On December 2, 2024, Chancellor Kathaleen St. J. McCormick of the Delaware Court of Chancery denied a motion to revise the Court’s post-trial decision to rescind a CEO compensation package based on a subsequent stockholder vote to “ratify” the package.
Tornetta v. Musk, C.A. No. 2018-0408-KSJM (Del. Ch. Dec. 2, 2024). Chancellor McCormick held that (i) there is no procedural ground for reversing an adverse trial decision based on newly created evidence; (ii) ratification is an affirmative defense that cannot be first raised so late; (iii) a stockholder vote alone cannot ratify a conflicted-controller transaction; and (iv) there were material misstatements in the proxy statement for the ratification vote.
As we previously
reported, in January 2024, the Court held in a stockholder derivative suit against the CEO and directors of a sustainable energy and electric vehicle company (the “Company”) that a record-setting $55.8 billion stock option compensation package awarded to the CEO was subject to the entire fairness standard of review. The Court found that the CEO was a controlling stockholder for purposes of the compensation award transaction and neither the value nor the process were proven by defendants to have been entirely fair to stockholders.
Following the decision, the Company’s board of directors appointed a special committee and determined to place the same compensation plan before the stockholders for a vote, describing stockholder ratification in the proxy statement, among other things, as a way to “extinguish claims for breach of fiduciary duty” and “cure” “any wrongs found by the Delaware court in connection with [the award].” Stockholders voted to approve the proposal. Defendants then filed a motion to revise the post-trial opinion—contending the vote “had the effect of ratifying” the award—a request that the Court characterized as an attempt to “flip the entire outcome of the case.”
The Court rejected defendants’ ratification argument based on several fatal defects. First, the Court explained that there was no procedural mechanism to consider the vote at this late stage in the proceedings. Even though a court can reopen the trial record to consider “newly
discovered evidence” under certain circumstances, the stockholder vote was “newly
created evidence.” The Court found untenable the possibility that “a stockholder vote can be deployed to reverse any form of judicial ruling” and noted that if a court “were to condone the practice of allowing defeated parties to create new facts for the purpose of revising judgments, lawsuits would become interminable.”
The Court also held that stockholder ratification “is an affirmative defense” that can be “waived if not timely raised.” Here, defendants raised the ratification defense six years after filing, one and a half years after trial, and five months after the post-trial opinion. The Court concluded that “[w]herever the outer boundary of non-prejudicial delay lies, Defendants crossed it.”
Regardless, the Court held that “a stockholder vote standing alone cannot ratify a conflicted-controller transaction.” As the Court explained, “the maximum effect of stockholder ratification in a conflicted-controller transaction is to shift the burden of proving entire fairness.” To obtain the deferential treatment under a “business judgment review,” a conflicted-controller transaction must instead follow the procedural framework outlined in
Kahn v. M & F Worldwide Corp., 88 A.3d 635 (Del. 2014) (“
MFW”). That is, the controller must “precommit” to and the company must implement the protections of “both an independent, adequately empowered special committee that fulfills its duty of care and an uncoerced, informed vote of a majority of the minority stockholders.” The Court noted that “one does not ‘
MFW’ a vote; one ‘
MFW’s’ a transaction” and held that defendants failed to put the “full suite of
MFW protections” in place.
Moreover, the Court determined that the vote could not have a ratifying effect because it was not “fully informed.” The Court found that the proxy made materially misleading statements about the effect of the vote, which contrary to the implications of the proxy cannot alone “cleanse a conflicted-controller transaction.”
Separately, the Court granted plaintiff’s attorneys’ fee petition only in part. Plaintiff sought $5.6 billion. The Court noted that the “methodology for calculating this figure is sound” in light of the approach of Delaware courts in using a percentage of the value of the benefit arguably achieved and certain other factors. But the Court concluded that $5.6 billion is an unacceptable “windfall no matter the methodology used to justify it.” Instead, the Court used the $2.3 billion value of the options award on the grant date and applied a “conservative 15%” to reach a fee of $345 million, which the Court described as “an appropriate sum to reward total victory” in this case.