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Last week, Vice Chancellor Laster denied a motion to dismiss a lawsuit against the board and controlling stockholder of TripAdvisor, which challenged the board’s decision to reincorporate from Delaware to Nevada. A lot of corporate governance folks have been closely watching this case in light of recent public comments about moving out of the state. Delaware has long been known as the premier and most reliable place to incorporate a company, but lately there’s a view that it’s been too easy for plaintiffs to pursue claims for breaches of fiduciary duty.

In the 52-page opinion, VC Laster applied the “entire fairness” standard to this fact pattern, which involved a controlling stockholder. This Wilson Sonsini memo summarizes the background and key points from the decision:

The essence of the court’s determination was that the purpose of the reincorporation was to reduce stockholder litigation risks for its fiduciaries and that a reduction in the litigation rights of stockholders in a controlled company creates a non-ratable benefit for the controller. Accordingly, the standard of review governing the transaction is entire fairness unless the company uses some type of procedural protections, such as approval by an independent board committee and/or minority stockholders, to lower the standard of review by simulating an arm’s-length negotiation. Because no such steps were taken here, the court denied the defendants’ motion to dismiss and allowed the case to proceed under the entire fairness standard.

A management presentation and the proxy statement for the reincorporation proposal indicated that one purpose would be to provide greater liability protection for fiduciaries, based on a comparison of Nevada and Delaware law. According to the opinion, the disinterested stockholders didn’t seem to be on board:

At stockholder meetings in June 2023, holders of a majority of the voting power at each company approved each conversion. Assuming Holdings cast all of its votes in favor the Company conversion, only 5.4% of the unaffiliated Company stockholders voted in favor. Assuming Maffei cast all of his votes in favor of the Holdings conversion, only 30.4% of the unaffiliated Holdings stockholders voted in favor. Holdings and Maffei thus provided the decisive votes.

Tulane Law Prof Ann Lipton pointed out that the materiality of the litigation risk was an important part of the decision:

But here’s the thing. To get there, he had to distinguish some prior cases that concluded that the elimination of litigation rights did not state a claim for breach of fiduciary duty. This issue had come up, for example, in the context of charter amendments adding an exculpation clause under Section 102(b)(7), and in a reincorporation to California. VC Laster was pretty clear that he simply thought some of them were wrongly decided, but his main point was that in those cases, the amendments were immaterial – i.e., it was not clear that the change conferred a non-ratable benefit on existing directors. By contrast, he held, in this case, the differences between Nevada law and Delaware law are sufficiently plain – and the controller’s reasons for wanting the move sufficiently blatant – that the stockholder plaintiffs had at least, for pleading purposes, established they were losing a valuable right.

VC Laster was careful to note that the outcome resulted from this being a controller transaction. He called out that the decision would be different for a company without a controlling stockholder or for a company that had conditioned the transaction on procedural protections. In addition, he made a point of stating that if the plaintiffs are successful on the merits, the remedy would be damages based on the value of the stockholders’ “fundamental right” to litigate, rather than enjoining the move, which is what the plaintiffs had requested. So, companies are still free to leave Delaware – they just might have to pay their stockholders to do so, if there are conflicts and the transaction isn’t “cleansed” or entirely fair. Here’s an excerpt from the opinion about how that award could be calculated:

The Company’s stock has a trading price. In the conversion, nothing will change except the Company’s corporate domicile. Maffei’s control will remain constant. The Company’s business will remain constant. The only independent variable is the law governing its internal affairs.

Given that set-up, the change in the Company’s trading price should help quantify the harm, if any, caused by the conversion. As long as the market for the Company’s common stock is semi-strong-form efficient, then the price reaction should be indicative. Note that the stock price need not fairly approximate a pro rata share of the Company’s intrinsic value for the price reaction to matter. As long as any pricing disconnects remains consistent across variables other than the governing law, the price impact should provide insight.

Where do we go from here? The analysis in this opinion is relevant for moves to any other state, not just Nevada. That means that you can’t give short shrift to the process for approving reincorporation decisions – particularly if a controlling stockholder is involved.

– Liz Dunshee