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In Bäcker v. Palisades Growth Capital II, No. 156, 2020, 2021 WL 140921 (Del. Jan. 15, 2021), the Delaware Supreme Court recently affirmed the Court of Chancery’s decision to invalidate surprise resolutions taken at a regular board meeting, by which the defendant seized board control, concluding that duping a director into attending the regular board meeting under false pretenses in order to meet quorum requirements necessary for valid board action was inequitable under Delaware law.

Authors: Brian M. Rostocki Benjamin P. Chapple Alexandria P. Murphy

Court of Chancery decision

In Palisades Growth Capital II, L.P. v. Backer, No. 2019-0931-JRS, 2020 WL 1503218 (Del. Ch. Mar. 26, 2020), the plaintiff, Palisades Growth Capital II, L.P., was a preferred shareholder of QLess, Inc. (the Company), that controlled one of the Company’s director seats through its share ownership. The plaintiff sued Alex Bäcker, who was the co-founder, majority common stockholder, and a board member of the Company. The plaintiff brought its claims under 8 Del. C. section 225 to resolve the composition of the Company’s board and sought, among other things, for the Court to exercise its equitable powers to invalidate certain actions taken at a contested regular board meeting.

By way of background, the defendant in Palisades was terminated as CEO, and it initially appeared that he would accept his termination without protest. The defendant also appeared, initially, to support the candidacy of his proposed replacement as CEO, and to support appointing the new CEO to the Company’s board. However, shortly thereafter, the defendant, together with his father, who also served as a director, took advantage of an unexpected independent director’s resignation on the eve of a regular board meeting. Specifically, the sudden resignation of the independent director on the eve of the board meeting gave the defendant and his father a board majority, enabling them to reverse the board’s course and reappoint the terminated defendant to his position as CEO. The third director, who was appointed by the preferred stockholders of the Company, was deceived as to this secret counter board agenda to reappoint the defendant to the CEO position and seize control of the board.

The Court of Chancery found that the defendant and his father had tricked the preferred director into attending the regular board meeting under the false pretenses that the board was going to appoint the replacement to the position of CEO and appoint the new CEO to the board. The Court of Chancery also found that, had the preferred director known the true plan, the preferred director could have chosen not to attend the board meeting, which, in turn, would have left less than a quorum of three directors necessary for valid board action under the company’s governing documents. In other words, the preferred director could have defeated a board quorum by not attending the meeting and prevented the defendant from reobtaining his CEO position.

The Court of Chancery’s decision invoked its broad equitable powers under Delaware law. The Court invalidated the surprise resolutions that were taken at the regular board meeting because the directors acted inequitably by pursuing a secret plan to usurp control of the board.  The plaintiff’s appointee could have thwarted the directors actions by skipping the board meeting—thereby denying the board a quorum—had he been properly informed.  The Court explained “[i]t is bedrock doctrine that this Court will not sanction inequitable action by corporate fiduciaries simply because the act is legally authorized.” The Court noted that, although the defendant’s actions were technically authorized in the Company’s governing documents, the defendant took affirmative action to mislead the other board members in order to get them to attend the regular board meeting. In short, the Court determined that if a director calls a meeting under false pretenses and then ambushes the board with self-serving resolutions, equitable relief may be warranted.