In a ruling from the bench, Vice Chancellor Laster granted a motion to dismiss brought by the defendants in a controlling-stockholder transaction (Swomley v. Schlecht, No. 9355-VCL, (Del. Ch. Aug. 27, 2014) (TRANSCRIPT)). The ruling is significant for its application of the test in Kahn v. M & F Worldwide Corp. for shifting the standard of review from entire fairness to business judgment, particularly for its interpretation of the price element of that test (88 A.3d 635 (Del. 2014)). VC Laster also held that the test applies equally to transactions involving private companies.

The transaction in dispute was a cash-out merger involving SynQor, a privately held Delaware corporation, at a price of $1.35 per share in cash. The counterparty to the merger was a management group comprised of Dr. Martin Schlecht and other members of senior management of the company. Collectively, they owned approximately 46% of the company's outstanding stock on a fully diluted basis, with Schlecht himself personally owning 43%. The board at the time of the transaction comprised of three directors: Schlecht and two outside, independent directors, Joseph Martin and Kenneth Bradley.

The defendants structured the transaction to satisfy the test for qualifying for review under the business judgment rule as set forth in M & F Worldwide (see Practice Note, Fiduciary Duties of the Board of Directors: Avoiding Entire Fairness Review by Employing Procedural Protections). Martin and Bradley comprised the special committee of independent directors that would negotiate with Schlecht, and they were empowered by the resolution forming the special committee to reject any transaction with the management group. The resolution also mandated a non-waivable condition that any transaction obtain the approval of a majority of the stockholders unaffiliated with the management group.

The merger was eventually approved by a vote of 97% of all stockholders and 61% of the unaffiliated stockholders.

The plaintiffs attempted to call several elements of the special committee's independence and process into question. The plaintiffs noted that because SynQor was a privately owned and controlled corporation, years had gone by where the full stockholder body had not had a chance to elect the directors, which, in the plaintiffs' view, meant that the independence of the two directors could not be fully assessed.

The plaintiffs also pointed out that the initial term sheet circulated before the first board meeting to discuss the proposal did not state firmly that the transaction must require a non-waivable condition of approval of a majority of the unaffiliated stockholders. Instead, the term sheet contained a parenthetical questioning whether or not the majority-vote condition would be waivable or not.

The plaintiffs placed the most emphasis on the price element of the M & F Worldwide test and footnote 14 of that decision, which has been widely remarked upon for its apparent toughening of the standard that the Delaware Court of Chancery first articulated in In re MFW Shareholders Litigation, 67 A.3d 496 (Del. Ch. 2013). In M & F Worldwide, the Delaware Supreme Court made one change to its recitation of the Court of Chancery's test in MFW when it added that the special committee must meet its duty of care in negotiating a fair price. The plaintiffs argued strenuously that the Supreme Court intended to introduce substantive review of the price in controlling-stockholder transactions and that dismissal at the pleadings stage would therefore be inappropriate.

In his own questioning during the defendant counsel's presentation, VC Laster noted another distinction with the facts in M & F Worldwide, namely that the initial offer from Schlecht was not self-disabling in the way that the controlling stockholder's offer in M & F Worldwide was. In M & F Worldwide, the controller stated up-front that it would not proceed with a transaction unless both a special committee of independent directors negotiated it and the transaction was conditioned on the approval of a majority of the unaffiliated stockholders. Here, Schlecht himself did not mention a non-waivable approval condition when he first approached the board with a proposal. Rather, the condition arose from the board's own resolution establishing the special committee.

VC Laster held that the transaction had satisfied the test for qualifying for review under the business judgment rule and that the motion to dismiss should be granted.

VC Laster began by stating that although he himself had raised the question of whether the M & F Worldwide test should be applied equally to a private corporation as to a public one, he agreed with the defendant that it should. In general, he noted, Delaware law has not made distinctions between public and private companies, a principle affirmed in Nixon v. Blackwell, 626 A.2d 1366, 1379 (Del. 1993). VC Laster had asked aloud whether the additional protections that public stockholders have, even in light of the controller's influence, such as the possibility of an exit and the benefit of a market price, might "buoy" the application of the M & F Worldwide test by raising confidence that the stockholders were adequately protected. However, he agreed that M & F Worldwide made no mention of any public/private distinction and that the stockholders of SynQor had received a proxy statement similar to what public stockholders could expect to receive. In any event, while VC Laster did not definitively foreclose the possibility that the M & F Worldwide test might be applied more strictly in certain private-ownership scenarios, he did not pursue that line of argument further here.

VC Laster next stated his agreement with the defendants that the M & F Worldwide test is available to be applied at the motion-to-dismiss stage. In VC Laster's view, this had been the expectation ever since the unified standard of review eventually adopted in MFW was first introduced in In re Cox Communications, Inc. Shareholders Litigation, 879 A.2d 604 (Del. Ch. 2005). VC Laster added that allowing for a dismissal when appropriate would "fulfill the promise" implicit in Weinberger v. UOP, Inc. and Rabkin v. Hunt Chemical Corp. that courts would be prepared to distinguish between complaints that raise breach of fiduciary duty claims and complaints that only challenge judgment factors of valuation (457 A.2d 701 (Del. 1983) and 498 A.2d 1099 (Del. 1985)).

Turning to application of the six factors of M & F Worldwide, VC Laster agreed with the defendants that Schlecht's own hedging on the issue of non-waivability in the initial term sheet was of no consequence, because at that point the board had essentially not even heard of the proposal in any formal way. The hardening of that requirement in the board resolution that created the special committee was enough to establish the up-front requirement for a non-waivable condition of approval. Similarly, the board's own resolution essentially acted as a self-disabling action by Schlecht, because Schlecht was a member of the board that passed that resolution.

VC Laster then took note of the various "atmospheric factors" that plaintiffs' counsel raised regarding the special committee's independence, including the fact that the independent directors had never themselves faced a full stockholder meeting. But VC Laster dismissed those arguments, relying on that fact that then-Chancellor Strine had not considered them in MFW.

VC Laster finally addressed the price component. VC Laster acknowledged that the price element had been added by the Delaware Supreme Court over and above the initial formulation of the standard in MFW. However, VC Laster emphasized that M & F Worldwide only requires that the special committee meet its duty of care in negotiating the price. Under Delaware law, the duty of care is measured by a gross negligence standard (see Aronson v. Lewis, 473 A.2d 805, 812 (Del. 1984)). Here, the special committee negotiated improvements in the merger price from an initial offer of $1.10 per share to a final offer of $1.35 per share. Whatever bases there might be for debating their strategy or tactics would not rise to the level of an accusation of gross negligence.

Although bench rulings are technically not to be considered precedential, the ruling in Swomley v. Schlecht is valuable for its signal of how the Delaware Court of Chancery will interpret M & F Worldwide. The ruling demonstrates that the Court of Chancery might be prepared to apply M & F Worldwide more liberally than had first been anticipated (or feared). In particular, the ruling evidences Vice Chancellor Laster's views that:

Most critically, the ruling helps resolve an open question as to what the Delaware Supreme Court meant when it added a price element to the test and how that element would be interpreted. The court will review the special committee's efforts on price on a standard of gross negligence, which is a far cry from the concern that the Supreme Court had required something akin to entire fairness review on price.