As I have noted in prior posts, there has been a recent renewed focus among observers of Delaware corporate case law development on breach of the duty of oversight claims (sometimes called Caremark claims in reference to the initial Court of Chancery decision elaborating on the duty of oversight). Indeed, at least one academic commentator has suggested, based on a series of Delaware court rulings during 2019-2020, that we have entered a “new era” of Caremark claims.
But though there have been a number of high profile cases in which breach of the duty of oversight claims have been sustained, a recent Delaware Court of Chancery decision underscores the fact that the pleading hurdles for these types of claims are still substantial, and, indeed, as discussed below, at least one set of commentators has suggested that this most recent decision raises the question whether the pleading bar for these types of claims has changed at all. The Delaware Court of Chancery’s December 31, 2020 decision in Richardson v. Clark can be found here.
Background
MoneyGram International is in the business of facilitating worldwide funds transfers between businesses and individuals. In 2012, federal prosecutors alleged that the company had failed to comply with anti-money-laundering (AML) requirements and with aiding and abetting wire fraud. The company avoided prosecution by entering into a deferred prosecution agreement (DPA) which required to company to establish a fund to provide restitution to injured customers and to take certain actions to prevent future money-laundering and wire fraud.
In 2017, after the company apparently struggled to comply with the DPA, regulators again threatened the company with prosecution on the original charges. Eventually, MoneyGram was forced to extend the DPA through 2021 and to pay an additional $125 million in restitution.
In 2019, a plaintiff shareholder filed a derivative lawsuit against MoneyGram’s board alleging that the directors had breached their fiduciary duties by failing to ensure that MoneyGram fully complied with the original DPA, leading to the amended DPA and the substantial additional fine. The plaintiff alleged further that the board failed to ensure that the shortcomings in the software employed by the company to reduce fraud, once discovered, were fully disclosed to regulators. The plaintiff alleges that the Board’s inadequate actions are sufficient to imply bad faith in the exercise of oversight requirements under Caremark and subsequent case law decisions.
The defendants filed a motion to dismiss the plaintiff’s derivative complaint on the grounds that the plaintiff had failed to make the requisite demand on the board to take up the litigation. The plaintiff contended that the demand requirement was excused because of the absence of a disinterested majority of directors able to act in the interest of MoneyGram.
The December 31, 2020 Decision
In his December 31, 2020 Memorandum Opinion, Vice Chancellor Sam Glasscock III held that the plaintiff had failed to show that demand was excused, and therefore granted the defendants’ motion to dismiss.
In order to assess the parties’ competing arguments with respect to the demand requirement, Vice Chancellor Glasscock evaluated wither or not the complaint pleads facts which, if true, would “pose a substantial likelihood of personal liability” on the part of a majority of the directors.
In considering the substantial likelihood of liability requirement, Vice Chancellor Glasscock noted that in order to sustain a claim for breach of the duty of oversight under Caremark, a plaintiff must plead particularized facts showing either that (a) the directors had utterly failed to implement any reporting or information system or controls; or (b) having implemented a system or controls, consciously failed to monitor or oversee operations thus disabling themselves from being informed of risks or problems requiring their attention.
The Vice Chancellor further noted that MoneyGram’s Articles of Incorporate contain a Section 102(b)(7) provision exculpating the directors from liability except for breaches of the duty of loyalty. Accordingly, Vice Chancellor Glasscock said, in order to establish a substantial risk of director liability under Caremark, the Complaint must plead further, and with the requisite particularity, that the Defendants acted in bad faith – that is, that the directors acted with scienter.
In reviewing the complaint, Vice Chancellor Glasscock noted that plaintiff’s allegations showed that the company took steps to comply with the original DPA; and that the Board made itself aware of those steps and their shortcomings; but that the board failed to ensure full compliance, leading to the amended DPA.
The complaint, Vice Chancellor Glasscock said, “describes directors who oversaw a company struggling to implement long-term reforms; a Board that kept itself apprised of progress, or lack thereof, and which failed to take remedial or punitive efforts against management failures.” The director defendants, Vice Chancellor Glasscock said, “may be plausibly accused of feckless oversight and lack of vigor; they may have been wistless or overly reliant on management.”
But, he said, “these facts, I find, do not implicate bad faith.” He added that “bad oversight is not bad-faith oversight, and bad oversight is the most that these facts could plausibly imply.” Accordingly, he concluded that the plaintiff had failed to show that demand is excused, and he granted the defendants’ motion to dismiss on the ground of demand failure.
In elaborating on why the plaintiff’s allegations were insufficient to show a substantial likelihood of liability for breach of the duty of oversight, Vice Chancellor Glasscock contrasted the plaintiff’s allegations from those of two recent Chancery Court breach of the duty of oversight claims, Teamsters Local 443 v Chou (the AmerisourceBergen case) and In re Met Life. In both of those cases, Vice Chancellor Glasscock noted, the plaintiffs had alleged that the directors had not acted in response to red flags regarding compliance deficiencies. In Chou, the court found that the plaintiffs’ allegations were sufficient, if proven, to support a substantial likelihood of director liability, while in the Met Life case, the allegations were found to be insufficient. In both cases, by contrast to the MoneyGram case, the analysis did not turn on the sufficiency of what the boards had done – the plaintiff in each of those cases alleged that no remedial action had been taken. By contrast in the MoneyGram case, the plaintiff alleged that the board had acted but that the action was insufficient and ineffective. As Vice Chancellor Glasscock noted:
The facts pled here suggest a failed effort, not one opposed to the interests of MoneyGram or otherwise in bad faith. It is conceivable that a purported attempt at remediation could constitute bad faith; for instance, a mere sham remediation or an insincere action to fool regulators may be actionable … If a failed directorial attempt to remediate a problem is, because of its failure, actionable, a perverse inceptive will be created. In any event, the Plaintiff here has failed to plead with the requisite particularity that the Demand Board faces a substantial likelihood of liability for this conduct.
Discussion
While the various recent rulings of the Delaware courts with respect to the duty of oversight created a perception among some observers that prospects for breach of the duty of oversight claims have been reinvigorated, Vice Chancellor Glasscock’s ruling in the MoneyGram case is a reminder that the pleading hurdle for breach of the duty of oversight claims is still considerable.
In its January 21, 2021 memo about the MoneyGram decision, entitled “Caremark Claims: Not Mission Impossible, but Still Risky Business for Plaintiffs” (here), the Sidley law firm said that the decision “reaffirms the principle espoused in many of the long line of decisions since the original Caremark decisions that a claim of bad-faith oversight failure is among the most difficult claims for a stockholder-plaintiff to advance.”
In that regard, it is particularly noteworthy that in his analysis of the sufficiency of the plaintiff’s claims in the MoneyGram case, Vice Chancellor Glasscock differentiated between failed or ineffectual compliance attempts and the complete absence of effort. As Vice Chancellor Glasscock put it, bad oversight is not bad faith oversight. Allegations of complete lack of effort may be sufficient to establish a breach of the duty of oversight but allegations of mere ineffectual efforts are not. The Sidley memo notes that Vice Chancellor Glasscock’s opinion in the MoneyGram case “provides important guidance to directors faced with mission-critical compliance situations.” The MoneyGram decision, the memo says, “should provide some comfort to directors that … absent particularized allegations of bad faith actions (or inaction) by a board such claims should not survive a motion to dismiss.”
The Sidley memo also notes that in the wake of the recent case law concerning the breach of the duty of oversight, “some have questioned whether Delaware’s courts are lowering the bar for claims alleging that a board of directors failed in its oversight duties.” The MoneyGram decision could provide reassurance that “the standards have not changed.”
Those interested in these issues may want to refer back to my January post discussing recent academic analysis positing that we have entered “a new Caremark era.” Regardless of where observers may come down on the question of whether or not the Caremark pleading standard has been liberalized, there is no doubt – even in the wake of the MoneyGram case – that there has been a heightened focus in Delaware’s courts on the need for directors to oversee “mission critical operations,” and that directors’ potential exposure to claims based on failure to oversee these operations is influenced by the Delaware courts’ increasingly robust view of the rights of shareholders to inspect corporate books and records. These various stands are likely to continue to evolve in the months ahead.