Director Independence and the "Threat of Removal"
In teaching director independence under Delaware law, the classroom analysis focuses on the types of relationships that will disqualify a director as independent. A director who is independent in fact, however, may not be in practice. While law faculty can provide a hypothetical example of this, it is not easy to show from an actual case. The facts in In re Cornerstone Therapeutics, Inc. Stockholder Litigation, Civil Action No. 8922-VCG (Del. Ch. Sept. 10, 2014), however, may provide the requisite practical example.
In challenging the independence of a special committee, plaintiffs alleged that certain directors did not qualify as independent. Shareholders challenged the independence of some of the directors by alleging the existence of prior business connections with the controlling shareholder. As the court described:
- [T]he Plaintiffs allege that [two of the Directors on the Special Committee] lacked independence in evaluating [the controlling shareholder's] offer due to their involvement with Phenomix Corporation, Inc. (“Phenomix”), a company that in 2009 signed a $191 million agreement with [the controlling shareholder]. At that time, [one of the Directors] was a director, and [the other Director] was the CEO and a director, of Phenomix, but by 2013 Phenomix was defunct and existed only to wind up its affairs. Although the Phenomix deal was consummated in 2009—several years prior to [the controlling shareholder's] February 2013 Offer Letter—and Phenomix was defunct by that time, the Plaintiffs contend that [the Directors'] relationships demonstrate that neither individual could have acted independently in evaluating the transaction.
Unsurprisingly, the Chancery Court was unimpressed with these allegations. Id. ("The Plaintiffs’ allegations in the Amended Complaint—that prior business relationships call into question the independence of the Director Defendants—are, to my mind, weak.").
Plaintiffs also, however, asserted that Directors on the Special Committee lacked independence because of a "threat of removal." Plaintiffs alleged that the controlling shareholder's "financial advisor reminded the Special Committee that [the controlling shareholder] 'as the majority stockholder of the Company, had the right to remove and replace all of the non-Chiesi directors and the Company’s senior management team.' ” Notwithstanding the "threat of removal," the Special Committee rejected the offer from the controlling shareholder and issued a counter-proposal.
Despite the apparent lack of concern over the statement by the relevant Directors, the action was enough to call the Committee's actions into doubt. As the court reasoned:
- The Amended Complaint also alleges, however, that an agent of the controller, frustrated by the hard bargaining of the Special Committee members, explicitly threatened their removal from office. In addition to the relevance of that allegation to fair process, the threat raises questions about the ability of the Special Committee to act in the best interest of the minority, unconflicted by self-interest.
Thus, the prior business relationships were not enough to cast the work of the Special Committee into doubt but a statement reflecting a factual reality of the governance dynamics of the corporation, that was apparently ignored, was enough.