved the spinoff of two UTC subsidiaries. UTC adopted a conversion formula to calculate the value of the equity awards after the transaction that relied upon the value-weighted average price of the relevant stock in the days following the closing. The transaction then closed on April 3, 2020, a time of unprecedented market volatility caused by the COVID‑19 pandemic. This caused the conversion formula to work differently than intended, assigning disproportionately high values to certain awards under the relevant long-term incentive plans. This, in turn, caused RTX to become concerned about negative impacts on retention and morale for its employees. As a result, the 15-member RTX board formed a three-member special committee to determine, among other things, whether an amendment to the conversion formula was in the best interest of the company and its stockholders, and, if the committee recommended amendment, to “provid[e] final approval” for any such amendment.
The relevant UTC plans required stockholder approval for any modification, except in the case of a spinoff or other specified events. Ultimately, the special committee unanimously approved an amendment to the conversion formula, however, without seeking a stockholder vote. The plaintiff then filed suit, alleging that the RTX board intentionally abandoned its duty by authorizing the special committee to modify the plans and approve the amendment without stockholder approval. The defendants moved to dismiss for failure to plead demand futility and the Court of Chancery granted the motion.
Alleging demand futility on the basis that a majority of the board faces a substantial likelihood of non-exculpated liability, as the plaintiff here attempted to do, requires a plaintiff to plead that a majority of the board intentionally disregarded its duties or otherwise acted in bad faith. The Court of Chancery held that the plaintiff failed to make this showing. First, the Court of Chancery held that the plaintiff had not adequately pleaded that the full Board made any decision whatsoever regarding the need for a stockholder vote. Instead, the Court of Chancery found, the Board delegated that decision to the three-member committee, so the plaintiff failed to make a showing that the requisite majority of the board faced a substantial likelihood of liability with respect to the decision. Even if that were not the case, the Court of Chancery noted that the complaint expressly alleged that the Board was not aware that the amendment could implicate the stockholder approval requirements. As a result, the Court of Chancery held, the complaint could not make a showing that the Board deliberately ignored the stockholder approval provisions, as required in order to make out a bad faith claim.
This decision affirms the high bar to plead demand futility against exculpated directors. In the recent In re Match Group, Inc. decision, the Delaware Supreme Court held that a committee formed to secure MFW protections must be wholly independent — not simply majority independent — in order to serve that function. The Gusinksy case affirms the importance of the distinctions between the MFW and demand contexts. Here, because the complaint itself alleged that 12 members of the 15-member board never considered the relevant issue, the Court did not consider the merits of the plaintiff’s allegation against the remaining three members. A majority of the Board was not alleged to have committed any non-exculpated wrongdoing, so demand could not be excused.
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.
