Bloomberg BNA’s Corporate Law & Accountability Report is available on the Corporate Law Resource Center. This news service keeps corporate practitioners informed of legal developments of...
By Michael Greene
Nov. 4 — To show that a majority of directors lacked independence for demand futility purposes, plaintiffs must plead particular facts that each director lacked independence, not rely on assertions that refer to all directors as a group, according to a Nov. 3 Delaware Chancery Court ruling.
Here, the plaintiffs attributed “identical actions to all of the directors, as a defined group,” according to Vice Chancellor Donald F. Parsons, Jr., and “[s]uch broad and identical assertions against the Director Defendants do not meet the requirements for pleading facts with particularity.”
Accordingly, the court concluded that the plaintiffs failed to show demand futility and dismissed their breach of fiduciary duty claim. Because the plaintiffs' other legal claims failed as a matter of law, the court also dismissed the entire case.
This cause of action arose from a $2.2 million accounting irregularity that was discovered in an audit of Aspen University, a wholly owned subsidiary of Aspen Group, Inc.
In 2012, Aspen Group acquired Aspen University. Later that year in an SEC filing, Aspen Group reported as an asset a loan receivable of $2.2 million from Higher Education Management Group, Inc. (“HEMG”), a company controlled and owned by Aspen University's former CEO.
The company eventually wrote off this receivable and in subsequent filings described the write-off as an “unauthorized loan.”
The plaintiffs sued and claimed that the defendants, directors of Aspen Group, fabricated this story to mislead educational accreditors.
The defendants moved to dismiss the plaintiffs' causes of action for failure to state a claim and for failure to plead adequately demand futility.
The plaintiffs claimed that they were excused from making a pre-lawsuit demand on Aspen Group's board to undertake corrective action because they demonstrated that such a demand would be futile.
Vice Chancellor Parsons noted that in Delaware, plaintiffs can show demand futility by either pleading that the “majority of the board is either interested or lacked independence” or by alleging “particularized facts demonstrating that the challenged transaction was not a valid exercise of business judgment.”
The plaintiffs alleged that defendant directors were “interested” for the purpose of demand futility because they made knowing misrepresentations that exposed them to liability.
Under this theory, according to the court, the plaintiffs could show demand futility by pleading “non-conclusory facts showing that a majority of directors had knowledge that (1) there was no loan or (2) the underlying 2.2 million would never be repaid.”
However, Vice Chancellor Parsons concluded that plaintiffs failed to allege with particularity that each director had knowledge that the loan was a fabrication. In particular, the court noted, some of the allegations attributed identical actions to all directors without providing any context that they each had actual knowledge.
Instead, the court found that the plaintiffs' particularized allegations only support the inference that two directors conceivably had knowledge that there was no loan.
The plaintiffs next argued that the defendants knew that the loan was uncollectable and therefore knowingly misrepresented it as a receivable.
In support of this argument, the plaintiffs pointed to an agreement that released Aspen University's ex-CEO from all of his payment obligations owed to the company.
The court, however, found that the plaintiffs did not allege particularized facts that would support this theory.
The court noted that the defendant directors discovered the unaccounted-for $2.2 million after the release had been signed.
Although a close reading of the release may have shown that it would have been “unrealistic” to recover anything from the loan, the court found that this only shows that the defendant directors “may have acted with less than due care in reaching their belief that the Loan could be recovered” and does not create an inference that a majority of directors knew the loan could not be recovered.
Finally, the court found that the evidence presented by the plaintiffs fell short of the “high pleading threshold” of the business judgment rule. Accordingly, the court found that the plaintiffs failed to meet either prong of the demand futility test.
To contact the reporter on this story: Michael Greene in Washington at email@example.com
To contact the editor responsible for this story: Ryan Tuck at firstname.lastname@example.org
The opinion is available at http://courts.delaware.gov/opinions/download.aspx?ID=214100.
All Bloomberg BNA treatises are available on standing order, which ensures you will always receive the most current edition of the book or supplement of the title you have ordered from Bloomberg BNA’s book division. As soon as a new supplement or edition is published (usually annually) for a title you’ve previously purchased and requested to be placed on standing order, we’ll ship it to you to review for 30 days without any obligation. During this period, you can either (a) honor the invoice and receive a 5% discount (in addition to any other discounts you may qualify for) off the then-current price of the update, plus shipping and handling or (b) return the book(s), in which case, your invoice will be cancelled upon receipt of the book(s). Call us for a prepaid UPS label for your return. It’s as simple and easy as that. Most importantly, standing orders mean you will never have to worry about the timeliness of the information you’re relying on. And, you may discontinue standing orders at any time by contacting us at 1.800.960.1220 or by sending an email to email@example.com.
Put me on standing order at a 5% discount off list price of all future updates, in addition to any other discounts I may quality for. (Returnable within 30 days.)
Notify me when updates are available (No standing order will be created).
This Bloomberg BNA report is available on standing order, which ensures you will all receive the latest edition. This report is updated annually and we will send you the latest edition once it has been published. By signing up for standing order you will never have to worry about the timeliness of the information you need. And, you may discontinue standing orders at any time by contacting us at 1.800.372.1033, option 5, or by sending us an email to firstname.lastname@example.org.
Put me on standing order
Notify me when new releases are available (no standing order will be created)