Johnston v. Pedersen
28 A.3d 1079
Del. Ch.2011Background
- Xurex is a nanotech coatings company struggling to commercialize its technology; DuraSeal became Xurex’s sole customer and primary revenue source (≈99%).
- Plaintiffs Johnston, Rose, and Holt seek a §225 proceeding to validate written consents removing the incumbents and installing a new board.
- Defendants Pedersen, Clifford, McGarrigle, Rygg, Fish, and Xurex issued a Series B Preferred with a class voting right intended to deter insurgent control contests.
- The court finds the Series B issuance breached the directors’ duty of loyalty and was not a legitimate means to achieve capital stability.
- Class voting in Series B was designed to entrench incumbents and deprive stockholders of voting autonomy; written consents were effective despite the class vote provision.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether the Series B class vote provision can be enforced when the board breached duties | Johnston argues Series B violated loyalty and should not create a class vote | Pedersen/Clifford claim the provision was necessary to secure capital and stability | No; class vote not enforceable due to breach of duty of loyalty |
| Whether the bridge loan and Series B structure justified minority protections | Plaintiffs contend the structure was manipulative to entrench incumbents | Defendants argue it was a legitimate capital-raising with stability goals | Not sufficiently tailored; actions breached loyalty and negative control was traded for limited investor protections |
| Whether laches or unclean hands bar relief | Rose/Holt preserved rights despite delay | La ches/unclean hands preclude relief | Not applicable; equities favor relief for the plaintiffs |
| What remedy follows from the breach | Written consents valid without Series B vote | Class vote required to effect removal | Consents valid; Series B class vote not enforced; incumbent board removed |
Key Cases Cited
- Mercier v. Inter-Tel (Del.Ch.), 929 A.2d 786 (Del.Ch. 2007) (enhanced scrutiny applies to actions affecting stockholder vote; compelling justification required in director controls cases)
- Reis v. Hazelett Strip-Casting Corp., 28 A.3d 442 (Del.Ch. 2011) (enhanced scrutiny framework for director actions affecting stockholder decision-making)
- Blasius Indus. v. Atlas Corp., 564 A.2d 651 (Del.Ch. 1989) (fiduciaries may be liable for inequitable purpose; cannot usurp stockholders’ voting rights)
- Aprahamian v. HBO & Co., 531 A.2d 1204 (Del.Ch. 1987) (recognizes inherent conflicts in proxy contests and stockholder voting contexts)
- Genger v. TR Investors, LLC, 26 A.3d 180 (Del. 2011) (summary of Section 225 proceedings; scope and remedies in control contest)