May 17, 2017

Post-Merger Standing: Chancery Court Dismisses “Viable” Caremark Claim

Breaches of a director’s oversight responsibilities implicate the duty of loyalty, but these so-called “Caremark” claims are notoriously difficult to make. This Paul Weiss memo reviews In re Massey Energy Company (Del. Ch.; 5/17), where Chancellor Bouchard said that the plaintiffs made a viable Caremark claim against the company’s directors – but held that they lacked standing due to the company’s merger with a buyer.

The case arose out of the worst US mining disaster in 40 years, in which 29 Massey employees lost their lives. Governmental investigations established that the incident resulted directly from Massey’s willful & systematic violations of safety rules. Several company executives – including its former Chairman & CEO – were convicted of criminal wrongdoing.

Massey was acquired shortly thereafter, and the shareholder plaintiffs filed a derivative action. The memo notes that while Chancellor Bouchard believed the shareholders stated a Caremark claim, they no longer had standing to bring it:

It is well-settled Delaware law that, subject to two limited exceptions, under the so-called “continuous ownership rule,” shareholders of Delaware corporations must hold shares not only at the time of the alleged wrong, but continuously thereafter throughout the litigation in order to have standing to maintain derivative claims, and will lose standing when their status as shareholders is terminated as a result of the merger.  Here, the plaintiffs lost their shares as a result of the Massey-Alpha merger, and therefore lost standing to bring their derivative claim.

A Caremark claim requires the plaintiff to show a conscious failure to act on the part of directors after being alerted to “red flags” of illegal conduct.  It has been called “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.” Despite its ultimate outcome, this case is worth reading as an illustration of the kind of egregious conduct that is necessary to make a viable Caremark claim.

John Jenkins