MKE Holdings LTD v. Kevin Schwartz ( 2020 )

IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
MKE HOLDINGS LTD. and )
DAVID W. BERGEVIN, )
)
Plaintiffs, )
)
v. ) C.A. No. 2018-0729-SG
)
KEVIN SCHWARTZ, DAVID )
BUCKERIDGE, ANGELOS )
DASSIOS, DAVID BROWNE, )
ROBERT BERENDES, JEFFREY R. )
GROW, KENNETH AVERY, ADAM )
FLESS, ALEXANDER )
CORBACHO, and PAINE SCHWARTZ )
PARTNERS, LLC, )
)
Defendants, )
)
and )
)
VERDESIAN LIFE SCIENCES, LLC, )
)
Nominal Defendant. )
MEMORANDUM OPINION
Date Submitted: October 10, 2019
Date Decided: January 29, 2020
Thomas E. Hanson, Jr., of BARNES & THORNBURG LLP, Wilmington, Delaware,
Attorney for Plaintiffs.
Blake Rohrbacher, of RICHARDS, LAYTON & FINGER, P.A., Wilmington,
Delaware; OF COUNSEL: John F. Hartmann and Abdus Samad Pardesi, of
KIRKLAND & ELLIS LLP, Chicago, Illinois, Attorneys for Defendants and
Nominal Defendant.
GLASSCOCK, Vice Chancellor
This Memorandum Opinion represents the second piece of my consideration
of the Defendants’ Motion to Dismiss. The Plaintiffs here are members of a
Delaware LLC, Verdesian Life Sciences, LLC (“Verdesian”). The Plaintiffs’ claims
allege breach of the contractual analog to fiduciary duties contained in the LLC
Agreement—asserted both directly and derivatively on behalf of the LLC—along
with fraud and aiding and abetting. In my earlier Memorandum Opinion (“MKE
I”),1 I found that the operative contractual duty is good faith. I also found that the
derivative claims—principally arising from Verdesian’s acquisition of a subsidiary,
Specialty Fertilizer Products, LLC—must be dismissed, because it was not
reasonably conceivable that the managers had acted in contractual bad faith with
respect to the interests of Verdesian.
Addressed in this Memorandum Opinion are the Plaintiffs’ remaining claims,
which they bring on their own behalf directly against the Defendant managers.2 The
Plaintiffs allege both breach of the LLC Agreement and fraud. With respect to
breach of contract, the standard by which these Defendants’ actions must be
measured—good faith—remains the same,3 as do the core allegations. I find,
however, that it is reasonably conceivable that the managers acted in bad faith or
1
MKE Holdings Ltd et al. v. Kevin Schwartz, et al., D.I. 59. I cite to MKE I by the Westlaw
citation: MKE Holdings Ltd. v. Schwartz, 2019 WL 4723816 (Del. Ch. Sept. 26, 2019).
2
Plaintiffs also bring aiding and abetting claims against Verdesian’s private equity sponsor.
3
See note 134, infra.
1
fraudulently in soliciting the Plaintiffs’ equity investments designed to raise funds
for the acquisition of SFP. Therefore, the Motion to Dismiss the direct claims is
denied in part, although some of the Plaintiffs’ claims must be dismissed. My
reasoning follows.
I. BACKGROUND4
I draw the following facts from the Plaintiffs’ First Amended Verified
Complaint (the “First Amended Complaint”) and to a limited extent documents
incorporated therein.5 The allegations of the First Amended Complaint, as discussed
below, are assumed true for purposes of this Motion.
A. The Parties
Plaintiff MKE Holdings, Ltd. (“MKE”) is an Indiana corporation and a
Member of Nominal Defendant Verdesian.6 MKE holds 261,887 Class A Units of
Verdesian.7
4
The background is a summation of the facts presented in the MKE I, referenced supra n.1. In
MKE I, I asked the parties to confer and inform me what direct claims remain. This Memorandum
Opinion addresses the direct claims and omits those facts which are not pertinent to the analysis
of such claims.
5
The incorporated documents are the LLC operating agreement of Verdesian, a KPMG report on
a potential acquisition by Verdesian, and a rating agency presentation on the same acquisition
provided to members of Verdesian. I note that these documents, and others, were produced to
Plaintiff MKE Holdings, Ltd. by the Defendants pursuant to a books and records demand,
production which was made by agreement that the documents would be considered incorporated
in any future litigation between the parties. See Defs.’ Opening Br. in Support of Defs.’ Mot. to
Dismiss Pls.’ First Am. Compl., D.I. 37 (“Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss
Pls.’ First Am. Compl.”), Ex. 2; see also June 17, 2019 Oral Arg. Tr. 112:17–113:2.
6
First Am. Compl. ¶ 12.
7
Id.
2
Plaintiff David W. Bergevin8 (with MKE, “Plaintiffs”) founded Northwest
Agricultural Products, LLC in 1989.9 Bergevin sold Northwest Agricultural
Products, LLC to Verdesian in 2013, and, as a result of the acquisition, became a
Member of Verdesian.10 Bergevin holds 365,471 Class A Units of Verdesian.11
Nominal Defendant Verdesian is a Delaware limited liability company with a
principal place of business in Cary, North Carolina.12 It was formed by Defendant
Paine Schwartz Partners, LLC (“Paine”) in 2012.13 Verdesian develops, licenses,
manufactures, markets, and distribute fertilizers, pesticides, and related agricultural
products.14 It employs a business strategy focused on acquisition, targeting
“companies holding proprietary specialty plant health technologies.”15 Verdesian is
managed by an eight-member Board of Managers (the “Board of Managers,” or, the
“Board”), and each member of the Board is appointed by the “Paine Members,” a
group of entities defined in Verdesian’s LLC operating agreement, as described in
more detail below.16
8
Bergevin is a resident of the State of Washington. Id. ¶ 13.
9
Id. ¶ 36.
10
Id.
11
Id. ¶ 13.
12
Id. ¶ 24.
13
Id. ¶ 26.
14
Id.
15
Id.
16
Id. ¶ 29; see also Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl.,
Ex. 1, Second Amended and Restated Limited Liability Company Agreement of Verdesian Life
Sciences, LLC, dated June 20, 2014 (“Operating Agreement”).
3
Defendant Paine is a Delaware limited liability company with a principal
place of business in San Mateo, California.17 Paine was founded in 2006 and is a
successor entity to Fox Paine & Company (“Fox Paine”).18 Affiliates of Paine own
over seventy percent of the Class A Units of Verdesian.19 Paine also has a
contractual relationship with Verdesian whereby Paine is paid management service
fees based on Verdesian’s financial performance, and paid transaction fees on certain
Verdesian acquisitions.20
Defendant Kevin Schwartz is the President, Chief Executive Officer (“CEO”),
and a Founding Partner of Paine.21 Schwartz has served as a Manager of Verdesian
since August 2012.22
Defendant David Buckeridge is a Partner at Paine, and previously was the
Operating Director of Fox Paine.23 Buckeridge has served as a Manager of
Verdesian since August 2012.24
Defendant Robert Berendes is the Operating Director of Paine.25 Berendes
has been the Operating Director of Paine since 2014 and has served as a Manager of
17
First Am. Compl. ¶ 23.
18
Id. ¶ 14.
19
Id. ¶ 27.
20
Id. ¶ 54.
21
Id. ¶ 14.
22
Id.
23
Id. ¶ 15.
24
Id.
25
Id. ¶ 16.
4
Verdesian since August 2014.26 Berendes has worked at, among other places,
McKinsey & Company (“McKinsey”). He is also the Chairman of the Board of
Directors of Indigo Ag, Inc. (“Indigo”), a potential competitor to Verdesian.27
Defendant Jeffrey R. Grow is the Chairman of Verdesian and served as its
CEO from August 2012 to September 2016.28 Grow has served as a Manager of
Verdesian since August 2012.29
Defendant Kenneth Avery is the current CEO of Verdesian, replacing Grow
in September 2016.30 Avery has served as a Manager of Verdesian since September
2016.31
Defendant Adam Fless is the Managing Director of Paine.32 Fless has served
as a Manager of Verdesian since August 2017.33
Defendant Alexander Corbacho is a Principal of Paine.34 Corbacho has served
as a Manager of Verdesian since August 2017 and was an Associate and Senior
Associate with Paine from August 2012 to December 2015.35
26
Id.
27
Id.
28
Id. ¶ 17.
29
Id.
30
Id. ¶ 18.
31
Id.
32
Id. ¶ 19.
33
Id.
34
Id. ¶ 20.
35
Id.
5
Defendant Angelos Dassios is a Partner at Paine.36 Dassios served as a
Manager of Verdesian from 2012 to 2016, and continues to serve as a member of the
Board of Manager’s audit committee.37
Defendant David Browne is a former Director of Paine, a position he left in
June 2017.38 Browne served as a Manager of Verdesian from 2012 to 2017, and
continues to serve as a member of the Board of Manager’s audit committee.39
B. Verdesian’s Operating Agreement
Verdesian was formed in August 2012 to sell agricultural products, such as
fertilizers and pesticides, the rights to which it planned to obtain through an
acquisition strategy targeting entities with proprietary technology.40 According to
Verdesian’s Operating Agreement (the “Operating Agreement”), the “full and
exclusive discretion” to “manage and control, have the authority to obligate and
bind, and make all decisions affecting the business and assets of [Verdesian]” is
vested in the Board of Managers.41 “Members” of Verdesian are listed in the
Operating Agreement, and include, among others, MKE and Bergevin.42
36
Id. ¶ 21.
37
Id.
38
Id. ¶ 22.
39
Id.
40
Id. ¶ 26.
41
Id. ¶ 29; Operating Agreement § 6.1.
42
Operating Agreement, Appendix B, “Member.”
6
1. The Board of Managers of Verdesian
The Board of Managers—per the Operating Agreement—consists of up to
eight members (each individually a “Manager”, and collectively, the “Managers”)43
and the current Board has seven members.44 All Managers are appointed by the
“Paine Members,”45 which is a defined term in the Operating Agreement meaning
“Paine & Partners Capital Fund III AIV III, L.P., Paine & Partners Capital Fund III
Co-Investors, L.P., Verdesian Co-Investment, L.P. and Verdesian Co-Investment
Blocker, Inc.”46 The Paine Members, all affiliates of Paine, own over seventy
percent of the Class A Units of Verdesian.47
According to the Operating Agreement, a “Manager shall perform his duties
as a manager in good faith, in a manner he reasonable believes to be in or not opposed
to the best interests of the Company, and with the care that an ordinarily prudent
person in a similar position would use under similar circumstances.”48 However,
this standard is explicitly subject to another subsection of the Operating Agreement,
whereby:
43
First Am. Compl. ¶ 29; Operating Agreement § 6.2(a).
44
First Am. Compl. ¶ 29.
45
Id.
46
Operating Agreement, Appendix B, “Paine Members.” The Operating Agreement technically
indicates that the Paine Members have the right to appoint six of the eight Managers; the remaining
two are appointed by the “Rollover Members,” unless the “Rollover Members” ownership drops
below fifteen percent, in which case, those two remaining Managers are appointed “by the
Members owning a majority of the outstanding Units.” Id. § 6.2(a).
47
First Am. Compl. ¶ 27.
48
Id. ¶ 30; Operating Agreement § 6.4(b).
7
. . . whenever in this Agreement a Manager or Member is permitted or
required to make a decision (i) in its, his or her discretion or under a
grant of similar authority, such Manager or Member shall be entitled to
consider only such interests and factors as such Manager or Member
desires, including its, his or her own interests, and shall, to the fullest
extent permitted by applicable law, have no duty or obligation to give
any consideration to any interest of or factors affecting the Company or
any other Person, or (ii) in its his or her good faith or under another
express standard, such Manager or Member shall act under such express
standard and shall not be subject to any other or different standards.49
Additionally, the Members, by agreeing to the Operating Agreement, “acknowledge
that the Managers may or could have conflicts of interest to the extent that they are
requested or obliged to make decisions . . . with respect to . . . the rights of the
Members.”50 The Members “to the fullest extent permitted under the LLC Law . . .
waive any such conflicts of interest directly or indirectly associated with decisions,
and agree that each such Manager shall be entitled to make decisions and
determinations as Member or Manager in his, her or its self-interest.”51
Further according to the Operating Agreement, “to the extent that, at law or
in equity, a Manager . . . has duties, including fiduciary duties, and liabilities relating
thereto to the Company . . . such Person acting under this Agreement shall not be
liable to the Company . . . for its good faith reliance on the provisions of this
Agreement . . . .”52 Furthermore, “[n]otwithstanding anything contained in this
49
Operating Agreement § 6.4(e).
50
Id. § 6.9(b).
51
Id.
52
Id. § 6.9(a).
8
Agreement to the contrary, to the fullest extent permitted under the LLC Law, the
Members of Verdesian hereby waive any fiduciary duty of the Managers, so long as
such Person acts in a manner consistent with [the Operating Agreement].” 53
The Operating Agreement also provides that Managers, as “Covered
Person[s],” are not liable “to the Company . . . for any loss, damage or claim incurred
by reason of any act or omission performed or omitted by such Covered Person in
good faith on behalf of the Company and in a manner reasonably believed to be
within the scope of the authority conferred on such Covered Person by this
Agreement.”54 Managers, specifically, are also not liable “to the Company or to any
Member for any actions taken in good faith and reasonably believed to be in or not
opposed to the best interests of the Company, or for errors of judgment, neglect or
omission.”55
The Managers are charged with managing “the affairs of [Verdesian].”56
Under the Operating Agreement, Verdesian will “[c]ause to be prepared and
distributed to each Member holding Class A, Class A-1 or Class A-2 Units audited
annual financial statements within ninety (90) days after the end of each fiscal year
53
Id. § 6.9(b).
54
Id. § 6.7(b).
55
Id. § 6.4(d).
56
Id. § 6.4(a).
9
or as soon thereafter as is reasonably practicable and monthly unaudited financial
statements within forty-five (45) days after the end of each month.”57
C. MKE and Bergevin Become Members of Verdesian
After its formation in August 2012, Verdesian made its first acquisitions
between September 2012 and April 2013.58 Verdesian acquired Biagro Western
Sales, Inc. (“Biagro”),59 Northwest Agricultural Products, LLC (“NAP”),60 and Plant
Syence Ltd. (“Plant Syence”).61 NAP was founded by Plaintiff Bergevin in 1989.62
Verdesian acquired NAP from Bergevin in February 2013 for $34 million.63
Bergevin invested $7 million of the proceeds of his sale of NAP back into
Verdesian.64 Bergevin received 278,441 Class A Units and became a Member of
Verdesian.65 Bergevin also became a guest of the Board of Managers.66
57
First Am. Compl. ¶ 31; see also Operating Agreement § 7.2(e).
58
First Am. Compl. ¶ 34.
59
“Biagro . . . manufactured and sold phosphite plant nutrition and fertilizer products, including
Nutri-Grow and Nutri-Phite.” Id. ¶ 35.
60
“NAP . . . offer[ed] specialty agricultural products, including Sterics, which enhance the
absorption of phosphorous, and PolyAmines, an amino acid that delivers essential micronutrients.”
Id. ¶ 36.
61
Id. ¶ 34. “[Plant] Syence . . . was a supplier of plant nutritional solutions to the agriculture and
horticulture markets.” Id. ¶ 35.
62
Id. ¶ 36.
63
Id.
64
Id.
65
Id.
66
Id.
10
Verdesian later acquired INTX Microbials, LLC (“INTX”),67 which was
formed in 2002, from Plaintiff MKE in a two-part transaction, one part in September
2013, and the second part in January 2014.68 Verdesian acquired INTX from MKE
for $32 million.69 MKE invested $5 million of the proceeds of its sale of INTX back
into Verdesian.70 MKE received 198,887 Class A Units and became a Member of
Verdesian.71 MKE’s principal also became a guest of the Board of Managers.72
Verdesian’s revenue for 2013 was $53 million and it had an Adjusted
EBITDA in 2013 of $14.5 million.73 Paine received management fees from
Verdesian of $196,630 in 2013.74 Paine also received, in 2012 and 2013, a combined
$3.7 million in transaction fees related to Verdesian’s acquisition of Biagro, NAP,
Plant Syence, and INTX.75
D. Verdesian’s Acquisition of Specialty Fertilizer Products, LLC
During a May 15, 2014 meeting of the Board of Managers, Verdesian’s
management announced it had executed a purchase agreement to acquire Specialty
67
“INTX . . . manufactured biological products for agricultural crop production. Among other
products, INTX offered legume seed inoculants, biological growth promoters and adjuvants for
agriculturally applied pesticides.” Id. ¶ 37.
68
Id. ¶¶ 37–38.
69
Id. ¶ 37.
70
Id. ¶ 38.
71
Id. Verdesian first purchased sixty-five percent of INTX in September 2013, and at that time
MKE reinvested $3 million into Verdesian. Id. Verdesian purchased the remaining thirty-five
percent of INTX in January 2014, at which time MKE reinvested $2 million into Verdesian. Id.
72
Id.
73
Id. ¶ 40.
74
Id. ¶ 54.
75
Id.
11
Fertilizer Products, LLC (“SFP”) for $313.5 million.76 SFP’s revenue for 2013 was
$68.1 million and it had an Adjusted EBITDA of $26.6 million.77
1. Concerns Related to the Specialty Fertilizer Products, LLC
Acquisition
On April 10, 2014, as part of the SFP acquisition, KPMG prepared a due
diligence report for Verdesian.78 KPMG’s report (the “KPMG Report”) noted that
year-to-date sales for SFP in March 2014 were fifteen percent lower than for the
same period the previous year.79 The KPMG Report also detailed SFP’s introduction
“in the second half of [fiscal year] 2013” of a “bulk and early fill sales program.”80
Prior to this program, SFP’s “sales season peaked in spring during the planting
season.”81 The bulk and early fill sales programs “incentiviz[ed] dealers with
discounts” in order “to increase dealer demand, accelerate business growth, enhance
operational capacity and allow access to a high volume market.”82 According to
KPMG, the 2013 “programs were successful and, as a result, sales peaked a second
time in FY 13 during Q3 and Q4.”83 In other words, SFP’s 2013 sales results
76
Id. ¶¶ 43, 52. “SFP was a wholesaler of plant health products and fertilizers to retailers in the
Midwest.” Id. ¶ 43.
77
Id. ¶ 43.
78
Id. ¶ 46.
79
Id.
80
Id. ¶ 47.
81
Id.
82
Id.
83
Id.
12
included two sales peaks.84 KPMG noted that there was “a risk [that] this double
sales peak will not recur next year,” as the bulk and early fill programs had
accelerated sales from the first quarter of 2014 into the fall of 2013. 85 As a result,
KPMG wrote, “FY 13 includes a onetime benefit due to the business shift.”86
United Suppliers, Inc. (“United Suppliers”), one of SFP’s primary retail
customers, also provided commentary on SFP.87 United Suppliers warned Verdesian
that SFP had presold a significant amount of product in 2013, and would therefore
be unable to achieve the same level of sales in the future (the “United Suppliers
Communications”).88 In other words, United Suppliers represented to Verdesian’s
Managers that SFP had “stuff[ed] the channel.”89 United Suppliers did, however,
expect its order with SFP to increase year-over-year.90
2. Verdesian Proceeds with the Specialty Fertilizer Products, LLC
Acquisition
With knowledge of the KPMG Report and the United Suppliers
Communications, Verdesian’s Managers decided to acquire SFP.91 Verdesian
funded the $313.5 million acquisition of SFP through $200 million in third-party
84
Id.
85
Id.
86
Id.
87
Id. ¶ 49.
88
Id.
89
Id. ¶¶ 49–50.
90
Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., Ex. 4, Report
from KPMG titled ‘Project Fertilizer,’ dated April 10, 2014, at 9.
91
First Am. Compl. ¶ 51.
13
debt financing and $160 million in new equity financing.92 On June 1, 2014, as part
of the new equity financing, Verdesian issued a “Notice of Preemptive Rights” and
offered its existing unitholders the opportunity to purchase additional Class A Units
at a price of $47.11 per Unit.93 In soliciting this new equity financing from
Verdesian’s Members, the Managers did not specifically disclose the findings of the
KPMG Report or the United Suppliers Communications.94 Instead, the Managers
indicated that SFP’s 2013 earnings were a reliable indicator of its future
performance.95 The Managers also sent to the Members a presentation on the SFP
acquisition, prepared for the credit rating agencies (the “Rating Agency
Presentation”), which indicated that “SFP underperformance y-o-y driven in part by
transition of portion of business from spring planting season to autumn as part of an
Early Fill program. Expect meaningful uptick in summer and fall months.”96 The
Managers also represented to the Members that Verdesian, with SFP, would have an
enterprise value of $514 million.97
92
Id. ¶¶ 52, 103.
93
Id. ¶ 103.
94
Id. ¶ 52.
95
Id. ¶ 104.
96
Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., Ex. 7, Verdesian
Life Sciences LLC Ratings Agency Presentation, dated May 2014, at 48.
97
First Am. Compl. ¶ 104.
14
In connection with the new equity financing, MKE contributed $3 million and
Bergevin contributed $4.1 million.98 The SFP acquisition closed on July 1, 2014.99
Paine, by contract, receives a management service fee based on Verdesian’s
financial performance and transaction fees on certain Verdesian acquisitions.100
Accordingly, Paine received a transaction fee of $6 million for Verdesian’s
acquisition of SFP.101 In 2014, Verdesian’s Adjusted EBITDA (including SFP) was
$45.3 million.102 In 2014 and 2015, following the acquisition of SFP, Paine received
management service fees of $1,145,053 and $1,205,798, respectively. 103 In 2013,
Paine had received a management service fee of less than $200,000.104
E. Verdesian’s Class P Offering
MKE received its K-1 for 2016 for Verdesian in May 2017, and afterwards
inquired to the Managers about the loss in value of its interest in Verdesian due to
Verdesian’s poor performance.105 Instead of addressing Verdesian’s performance,
the Managers responded that Verdesian was being positioned for a sale.106 The
Managers represented that a sale was being targeted for the fourth quarter of 2018
98
Id. ¶ 52.
99
Id. ¶ 51.
100
Id. ¶¶ 28, 54.
101
Id. ¶ 54.
102
Id. ¶ 152.
103
Id. ¶ 54.
104
Id.
105
Id. ¶ 75.
106
Id. ¶ 76.
15
or the first quarter of 2019, and that Class A unitholders would be able to recoup
their investments in such a sale.107 Verdesian’s Adjusted EBITDA for 2017 was
$30.2 million.108
On August 20, 2018, Verdesian issued an Offering Notice to its Members,
notifying them of its intent to issue a new class of preferred units, Class P Units (the
“Offering”).109 Each Class P Unit would be offered at $44.30 per unit.110 At that
price, Verdesian was valued at a six percent loss relative to its value after acquiring
SFP in July 2014.111 During the intervening time, Verdesian’s EBITDA had
decreased by thirty-three percent.112 The new Class P Units also had a distribution
preference: in the event of a sale, Class P unitholders would receive double the Class
P Unit price.113 The Class P Units’ preference would supersede Class A Units’ first
priority in the event of a distribution from a liquidity event. 114 Verdesian’s
management was also allowed to participate in the Offering.115
107
Id.
108
Id. ¶ 152.
109
Id. ¶ 79.
110
Id. ¶ 80.
111
Id. ¶ 81.
112
Id. ¶ 80.
113
Id. ¶ 81.
114
Id. ¶ 92.
115
Id. ¶ 83.
16
On September 13, 2018, MKE and Bergevin sent a letter to Verdesian asking
it to retract the Offering.116 Verdesian responded by letter on September 14, 2018.117
Verdesian refused to retract the Offering and indicated that it believed the Offering
to be fair because Class A unitholders could participate. 118 In separate
communications with MKE, Verdesian indicated that it could find a buyer for
MKE’s Class A Units at price not to exceed $30.55 per Unit.119
Verdesian closed the Offering on November 30, 2018.120 Prior to the
Offering, Paine Members and Buckeridge together held eighty-five percent of
Verdesian’s Class A Units.121 Paine Members purchased 397,165 Class P Units,
Verdesian’s management (Grow and Avery) purchased 11,396 Class P Units, and
Buckeridge, indirectly, purchased 5,201 Class P Units.122 None of the minority
Class A unitholders (that is, the non-Paine-affiliated Class A unitholders)
participated in the Offering.123 Given the Class P Units’ preference in the event of
a sale, Verdesian would have to be sold for $560 million in order for all Class A
unitholders to receive proceeds sufficient to fully return their investment.124
116
Id. ¶ 88.
117
Id.
118
Id.
119
Id.
120
Id. ¶ 90.
121
Id. ¶ 91.
122
Id. ¶ 90.
123
Id.
124
Id. ¶ 92.
17
F. MKE’s Books and Records Demand
MKE made a books and records demand on Verdesian on October 12, 2017.125
Verdesian made productions to MKE on November 28, 2017, December 5, 2017,
December 7, 2017, and December 22, 2017.126 These productions included audited
financial statements, which had never been provided to MKE (or Bergevin) despite
being required by the Operating Agreement.127 Following the productions,
Verdesian continued to fail to provide MKE and Bergevin with audited financial
statements going forward; the audited financial statements for 2017 were due to
them, per the Operating Agreement, on April 1, 2018.128
G. Procedural History
MKE and Bergevin filed a Complaint on October 9, 2018. They then filed
the First Amended Complaint on January 14, 2019.129 The Defendants filed a
Motion to Dismiss the First Amended Complaint on March 1, 2019. I heard Oral
Argument on the Motion to Dismiss on June 17, 2019. On September 26, 2019, I
issued MKE I granting the Defendants’ Motion to Dismiss the Plaintiffs’ derivative
claims and instructed the parties to consult to determine what direct claims remain.
125
Id. ¶ 45.
126
Id. ¶¶ 112–115.
127
Id. ¶ 31.
128
Id.
129
The Defendants had previously moved to dismiss the initial Complaint on November 16, 2018.
Defs.’ Mot. to Dismiss, D.I. 10.
18
The parties wrote to me on October 10, 2019 specifying the remaining direct claims,
and I considered the Motion submitted for decision on that date.
II. ANALYSIS
The Plaintiffs bring three counts in connection with their direct claims: breach
of contract (the Operating Agreement), fraud, and aiding and abetting.130 The
Defendants have moved to dismiss the fraud claim under Rule 9(b) and all claims
under Rule 12(b)(6). The Defendants further argue that some of the Plaintiffs’
claims are time-barred. I analyze the Plaintiffs’ claims below.
The Defendants have moved to dismiss all claims pursuant to Chancery Court
Rule 12(b)(6).131 The standard of review for a Rule 12(b)(6) motion is well settled:
(i) all well-pleaded factual allegations are accepted as true; (ii) even
vague allegations are well-pleaded if they give the opposing party
notice of the claim; (iii) the Court must draw all reasonable inferences
in favor of the nonmoving party; and (iv) dismissal is inappropriate
unless the plaintiff would not be entitled to recover under any
reasonably conceivable set of circumstances susceptible of proof.132
When reviewing a motion to dismiss, the Court may take into consideration
documents “incorporated into the pleadings by reference and may take judicial
notice of relevant public filings.”133
130
The breach of contract and fraud claims are brought against the Managers and the aiding and
abetting claim is brought against Paine.
131
Ch. Ct. R. 12(b)(6).
132
Savor, Inc. v. FMR Corp., 812 A.2d 894, 896–97 (Del. 2002) (citations and internal quotation
marks omitted).
133
See Fairthorne Maint. Corp. v. Ramunno, 2007 WL 2214318, at *4 (Del. Ch. Jul. 20, 2007)
(citations omitted).
19
A. Breach of Contract and Fraud Claims134
The Plaintiffs have alleged three breaches of the Operating Agreement by the
Managers: (1) in connection with the solicitation of new cash equity for the SFP
transaction, (2) in connection with the issuance of the Class P Units, and (3) failure
to provide the Plaintiffs with audited annual financial statements and monthly
unaudited financial statements.135 The Plaintiffs have also alleged fraud in
connection with the SFP transaction.
In MKE I136 I analyzed the standard of conduct required of the Managers by
the Operating Agreement. I determined that the Operating Agreement “directs the
Managers to operate in good faith and with ordinary care” and “effectively
exculpates Managers for conflicted, negligent and other detrimental decisions . . . so
long as taken in good faith.”137 Consequently, in order to be liable for breach of the
Operating Agreement, a Manager must act in bad faith.138 I evaluate each of the
Plaintiffs’ claims for breach of the Operating Agreement under this standard to
determine if they state a claim upon which relief may be granted.
134
I assume for purposes of this Memorandum Opinion that the contractual duties owed by the
Managers pursuant to the Operating Agreement apply to the transactions at issue in the Plaintiffs’
direct claims.
135
See Letter of October 10, 2019, D.I. 60, at 1–2.
136
MKE Holdings Ltd. v. Schwartz, 2019 WL 4723816 (Del. Ch. Sept. 26. 2019).
137
Id. at *9.
138
Id. at *10.
20
1. Verdesian’s Acquisition of Specialty Fertilizer Products, LLC
a. Breach of Contract
The Plaintiffs’ direct claim for breach of contract in connection with
Verdesian’s acquisition of SFP relies on the same core facts as its derivative claim.
The derivative claim was dismissed in MKE I based on my finding that, from the
perspective of Verdesian, “[i]t is not reasonable to infer bad faith from the SFP
transaction based on the Manager’s desire to drive fees to Paine, because the value
of the transaction and management service fees to Paine is dwarfed by the potential
loss to Paine from Verdesian’s acquisition of SFP for several hundred million
dollars.”139 However, the direct claim is different in this respect: it alleges that the
Managers solicited the $7.1 million equity infusion from MKE and Bergevin by
“falsely tout[ing] SFP’s 2013 earnings as reliable and fail[ing] to disclose the
warnings from KPMG and [United Suppliers] that the earnings were unsustainable
and would not be repeated.”140 The Plaintiffs were entitled to participate in this
equity offering under the terms of the Operating Agreement. The action alleged to
be in bad faith is not the investment in SFP itself—unsuccessfully pursued by the
Plaintiffs derivatively on behalf of Verdesian—but the solicitation of the equity
contribution from the Plaintiffs to fund a portion of the purchase price—pursued
139
Id. at *11.
140
First Am. Compl. ¶ 130.
21
directly. The question is whether the Defendants dealt with Plaintiffs themselves in
bad faith.
The Plaintiffs have alleged that the Managers’ failure to disclose the KPMG
Report and the United Suppliers Communications was in bad faith and in breach of
the Operating Agreement. The KPMG Report noted that SFP’s 2014 year-to-date
sales as of March 2014 were fifteen percent lower than for the same period the
previous year.141 The KPMG Report also detailed SFP’s “bulk and early fill sales
program,” introduced in 2013, which “incentiviz[ed] dealers with discounts” in order
“to increase dealer demand, accelerate business growth, enhance operational
capacity and allow access to a high volume market.”142 According to the KPMG
Report, the program was successful (at least temporarily), leading to a second sales
peak during Q3 and Q4 of 2013.143 The KPMG Report noted a risk that the double
sales peak will not recur because the bulk and early fill sales program had accelerated
sales from the first quarter of 2014 into the fall of 2013.144 United Suppliers, a top
SFP retail customer representing at least half of SFP’s business, allegedly echoed
similar concerns, noting a significant amount of presold product in 2013, i.e. that
141
Id ¶ 46.
142
Id ¶ 47.
143
Id. Prior to the bulk and early fill sales program, SFP’s sales season peaked in spring during
the planting season, which allegedly occurred as expected in early 2013.
144
Id.
22
SFP “stuffed the channel.”145 The Plaintiffs allege that the withholding of the KPMG
Report and the United Suppliers Communications, combined with the Managers’
representations of SFP’s future prospects,146 gave Plaintiffs a false picture of SFP’s
2013 performance. In other words, the Defendants acted in bad faith; misleading
the Plaintiffs by implying that the Plaintiffs could predict 2014 results from 2013’s
performance, when in fact that performance was front-loaded, enhanced to the
detriment of 2014, and not indicative of future performance.
At this stage in the litigation, I must draw all reasonable inferences in favor
of the Plaintiffs and may dismiss the breach of contract claim “only if it appears with
reasonable certainty that, under any set of facts that could be proven to support the
claims asserted, the [Plaintiffs] would not be entitled to relief.”147 The Plaintiffs
have pled that they did not receive the KPMG Report nor the United Suppliers
Communications from the Managers before making their equity investment in
connection with the SFP acquisition. The Managers do not dispute this, conceding
145
Id. ¶¶ 49–50. The Defendants have noted that United Suppliers did, however, expect its order
with SFP to increase year-over-year. Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss
Pls.’ First Am. Compl., Ex. 4, Report from KPMG titled ‘Project Fertilizer,’ dated April 10, 2014,
at 9.
146
The Rating Agency Presentation noted: “SFP underperformance y-o-y driven in part by
transition of portion of business from spring planting season to autumn as part of an Early Fill
program. Expect meaningful uptick in summer and fall months.” Defs.’ Opening Br. in Support
of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., Ex. 7, Verdesian Life Sciences LLC Ratings
Agency Presentation, dated May 2014, at 48.
147
Reid v. Spazio, 970 A.2d 176, 182 (Del. 2009) (quoting Feldman v. Cutaia, 951 A.2d 727, 731
(Del. 2008)).
23
that the Plaintiffs received the KPMG Report only after the MKE’s books and
records demand.148 The Plaintiffs have averred that such non-disclosure was in bad
faith because it was intended to induce the Plaintiffs to invest without revealing an
accurate picture of SFP’s business—specifically the replicability of its 2013
performance.
The Managers have not (at this pleading stage) offered a cogent response as
to why the KPMG Report and the United Suppliers Communications were
withheld.149 Without a competing explanation, it is not unreasonable to infer that
such withholding was done on the basis of bad faith to solicit equity contributions
from the Plaintiffs and consequently receive transaction and management service
fees for the transaction while decreasing the amount that the Managers had to
borrow—or cause Paine to contribute itself—to fund the acquisition. Moreover, I
am unable to say whether receipt of the KPMG Report and the United Suppliers
Communications would have “alter[ed] the total mix of information” available to
148
Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., at 28–29. The
Defendants likewise do not contend that the United Suppliers Communications were transmitted
to the Plaintiffs, but take issue with the characterization (and purported existence) of the United
Suppliers Communications.
149
The Defendants contend that although the Plaintiffs did not receive the KPMG Report and the
United Suppliers Communications, the Rating Agency Presentation notified the Plaintiffs of the
bulk and early fill sales program and if Plaintiffs were “concerned with underperformance” they
should have “taken up Defendants on their offer to answer questions.” Reply Br. in Supp. of Defs.’
Mot. to Dismiss Pls.’ First Am. Compl., D.I. 50 (“Reply Br. in Supp. of Defs.’ Mot. to Dismiss
Pls.’ First Am. Compl.”), at 7 (internal quotation marks omitted). This argument may concern the
tolling of the statute of limitations—discussed infra Section II.A.1.c—but is not sufficient to
negate bad faith.
24
the Plaintiffs at the time of the equity solicitation because it is unclear, on this record,
what other information was available to the Plaintiffs at the time of their respective
equity contributions.150 Given the plaintiff-friendly inferences applicable at the
pleading stage I assume the KPMG Report and the United Suppliers
Communications were material.
On these allegations and at this stage in the litigation, I cannot say with
reasonable certainty that there is no set of facts that could be proven to support a
breach of the contractual duty of good faith in connection with the solicitation of
equity from the Plaintiffs for the SFP acquisition.
b. Fraud
Apart from their breach of contract claim in connection with the SFP
acquisition, the Plaintiffs have alleged that the Managers also engaged in fraud when
they solicited new cash equity from the Plaintiffs for the acquisition. The fraud
claim is based on the same allegations as the breach of contract claim discussed
supra Section II.A.1.a. The Managers contend that the Plaintiffs do not plead fraud
with the particularity required by Chancery Court Rule 9(b).151
The elements of common law fraud are: (1) a false representation, usually one
of fact, made by the defendant, (2) the defendant's knowledge or belief that the
150
See Dent v. Ramtron Int’l Corp., 2014 WL 2931180, at *11–16 (Del. Ch. June 30, 2014).
151
Ch. Ct. R. 9(b).
25
representation was false, or was made with reckless indifference to the truth, (3) an
intent to induce the plaintiff to act or to refrain from acting, (4) the plaintiff's action
or inaction taken in justifiable reliance upon the representation, and (5) damage to
the plaintiff as a result of such reliance.152
In order to state a claim for common law fraud, the Plaintiffs must allege with
the particularity required by Rule 9(b) that the Managers either “(1) represented false
statements as true, (2) actively concealed facts which prevented [the Plaintiffs] from
discovering them, or (3) remained silent in the face of a duty to speak.”153 The
circumstances required to be stated with particularly in Rule 9(b) “refer to the time,
place and contents of the false representations, the facts misrepresented, as well as
the identity of the person making the misrepresentation and what he obtained
thereby.”154 However, malice, intent, knowledge and other condition of mind of a
person may be averred generally.155 Essentially, the Plaintiffs, to survive the Motion
to Dismiss under Rule 9(b) must allege the circumstances of the fraud with detail
sufficient to apprise the Managers of the basis for the claim.156 Where pleading a
152
Latesco, L.P. v. Wayport, Inc., 2009 WL 2246793, at *8 (Del. Ch. July 24, 2009) (citing
Stephenson v. Capano Dev., Inc., 462 A.2d 1069, 1074 (Del. 1983)).
153
Metro Commc’n Corp. BVI v. Advanced Mobilecomm Techs. Inc., 854 A.2d 121, 143 (Del. Ch.
2004) (citing Stephenson, 462 A.2d at 1074) (numbering modified).
154
York Linings v. Roach, 1999 WL 608850, at *2 (Del. Ch. July 28, 1999) (quoting C.V. One v.
Resources Grp., 1982 WL 172863, at *2 (Del. Super. Dec. 14, 1982)).
155
Ch. Ct. R. 9(b).
156
Great Hill Equity Partners IV, LP v. SIG Growth Equity Fund I, LLLP, 2014 WL 6703980, at
*19 (Del. Ch. Nov. 26, 2014) (quoting ABRY Partners V, L.P. v. F & W Acquisition LLC, 891
A.2d 1032, 1050 (Del. Ch. 2006)).
26
claim of fraud that “has at its core the charge that the defendant knew something,
there must, at least, be sufficient well-pleaded facts from which it can reasonably be
inferred that ‘something’ was knowable and that the defendant was in a position to
know it.”157
The Plaintiffs have offered argument as to how the Managers (1) represented
false statements as true, (2) actively concealed facts which prevented Plaintiffs from
discovering them, and (3) remained silent in the face of a duty to speak.158 This
reflects the fact that the Plaintiffs’ allegations encompass, to some extent, all three
categories. However, in order to survive this Motion to Dismiss, only one need be
pled with particularity. Because the core of the Plaintiffs’ fraud claim is the non-
disclosure of the KPMG Report and the United Suppliers Communications, I
consider only whether the Plaintiffs have plead with particularity that the Managers
actively concealed facts which prevented the Plaintiffs from discovering them.
In order to plead active concealment the Plaintiffs’ pleading must “support an
inference that the [Managers] took some action affirmative in nature designed or
intended to prevent and which does prevent, the discovery of facts giving rise to the
fraud claim, some artifice to prevent knowledge of the facts or some representation
157
Id. (quoting Albert v. Alex. Brown Mgmt. Servs., Inc., 2005 WL 2130607, at *11 (Del. Ch. Aug.
26, 2005); Iotex Commc’ns, Inc. v. Defries, 1998 WL 914265, at *4 (Del. Ch. Dec. 21, 1998)).
158
Pls.’ Answ. Br. in Opp’n to Defs.’ Mot. to Dismiss, D.I. 47 (“Pls.’ Answ. Br. in Opp’n to Defs.’
Mot. to Dismiss”), at 57–60.
27
intended to exclude suspicion and prevent injury.”159 A fraudulent concealment
claim “requires the plaintiff to allege ‘an intentional deception of the plaintiff by the
defendant, which the plaintiff relies upon to his detriment’”160 and must plead “more
than mere silence”161 The Plaintiffs’ fraud claim here clears that bar.
The Plaintiffs allege that a slide presentation distributed to the Plaintiffs,
referencing “Key Initiatives” of Verdesian, noted specifically Verdesian’s annual
audit by KPMG, but did not include the plan to engage KPMG to assist in SFP due
diligence even though the engagement with KPMG was finalized the following
day.162 The Plaintiffs also plead that at the May 14, 2014, they were represented as
guests of the Board. At such meeting the Board announced the SFP purchase
agreement, but never discussed the status of the SFP negotiations or the related due
diligence in Plaintiffs’ presence. Instead, the Managers met separately, and without
the participation of the guests of the Board (including the Plaintiffs).163 Presumably,
diligence review was discussed outside of the Plaintiffs’ (or their respective
representatives’) presence. The Plaintiffs further allege that the Managers had
159
Wiggs v. Summit Midstream Partners, LLC, 2013 WL 1286180, at *11 (Del. Ch. Mar. 28, 2013)
(quoting Corp. Prop. Assocs. 14 Inc. v. CHR Holding Corp., 2008 WL 963048, at *7 (Del. Ch.
Apr. 10, 2008)) (internal alterations and quotation marks omitted).
160
Id. (quoting Bay Ctr. Apartments Owner, LLC v. Emery Bay PKI, LLC, 2009 WL 1124451, at
*12 (Del. Ch. Apr. 20, 2009)).
161
Id. (quoting Metro Commc’n Corp. BVI v. Advanced Mobilecomm Techs. Inc., 854 A.2d 121,
150 (Del. Ch. 2004)).
162
First Am. Compl. ¶ 99.
163
Id. ¶ 98.
28
possession of the KPMG Report and the United Suppliers Communications at the
time that the Managers solicited the equity contribution from the Plaintiffs.164 The
Managers, according to the First Amended Complaint, “touted SFP’s 2013 earnings
as reliable” all while “fail[ing] to disclose the warnings from KPMG and [United
Suppliers] that the earnings were unstainable and would not be repeated.”165
The First Amended Complaint supports an inference that the Managers took
affirmative action designed or intended to prevent and which did prevent, the
discovery of the KPMG Report, the United Suppliers Communications, and,
consequently, an accurate picture regarding SFP’s 2013 performance. That the
Plaintiffs, guests of the Board who were solicited for a combined equity contribution
of over $7 million, were not informed of the existence of the KPMG Report or the
United Suppliers Communications, or at a minimum, that KPMG was conducting
due diligence on a significant acquisition, leads to a reasonable inference that the
Managers concealed the KPMG Report and the United Suppliers Communications
to present a rosier picture of SFP’s financials to the Plaintiffs. Both the KPMG
Report and the United Suppliers Communications bear on the utility of SFP’s 2013
performance in determining the value of SFP, and, consequently, the soundness of
the new cash equity contribution by the Plaintiffs. That the Plaintiffs did not receive
164
Id. ¶ 52.
165
Id. ¶ 130.
29
such information induced them to contribute additional equity without the benefit of
such information, which may have altered their decision making to their
detriment.166 The Plaintiffs have consequently pled fraud—in connection with the
equity contribution by the Plaintiffs for the SFP acquisition—with the particularly
required by Rule 9(b).167
c. Tolling
The Defendants have moved to dismiss the SFP-related breach of contract
claims and fraud claims as time-barred, arguing that they accrued at the latest on
July 1, 2014—the date the acquisition closed—while noting that Plaintiffs’ original
complaint in this Action was not filed until October 9, 2018. The Plaintiffs counter
166
The Defendants submit that because the Managers received over 650 pages of due diligence
reports—“voluminous” in the Defendants’ reading—the Managers were entitled to provide the
Plaintiffs a summary of the due diligence and were under no obligation to disclose the KPMG
Report or the United Suppliers Communications themselves. Defs.’ Opening Br. in Support of
Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., at 51. However, the cases cited by the Defendants
refer to solicitations for investor action pursuant to public company and/or target-side merger
proxies—given the disparate transactional settings in those cases compared to this Action, I do not
find such reasoning persuasive. See id. (citing TCG Sec., Inc. v. S. Union Co., 1990 WL 7525
(Del. Ch. Jan. 31, 1990) (Analyzing merger-related claims by former stockholder of defendant
Southern Union, whose stock “trade[d] publicly on the New York Stock Exchange and [was]
widely held”); In re Staples, Inc. S’holders Litig., 792 A.2d 934 (Del. Ch. 2001) (Analyzing a
proposed share reclassification of shares of Staples, Inc., a publicly traded company); Globis
Partners, L.P. v. Plumtree Software, Inc., 2007 WL 4292024 (Del. Ch. Nov. 30, 2007) (Analyzing
breach of fiduciary duty claims by former stockholders in connection with an allegedly materially
false and misleading merger proxy statement)).
167
Because I have found the Plaintiffs’ pleadings sufficient with respect to fraudulent concealment,
I need not address the Plaintiffs’ alternate theories of false statements and silence notwithstanding
a duty to speak. Those theories are preserved for consideration on a developed record, as well.
30
that the breach of contract and fraud claims are timely because they were tolled under
the fraudulent concealment doctrine.
Although this is a court of equity, “equity follows the law, and this court will
apply statutes of limitations by analogy.”168 The statute of limitations for both
breach of contract and common law fraud is three years.169 But the statute of
limitations may be tolled when a defendant has fraudulently concealed from a
plaintiff the facts necessary to put him on notice of the truth.170 Under this doctrine,
a plaintiff must allege “an affirmative act of actual artifice by the defendant that
either prevented the plaintiff from gaining knowledge of material facts or led the
plaintiff away from the truth.”171 “[T]he limitations period is tolled until such time
that persons of ordinary intelligence and prudence would have facts sufficient to put
them on inquiry which, if pursued, would lead to the discovery of the injury . . . the
statute of limitations begins to run when plaintiffs should have discovered the
general fraudulent scheme.”172 Our Supreme Court has noted that “whatever is
168
In re Am. Int’l Grp., Inc., 965 A.2d 763, 812 (Del. Ch. 2009), aff’d sub nom. Teachers’ Ret.
Sys. of Louisiana v. PricewaterhouseCoopers LLP, 11 A.3d 228 (Del. 2011).
169
10 Del. C. § 8106; Crowhorn v. Nationwide Mut. Ins. Co., 2002 WL 1767529, at *5 (Del. Super.
July 10, 2002).
170
In re Tyson Foods, Inc., 919 A.2d 563, 585 (Del. Ch. 2007).
171
Id. (internal quotation marks omitted).
172
In re Dean Witter P’ship Litig., 1998 WL 442456, at *7 (Del. Ch. July 17, 1998) (emphasis in
original) (citations omitted).
31
notice calling for inquiry is notice of everything to which such inquiry might have
led.”173
I have found above that the Plaintiffs have pled facts to support a reasonable
inference that the Managers actively concealed the existence of the KPMG Report
and the United Suppliers Communications. Such active concealment constituted an
actual artifice that prevented the Plaintiffs from obtaining the knowledge underlying
their contractual and breach of contract claims. In other words, the Managers’
alleged actions “prevented [the Plaintiffs] from gaining material relevant knowledge
in an attempt to put [the Plaintiffs] off the trail of inquiry.”174 The Managers contend
that the Plaintiffs were on inquiry notice of the purported scheme because the
Plaintiffs were given a copy of the Rating Agency Presentation which noted: “SFP
underperformance y-o-y driven in part by transition of portion of business from
spring planting season to autumn as part of an Early Fill program” and were invited
to ask the Managers questions.175 Thus, in the Managers’ view, the Plaintiffs were
apprised of the bulk and early fill sales program and were on inquiry notice that, if
pursued, would have led to the discovery of the purported bad faith and fraud.
173
Pomeranz v. Museum Partners, L.P., 2005 WL 217039, at *14 (Del. Ch. Jan. 24, 2005) (citing
U.S. Cellular Inv. Co. of Allentown v. Bell Atl. Mobile Sys., Inc., 677 A.2d 497, 504 n.7 (Del.
1996)).
174
Ryan v. Gifford, 918 A.2d 341, 360 (Del. Ch. 2007).
175
Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., Ex. 7,
Verdesian Life Sciences LLC Ratings Agency Presentation, dated May 2014, at 48; Reply Br. in
Supp. of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., at 7.
32
I note that it is the Plaintiffs’ burden to plead facts to demonstrate that the
statute of limitations was tolled.176 The Plaintiffs have met their burden by pleading
that the Managers, in possession of the KPMG Report and the United Suppliers
Communications at the time, declined to give the Plaintiffs such information when
they solicited the Plaintiffs’ equity contribution. As to the Managers’ argument that
the Plaintiffs were on inquiry notice, I cannot, on this record, place the Rating
Agency Presentation in context to determine whether it constituted inquiry notice.
On a developed record, it may be apparent that the Plaintiffs should have pursued
such inquiry, denying them the benefit of tolling. However, the record before me
does not support denying a tolling exception based on inquiry notice. I also note the
Defendant Managers allegedly breached an obligation in the LLC Agreement to
provide yearly audited and monthly unaudited financial statements—the Defendants
do not assert that such financials were delivered timely. At the pleading stage, I may
infer that the financial statements were withheld in order to further conceal SFP’s
actual performance, which might have caused the Plaintiffs to inquire why SFP was
underperforming.
Consequently, the Defendants’ Motion to Dismiss the Plaintiffs’ breach of
contract and fraud claims in connection with the SFP acquisition is denied.
176
Van Lake v. Sorin CRM USA, Inc., 2013 WL 1087583, at *7 (Del. Super. Feb. 15, 2013).
33
2. The Class P Unit Issuance
The Plaintiffs allege that the Class P Units were offered in breach of the
Operating Agreement in order to “transfer what remains of Verdesian’s value to
Paine.”177 The Plaintiffs hold only Class A Units and contend that the Class P Units
were structured to eliminate any return to any other class of Verdesian unitholders,
including the Class A unitholders. The Plaintiffs take issue with the price of the
Class P Units, their liquidation preference, and that Managers were permitted to
purchase such Units.
The Plaintiffs allege that Verdesian’s need for additional capital does not
justify the terms of the Offering. The valuation of the Class P Units was allegedly
“a price above which any rational market participants would pay” and “[t]he use of
a false valuation artificially inflates the distribution preference the Class P Unit
Holders will receive.”178 The “significant liquidation preference” for the purchasers
of the Class P Units, according to the Plaintiffs, “edg[ed] the minority unitholders
out of the capital structure.”179 The essence of the Plaintiffs allegations is that the
Class P Units were priced at an artificially high price in order to dissuade purchase
by Class A unitholders. The liquidation preference accordingly was limited to
insiders, which will divert most (if not all) of the proceeds of a sale of Verdesian to
177
First Am. Compl. ¶ 140.
178
Id. ¶ 89.
179
Id.
34
the Class P unitholders. In other words, existing unitholders (such as the Plaintiffs)
were priced out of the Offering, and they will forfeit the bulk of the value of their
Class A Units absent relief. By the Plaintiffs calculation, Verdesian would have to
sell for approximately $560 million (44 times November 2018 EBITDA) for the
Class A unitholders to be made whole on their investment.180
The Plaintiffs additionally protest that Managers who held management-
specific units (M-1 and M-2 Units) participated in the Offering, so that even had the
Plaintiffs participated in the offering their interest in Verdesian would have been
diluted.181
I first turn to the latter accusation, which is unpersuasive; the fact that
Managers participated in the Offering does not state a claim upon which relief may
be granted. Section 8.10 of the Operating Agreement gives holders of Class A and
Class A-1 Units a preemptive right—prior to a Qualified Public Offering—to
purchase Units that Verdesian intends to sell.182 This is an anti-dilution covenant.
However, the preemptive rights granted in Section 8.10 “shall not apply to any
issuances or sales of Units . . . (iv) pursuant to [Verdesian’s] Equity Incentive
Plans.”183 The Managers submit that the Class P Units offered to Managers were
180
Id. ¶ 92.
181
Id. ¶ 94. Prior to the Offering, Class M-1 and M-2 unitholders would not receive proceeds from
a liquidity event until the Class A unitholders were paid in full. Id.
182
Operating Agreement § 8.10(a).
183
Id. § 8.10(d).
35
offered pursuant to such an incentive plan, and therefore no breach of the Operating
Agreement occurred.184 The Plaintiffs have not pled any fault with the extension of
the Offering to Class M unitholders other than that it diluted the Class A unitholders.
The Plaintiffs pleading that such dilution was done in bad faith is conclusory. The
mere allegation that management participated in the Offering does not support an
inference that such participation was in subjective bad faith because the Operating
Agreement explicitly permits such participation.
Without their allegations regarding management participation, the Plaintiffs
only remaining fault with the Offering is the Unit price and liquidation preference
of the Class P Units. The Managers argue that under the reasoning of WatchMark
v. ARGO Global Capital LLC,185 notwithstanding the Offering’s terms, the
Plaintiffs’ claim should be dismissed because the Plaintiffs had an equal opportunity
to participate. In WatchMark, a preferred stockholder in a corporation challenged
the decision by the corporation to issue a new series of preferred stock to raise capital
for a merger—the issuance included a “pay-to-play” provision whereby preferred
stockholders who did not participate in the issuance would have their shares
converted to common to the pro-rata extent of their non-participation.186 All
184
Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’ First Am. Compl., at 44 (“That is what
happened here. Management was offered Class P units pursuant to a Company Incentive Equity
Plan.”).
185
2004 WL 2694894 (Del. Ch. Nov. 4, 2004).
186
Id. at *1, *5.
36
preferred stockholders had an equal opportunity to participate.187 Because “[a]ny
disparate treatment between the preferred stockholders [was] . . . a self-imposed
consequence and not the result of any self-dealing” this Court found that the
preferred stock issuance was in good faith and entitled to the protection of the
business judgment rule.188
The Plaintiffs argue that the Offering here is distinguishable from WatchMark,
because in WatchMark “there was no self-dealing by a controlling unit holder.”189
Instead, the Plaintiffs contend that the Offering “must be evaluated under the entire
fairness standard on which Defendants have the burden of proof.”190 However, as I
stated in MKE I, “[t]he Operating Agreement provides that Managers are explicitly
expected and permitted to make conflicted decisions and that the Members waive
any such conflicts of interest.”191 In order to breach the Operating Agreement a
Manager must act in bad faith—that certain decisions may be allegedly conflicted
does not change the contractual standard. On the contrary, the Operating Agreement
expressly contemplates and permits such transactions. Thus, no matter the alleged
conflicts in the Offering, the Plaintiffs must plead bad faith in order to survive a
motion to dismiss.
187
Id. at *5.
188
Id.
189
Pls.’ Answ. Br. in Opp’n to Defs.’ Mot. to Dismiss, at 55.
190
Id. (citing Mining Corp. v. Theriault, 51 A.3d 1213, 1239 (Del. 2012)).
191
MKE Holdings Ltd. v. Schwartz, 2019 WL 4723816, at *9 (Del. Ch. Sept. 26. 2019) (internal
citations and quotation marks omitted).
37
The Plaintiffs make no serious effort to dispute that if WatchMark controls,
the result would be a dismissal of the Plaintiffs’ claim that the Offering breached the
Operating Agreement. The Plaintiffs have not alleged they did not have an equal
opportunity to participate in the Offering. Any disparate treatment between the
Plaintiffs and other Class A unitholders is a “self-imposed consequence.” As in
WatchMark, where this Court found such a situation did not state a claim for bad
faith, I find that the Plaintiffs have failed to allege that the Offering was made in bad
faith and in breach of the Operating Agreement. Thus, the Plaintiffs claims for
breach of the Operating Agreement in connection with the Offering must be
dismissed.192
3. Financial Statements
The Plaintiffs contend that the Managers have breached the Operating
Agreement by failing to provide the Plaintiffs with audited annual financial
statements and monthly unaudited financial statements. Section 7.2(e) of the
Operating Agreement requires such financial statements to be delivered to the
Plaintiffs as follows: (i) within ninety days after the end of each fiscal year or as
soon thereafter as is reasonably practicable for the annual statements and (ii) within
192
To the extent that the Plaintiffs argue the Class P Units were intentionally overpriced to deter
them from participating in the Offering, I note that the fact that insiders participated in the Offering
belies this claim. Moreover, the only non-conclusory allegation of overpricing compares the
offered price of Class P Units to the value of Class A Units, but this is a false comparison given
the double liquidation preference inhering in the Class P Units only.
38
forty-five days after the end of each month for the monthly statements.193 The
Plaintiffs allege that prior to their books and records demand they never received
annual or monthly financial statements and that they still have not received the 2017
annual financial statements.194 The Managers do not dispute that the Plaintiffs did
not receive timely financial statements. Instead, they argue that the obligation
belongs to Verdesian—not the Managers—or, in the alternative, that the failure to
provide financial statements is an “error[] of judgment, neglect or omission,” for
which the Managers are exculpated from liability.195
In order to survive a motion to dismiss for failure to state a claim for breach
of contract, the plaintiff must demonstrate: “first, the existence of the contract,
whether express or implied; second, the breach of an obligation imposed by that
contract; and third, the resultant damage to the plaintiff.”196 In attempting to cast the
failure to deliver financial statements as a derivative claim, the Plaintiffs have argued
193
Operating Agreement § 7.2(e). The fiscal year of Verdesian ends on December 31 of each year.
Id. § 7.3.
194
I note that the First Amended Complaint was filed on January 14, 2019 and the yearly financial
statements for Verdesian’s fiscal year ending December 31, 2018 were not due until April 1, 2019.
Id. §§ 7.2(e), 7.3.
195
Id. § 7.2 (“The Company will: . . . (e) Cause to be prepared and distributed . . . audited annual
financial statements . . . and monthly unaudited financial statements . . .”), § 6.4(d) (“In carrying
out their duties hereunder, the Managers shall not be liable to the Company or any Member . . . for
errors of judgment, neglect, or omission.”).
196
VLIW Tech., LLC v. Hewlett-Packard Co., 840 A.2d 606, 612 (Del. 2003) (citing Winston v.
Mandor, 710 A.2d 835, 840 (Del. Ch. 1997); Moore Bus. Forms, Inc. v. Cordant Holdings Corp.,
1995 WL 662685, at *7 (Del. Ch. Nov. 2, 1995); Goodrich v. E.F. Hutton Group, Inc., 542 A.2d
1200, 1203–04 (Del. Ch. 1988); Wright & Miller, Federal Practice and Procedure: Civil 2d §
1235).
39
that such failure resulted in damages to Verdesian.197 However, to state a direct
claim, the Plaintiffs must allege that they suffered damages as unitholders from their
non-receipt of financial statements. While the Plaintiffs make conclusory recitations
of bad faith with respect to this breach, the Plaintiffs have failed to plead that they
suffered damages as unitholders from failing to receive financial statements. The
bulk of the Plaintiffs’ allegations supporting their direct claims concern the SFP
transaction—the alleged “damage” from that transaction was complete by the time
the Plaintiffs would have received financial statements. Moreover, the Plaintiffs’
allegations regarding the Offering are not impacted by the failure to deliver financial
statements. Because the Plaintiffs have not alleged damages in connection with their
failure to receive annual audited and monthly unaudited financial statements, the
Plaintiffs’ direct claim for breach of the contractual obligation to deliver financial
statements is dismissed.
B. Claims Against Certain Managers
The only claims in the First Amended Complaint against individual Managers
that survive this Motion to Dismiss are in connection with the SFP transaction, which
197
Oral Arg. Tr. 83:3–86:14 (“Well, I think the detriment to the entity with its banking
relationships, with its ability to generate – to obtain credit and to operate, to not have
contemporaneous financial statements. And it's – so I think it clearly is the detriment to the
plaintiffs not to have this information which they're entitled to under the agreement; but it's also,
you know, not a well-run company, not one that is going to be in a position to replace its debt,
which is enormous, as a result of this SFP transaction, to not have audited financial statements on
that.”).
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closed on July 1, 2014.198 The First Amended Complaint makes little effort to assign
responsibility for actions in connection with the SFP acquisition to individual
Managers on the Board that approved the acts complained of—which is not
necessary to sustain the Plaintiffs’ claims at this pleading stage. However, the First
Amended Complaint does not allege any connection of current Managers Avery or
Fless to Verdesian or Paine around or before the closing of the SFP acquisition.199
Therefore the claims against Avery and Fless are dismissed.
C. Aiding and Abetting
The Plaintiffs have also alleged that Paine aided and abetted the actions of the
Managers. The elements of aiding and abetting are an underlying breach of duty and
knowing participation in the breach.200 As there can be no liability for aiding and
abetting absent an underlying breach—I only consider whether Paine aided and
198
First Am. Compl. ¶ 51.
199
The First Amended Complaint alleges that Avery was employed by Monsanto from June 2007
to September 2016 and that Fless was employed by KKR & Co. L.P. from July 2010 to January
2017. Id. ¶¶ 18, 19. The Defendants have submitted that likewise, the claims against Corbacho
and Berendes should be dismissed. Defs.’ Opening Br. in Support of Defs.’ Mot. to Dismiss Pls.’
First Am. Compl., at 46. However, the First Amended Complaint alleges that Corbacho was an
Associate or Senior Associate at Paine at the time of the SFP acquisition and thus, due to his
employment at Paine at the time of the SFP acquisition, I decline to dismiss the claims against
Corbacho on this record. First Am. Compl., ¶ 20. Additionally, while the First Amended
Complaint alleges that Berendes was not appointed to the Board until August 2014 (after the SFP
acquisition) it also alleges that he has been the Operating Director of Paine “since 2014” and was
employed at Sygenta Corporation until March 2014. Id. ¶ 16. Because on this record it is unclear
whether Berendes was involved with Verdesian or Paine at or around the time of the SFP
acquisition I decline to dismiss the claims against Berendes.
200
In re Rural Metro Corp., 88 A.3d 54, 97 (Del. Ch. 2014).
41
abetted the Managers’ alleged breach of contract and fraud in connection with the
SFP acquisition.
As to the Plaintiffs’ claim for breach of the Operating Agreement, the
Operating Agreement is a contract and “Delaware law generally does not recognize
a claim for aiding and abetting a breach of contract.”201 Allen v. El Paso Pipeline
GP Co., L.L.C. does note that a situation may arise involving an alternative entity
(such as Verdesian) where a party could aid and abet a “contractual fiduciary
dut[y].”202 Here, by contrast, the Operating Agreement does not import fiduciary
duties by explicit contract or by default. Instead, the Operating Agreement
eliminates fiduciary duties and replaces them with defined contractual duties203 and
“[w]hen parties establish a purely contractual relationship, they have chosen to limit
themselves to pursuing contractual remedies against their contractual counterparties.
Under those circumstances, a claim for aiding and abetting cannot be used to expand
the possible range of defendants.”204 Therefore, the Plaintiffs’ claim against Paine
for aiding and abetting the Managers’ breach of the Operating Agreement is
dismissed.
201
Allen v. El Paso Pipeline GP Co., 113 A.3d 167, 193 (Del. Ch. 2014), aff’d, 2015 WL 803053
(Del. Feb. 26, 2015) (citing Gotham Partners, L.P. v. Hallwood Realty Partners, L.P., 817 A.2d
160, 172 (Del. 2002)).
202
Id. at 193–194.
203
MKE Holdings Ltd. v. Schwartz, 2019 WL 4723816, at *11 (Del. Ch. Sept. 26. 2019).
204
El Paso Pipeline, 113 A.3d at 194 (citing Gerber v. EPE Holdings, LLC, 2013 WL 209658, at
*11 (Del. Ch. Jan. 18, 2013)).
42
That leaves the Plaintiffs’ claim that Paine aided and abetted the Managers
fraud—a tort—in connection with the solicitation of equity for the SFP acquisition.
The elements for aiding and abetting a tort are: (i) underlying tortious conduct, (ii)
knowledge, and (iii) substantial assistance.205 Paine and its affiliates appoint all of
the Managers.206 The Plaintiffs have pled Paine had knowledge of the Managers’
conduct by virtue of its principals and Partners serving as Managers. 207 The
Plaintiffs also allege that Paine worked in concert with the Managers—Paine’s
principals and partners—to solicit new cash equity from the Plaintiffs in connection
with the SFP transaction.208 Paine has not contested that it would be liable for aiding
and abetting should the Managers be found liable for fraud, but forcefully argues—
unsuccessfully at this stage—that the underlying liability does not exist. On this
record, due to Paine’s status as the majority equity holder of Verdesian, with the
ability to appoint the entirety of the Board, I decline to dismiss the Plaintiffs’ claim
against Paine for aiding and abetting fraud.
205
Great Hill Equity Partners IV, LP v. SIG Growth Equity Fund I, LLLP, 2014 WL 6703980, at
*23 (Del. Ch. Nov. 26, 2014) (citing Anderson v. Airco, Inc., 2004 WL 2827887, at *4 (Del. Super.
Nov. 30, 2004)).
206
First Am Compl. ¶¶ 27, 29.
207
Id. ¶ 174.
208
Id. ¶ 176.
43
III. CONCLUSION
For the forgoing reasons, I find that the Defendants’ Motion to Dismiss is
granted in part and denied in part. The parties should submit an Order consistent
with this Memorandum Opinion.
44