The Court of Chancery’s April 29, 2020 decision in Gilbert v. Perlman et al. supports the conclusion that a company’s minority stockholder cannot be considered part of a “control group” (and therefore will not owe fiduciary duties to the company and other minority stockholder) unless the controlling stockholder cedes some material aspect of its control to the minority stockholder as part of an agreement to act in concert to achieve a corporate action.
In that case, the plaintiffs, minority stockholders of Connecture, Inc. (“Connecture” or the “Company”), filed suit asserting that the Company’s controlling stockholder, defendant Francisco Partners, breached the fiduciary duty of loyalty by taking the Company private through a cash-out merger at an unfair price and using an unfair process. The plaintiffs further alleged that minority stockholder-defendants, Chrysalis Ventures and David A. Jones, Jr., also are liable for breaches of fiduciary duty because they were part of the “control group” that forced the allegedly unfair merger. Defendants Chrysalis Ventures and Jones moved to dismiss the plaintiffs’ allegations under Rule 12(b)(6), insisting that the Complaint failed to state a claim against them because it lacked allegations sufficient to draw the reasonable inference that defendants Chrysalis Ventures and Jones were part of a “control group” with Francisco Partners. The Court of Chancery agreed.
The Court began its analysis by acknowledging that controlling stockholders owe the fiduciary duties of loyalty and due care to minority stockholders. Delaware courts typically will not consider a stockholder to be controlling if it owns less than half of a corporation’s shares. However, a minority stockholder will be considered part of a “control group” (and owe fiduciary duties) if (1) there is a “legally significant” relationship between the minority and controlling stockholders, and (2) the controlling stockholder gives up some material element of its control in return for the minority stockholder’s assistance.
The Court found that the Complaint sufficiently alleged that defendants Francisco Partners, Chrysalis Venture, and Jones had “legally significant” relationships. Francisco Partners and Chrysalis Ventures, for example, entered into a voting agreement to support the merger. In addition, defendants Francisco Partners, Chrysalis Venture, and Jones coordinated the purchase of a majority of the Company’s stock through private placements. Those relationships, however, could not overcome the fact that the Complaint failed to allege that defendant Francisco Partners shared or limited its control powers in order to get defendants Chrysalis Ventures and Jones to approve the merger. Without such allegations, the Court of Chancery could not reasonably infer that defendant Francisco Partners shared power with defendants Chrysalis and Jones. Given that the Complaint failed to establish that defendants Chrysalis and Jones exercised control over the Company, the plaintiffs’ fiduciary duty claims against defendants Chrysalis and Jones were dismissed because those defendants did not owe a fiduciary duty to Connecture or its stockholders.
For the minority stockholder who may find it useful, beneficial or expedient to vote, cooperate, or coordinate with a controlling stockholder or group, Gilbert is instructive that doing so will not give rise to fiduciary duties, unless the test described above is satisfied.