In re Xura, Inc. Stockholder Litigation, C.A. No. 12698-VCS (Del. Ch. Dec. 10, 2018) (Slights, V.C.)

In this memorandum opinion, the Delaware Court of Chancery declined to apply the Corwin “cleansing” doctrine at the pleadings stage, finding it reasonably conceivable, based on the plaintiff’s complaint, that stockholders of Xura, Inc. (“Xura” or “Company”) were uninformed when they voted to approve a merger with affiliates of Siris Capital Group LLC (“Siris”). Additionally, the Court concluded that the plaintiff adequately pled a breach of fiduciary duty claim against Xura’s former CEO, Philippe Tartavull (“Tartavull” or “Defendant”), but failed to state a claim for aiding and abetting a breach of fiduciary duty against Siris. 

The plaintiff in this breach of fiduciary duty action, Obsidian Management LLC (“Obsidian” or “Plaintiff”), originally sought appraisal of its stock after Siris acquired Xura for $25 per share in 2016. During discovery in the appraisal action, Obsidian uncovered alleged evidence that Tartavull breached his fiduciary duties by secretly directing Xura to consummate an undervalued transaction for reasons other than the best interests of stockholders. Obsidian then brought this breach of fiduciary duty action claiming that Tartavull, in an effort to keep his job as CEO and obtain a lucrative deal-related payout of $25 million, steered the sale of Xura to Siris through a series of private, unauthorized negotiations with principals of Siris (“Siris Defendants”). Obsidian also alleged that the Siris Defendants aided and abetted Tartavull’s breach of fiduciary duties by knowingly participating in the underlying breach. The Court consolidated the appraisal and fiduciary duty actions and stayed the appraisal action pending final adjudication of the breach of fiduciary duty and aiding and abetting claims.

As a threshold matter, the Court rejected Defendants’ argument that Plaintiff lacked standing to pursue its fiduciary duty claim because of the pending appraisal action. The Court explained that, unlike the plaintiff in In re Appraisal of Aristotle Corp., 2012 WL 70654 (Del. Ch. Jan. 10, 2012), Plaintiff sought traditional post-closing remedies like rescissory damages and disgorgement arising from Tartavull’s alleged breach of fiduciary duties, as opposed to a “quasi-appraisal” remedy arising  merely from alleged disclosure violations. Instead, the essence of Plaintiff’s breach of fiduciary duty claim was that Tartavull, a conflicted fiduciary, directed Xura to consummate an undervalued transaction for reasons other than the best interests of stockholders. For these reasons, the Court held that Plaintiff had standing to pursue its fiduciary duty claim despite the pending petition for appraisal.

Tartavull also moved to dismiss on the grounds that the merger was subject to the business judgment rule under Corwin because an informed, uncoerced majority of Xura’s stockholders approved the deal, thereby “cleansing” Tartavull’s conduct. The Court rejected that argument.  Emphasizing that stockholders could not have cleansed conduct about which they did not know, the Court held that Plaintiff adequately pled seven disclosure violations related to Tartavull’s private negotiations with Siris. The Court therefore declined to apply the business judgment rule under Corwin, finding it reasonably conceivable that, when stockholders cast their votes in favor of the merger, they remained uninformed as to Tartavull’s allegedly secretive and self-interested efforts to facilitate the deal with Siris.

The Court next concluded that Plaintiff pled a viable breach of fiduciary duty claim against Tartavull. Plaintiff alleged that, during the time Tartavull was engaged in unauthorized negotiations with Siris, he knew that Xura’s board of directors (“Board”) and certain stockholder activists were displeased with his performance and likely would remove him from his position as CEO if a sale of Xura did not occur. Describing Tartavull’s alleged secret discussions with Siris, the Court found it “remarkable” that Tartavull, as CEO, allegedly undermined the authority and questioned the competency of Xura’s CFO. The Court held that Plaintiff adequately alleged that the looming threat of termination prompted Tartavull to favor Siris over other potential bidders, feed information to Siris that strengthened its negotiating position, and negotiate a $25 million deal-related payout for himself. 

In so holding, the Court rejected Tartavull’s argument that Plaintiff could not state a claim for breach of fiduciary duty by failing to dispute that a majority of the Board was independent and disinterested. The Court made clear that, in order to state a claim against a disloyal CEO like Tartavull, a plaintiff need not allege that a board majority committed a non-exculpated breach of fiduciary duty by failing to supervise management. Here, the Court found no basis for Tartavull to invoke board ratification as a defense because Plaintiff adequately pled that the Board was uninformed as to Tartavull’s private negotiations with Siris and his alleged self-interest in those negotiations. The Court stressed that the Board, like its stockholders, cannot approve what it allegedly did not know. 

The Court did, however, grant the Siris Defendants’ motion to dismiss the aiding and abetting claim, holding that Plaintiff failed to plead facts supporting a reasonable inference that the Siris Defendants knowingly participated in Tartavull’s breach of fiduciary duty.

Finally, the Court discussed but ultimately did not decide the “interesting” issue of whether it could draw an adverse inference at the motion to dismiss stage against Tartavull and the Siris Defendants because of their alleged spoliation of evidence. Plaintiff alleged that key text messages between Tartavull and Siris were lost or destroyed even though both Defendants had a duty to preserve them. Noting that Delaware courts have not yet decided whether adverse inferences may be drawn at the pleadings stage or must be preceded by factual findings, the Court declined to decide the issue. Instead, the Court held that the complaint as to Tartavull survived dismissal without such adverse inferences, and could not survive dismissal as to the Siris Defendants even with adverse inferences drawn as a result of alleged spoliation of evidence.

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