DealLawyers.com Blog

There’s already been plenty of news coverage of the decision in City of Coral Springs Policy Officers’ Pension Plan v. Dorsey, (Del. Ch.; 5/23). But, for us lawyers, what @chancery_daily pointed out on Twitter and, of course, the news articles don’t is that this was really a demand futility case. I don’t blame the reporters for being swept up in the celebrity names and bad business decisions. Most importantly, Chancellor McCormick was not swayed by the bad facts, and so we have a fun read, and not bad law. Here’s the “quick” background:

Dorsey, founder, President and CEO of Block, is close friends with Jay-Z, who held a significant stake in TIDAL, a music streaming company, and had personally extended the company a $50 million loan. While the two friends were summering in the Hamptons, they chatted about Block (which had no existing intent to enter the music streaming industry) acquiring TIDAL and, while there, Dorsey joined a regular Block board meeting by video and raised the idea. The opinion details the resulting process, which involved forming a transaction committee, holding some meetings, lots of questions by the members, not so great answers, and ultimately the consummation of the deal at a reduced purchase price. Block’s stock dropped 7% on announcement.

Plaintiff stockholders filed a derivative suit, defendants moved to dismiss for failure to make a demand on the board, and the plaintiff stockholders argued futility. Chancellor McCormick assessed demand futility on a director-by-director basis under the Zuckerberg test, which assesses whether the director received a material personal benefit from the alleged misconduct, faces a substantial likelihood of liability or lacks independence from someone who received such a benefit or faces such likelihood. The demand would be excused if the answer to any question is yes for at least half of the board.

Since the company’s certificate contained an exculpation clause, to show a substantial likelihood of liability, plaintiff had to show that the directors were self-interested, beholden to an interested party or acted in bad faith. Six members of the board were independent, non-transaction committee members, for which Chancellor McCormick easily determined that their alleged failure to sufficiently supervise the transaction committee, even if true, was not bad faith. Dorsey, on the other hand, was clearly interested. With respect to the transaction committee defendants, the plaintiff tried to argue that Dorsey was basically pulling the deal forward singlehandedly and the transaction committee took an “ostrich-like” approach; even though they asked a lot of questions, “the answers did not seem to matter.”

Here’s an excerpt from the opinion:

Although the facts emphasized by Plaintiff do not generate tremendous confidence in the Transaction Committee’s process, they fall short of supporting an inference of bad faith. Effectively, Plaintiff asks the court to presume bad faith based on the merits of the deal alone. Plaintiff does not allege that the Transaction Committee lacked a business reason for wanting to acquire TIDAL—the presentation materials show management’s strategic goals for expanding Block into the music industry. Plaintiff does not attempt to allege that any of the Committee Defendants were in any way beholden to Dorsey. Plaintiff acknowledge that the Committee Defendants did not sit idly by while Dorsey presented. They asked many appropriate questions before the October 20 meeting, and they asked many appropriate follow-up questions in advance of the next meeting on January 22. The Transaction Committee were presented with over twenty single-spaced slides providing management’s detailed answers to each of these questions.

You can see that Chancellor McCormick sided with the defendants, but she also admitted that the deal “seemed, by all accounts, a terrible business decision.” Matt Levine summed this up as Chancellor McCormick saying “lol this was all ridiculous, but even so I’m going to allow it, because around here we defer to independent boards of directors.”

– Meredith Ervine