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finding that a $20 million payment made to certain directors of the target company was "quite immaterial" in light of the $8.3 billion deal value, and was therefore insufficient, absent other indications of wrongdoing, to support a claim that the directors' "negotiation of a $20 million fee . . . tainted the merger's final terms in a way that injured [the target's] other stockholders"
Summary of this case from Morgan v. CashOpinion
Civil Action No. 15404.
Date Submitted: December 16, 1999.
Date Decided: December 21, 1999.
Joseph A. Rosenthal, Esquire, of ROSENTHAL, MONHAIT, GROSS GODDESS, Wilmington, Delaware; OF COUNSEL: Scott W. Fisher, Esquire, Adam Steinfeld, Esquire, of GARWIN, RANZAFT, GERSTEIN FISHER, New York, New York; Robert I. Harwood, Esquire, Jeffrey M. Haber, Esquire, WECHSLER HARWOOD HALEBIAN FEFFER, New York, New York; Nadeem Naruqi, Esquire, of FARUQI FARUQI, New York, New York, Attorneys for Plaintiff.
Kenneth J. Nachbar, Esquire, of MORRIS, NICHOLS, ARSHT TUNNELL, Wilmington, Delaware; OF COUNSEL: John D. Donovan, Jr., Esquire, John P. Bueker, Esquire, Michele T. Perillo, Esquire, of ROPES GRAY, Boston, Massachusetts, Attorneys for The Gillette Company.
Jesse A. Finkelstein, Esquire, of RICHARDS, LAYTON FINGER, Wilmington, Delaware; OF COUNSEL: Michael J. Chepiga, Esquire, of SIMPSON THACHER BARTLETT, New York, New York, Attorneys for Duracell International Inc., the Duracell Directors and KKR Affiliates.
MEMORANDUM OPINION
In this action, plaintiff Rosalyn Golaine challenges the propriety of a $20 million payment to Kohlberg Kravis Roberts Co., L.P. ("KKR") made in connection with a merger between The Gillette Company and Duracell International, Inc. Before the merger, KKR's affiliate KKR Associates, L.P. owned 34% of Duracell's outstanding common stock. It is alleged that two KKR principals who served on the Duracell board of directors — defendants Henry R. Kravis and Scott M. Stuart — conducted the merger negotiations with Gillette.
In the merger, each of Duracell's 121,369,663 shares — including those held by KKR Associates — was converted into .904 Gillette shares, resulting in an implied cost to Gillette of nearly $8.3 billion. But KKR received an additional $20 million in investment banking fees from Duracell in connection with the merger in exchange for its role in negotiating the transaction.
The defendants have filed a motion to dismiss claiming that Golaine's challenge to the $20 million payment raises solely a derivative claim and not an individual claim. Specifically, the defendants assert that the complaint fails to state facts to support an inference that the merger terms were tainted in any way by the $20 million fee. In fact, the defendants contend that the complaint fails to allege that the issue of the fee even arose before the merger price negotiations between KKR and Gillette were concluded. Furthermore, the defendants assert that the difference in consideration between what was received by KKR and what was received by the other Duracell stockholders is too insubstantial to buttress a direct attack on the fairness of the merger. Because Golaine lost her status as a Duracell stockholder as a result of the merger, she has therefore lost her standing to raise a derivative claim challenging the $20 million payment.
For virtually the same reasons, the defendants assert that the Golaine's complaint fails to state a claim for breach of fiduciary duty or waste at all, particularly because a disinterested and independent Duracell board majority approved the KKR fees.
In this opinion, I conclude that the complaint fails to state a claim that the $20 million fee to KKR tainted the merger negotiation process or the merger terms so as to render that transaction unfair to Duracell's non-KKR stockholders. Therefore, the complaint fails to state an individual claim. Furthermore, Golaine has failed to plead facts rebutting the business judgment rule's presumptive applicability to the Duracell board's decision to award KKR the fees or facts adequate to support a waste claim. Thus I grant the defendants' Rule 12(b)(6) motion.
I. A.
All facts have been drawn from the complaint.
Defendant Duracell, a Delaware corporation, is the leading American producer of alkaline batteries. After the merger, Duracell continued to exist as a separate, wholly-owned subsidiary of Gillette until July 1997, when it was merged into Gillette.
Defendant Gillette is also a Delaware corporation that is a world-class competitor in several consumer product areas, including grooming products, toothbrushes and oral care appliances, and writing instruments.
Defendant KKR is an investment bank. Defendant KKR Associates, L.P is an affiliate of KKR and the general partner of two partnerships that collectively owned 34% of Duracell's stock before the merger.
KKR or its affiliates designated four of the eleven members of the Duracell board before the merger. Defendants Kravis, Stuart, Paul E. Raether, and George R. Roberts were the four KKR designees on the Duracell board. According to the complaint, defendants Kravis and Stuart were not only directors of Duracell, but were also "general partner[s] of KKR Associates and . . . affiliate[s] of KKR"
Compl. ¶¶ 12, 13.
Defendant Charles R. Perrin was Duracell's Chairman of the Board and Chief Executive Officer, and formerly its President and Chief Operating Officer. The remaining defendants were members of the Duracell board before the merger: Earnest J. Edwards; C. Robert Kidder; Charles E. Kiernan; and G. Wade Lewis.
B.
Gillette formed a project team in August of 1995 to identify potential acquisitions. By mid-November of that same year, Duracell had been identified as a leading target. Thereafter, Gillette's Chairman of the Board, Alfred M. Zeien, approached Kravis — rather than Duracell's Chief Executive Officer, Perrin — to discuss the basis on which Gillette might acquire Duracell. According to plaintiffs, Zeien went to Kravis because he knew that given KIKR Associates' 34% block, KKR could block any transaction it did not favor.
Zeien met with Kravis and his KKR Associates partner, Stuart, on January 19 and February 6 of 1996. According to the complaint, Kravis and Stuart negotiated with Zeien wearing their KKR hats, and were not retained by and did not purport to speak for Duracell. These initial discussions were not fruitful, as "Messrs. Zeien, Kravis and Stuart determined that there were substantial differences in their views as to the appropriate values to be placed on the stock of Gillette and Duracell." As of this time, senior members of Duracell management were unaware that the discussions were even taking place.
Compl. ¶ 14.
Gillette's ardor for Duracell was such that its board decided in June of 1996 to pursue renewed talks with Kravis. Thereafter, on July 10, 1996, Zeien, Kravis, and Stuart met again to discuss a possible deal.
Two days later, Kravis and Stuart advised Duracell's senior management for the first time of the discussions they had been having with Gillette. After that notice was provided, Kravis continued to be the point person with Duracell and in that capacity worked with Stuart during July and August to negotiate the terms of a transaction.
Kravis and Zeien agreed on the fundamental price terms of the merger on August 29, 1996. Under those terms, Duracell stockholders were to receive .904 of a share of Gillette common stock for each of their Duracell shares.
At some point in the process, it was proposed that KKR receive a $20 million fee in connection with the merger for its role in negotiating the deal. The investment bank that was formally retained by Duracell in connection with the merger, Morgan Stanley Co., was to receive $10 million. The complaint is, frankly, quite vague on this topic. One cannot tell from the complaint whether Zeien and Kravis discussed the $20 million fee for KKR before negotiating and agreeing on the Exchange Ratio, or who proposed the concept of the fee. The complaint does not even touch on this subject.
What is clearly alleged is that the Duracell board met on September 12, 1996 and approved the merger, the $20 million payment to KKR, and the $10 million Morgan Stanley fee. It is also clearly alleged that the Gillette board considered the merger and the $30 million in investment banking fees the same day. The Gillette board approved the merger unanimously. The investment banking fees evoked greater controversy.
Although the $30 million payment was technically to be made by Duracell, as a matter of economic reality the fee was to be paid almost entirely by Gillette. Put another way, the $30 million in investment banking fees was a part of Gillette's acquisition costs. During its meeting, the Gillette board members apparently discussed whether they could reduce the fees. When they concluded that was not possible, eleven members of Gillette's twelve-member board voted to approve the fees. Gillette director Warren Buffett objected to the payments to KKR and Morgan Stanley and abstained from the vote approving them.
Piecing the rather elliptical complaint together, its basic logic is as follows:
• KKR undertook negotiations with Gillette for its own benefit and did not even inform the Duracell board of the discussions until a half year after they started.
• "[A]s directors of Duracell, Messrs. Kravis and Stuart had . . . fiduciary responsibility to maximize value for Duracell shareholders in the type of transaction in which Gillette was interested; and, as directors, . . . Kravis and Stuart were amply compensated by Duracell for carrying out their responsibilities to the Company and its shareholders.
• KKR was never formally retained by the Duracell board as an investment bank and was acting, through Kravis and Stuart, primarily for its own account. Yet KKR was granted a $20 million fee, a fee twice that approved by the Duracell board for its formally retained investment banker, Morgan Stanley.
• The Duracell directors' duty of loyalty "preclude[d] them from favoring one shareholder or group of shareholders over other shareholders in the allocation and distribution of the total merger consideration payable by Gillette . . . ."
• The plaintiff alleges that the $20 million payment to KKR "constitutes an improper preferential allocation of the total merger proceeds payable by Gillette."
• As a result, "plaintiff and the class [were] denied their proportionate share of the total merger consideration payable by Gillette, .904 shares for each Duracell share, plus $20 million cash."
• Thus plaintiff seeks an award granting all "class members their proportionate interest in the improper preferential payment to KKR."
Compl. ¶ 13.
Compl. ¶ 19.
Compl. ¶¶ 22(b).
Compl. ¶ 21.
Compl. ¶ 22(c).
II.
In determining whether a complaint states an individual rather than derivative claim, the court must consider the "`nature of the wrong alleged' and the relief, if any, which could result if plaintiff were to prevail." In that inquiry, the court must look to "`the body of the complaint, not to the plaintiff's designation or stated intention.'"As a result of the merger, plaintiff Golaine and all the other Duracell stockholders lost their status as Duracell stockholders and therefore their standing to sue derivatively on behalf of Duracell. Thus the question of whether Golaine's claim is individual or derivative in nature takes on heightened importance in this post-merger context.
Lewis v. Anderson, Del. Supr., 477 A.2d 1040, 1049 (1984); Parnes v. Bally Entertainment Corp., Del. Supr., 722 A.2d 1243, 1244-45 (1999); 8 Del. C. § 327.
In considering how to approach the individual-derivative distinction in this scenario, it is helpful to note that cases like this one are rather common. It is fairly standard to confront transactions wherein the stockholders of one corporation (the "target") receive consideration for agreeing to give up their shares in a merger with another corporation (the "acquiror"). In connection with the merger, management insiders, advisors, and the largest stockholders of the target may receive some benefits not shared with all the target stockholders, such as golden parachutes, advisory and consulting fees, new employment contracts, or additional merger consideration ("side transactions").
Unfortunately, Delaware law has struggled to develop a predictable method by which to distinguish the nature of claims in this context. As our Supreme Court has acknowledged, "it is often difficult to determine whether a stockholder is challenging the merger itself, or alleged wrongs associated with the merger, such as the award of golden parachute employment contracts." This acknowledgment is simply one of many expressions of frustration by our courts with the individual-derivative claim distinction in merger settings.
Parnes, 722 A.2d at 1245.
See, e.g., Turner v. Bernstein, Del. Ch., C.A. No. 16190, mem. op. at 28, Jacobs, V.C. (Feb. 9, 1999) ("a thin grey line often marks the difference between derivative and individual claims that arise in the merger context"); In re Gaylord Container Corp. Shareholders Litig., Del. Ch., Cons. C.A. No. 14616, mem. op. at 10 n. 5, 1999 Del. Ch. LEXIS 175, at *13 n. 5, Strine, V.C. (Aug. 10, 1999) (citing several cases to this effect).
But looking at the half full part of the doctrinal glass, our Supreme Court recently gave very helpful guidance in this area when it held:
Stockholders may sue on their own behalf (and, in appropriate circumstances, as representatives of a class of stockholders) to seek relief for direct injuries that are independent of any injury to the corporation. A stockholder who directly attacks the fairness or validity of a merger alleges an injury to the stockholders, not the corporation, and may pursue such a claim even after the merger at issue has been consummated. . . . In order to state a direct claim with respect to a merger, a stockholder must challenge the validity of the merger itself, usually by charging the directors with breaches of fiduciary duty resulting in unfair dealing and/or unfair price.
Parnes, 722 A.2d at 1245.
In the context of a merger transaction, the derivative-individual distinction is essentially outcome-determinative of any breach of fiduciary duty claims that can be asserted in connection with the merger by the target company stockholders. If the claims are held to be individual, then the target company plaintiff may press on. If the claims are found derivative, she may not. At best, any derivative claim may be asserted by the target corporation itself. More likely, as is overwhelmingly probable in this case, the new acquiror gave up such a right in the merger agreement itself.
Lewis v. Anderson, 477 A.2d at 1050.
See also Bershad v. Hartz, Del. Ch., C.A. No. 6960, mem. op. at 6, 1987 Del. Ch. LEXIS 380 at *7, Berger, V.C. (Jan. 29, 1987) (acquiror specifically agreed to honor golden parachutes issued in anticipation of merger). Depending on the circumstances, the new acquiror may be barred from causing the target corporation itself to do so under basic contract law or, much less commonly, the doctrine articulated by Bangor Punta Operations, Inc. v. Bangor Aroostook R.R. Co., 417 U.S. 703 (1974). The Bangor Punta was adopted by this court in Courtland Manor, Inc. v. Leeds, Del. Ch., 347 A.2d 144 (1975). But see Lewis v. Anderson, 477 A.2d at 1050 (emphasizing the limits of the Bangor Punta doctrine in the merger context).
Put another way, the individual-derivative distinction comes as close as possible to being a determination of the merits of a claim. By denominating a claim as derivative in this context, the court comes very near to immunizing the defendants from any culpability for the conduct complained of. While the courts may indulge the notion that the claims still "survive" as waste, mismanagement, or unfairness claims for dimunition of the value of the target, they usually die as a matter of fact. If there were any improper gains by insiders of the target corporation, the insiders will usually be able to retain them unless they defrauded the acquiror into entering into the merger. In this case, for example, there is no realistic chance that Gillette could successfully sue KKR for return of the $20 million, because Gillette specifically approved the payment.
It may well have been part of the merger agreement itself.
Thus cloaked within the application of the individual-derivative distinction to post-merger claims is the actual reality of the situation. If the harm alleged is seen as a derivative one, it is nearly certain to be non-compensable. But if the harm alleged is seen as individual, it may be compensable. Viewed somewhat differently, if plaintiffs fail to allege facts that convince the court that the side transactions rendered the underlying transaction unfair to the target's stockholders and instead simply allege that the acquiror's cost of acquisition was made higher, the plaintiffs fail to state an individual claim.
Parnes makes this clear. In that case, the Delaware Supreme Court found that the complaint directly attacked the fairness of both the process and the price in a merger between the Bally and Hilton Hotels corporations. The Bally Chairman and CEO "allegedly informed all potential acquirors that his consent would be required for any business combination with Bally and that, to obtain his consent, the acquiror would be required to pay [him] substantial sums of money and transfer to him valuable Bally assets." Several would-be acquirors who might have paid a higher price than Hilton walked away. Hilton, however, agreed to the CEO's demands and agreed to a large array of payments and asset transfers worth over $70 million. Based on these allegations, the Supreme Court concluded that the plaintiff had adequately alleged that the merger price was unfair and resulted from unfair dealing.
Parnes, 722 A.2d at 1245.
Id. at 1246.
In Parnes, the Supreme Court distinguished the situation before it from the one the Court had addressed in its earlier decision in Kramer v. Western Pacific Industries. The Parnes Court's discussion of Kramer bears repeating here:
In Kramer v. Western Pacific Industries, this Court discussed the differences between a derivative claim for mismanagement related to a merger and a direct claim for unfairness in the merger terms. The Kramer complaint was filed shortly before the merger of Western Pacific Industries, Incorporated with Danaher Corporation. It alleged that two of Western's twelve directors breached their fiduciary duties by "diverting to themselves eleven million dollars of the Danaher sales proceeds through their receipt of stock options and golden parachutes and [by] incurring eighteen million dollars of excessive or unnecessary fees and expenses in connection with the sale of Western Pacific." The complaint did not question the fairness of the price offered in the merger or the manner in which the merger agreement was negotiated. Nonetheless, Kramer argued that his claims of corporate waste, in the form of excessive payments to Western's management directors and others, were "tantamount to direct attacks upon the fairness of the merger terms."
The Kramer Court held that the complaint stated only a derivative claim for mismanagement. Although the complaint did allege that wrongful transactions associated with the merger (such as the award of golden parachutes) reduced the amount paid to Western's stockholders, it did not allege that the merger price was unfair or that the merger was obtained through unfair dealing. The Kramer Court explained that a claim alleging corporate mismanagement, and a resulting drop in the value of the company's stock, is a classic derivative claim; the alleged wrong harms the corporation directly and all of its stockholders indirectly. The fact that such a claim is asserted in the context of a merger does not change its fundamental nature. In order to state a direct claim with respect to a merger, a stockholder must challenge the validity of the merger itself usually by charging the directors with breaches of fiduciary duty resulting in unfair dealing and/or unfair price.
Parnes, 722 A.2d at 1245 (quoting Kramer, 546 A.2d at 350, 351) (emphasis added).
The distinction Parnes articulates seems to me to be a judgment that goes as much to the merits of the claim as it does to its nature. If the side transactions are part of an acquiror's total acquisition costs, it seems unlikely that the acquiror cares all that much about how its total costs were allocated. If the target board wishes to increase payments to insiders in order to allocate more of the total acquisition cost to them rather than the public stockholders, the acquiror will mostly likely be indifferent, unless the allocation is proposed so crassly or is so disparate as to raise the specter of meritorious stockholder suits attacking the merger.
The analysis of whether such side transactions tainted the fairness of the transaction to the target stockholders becomes in large measure a judgment about whether it was appropriate or not for those side transactions to occur. For example, consider what Parnes says about price. As I read that case, it says that if the side transactions were not so costly that they enable the plaintiffs to allege that the consideration offered to the target stockholders was reduced to an unfair level, then a price attack on them must be labeled as derivative and extinguishable by the merger. If the side transactions are alleged to have reduced the consideration offered to the target stockholders to a level that is unfair, then an attack is labeled as individual because it goes directly to the fairness of the merger.
As to process, Parnes is somewhat less precise. It is not quite clear whether the door is open for a plaintiff to state an individual claim by alleging that the negotiation of side transactions tainted the merger negotiations by unfairly diverting merger consideration that would have otherwise gone to the target stockholders into the pockets of target company fiduciaries.
For example, make the unlikely assumption that a CEO was told that the acquiror would pay another $10 million for the target company shares and that he reacted by agreeing in general terms but asking that $2 million of that sum be diverted to enhancing golden parachutes for him and his fellow managers. Further assume that the total consideration ultimately offered to the target stockholders was fair but would have been $2 million higher had the CEO not traded for himself and his fellow officers. It is probable that Parnes contemplates that the $2 million payment could be attacked individually as unfair dealing that tainted the final merger terms. But it is also possible to read Parnes as indicating that a plaintiff must allege that the process violations were so severe as to reduce the merger consideration to an unfair level before the claim will cross the threshold from derivative to individual.
Parnes, 722 A.2d at 1245 (indicating that a plaintiff "may challenge the validity of the merger itself, usually by charging the directors with breaches of fiduciary duty resulting in unfair dealing") (citing Kramer, 546 A.2d at 354). Chaffin v. GNI Group, Inc., Del. Ch., C.A. No. 16211-NC, mem. op. at 19-20, 1999 Del. Ch., LEXIS, at *24-25, Jacobs, V.C. (Sept. 3, 1999) can be read as supporting this interpretation. Although in that case the price was alleged to be unfairly low, the primary thrust of the court's holding that the claims were individual seemed to turn on allegations that insiders diverted substantial benefits to themselves through unfair dealing and thereby improperly reduced the merger consideration.
Parnes, 722 A.2d at 1245.
In my view, the price and process test articulated by Parnes deepens the merit-based nature of the derivative-individual distinction. Posit as we have a scenario where all the side transactions were entered into in anticipation of the merger and would not have occurred but for the merger. In that scenario, it seems quite strained to characterize any attack on the transactions as stating a claim for waste of the assets of the target corporation because the side transactions are, in reality, part and parcel of the consideration (inclusive of transaction costs) paid by the acquiror. Cutting through doctrine and looking at the economic realities, is not the real question underlying the teaching of Parnes whether the complaint states a claim that the side transactions caused legally compensable harm to the target's stockholders by improperly diverting consideration from them to their fiduciaries? If the side transactions did not cause such harm, is it not likely that no legally compensable harm was caused to anyone and that the side transactions were simply a proper part of the total acquisition costs of the acquiror?
That is, it is quite difficult to say that such side transactions have no business purpose and that there was no consideration given for them. If insiders have demanded them in exchange for their support of the merger and the costs are being borne in reality by the acquiror, the notion that the payments are waste turns on a normative judgment as to whether it was proper for the insiders to demand the payments in exchange for their support of the deal. If it was improper for them to do so, it seems likely that costs of acquisition that could have been obtained by properly behaving fiduciaries for the stockholders ended up in the fiduciaries' own pockets. The same seems to be the case if the target board decides to pay its advisors overly healthy fees and demands that the acquiror foot the bill for those fees, rather than raise the merger consideration to a higher, attainable level. In either case, any legally compensable harm would seem to be to the target stockholders rather than to the acquiror who did a deal with its eyes wide open.
Viewed in this practical manner, the derivative-individual distinction as articulated in Parnes is revealed as primarily a way of judging whether a plaintiff has stated a claim on the merits. In this sense, the distinction seems to be a quite sensible basis for determining which, if any claims, ought to survive a merger. That is, Parnes can be straightforwardly read as stating the following basic proposition: a target company stockholder cannot state a claim for breach of fiduciary duty in the merger context unless he adequately pleads that the merger terms were tainted by unfair dealing. If the plaintiff cannot meet that pleading standard, then he has simply not stated a claim under Rule 12(b)(6). This merits focus of Parnes is, in my view, a more candid approach that places primary emphasis on whether compensable injury to the target stockholders is alleged rather than on whether the target stockholder's complaint has articulated only a waste or mismanagement claim for which there is likely no proper plaintiff on earth.
Cf. Bershad v. Hartz, mem. op. at 8, 1987 Del. Ch. LEXIS 380 at *9 ("It is true that a claim for fiduciary duty can, in the merger context, give rise to a class claim. For it to do so, however, the alleged breach must go directly to the fairness of the merger, and plaintiff must be directly attacking the merger."); Lewis v. Anderson, 477 A.2d at 1046 n. 10 ("The two recognized exceptions to the [continuous ownership] rule are: (1) where the merger itself is the subject of a claim of fraud; and (2) where the merger is in reality a reorganization which does not affect plaintiff's ownership of the business enterprise.").
Cf. Gaylord, mem. op at 26, 1999 Del. Ch. LEXIS 175, at *35 ("Where the plaintiffs lose stockholder status against their will, they could still be required to prove that the transaction eventually consummated, taken in its entirety and not as to component parts or as to the steps (including defensive measures) leading to it, was unfair. This might be a more direct, and less erratic, method to achieve the desirable and necessary end of denying unfair windfalls. The confluence of Parnes and Kramer will in reality indirectly create such a `bitter with the sweet' method, but in the non-merits context of an evaluation of whether the plaintiff's complaint challenges the overall fairness of the deal and therefore states an individual claim. An appropriate application of ordinary business judgment rule and entire fairness principles should be adequate to eliminate such windfalls, which in the post-squeeze out transaction context do not involve stockholders who purchased their shares to buy into litigable claims.") (footnote omitted).
With these thoughts in mind, I will analyze the complaint to determine whether it states an individual claim, and, thereafter, whether the claim as it is pled even states a claim upon which relief can be granted. I turn to these tasks now.
III.
Distilled to its essence, the complaint alleges that KKR received additional merger consideration of $20 million that should have been shared with Duracell's other stockholders. If the $20 million had been shared in this fashion, Duracell shareholders would have received .906179, rather than .904, of a Gillette share, for each of their Duracell shares. Put in monetary terms, the non-KKR stockholders of Duracell would have received approximately $13.2 million dollars more in the merger, or 16 cents a share in addition to the $68.365 dollars a share the Exchange Ratio implied. This equals 2/10 of 1% of the total merger consideration received by the non-KKR stockholders of Duracell.
At the outset, therefore, let me express my doubt that the $20 million fee wagged the $8.3 billion merger dog. The $20 million seems quite immaterial in the scheme of things. The allegations of the complaint do little to persuade me otherwise.
Although the complaint indicates that KKR was trading only for itself in the early negotiations with Gillette and did not discuss these negotiations with Duracell's board or management, the complaint fails to allege any harm flowing from those actions. Indeed, the complaint indicates that those negotiations were terminated because Gillette and KKR were too far apart on the deal's economics for continued discussions to be useful.
The complaint alleges that during the summer of 1996 KKR was again approached by Gillette. It appears that Gillette was closer to the mark this time, because KKR promptly informed the Duracell management about Gillette's overture. The complaint does not indicate one way or the other whether KKR was empowered by the Duracell board to negotiate with Gillette on behalf of Duracell itself. The complaint also does not indicate whether Duracell retained Morgan Stanley at that time or whether the company retained KKR to provide advisory services. The complaint is simply devoid of information on these scores.
But see Pls. Br. at 10 "([A]s plaintiff alleges, both Kravis and Stuart were solely responsible for negotiating the merger with Gillette").
Indeed, the complaint fails to allege any defect in the bargaining conducted by Kravis and Stuart on Duracell's behalf. The negotiations resulted in an Exchange Ratio on August 29, 1999 that provided KKR's affiliate KKR Associates and the other Duracell stockholders with the identical consideration. The complaint does not allege that advisory or investment banking fees were a subject of the negotiations during this period. The complaint fails to mention whether the Duracell board met at all during the course of these negotiations to discuss how they were going.
Golaine's brief states that the complaint does not say that the fees were not discussed during this period. Pls. Br. at 10 n. 5. This unusual argument misconceives Rule 12(b)(6), which enables Golaine to survive a dismissal motion on the basis of well-pleaded facts contained in the complaint itself, not on factual possibilities not precluded by what is in fact pled in the complaint.
The complaint is also silent about what happened between August 29, 1999 and September 12, 1999, the day on which the Duracell and Gillette boards approved the merger agreement and the Morgan Stanley/KKR fees. As to that day itself, the complaint indicates that one of Gillette's eleven directors, Warren Buffett, objected to the fees as excessive and did not want to pay them because Gillette itself would bear the freight for them.
But the complaint provides precious little information about the Duracell board's deliberations that day regarding the fees to KKR or the board's rationale for approving those fees. The complaint does assert that Morgan Stanley's fees were paid "pursuant to a valid and enforceable retainer agreement," while KKR was paid a fee even though it "at all times was acting for its own account" and that "Messrs. Kravis and Stuart were [otherwise] amply compensated by Duracell for carrying out their responsibilities to the Company and its shareholders." Facts supporting the allegation that KKR was "at all times acting for its own account" are not pled. Nor does the complaint set forth facts indicating that Kravis and Stuart received director fees from Duracell that would constitute consideration equivalent to what Kravis and Stuart would receive to negotiate a merger on behalf of a paying client. Although outside directors' pay has increased over the years, I doubt that it approaches what a client must pay experienced and skillful investment bankers to negotiate the price terms of a significant merger transaction.
Compl. ¶¶ 18, 13.
These allegations do not, in my view, meet the Parnes test. The mere fact that Gillette considered the fees as part of its total acquisition costs does not distinguish this case from Kramer or from any other case in which side transactions in connection with a merger are in reality a part of the total acquisition costs of the acquiror. Absent are well-pleaded factual allegations that support the proposition that KKR's negotiation of a $20 million fee from Duracell tainted the merger's final terms in a way that injured Duracell's other stockholders. There is simply no link between the conclusory allegation that KKR was trading solely for itself and KKR Associates during the summer negotiations and the term of the merger agreement most important to the Duracell stockholders — the Exchange Ratio.
Turner, mem. op. at 29, 1999 Del. Ch. LEXIS 18, at *39 (Under Parnes and Kramer, "challenges to alleged wrongs that are associated with the merger but do not involve a challenge to the validity of the merger itself, are derivative claims.") (emphasis in original) (citation omitted).
Put differently, there is nothing in the complaint that supports the notion that KKR took anything off the table that would have otherwise gone to all the Duracell stockholders; indeed, by its silence on the matter, the complaint suggests that the Exchange Ratio was fixed before the KKR fee was set. In fact, it is not at all clear from the complaint whether the KKR fee was even negotiated with Gillette before it was fixed by Duracell at $20 million.
See, e.g., In re First Interstate Bancorp Consolidated Shareholders Litig., Del. Ch., 729 A.2d 851, 861-64 (1998) (rejecting conclusory allegations that side transactions affected the terms of a merger agreement and granting motion to dismiss for failure to state an individual claim).
In a merger negotiation, there are countless issues to be figured out. It cannot be that the mere fact that an insider (or the affiliate of an insider) received a payment in connection with the merger in itself provides a sufficient basis for a target stockholder plaintiff to state an individual claim based on the simple syllogism that:
1. the payment was part of the total consideration the acquiror was willing to pay;
2. the target board had a duty to ensure that the payment's worth was spread equally to all the stockholders; and
3. the target board's failure to do so therefore constituted unfair dealing tainting the merger.
This syllogism is nearly identical to the principal argument advanced by the plaintiff in Kramer:
[Kramer's] principal contention for sustaining an individual, as distinguished from a derivative, claim is that the effect of the defendants' act of waste was to reduce the common shareholders' net distributive share of an otherwise adequate tender offer price paid by Danaher for taking Western Pacific private.
Kramer, 546 A.2d at 350 n. 2.
The Court emphatically rejected this argument, which was premised in part on the payment of eighteen million dollars of allegedly excessive or unnecessary merger fees and expenses.
See Kramer, 546 A.2d at 351 (rejecting a similar syllogism). In fairness, it must be noted that the fees in Kramer were associated with an earlier merger agreement that was a key step on the way to the final merger agreement, which was signed a mere three weeks later. Kramer, 546 A.2d at 352 n. 4. In any event, the key issue is that in neither that case nor this one did the plaintiff claim that the "excessive fees" rendered the merger unfair.
Under Parnes and Kramer, the target stockholder plaintiff must, at the very least, allege facts showing that the side payment improperly diverted proceeds that would have, if the defendant directors had acted properly, ended up in the consideration paid to the target stockholders. The complaint here is devoid of any such allegations.
See In re First Interstate Bancorp, 729 A.2d at 865 ("Delaware law is well-settled that claims arising from transactions involving corporate assets that allegedly operate to reduce the consideration received by stockholders in a merger are, in the absence of [special] circumstances . . . derivative in nature."); Turner, mem. op. at 30, 1999 Del. Ch. LEXIS 18, at *41 (rejecting, per Parnes, the argument that in a merger context whenever "a significant stockholder enters into a related transaction with the corporation for no or inadequate consideration that involves that stockholder receiving value that is not shared with the remaining shareholders, the resulting "cash value dilution' may be challenged in an individual claim"); Bershad v. Hartz, mem. op. at 8-9, 1987 Del. Ch. LEXIS 380, at *6-7 (where plaintiff did not attack merger terms as unfair, court rejected as derivative a claim that golden parachutes issued in advance of merger reduced the value of the merger consideration that the stockholders received).
Under the facts pled in the complaint, the only party that seems to have been adversely affected by the deal in real terms is Gillette. Under our case law, the claim is therefore at best a derivative one alleging that Duracell became $20 million less valuable upon the payment to KKR, a claim that no one likely has standing to raise.
IV.
For similar reasons, the complaint also fails to state a claim upon which relief can be granted. In order to plead a breach of fiduciary duty, the complaint must set forth facts tending to rebut the business judgment rule's "presumption that in making a business decision the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company."
Aronson v. Lewis, Del. Supr., 473 A.2d 805, 812 (1984).
Here, KKR, through its affiliate KKR Associates, controlled only four members of the Duracell board of directors. Golaine has failed to plead facts suggesting that the other seven members of the Duracell board had an interest in the $20 million payment to KKR. Nor has Golaine pled facts suggesting that these Duracell board members acted under the control or improper influence of KKR. Finally, Golaine has not alleged that the Duracell board majority was mis- or uninformed when it decided to pay KKR these fees.
All Golaine has alleged is that the Duracell board had a duty to treat the $20 million it paid to KKR as potential merger consideration available to enhance the Exchange Ratio. There are no facts pled that suggest that this was in fact the case. And though Golaine contends in a cursory way that KKR's negotiations with Gillette during the summer of 1996 were not conducted on behalf of all of Duracell's stockholders, that contention is not supported by pled facts.
From the complaint itself, one can draw the inference that KKR, through Kravis and Stuart, conducted the crucial negotiations with Gillette that led to a merger whose Exchange Ratio the plaintiff has not challenged as unfair. That is, KKR obtained favorable merger terms for not only its affiliate KKR Associates, but for all the other Duracell stockholders. As previously noted, nothing in the complaint supports a conclusion that the decision of the Duracell board to pay KKR $20 million in fees for negotiating the transaction tainted the negotiations over the Exchange Ratio in any way.
See also Pls. Br. at 10 (Kravis and Stuart were "solely responsible for negotiating the merger with Gillette").
At best, the complaint raises an inference that a perhaps overly generous Duracell board majority too richly rewarded KKR for a job well done. Because this decision was made by a disinterested and independent board majority, it can only be challenged on the grounds that it constituted corporate waste. In view of KKR's successful negotiation of an $8.3 billion dollar transaction in exchange for a fee equaling 2/10 of 1% of that amount, the complaint fails to plead facts demonstrating that no person of ordinary business judgment could have considered the $20 million fee a fair exchange for Duracell. And even if the complaint states a waste claim, such a claim is clearly derivative in nature and Golaine has no standing to raise it.
And perhaps by a disinterested majority of Duracell stockholders.
See, e.g., Lewis v. Vogelstein, Del. Ch., C.A. No. 14954, 699 A.2d 327, 336 (1997) ("a waste entails an exchange of corporate assets for consideration so disproportionately small as to lie beyond the range at which any reasonable person might be willing to trade"); Saxe v. Brady, Del. Ch., 184 A.2d 602, 610 (1962) (where waste of corporate assets is alleged, nowithstanding independent stockholder ratification, the court's examination "is limited solely to discovering whether what the corporation has received is so inadequate in value that no person of ordinary, sound business judgment would deem it worth what the corporation has paid"); see also Gottlieb v. Heyden Chemical Corp., Del. Supr., 91 A.2d 57, 58 (1952)(same).
Golaine has also sued Gillette for aiding and abetting. My disposition of Golaine's claims against the Duracell directors is sufficient to dispose of that claim. Moreover, the complaint fails to allege facts from which one can infer that Gillette knowingly participated in any breach of duty by the Duracell directors. In re Santa Fe Pacific Shareholder Litig., Del. Supr., 669 A.2d 59, 72 (1995); see also Nebenzahl v. Miller, Del. Ch., C.A. No. 13206, mem. op at 17-18, 1996 Del. Ch. LEXIS 113, at *20, Steele, V.C. (August 26, 1996) (aiding and abetting liability requires that fiduciary breach its duties in an "inherently wrongful manner" and that the fiduciary knowingly participate in such breach); Carlton Invs. v. TLC Beatrice Int'l Holdings, Inc., Del. Ch., C.A. No. 13950, mem. op at 38, 1995 Del. Ch. LEXIS 140, at *49 n. 11, Allen, C. (Nov. 21, 1995) (aiding and abetting claim must be supported by proof of an understanding between the parties "with respect to their complicity in any scheme to defraud or in any breach of fiduciary duties").