Monthly Archives: April 2018

April 2, 2018

Corwin: No Cleansing for Tesla Due to Musk’s Control

Last week, the Delaware Chancery Court rejected Tesla’s attempt to use the Corwin doctrine to cleanse its 2016 acquisition of Solar City, a company affiliated with Tesla’s CEO, Elon Musk. In In re Tesla Motors Stockholders Litigation, (Del. Ch.; 3/18), Vice Chancellor Slights rejected the company’s contentions that Corwin should apply to the transaction. Instead, the Vice Chancellor held that the plaintiffs were entitled to proceed with their fiduciary duty claims against Musk and the Tesla board.

Vice Chancellor Slights said that while the case was a “close call,” it was “reasonably conceivable” that Musk was a conflicted controlling shareholder – and that for that reason, Corwin did not apply. Although Musk only holds about 22% of Tesla’s stock, the Vice Chancellor held that other factors provided sufficient indicia of control to conclude that the plaintiffs deserved their day in court:

The combination of well-pled facts relating to Musk’s voting influence, his domination of the Board during the process leading up to the Acquisition against the backdrop of his extraordinary influence within the Company generally, the Board level conflicts that diminished the Board’s resistance to Musk’s influence, and the Company’s and Musk’s own acknowledgements of his outsized influence, all told, satisfy Plaintiffs’ burden to plead that Musk’s status as a Tesla controlling stockholder is reasonably conceivable.

The facts developed in discovery may well demonstrate otherwise. But Plaintiffs have secured a right to pursue that discovery by adequately pleading their breach of fiduciary duty claims and the ab initio inapplicability of Corwin.

Last month, the Chancery Court reached a somewhat similar result in In re Oracle Shareholders Derivative Litigation (Del. Ch.; 3/18) – holding that founder & minority shareholder Larry Ellison’s influence over the board was sufficient to excuse demand in a derivative case.  Prof. Ann Lipton blogged that the Oracle & Tesla cases illustrate the inadequacy of Delaware’s controlling shareholder doctrine:

What both Tesla and Oracle really illustrate, then, is the inadequacy of pinning the level of judicial scrutiny to a bright line distinction between controlling and noncontrolling stockholder status in the first place. Yes, Musk was a large stockholder, but his stockholdings were the least important mechanism by which he dominated the board (and potentially influenced voting stockholders as well).

Ironically, the blog says that Corwin itself has played a big part in creating this problem – “by heightening the significance of the stockholder vote only for transactions that fall into a specific category, the Delaware Supreme Court wound up placing pressure on the boundaries of that category.”

The blog also points out that Tesla is another example of Delaware’s willingness to scrutinize business and social ties between directors and shareholders – and that those ties can be a factor not merely in independence determinations, but in deciding whether someone should be regarding as a controlling shareholder.

John Jenkins