Settlement Trends in Delaware Chancery Court Derivative Litigation
An interesting piece appeared in the July 19 edition of The Wall Street Journal, Delaware Chancery Court Judges Making Lawyers Earn It by Gina Chon.
The premise of the article is that in many derivative suits challenging mergers and acquisitions (M&A) transactions, the Chancery Court has become less likely to approve a plaintiff’s fee award with no demonstrable benefit to the nominal corporate defendant or its shareholders. While I cannot objectively verify the premise, I certainly am aware of a few anecdotal examples of a Delaware chancellor disapproving a plaintiff’s fees and costs requests and instructing them to go back and get a better deal for the investors.
What might this mean for D&O insurers and their insureds?
In short, it means disposition costs will be higher in this litigation and not all will be insured.
These M&A related suits typically involve three components that have monetary value.
First, are the defense costs incurred by the directors and other defendants insured under the policy? If the litigation is going to be extended until a “fair result” is achieved for the shareholders, then the defense costs are likely to rise the longer the litigation lasts and discovery is taken. Such defense costs are typically covered under most D&O policies if they are reasonable and necessary.
Second, is the amount of plaintiff fees and costs reached in a settlement or otherwise approved and awarded by the court. While some on the Chancery Court may be more aggressive in trimming these fee awards, others will likely still approve a generous award if the result and the plaintiff attorney time and effort justify it. Not all policies cover this amount, and one must carefully examine the wording in the policy’s so-called “bump up” exclusion. While virtually all will cover defense costs in these situations, language might be a little less clear with respect to a plaintiff fee award or might explicitly exclude such award from coverage.
Finally, there is the “bump up” component itself, i.e. the increase in per share price that a company may be made to pay as part of a settlement with the aggrieved shareholders. Either through the "bump up" exclusion or the public policy interest concern that the policy should not serve as a vehicle for making insurable an otherwise uninsurable loss. There is a sense that all the company defendant is doing is paying the price that they should have paid for the shares in the first instance. These exclusions are now fairly commonplace, but there have been a few contrary coverage decisions recently as to whether they apply solely to the entity’s coverage or to that of the defendant directors, who are typically alleged to have breached their fiduciary duties in approving the M&A transaction at issue.
Thus, it is increasingly important that both the buyer and seller of the insurance remain cognizant of the legal landscape in Delaware and other jurisdictions, and also take care in crafting bump up exclusions that are clear and unambiguous.
Comments (1)
Read through and enter the discussion by using the form at the endDonna Ferrara, Esq. - July 28, 2011 8:57 AM
Thank you for your post. Your comments about the bump up exclusion promopted me to comment.
There is a disturbing aspect to the coverage disputes based on the "bump up" exclusion In a number of recent cases, carriers have taken the position that plaintiffs fees, even when awarded by the court, are not "damages". Therefore, such fees are not covered.
So far carriers have not litigated this very much, as the the reported cases in which the argument has been nraised, it has been peremptorily dispensed with.
It is, however, used as an argument to batter insureds into accepting less money to resolve pending derivative and direct shareholder suits. Often the sums are not large - not enough for the insured to litigate. Often the insured simply wants to get the shareholder litigation behind it.
A recent case is a perfect example: the insured directors faced a suit alleging that they had breached their duty in selling a division of the company. The plaintiffs did not seek monetary damages, but rather wanted changes in how the sale was conducted. Settlement negotiations were conducted The court recommended a payment to plaintiffs of $60,000.
The carrier refused to pay any of this claiming that the sum constituted plaintiffs attorneys fees and under the "American Rule, there was no legal obligation to pay such fees. This position was unsupported by any case law " or even facts, as the settlement did not specify what the money represented,, but the carrier clung to it.. Not surprisingly, the carrier could not cite a single case to support it's position. &
The carrier had raised no other coverage defenses, as the matter was almost a text book derivative cases, with no allegation but breach of duty.
The client, understandably, was irritated, but unwilling to litigate over a relatively small amount. We managed to convince the carrier to pay half of the settlement by noting how much premium the insured had paid and that this was the first claim under any policy., but that decision was made by underwriters, not the claims department
Still, the client has moved its business from that carrier, including all the unrelated lines. At renewal, the carrier expressed surprise and would have happily conceded more than the sum not paid
An unhappy lesson for all involved. The client feels duped and betrayed. The broker looks weak for being unable tom move the claims people off the mark. The carrier has lost the business, which had been profitable.
The claims department may be less unhappy, as it has asserted an untenable position "successfully". The harm to the company's reputation did not appear to matter
As an attorney, I might have welcomed a court's ruling on this case, had it not been such a burden on my client. It was not an isolated case, either. This same argument has been used in, as I mentioned, a number of claims, in cases where the carrier has determined that the sum at issue is small enough that the client will not litigate.
If this is a sincere argument and not a cynical ploy, carriers should reflect their position in policy language. The fact that none do is a clear indication that they realize the spurious nature of this position