A&O Shearman | M&A and Corporate Governance Litigation Blog | Delaware Chancery Court Dismisses Caremark Claim For Failure To Adequately Allege That The Board Consciously Disregarded FCPA Violation Red Flags<br >  
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  • Delaware Chancery Court Dismisses Caremark Claim For Failure To Adequately Allege That The Board Consciously Disregarded FCPA Violation Red Flags

    On June 16, 2017, Vice Chancellor Tamika Montgomery-Reeves of the Delaware Court of Chancery dismissed breach of fiduciary duty and other claims brought derivatively against the directors and former chief financial officer of Qualcomm, Inc. (“Qualcomm”) for failure to plead demand futility, finding that the complaint did not adequately demonstrate that the directors faced a substantial likelihood of personal liability.  In re Qualcomm Inc. FCPA Stockholder Derivative Litigation, C.A. No. 11152-VCMR (Del. Ch. June 16, 2017) (letter).  The stockholder plaintiffs’ derivative complaint alleged that Qualcomm’s board ignored red flags that resulted in alleged violations of the Foreign Corrupt Practices Act (“FCPA”) and a March 2016 U.S. Securities and Exchange Commission (“SEC”) cease-and-desist order.  The Court found, however, that the complaint did not adequately allege that “the board consciously disregarded the [alleged] red flags” and dismissed the claims. 

    Plaintiffs alleged that the board pursued a business expansion plan, particularly in China, but ignored red flags that should have alerted it to FCPA compliance problems.  For example, plaintiffs alleged that between 2009 and 2011, the board’s audit committee received reports of potential violations in China and Korea, including that many business meals, gifts, entertainment and marketing activities with government-related entities were not logged in accordance with company policy and that whistleblowers had reported violations.  An outside consultant also allegedly informed Qualcomm that a recently acquired company lacked certain FCPA processes.  Ultimately, the SEC determined to institute cease-and-desist proceedings against Qualcomm, which settled the FCPA claims for a $7.5 million penalty and agreed to make periodic compliance reports to the SEC.  Plaintiffs alleged that the board “consciously disregarded its duties” by failing to act in response to the purported red flags (i.e., a “Caremark” claim).

    The Court declined to consider whether the alleged red flags actually constituted red flags or whether the company was harmed by the directors’ supposed non-responsiveness, instead dismissing the complaint because it failed to allege that the board ignored the alleged red flags.  The Court highlighted that some of the documents alleged to have been red flags also included “planned remedial action,” demonstrating the board’s attentiveness.  The Court rejected plaintiffs’ assertion that the FCPA corrective plans instituted by the board were too late, characterizing that claim as “simply seek[ing] to second-guess” the board.  Finding no “particularized facts giving rise to an inference that a majority of the board face[d] a substantial likelihood of liability,” the Court found that the plaintiffs failed to justify their failure to make a pre-suit demand on the board to pursue the claims under Delaware Court of Chancery Rule 23.1.  The Court also rejected plaintiffs’ argument that the SEC “cease-and-desist order describ[ing] internal control violations of the FCPA” meant that the complaint “necessarily stated” a breach of fiduciary duty claim.  The Court explained:  “Delaware law, not the FCPA, establishes the standard for director liability, and under Delaware law, Plaintiffs’ Complaint does not allege bad faith.”  

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