Corporate Alert

March 2016

The Herrick Advantage

This month, Herrick's Sports Law attorneys participated in several prominent sports law conferences on emerging trends in the sports arena. At New York Law School's 7th Annual Sports Law Symposium, Daniel Etna spoke on the current state of gambling regulation within the sports industry as well as anticipated changes for the future. Irwin Kishner participated on a panel at Cardozo Sports Law Symposium addressing the move by cord-cutting sports fans from traditional platforms, such as cable television, to live streaming and other non-traditional digital platforms.

Coming up this Friday, at Fordham Law School's 20th Annual Sports Law Symposium, Irwin Kishner will be discussing whether daily fantasy sports leagues should be considered gambling and what role, if any, should sports officials play in its regulation. For more information about this event, click here.

On April 1, Herrick real estate chair Belinda Schwartz will be speaking to a group of current and former professional athletes enrolled in the Miami Executive MBA Program for Artists & Athletes. She will discuss real estate investment and sports entity ownership opportunities. For more information about this event, click here.

NYSE Adopts New Rule Requiring Foreign Private Issuers to File Semi-Annual Financial Disclosures

On February 19, 2016, the SEC approved amendments to the New York Stock Exchange (NYSE) Listed Company Manual. The amendments include Section 203.03, which requires foreign private issuers listed on the NYSE to submit to the SEC semi-annual, unaudited financial information on Form 6-K.

Domestic issuers are required to report quarterly on Form 10-Q, but until the rule change, NYSE-listed foreign private issuers were not subject to any interim financial disclosure requirements. The new rule closes that gap between domestic and foreign issuers. The amendments also serve to align NYSE's policies with those of NASDAQ, which already requires foreign private issuers to disclose certain interim financial information.

The specific disclosures required to be filed under Form 6-K include: (i) an interim balance sheet as of the end of the second fiscal quarter, and (ii) a semi-annual income statement for the first two fiscal quarters. The financial information included in Form 6-K must be presented in English, but does not have to be audited, reconciled with U.S. GAAP or presented in U.S. dollars.

The amendments also revise Sections 802.01E and 103.00. Section 802.01E provides that an NYSE-listed foreign private issuer that does not timely file Form 6-K is subject to the same noncompliance procedures applicable to domestic issuers who fail to timely file a Form 10-Q. Specifically, the issuer has an initial six-month compliance period in which to file, which the NYSE, in their discretion, can extend for an additional six months. If a foreign private issuer continues to fail to file the Form 6-K, it is at risk of being delisted. Section 103.00 clarifies that all listed foreign private issuers must comply with the new filing requirements despite existing language allowing them to follow home country practices in lieu of complying with those of the NYSE.

Delaware Court Addresses Fraud Claim Based on Extra-Contractual Statements

In a case arising out of a merger transaction, the Delaware Court of Chancery addressed fraud allegations by a buyer based on seller's statements made outside of the representations and warranties contained in the merger agreement. After the merger closed, the buyer discovered extensive illegal activities by the acquired company that were concealed from the buyer during pre-merger diligence. The sellers sought to dismiss the fraud claims based on two provisions in the merger agreement: a statement that "except as expressly set forth [in the merger agreement], the [sellers] make no representation or warranty" and a typical integration clause ("This Agreement, and the Transaction Documents and the documents referred to herein and therein contain the entire agreement between the Parties and supersede any prior understandings….").

The court cited the need to strike an appropriate balance between holding sophisticated parties to the terms of their contracts and simultaneously protecting against the abuses of fraud. A contracting party will not be insulated from liability for fraud absent a clear, unambiguous statement, made by the party who is seeking to rely on extra-contractual statements, disclaiming reliance. The court found that the generic statements contained in the merger agreement at issue were not enough to dismiss the fraud claims, because there was not a clear enough promise by the buyer that it was not relying on statements made outside the agreement in entering into the agreement. There are no "magic words" that need to be included in such a disclaimer, but it must be made from the perspective of the party making the fraud claim in order to preclude the claim.

FdG Logistics LLC v. A&R Logistics Holdings, Inc., C.A. No. 9706-CB (Del. Ch. Feb. 23, 2016)

Delaware Court of Chancery Clarifies Indemnification and Advancement Rights for Current and Former Directors and Officers

The Delaware Court of Chancery recently held that indemnification and advancement coverage for officers and directors: (i) continues after an officer or director is no longer in office, (ii) does not cover actions an officer or director took after leaving office, and (iii) cannot be amended or eliminated, with certain exceptions. Unless the source of the rights (i.e., bylaws, certificate of incorporation, indemnification agreement) specifically provides for coverage, coverage only applies to an officer or director for his or her period of service as an officer and director, and protects him or her against lawsuits brought "by reason of" his or her service.

Patriot Rail had a standard indemnification provision in its charter which conferred indemnification and advancement rights on the officers and directors of the company "to the fullest extent of Delaware law." Nothing in the charter indicated that the indemnitees would lose coverage when they ceased to be directors or officers, nor that the provision could be amended retroactively.

Gary Marino, former Chairman, President and CEO of Patriot Rail, sought advancement of expenses in opposing a post-judgment motion that added him as a judgment debtor responsible for post-trial damages payable in an underlying action that had challenged certain actions taken while he was a director and officer of the company (the "Underlying Action"). While the Underlying Action was pending in court, Patriot Rail's parent sold all of its stock in the company. After the stock sale, Marino resigned all of his positions at Patriot Rail. Patriot Rail's parent transferred almost all of the proceeds of the sale to the entities owning Patriot Rail's parent.

Marino argued that he was entitled to such advancements because the motion was a continuation of the claims made in the Underlying Action, and therefore was related to the challenged actions that he had taken while he was a director and officer of Patriot Rail. Patriot Rail argued that Marino was not entitled to such advancements because the motion primarily related to his actions causing Patriot Rail's parent to transfer the proceeds of the stock sale, which occurred after Marino had resigned his offices with Patriot Rail. The court held that Marino continued to be covered for the actions he had taken while an officer and director, even though he now no longer was an officer or director. However, Marino was notcovered for the actions he had taken after he had ceased to be an officer or director. As a result, the court refused to order advancement of expenses to Marino in connection with his opposing the motion.

Additionally, in discussing certain applicable Delaware laws, the court addressed the issue of whether indemnification and advancement rights may be altered or eliminated. The court first established that a covered person's right does not vest until the filing of litigation against him and hence could be altered or eliminated at any point before then. If a covered person's right did vest, the court concluded that the coverage cannot be amended retroactively unless the original grant of the rights specifically contemplated the possibility of an after-the-fact amendment.

Marino v. Patriot Rail Company LLC, C.A. 11605-VCL (February 29, 2016)

Second Circuit's Application of the Supreme Court's Liability Standard for Statements of Opinion

The U.S. Court of Appeals for the Second Court in In re Sanofi Securities Litigation, AG Funds, L.P. v. Sanofi, Nos. 15-588-cv, 15-623-cv (2d. Cir. Mar 4, 2016), applied the Supreme Court's new standard for determining whether a statement of opinion is "materially misleading" and actionable under Federal securities laws.

In Omnicare, Inc. v. Laborers District Counsel Construction Industry Pension Fund, 135 S. Ct. 1318 (2015), the Supreme Court ruled that a statement of opinion may be actionable if the speaker omits facts whose "omission makes the opinion statement at issue misleading to a reasonable investor reading the statement fairly and in context." This decision overruled the standard, previously held by the Second Circuit —that an opinion or belief was not actionable unless the statement was both objectively false and disbelieved by the speaker at the time it was expressed.

The Second Circuit applied the Omnicare standard in Sanofi. As part of an acquisition by Sanofi of Genzyme Corporation, Sanofi made positive statements in offering materials to Genzyme shareholders who were issued contingent value rights ("CVRs") concerning the market for a drug pending FDA approval. Sanofi failed to disclose that the FDA had repeatedly expressed "major concern" regarding the use of single-blinded clinical studies for such a drug. Later, when the FDA made its clinical studies concerns public, the value of the CVRs dropped more than 62%. CVR holders and other shareholders filed suits against Sanofi.

The Sanofi court held that the plaintiffs had not adequately alleged that the opinion statements were materially misleading. First, the court found that the FDA's feedback to Sanofi and Sanofi's statements to the public did not conflict, since, despite its concerns, the FDA had noted to Sanofi that those concerns could be overcome. Second, the court emphasized that the plaintiffs are sophisticated investors who should have understood that Sanofi's projections were based on a range of facts, including those that may be in tension with the company's ultimate projections. Third, the Sanofi court explained that statements of opinion must "fairly align with the information in the issuer's possession at the time" but does not require disclosure of every fact that might undermine an optimistic projection.

In re Sanofi Securities Litigation, AG Funds, L.P. v. Sanofi, Nos. 15-588-cv, 15-623-cv (2d. Cir. Mar 4, 2016)

Delaware Court Finds 26% Equity Owner to Be "Controller" Due to Affiliations with Board Members

The Delaware Court of Chancery found in Calesa v. American Capital that it was reasonably conceivable that American Capital, Ltd. and its affiliates (collectively, "American Capital"), a 26% stockholder in Halt, Inc. ("Halt") at the time of the transaction at issue (the "Transaction"), was a controller of Halt. Significantly the court's determination was based upon the affiliations between current and former directors of Halt and American Capital (and not upon American Capital's equity ownership in Halt) and significant contractual rights arising under Halt's debt held by American Capital. The opinion in Calesa reaffirms the Delaware court's position that there is no correlation between the percentage of a stockholder's equity ownership in a company and the court's determination that such stockholder is a controlling stockholder or any "magic formula to find control; rather it is a highly fact specific inquiry."

The plaintiffs in the present case are minority stockholders in Halt and many also are or were debt, option and/or warrant holders of Halt. Through a series of transactions beginning in 2007 with American Capital's initial investment in Halt, American Capital acquired outstanding Halt debt, the right to designate seats on Halt's board of directors and significant contractual rights such as the right to block any subsequent pari passu investments in Halt and to veto Halt's ability to file a voluntary bankruptcy petition. By 2013, Halt owed American Capital $50 million evidenced by a note due at the end of 2013. According to the court, "despite indications that [American Capital] would extend the note, in September 2013, [American Capital] unexpectedly demanded repayment in full by December 31, 2013." The Halt board attempted to orchestrate a sale of Halt or obtain alternative sources of financing but was ultimately unsuccessful. At that time, American Capital then proposed the Transaction — a series of transactions, the result of which, among other things, increased American Capital's equity ownership in Halt to 66%, granted a blanket first priority security interest in Halt's assets, canceled outstanding warrants (including those held by the plaintiffs) and adopted a management incentive plan affecting certain employees.

Although the courts in Delaware will generally apply the business judgment rule when evaluating whether a director breached his or her fiduciary duties, a plaintiff can rebut the business judgment rule, and the courts will then apply the more stringent entire fairness test, by adequately alleging facts to support the reasonable inference that (i) a controlling stockholder stands on both sides of a transaction or (ii) at least half of the directors who approved the transaction were not disinterested or independent. In the present case, the court found that while American Capital held only 26% equity stake in Halt at the time of the Transaction, the plaintiffs had adequately alleged that it was a controlling stockholder because it exercised "actual control" over the Halt board at the time of the Transaction. Although the court noted that the exercise of American Capital's contractual rights alone was not enough to establish that it exercised control over the "Halt corporate machine," it determined that the plaintiffs sufficiently pled facts to demonstrate that at least four of the six directors of Halt's board were under the actual control and influence of American Capital based on their affiliations with American Capital, including Halt's chief executive officer, who the court determined "was unable to exercise his independent business judgment" because he would have lost his job, and was thus "beholden" to American Capital, if the Transaction was not consummated and stood to receive benefits under the adoption of the management incentive plan. As a result, and for other reasons, the court denied the defendants' motion to dismiss the complaint, a result that would have been unlikely to occur had the court evaluated the motion under the business judgment rule.

Calesa Associates, L.P. v. American Capital, Ltd., C.A. No. 10557-VCG (Dl. Ch. Ct., Feb. 29, 2016)

For more information on the issues in this alert, or corporate matters generally, please contact:

Daniel Etna at +1 212 592 1557 or [email protected]

© 2016 Herrick, Feinstein LLP. Corporate Alert is published by Herrick, Feinstein LLP for informational purposes only. Nothing contained herein is intended to serve as legal advice or counsel or as an opinion of the firm.