Corwin v. KKR Financial Holdings LLC: Delaware Supreme Court Affirms Application of Business Judgment Review to Transaction Approved by Fully Informed, Uncoerced Majority of Disinterested Stockholders
February 25, 2016
In Corwin v. KKR Financial Holdings LLC, 125 A.3d 304 (Del. 2015), the Delaware Supreme Court affirmed a ruling by the Court of Chancery granting the defendants’ motions to dismiss a suit challenging the acquisition of KKR Financial Holdings LLC (“KFN”) by KKR & Co. L.P. (“KKR”). The Court held that the business judgment rule is the appropriate standard in post-closing damages suits involving mergers that are not subject to the entire fairness standard and that have been approved by a fully informed, uncoerced majority of the disinterested stockholders, even where such approval is statutorily required.
In December 2013, KKR and KFN executed a stock-for-stock merger agreement, which was subject to approval by a majority of KFN shares held by persons other than KKR and its affiliates. The merger, which was priced at a premium of 35% to market, was approved in April 2013 by an independent board majority and by a majority of disinterested stockholders.
Following the merger, nine lawsuits challenging the merger were brought in the Court of Chancery and consolidated. Plaintiffs alleged that (i) the members of the KFN board breached their fiduciary duties by agreeing to the merger, and (ii) KKR breached its fiduciary duty as a controlling stockholder by causing KFN to enter into the merger agreement. Plaintiffs’ control claims focused on the facts that a KKR affiliate managed the company’s day-to-day operations and that KFN’s primary business was financing KKR’s leveraged buyout activities.
The Court of Chancery dismissed the complaint, finding that KKR, which owned only 1% of KFN’s stock, was not a controlling stockholder. Additionally, the Court of Chancery held that the business judgment rule would apply to the merger because the merger was approved by a majority of the shares held by the disinterested, fully informed stockholders of KFN.
The Supreme Court, sitting en banc, unanimously affirmed the judgment of the Court of Chancery. With respect to the control issue, the Court found that the plaintiffs had not alleged sufficient facts to support the argument that KKR had effective control of the board and could therefore prevent KFN’s board from exercising its own independent judgment in determining whether to approve the merger. To support this finding, the Court noted that KKR “owned less than 1% of the stock, had no right to appoint any directors, and had no contractual right to veto any board decision.” Accordingly, the Court rejected the plaintiffs’ control claims.
The Court further held that the business judgment standard of review would apply to the merger “because it was approved by a majority of the shares held by disinterested stockholders of KFN in a vote that was fully informed.” The Court also declined to review the Court of Chancery’s holding on the non-applicability of Revlon, finding that even if Revlon applied to the merger, the voluntary approval by an informed majority of disinterested stockholders was sufficient to support application of the business judgment rule. The Court stated that Revlon and Unocal were not designed to address post-closing claims for money damages, but rather to provide stockholders and the Court of Chancery the ability to address merger and acquisition decisions before closing.
In so holding, the Court agreed with the Court of Chancery’s interpretation of Gantler v. Stephens, 965 A.2d 696 (Del. 2009). In Gantler, the Supreme Court stated that ratification is limited to circumstances where a fully informed stockholder vote approves director action that does not legally require stockholder approval in order to become effective. Using this interpretation, plaintiffs argued that the merger should be subject to heightened scrutiny regardless of the statutorily required stockholder vote approving the merger. The Court rejected this argument, finding that Gantler was a narrow decision that focused on the meaning of the term “ratification,” and was not meant to overturn Delaware’s “long-standing body of case law” regarding the effect of fully informed stockholder approval.
The Supreme Court noted, however, that its holding applies only to fully informed and uncoerced votes of disinterested stockholders. Thus, the business judgment rule is not invoked if material facts regarding the merger are not disclosed to the voting stockholders.