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Corporate Alert: IPO Underwriter Found Not to Owe Fiduciary Duty to Issuer; Delaware Court Rules Against Stock Redemption; Delaware Court Finds Release Bars Claims; Delaware Court Applies Step Transaction Doctrine; California Corporate Officers Not Covered; SEC Amends Accredited Investors Net Worth Standard; Senators Propose Plan to Facilitate Capital Formation
December 2011
Authors: Irwin A. Kishner, Daniel A. Etna

The Herrick Advantage

Before we leap into 2012, we'd like to take a moment to reflect on the past year. We hope 2011 was one of great accomplishment for you in all of your endeavors. We remain energized by the prospect of keeping you informed in 2012, and always appreciate receiving feedback and suggestions from our clients and friends. To that end, if there's a particular issue, trend or segment of the market you'd like us to focus on in the new year, please feel free to email our editors listed below. We look forward to hearing from you. From all of us at Herrick -- best wishes for a healthy, happy and prosperous 2012!

IPO Underwriter Found Not to Owe Fiduciary Duty to Issuer

A New York appellate court upheld the dismissal of breach of fiduciary claims brought by investors against an underwriter.  The underwriter was the lead managing underwriter of an internet start-up company's initial public offering.  The investors claimed that the underwriter misled the company into underpricing its initial public offering.  The court's decision to dismiss the claim was based on the underwriting agreement, which was found to have been negotiated on an arm's length basis.  In particular, the underwriting agreement contained an acknowledgement that the relationship between the underwriter and the company was adversarial.

EBC I Inc. v. Goldman Sachs & Co., 2011 NY Slip Op 08839 (N.Y. App Div., 1st Dept. 12/8/11).

Delaware Supreme Court Rules Against Stock Redemption

The Delaware Supreme Court upheld a lower court ruling that preferred shareholders had failed to prove that the issuer had funds "legally available" to redeem their shares.  The issuer's certificate of incorporation granted the preferred shareholders the right to have their stock redeemed for cash out of any funds legally available to the issuer.  The preferred shareholders unsuccessfully claimed that "funds legally available" meant statutorily "surplus," which could be determined based on a financial valuation of the issuer.  The Delaware Supreme Court agreed with the lower court ruling that the determination of the amount of "funds legally available" was a decision reserved to the issuer's board of directors.  Thus, the board of directors' decision was entitled to deference absent a finding that the board of directors (i) acted in bad faith; (ii) relied on unreliable methods and data; or (iii) "made determinations so far off the mark as to constitute actual or constructive fraud."

SV Inv. Partner, LLC v. ThoughtWorks, Inc., 2011 WL5547123 (Del. Sup. Ct. 11.15.11).

Delaware Chancery Court Finds Release Bars Claims

The Delaware Chancery Court ruled that claims arising from the unsuccessful attempt to combine two investment management firms were barred by releases contained in a termination agreement.  The claimants unsuccessfully argued that an exception to the release for any obligations created by the termination agreement permitted a fraud claim to be brought based on certain expense payments covered by the termination agreement.  The court, however, held that the exception at issue was limited to claims brought by a party to enforce its contractual rights provided for in the termination agreement.

Seven Inv. LLC v. AD Cap. LLC, No. 6449-VCL (Del. Ch. 11/21/11).

Delaware Chancery Court Applies Step Transaction Doctrine in Determining Change of Control

The Delaware Chancery Court applied the step transaction doctrine to determine whether a change of control transaction had occurred.  The transaction consisted of two seemingly separate steps -- neither of which was sufficient by itself to effect a change of control.  The court stated that the step transaction doctrine treats the steps in a series of formally separate but related transactions as a single transaction if all of the steps are substantially linked.  The court further stated that three different tests had been developed for applying the step transaction doctrine.  The court went on to find that all three tests had been satisfied.  As a result, contingent payments due to former stockholders cashed out in a merger were accelerated due to a change of control having been found to occur under the step transaction doctrine.

Coughlan v. NXP b.v., 2011 WL5299491 (Del. Ch. Ct. 11.04.11)

California Corporate Officers Not Covered by Business Judgment Rule

A U.S. district court held that corporate officers in California are not covered by the business judgment rule.  The court's holding arose from a claim brought by the Federal Deposit Insurance Corporation against the former chief executive officer of a failed bank.  The claim alleged that the former officer was negligent in allowing the sale of flawed loans in excess of $10 billion into the secondary market.  The court found that under California corporate law there was neither legislative nor case law support to permit officers to avail themselves of the business judgment rule as a defense to business-related lawsuits.

Fed. Dep. Ins. Corp. v. Perry, No. CV 11-5561 ODW (MRWx) (C.D. Cal. 12/13/11).

SEC Amends Accredited Investors Net Worth Standard

The Securities and Exchange Commission adopted amendments to the net worth standards for accredited investors contained in Rules 215 and 501 under the Securities Act of 1933, as amended.  These standards were amended to conform with the requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

While the amendments change the calculation of net worth, they do not change the amount of net worth required in order to qualify as an accredited investor.  Accordingly, the accredited investor definition continues to provide that any natural person whose individual net worth, or joint net worth with that person's spouse, exceeds $1 million is an accredited investor.  As a result of the amendments, however, in calculating net worth, any positive equity that a natural person may have in his or her primary residence is excluded.

The amendments also contain a "look back" provision intended to prevent a natural person from artificially inflating his or her net worth by incurring additional debt secured by his or her primary residence -- thereby converting home equity, which is excluded from the net worth calculation, into cash or other assets that would be included in the net worth calculation.  Under the "look back" provision, an increase in the amount of debt secured by a primary residence during the 60-day period prior to the date of the securities transaction must be treated as a liability, even if the estimated value of the primary residence exceeds the aggregate amount of debt secured by the residence.

Sec. Act Rel. No. 33-9287 (Dec. 21, 2011).

Senators Propose Plan to Facilitate Small Company Capital Formation

A group of U.S. Senators, including Charles Schumer from New York, has proposed a plan that would make it easier for small and medium-sized companies to access capital through public markets.  Under the plan, a new category of issuers -- "emerging growth companies" -- would be established.  These issuers would have less than $1 billion in annual revenues at the time they register with the Securities and Exchange Commission and less than $700 million in publicly-traded shares after an initial public offering.  The plan creates a transitional "on-ramp" status for emerging growth companies to encourage them to go public by phasing in compliance measures in areas that will not compromise core investor protection.  The "on-ramp" period would last as many as five years, or until the emerging growth company reaches $1 billion in annual revenues or $700 million in publicly-traded shares.


For more information on the issues in this alert, or corporate matters generally, please contact Irwin A. Kishner at (212) 592-1435 or  or Daniel A. Etna at (212) 592-1557 or

Copyright © 2011 Herrick, Feinstein LLP. Corporate Alert is published by Herrick, Feinstein LLP for information purposes only. Nothing contained herein is intended to serve as legal advice or counsel or as an opinion of the firm.