Venture Capital Firms Did Not Constitute a Control Group Barring Stockholder Direct Claims for Dilution
To avoid demand futility and standing requirements for a derivative claim, the plaintiff stockholders in Sheldon v. Pinto Technology Ventures attempted to plead a direct claim for dilution of their voting and economic interests by alleging that several venture capital firms constituted a "control group" of stockholders under Gentile.
December 13, 2019 at 02:44 PM
4 minute read
Dilution claims are "classically derivative" under Delaware corporate law. In Gentile v. Rossette, 906 A.2d 91 (Del. 2006), the Delaware Supreme Court recognized an exception that dilution claims can be both derivative and direct in character when: "a stockholder having majority or effective control causes the corporation to issue 'excessive' shares of its stock in exchange for assets of the controlling stockholder that have a lesser value; and the exchange causes an increase in the percentage of the outstanding shares owned by the controlling stockholder, and a corresponding decrease in the share percentage owned by the public (minority) shareholders."
To avoid demand futility and standing requirements for a derivative claim, the plaintiff stockholders in Sheldon v. Pinto Technology Ventures, No. 81, 2019 (Del. Oct. 4, 2019), attempted to plead a direct claim for dilution of their voting and economic interests by alleging that several venture capital firms constituted a "control group" of stockholders under Gentile.
The Delaware Supreme Court ruled in Gentile that multiple stockholders can constitute a "control group" if they are connected in some legally significant way, such as by contract or other agreement, or working together toward a shared goal.
In Sheldon, the Delaware Supreme Court affirmed the Delaware Court of Chancery's dismissal of the alleged direct claim for dilution of the voting and economic interests of plaintiff stockholders because plaintiffs failed adequately to plead that the venture capital firms constituted a "control group." To begin its analysis, the court noted the guideposts that define a "control group" established by In re Hansen Medical Stockholders Litigation, (Del. Ch. June 18, 2018), and van der Fluit v. Yates, (Del. Ch. Nov. 30, 2017). In Hansen, two individuals and their affiliated entities had a 21-year history of coordinating investments in at least seven different companies, and had declared themselves to the SEC as a "group of stockholders." When the stockholders in Hansen invested in the company at issue, they were the largest stockholders and negotiated certain terms in a merger agreement that were not shared by minority stockholders. Relying upon the 21-year investment history in Hansen, the Court of Chancery found that the stockholders were controllers. By contrast in van der Fluit, the plaintiff alleged that a group of tech industry entrepreneurs and venture capital firms comprised a control group that controlled certain members of the board. But, the only legally significant connection that the van der Fluit plaintiff cited was two shareholders agreements, to which the entrepreneurs and venture firms were parties. Notably, however, other shareholders that were parties to those shareholder agreements were not alleged to be part of the control group in van der Fluit. On these facts, the Court of Chancery found that the plaintiff's allegations were insufficient to establish the existence of a "control group."
Here, in contrast to a 21-year coordinated-investment history by the stockholder control group in Hansen, the court held that the stockholders being parties to a voting agreement and periodically investing in the same companies in the past was more like the control group allegations in van der Fluit, which were insufficient to establish the existence of a "control group." The court pointed out that, unlike the voting agreement in Hansen, the voting agreement here only required the parties to vote together to select certain directors, but did not require the parties to vote together on any transaction, including the allegedly dilutive transactions. Turning to the alleged common investment history, the court emphasized that the complaint identified only four companies, in which two or more of the three stockholders shared investments, and the plaintiffs failed to identify a single company, in which all three stockholders were alleged to be part of the control group that had invested. Additionally, plaintiffs did not allege that other investors that received the same rights as the defendant stockholders in the dilutive financing were part of the "control group." Without more, the court explained that the plaintiffs' "allegations merely indicate that venture capital firms in the same sector crossed paths in a few investments."
In sum, the plaintiffs failed adequately to plead the existence of a "control group" to support a direct claim for dilution. Accordingly, because the plaintiffs had not made a pre-suit demand upon the board or pleaded demand futility for a derivative claim, the court affirmed the dismissal of the action with prejudice.
Albert H. Manwaring IV ([email protected]) is a corporate governance and fiduciary litigation partner at Morris James in Wilmington.
This content has been archived. It is available through our partners, LexisNexis® and Bloomberg Law.
To view this content, please continue to their sites.
Not a Lexis Subscriber?
Subscribe Now
Not a Bloomberg Law Subscriber?
Subscribe Now
NOT FOR REPRINT
© 2024 ALM Global, LLC, All Rights Reserved. Request academic re-use from www.copyright.com. All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.
You Might Like
View AllChancery Stays Action Pending Resolution of a Motion to Dismiss in a First-Filed Action to Which the Defendant Is Not a Party
5 minute readChancery Court Exercises Discretion in Setting Bond in a Case Involving Share Transfer Restriction
6 minute readLaw Firms Mentioned
Trending Stories
- 1Don’t Settle for the Minimum: Finding Constitutional Claims Closer to Home
- 2Federal Judge Weighs In on School's Discipline for 'Explicitly Copying AI-Generated Text' on Project
- 3Unchartered Waters: The AI Phishing Wave Is Here
- 4AI Poisoning: A Novel Cybersecurity Option
- 5The Expanding Universe of Attorney Cyber Liability
Who Got The Work
Michael G. Bongiorno, Andrew Scott Dulberg and Elizabeth E. Driscoll from Wilmer Cutler Pickering Hale and Dorr have stepped in to represent Symbotic Inc., an A.I.-enabled technology platform that focuses on increasing supply chain efficiency, and other defendants in a pending shareholder derivative lawsuit. The case, filed Oct. 2 in Massachusetts District Court by the Brown Law Firm on behalf of Stephen Austen, accuses certain officers and directors of misleading investors in regard to Symbotic's potential for margin growth by failing to disclose that the company was not equipped to timely deploy its systems or manage expenses through project delays. The case, assigned to U.S. District Judge Nathaniel M. Gorton, is 1:24-cv-12522, Austen v. Cohen et al.
Who Got The Work
Edmund Polubinski and Marie Killmond of Davis Polk & Wardwell have entered appearances for data platform software development company MongoDB and other defendants in a pending shareholder derivative lawsuit. The action, filed Oct. 7 in New York Southern District Court by the Brown Law Firm, accuses the company's directors and/or officers of falsely expressing confidence in the company’s restructuring of its sales incentive plan and downplaying the severity of decreases in its upfront commitments. The case is 1:24-cv-07594, Roy v. Ittycheria et al.
Who Got The Work
Amy O. Bruchs and Kurt F. Ellison of Michael Best & Friedrich have entered appearances for Epic Systems Corp. in a pending employment discrimination lawsuit. The suit was filed Sept. 7 in Wisconsin Western District Court by Levine Eisberner LLC and Siri & Glimstad on behalf of a project manager who claims that he was wrongfully terminated after applying for a religious exemption to the defendant's COVID-19 vaccine mandate. The case, assigned to U.S. Magistrate Judge Anita Marie Boor, is 3:24-cv-00630, Secker, Nathan v. Epic Systems Corporation.
Who Got The Work
David X. Sullivan, Thomas J. Finn and Gregory A. Hall from McCarter & English have entered appearances for Sunrun Installation Services in a pending civil rights lawsuit. The complaint was filed Sept. 4 in Connecticut District Court by attorney Robert M. Berke on behalf of former employee George Edward Steins, who was arrested and charged with employing an unregistered home improvement salesperson. The complaint alleges that had Sunrun informed the Connecticut Department of Consumer Protection that the plaintiff's employment had ended in 2017 and that he no longer held Sunrun's home improvement contractor license, he would not have been hit with charges, which were dismissed in May 2024. The case, assigned to U.S. District Judge Jeffrey A. Meyer, is 3:24-cv-01423, Steins v. Sunrun, Inc. et al.
Who Got The Work
Greenberg Traurig shareholder Joshua L. Raskin has entered an appearance for boohoo.com UK Ltd. in a pending patent infringement lawsuit. The suit, filed Sept. 3 in Texas Eastern District Court by Rozier Hardt McDonough on behalf of Alto Dynamics, asserts five patents related to an online shopping platform. The case, assigned to U.S. District Judge Rodney Gilstrap, is 2:24-cv-00719, Alto Dynamics, LLC v. boohoo.com UK Limited.
Featured Firms
Law Offices of Gary Martin Hays & Associates, P.C.
(470) 294-1674
Law Offices of Mark E. Salomone
(857) 444-6468
Smith & Hassler
(713) 739-1250