Important fiduciary duty case for major non-controlling holders in Delaware corp | Hacker News Reader

Important fiduciary duty case for major non-controlling holders in Delaware corp

gibsondunn.com

22 pointsgrellas6 comments

This might be pretty technical legal stuff for HN but I posted it to alert private equity investors to an important California decision that limits their fiduciary-duty exposure for corporate actions in Delaware corporations.

Bottom line: if you are not a "controlling" shareholder, you can exercise special rights as a shareholder (such as a right to veto a deal) given to you by the terms of your investment without having that action second-guessed as being allegedly inimical to the best interests of the corporation and its shareholders on some theory that you breached fiduciary duties owed to the company (the ruling held that no fiduciary duty is owed in such a case). In other words, when it comes to exercising special rights given to them by a startup in connection with their investment, investors can freely act in their own self-interests without regard to its impact on the company.

This is primarily of interest to angel and VC investors (who might have a direct financial stake in such matters) but also to founders who need to understand that, when special rights are given to investors, they may be freely exercised against what the founders perceive to be theirs and the company's interests (therefore don't give these rights unless you intend to live with the consequences).

I think there are some important distinctions, though. One seemingly major factor in this case was that at no point was it "unfair" to the other investors. At each round, all the other investors had the opportunity to participate on a pro rata basis:

  The determinative factor in the entire fairness analysis was that Baker had structured the financing so that every 
  shareholder of Wine.com could, if it wanted to, purchase its pro rata share of the offering.  In other words, the 
  transaction was not for the "exclusive benefit" of defendants, which under Delaware law is strong evidence of 
  fairness.

Giving the other investors the opportunity to participate on a pro rata basis isn't per se "fair." The technique can be used to freeze out other shareholders that don't have the liquid capital to participate in the transaction.

Legal fairness may bear little relation to what lay people consider fair. For instance as long as you and a large corporation both have lawyers, a court fight between the you is considered "fair" even though the large corporation has substantially more resources and likely has better lawyers.

In this case the standard of fairness to apply is Delaware law. And under Delaware law, that was fair.

Sure, but that analysis only matters if they'd been found to owe fiduciary duties.

As I understand it, there are two distinct conclusions.

One, they did not owe fiduciary duties, as discussed above.

Two, even if they did owe these duties, they didn't breach them.

Bear in mind, they would have won even if the court found against them on point two.

And in general, minority investors should always be handled with the assumption that they can and will do arbitrary things to kill deals. And then, they will sue you. :(

It's not that bad all the time, but prepare for the worst and hope for the best.

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