M & A Law Prof Blog

Editor: Brian JM Quinn
Boston College Law School

Monday, March 1, 2010

Dow and Futility

In re Dow, decided last month in the Chancery Court, is a good review of the mechanics of futility pleading since this is an area that students sometimes find confusing, it’s probably worth thinking about this for a few minutes – even though it’s now Spring Break around here.

The defendants in this action are directors of Dow Chemical.  Plaintiffs brought suit alleging a number of nefarious acts, including various violations of the directors’ duties of care and loyalty with respect to Dow’s failed 2008 link up with Rohm & Haas.  In that transaction, Dow agreed to acquire Rohm & Haas for $18 billion.  The merger agreement did not contain a financing contingency.  While the transaction did not include a reverse termination fee and the seller did not give up equitable remedies, the merger agreement did include a “ticking fee” of $3.3 million per day for any delay up to six months following the receipt of regulatory approval.  Not long after the deal was signed as we all remember, the markets went South and deals like this one started to look less and less attractive ex post.

The plaintiff’s primary allegation was that the Dow directors breached their fiduciary duties by entering a merger agreement with Rohm & Haas that did not contain a financing condition.  The plaintiffs are arguing that the Dow board was wrong in not negotiating an effective financing contingency in its merger agreement.  This is not the kind of claim that’s going to win very often – absent an egregious series of facts that aren’t present.

No matter, Chancellor Chandler didn’t let the case get that far.  In their complaint, the plaintiffs argued that demand on the board would have been futile and thus should be excused.  Chancellor Chandler applied the Aronson test.  To satisfy Aronson plaintiffs must plead particularized facts that raise a reasonable doubt either (i) that a majority of the directors who approved the transaction in question were disinterested and independent, or (ii) that the transaction was the product of the board’s good faith, informed business judgment.

The plaintiffs failed to make a showing that any of the directors were “interested.”  Rather, they argued that the majority of the board lacked “independence.”  Seven of the board members, plaintiffs argued, had substantial ties to Liveris, the CEO.  Liveris, the court notes, was not interested in the transaction, however.  Without an interested director, there is nothing to hang a dependent director argument on.  And the argument fails. 

Chancellor Chandler highlights two other common independence arguments and puts them away.  First, a director who is beholden to the corporation for his or her livelihood is does not lose his or her independence for that reason alone.  In such circumstances, the director’s interests are aligned with the corporation so there is no reason to fear (absent other facts) that such a director will be adversely influenced in his or her decision-making.  Second, the mere allegation of outside business relationships among directors will not be sufficient to sustain the “domination and control inquiry” required to show lack of independence.

Next, the Chancellor turns his attention to the second prong of Aronson which requires the “plaintiffs must plead particularized facts sufficient to raise (1) a reason to doubt that the action was taken honestly and in good faith or (2) a reason to doubt that the board was adequately informed in making the decision.”

Chancellor Chandler notes that the plaintiff’s complaint is “devoid” of any allegations that the board was not informed. Rather, the plaintiffs were simply unhappy with the board’s decision.

Simply put, plaintiffs take issue with the substantive decisions of the R&H Transaction, instead of the process the board followed. This Court made clear in Citigroup that substantive second-guessing of the merits of a business decision, like what plaintiffs ask the Court to do here, is precisely the kind of inquiry that the business judgment rule prohibits.

The plaintiffs unsuccessfully argued that certain “bet the company” transactions require a higher standard of care.  To be honest, it’s a loser of an argument.  If it had any chance of succeeding, one would already see it applied to the actions of selling boards in other contexts, but Delaware hasn’t adopted a “bet the company” jurisprudence so we don’t see it on the sell-side where courts are more concerned. 

Chancellor Chandler similarly bats away the plaintiff’s “red flags” argument:

Recently, the Supreme Court clarified the concept of bad faith in Lyondell Chemical Co. v. Ryan, noting that “[i]n the transactional context, [an] extreme set of facts [is] required to sustain a disloyalty claim premised on the notion that disinterested directors were intentionally disregarding their duties.” Plaintiffs must show that defendants completely and “utterly failed” to even attempt to meet their duties.

"Utter failure" is a tough standard that requires a very extreme set of facts, which are not present in Dow.  I'm thinking that plaintiffs' counsel should put that argument away unless there are some real facts to back it up.

In any event, if you are looking for a nice review of the standards for futility and their application, In re Dow is a good place to start and might even be worth reading on a beach during Spring Break! 



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