HM WEXFORD LLC v. Encorp, Inc.

• Decision Date: 27 May 2003
• Docket Number: C.A. No. 19849.
• Citation: 832 A.2d 129
• Parties: H-M WEXFORD LLC, Plaintiff, v. ENCORP, INC., Steven Ballentine, Joseph J. Iannucci, Jesse E. Neyman, Dennis A. Orwig, William D. Patterson, George Schreck and Jeffrey W. Whitham, Defendants.
• Court: Court of Chancery of Delaware

832 A.2d 129

H-M WEXFORD LLC, Plaintiff, v. ENCORP, INC., Steven Ballentine, Joseph J. Iannucci, Jesse E. Neyman, Dennis A. Orwig, William D. Patterson, George Schreck and Jeffrey W. Whitham, Defendants.

C.A. No. 19849.

Court of Chancery of Delaware, New Castle County.

Submitted: January 30, 2003.

Decided: May 27, 2003.

Michael Hanrahan, Paul A. Fioravanti, Jr., Prickett, Jones & Elliott, Wilmington, Delaware, for Plaintiff.

Raymond J. DiCamillo, Srinivas M. Raju, Lisa M. Zwally, Richards, Layton & Finger, Wilmington, Delaware; Tarek F.M. Saad, Morrison & Foester LLP, Denver, Colorado, for Defendants Encorp, Inc., Steven Ballentine, Joseph J. Iannucci, Jesse E. Neyman, Dennis A. Orwig, William D. Patterson and George Schreck.

Edward M. McNally, Elizabeth A. Brown, Morris, James, Hitchens & Williams LLP, Wilmington, Delaware, for Defendant Jeffrey W. Whitham.

OPINION

LAMB, Vice Chancellor.

I.

An investor who bought securities as part of a larger private placement is suing the issuer and the issuer's former CEO, making claims that information it received in connection with that transaction was materially misleading. The plaintiff is also asserting claims against the issuer and its board of directors arising out of the issuer's later efforts to reach a settlement with the plaintiff and the others who invested in the private placement. The plaintiff refused the issuer's proposal to issue additional securities in exchange for a release, but nearly all of the other investors agreed to this proposal and exchanged releases for additional shares of stock. The plaintiff alleges that the structure and effect of this settlement was coercive and discriminatory as to it. In addition, the plaintiff complains that the issuer did not comply fully with the provisions of Section 228 of the Delaware General Corporation Law when it solicited the stockholder written consents necessary to effectuate the terms of the settlement proposal.

In this opinion, the court grants a motion made by most of the defendants to dismiss the misrepresentation claims insofar as they relate to information furnished to the plaintiff that was not incorporated into the fully integrated written agreement by which it purchased the shares. The court will not dismiss other claims for misrepresentation that relate to information referred to or warranted by the purchase agreement. The court also dismisses the claims of unfairness or breach of fiduciary duty alleged with respect to the settlement transaction, as the allegations of the complaint fail to overcome the normal presumption of the business judgment rule. Finally, the court concludes that the complaint adequately alleges a failure to comply with the technical requirements of Section 228.

II.

A. The Parties

1. The Plaintiff¹

Plaintiff H-M Wexford, LLC is a Delaware limited liability company with its principal place of business in Greenwich, Connecticut. Wexford is in the business of making investments, and represents itself as an "accredited investor" as defined under the federal securities regulations.

2. The Defendants

a. Encorp And Its Executives

Defendant Encorp, Inc. is a Delaware corporation with its principal place of business in Windsor, Colorado. The company provides products, services and solutions to commercial and industrial customers with respect to on-site power systems. Defendant Jeffrey Whitham founded Encorp in 1993 and until recently served as the company's President, CEO and Chairman of the board of directors.² Defendant Dennis Orwig has been the President and CEO of Encorp since February 19, 2002. On or about July 26, 2002, Orwig purportedly became a director of Encorp.

b. The Board Of Directors

There are five members of Encorp's board of directors, all of whom are defendants in this case. They are Steven Ballentine, Joseph Iannucci, Jesse Neyman, William Patterson, and George Schreck (collectively, the "Board of Directors"). Ballentine has been a director of Encorp since February 2001, and is a managing member of Ballentine Capital Partners Fund, L.P. Iannucci has been a director of Encorp since December 1997. Neyman is director of Encorp, and is affiliated with AES Holdings, L.P. Patterson has been a director of Encorp since January 1998, and is President of Enstar Management Corporation. Schreck has been a director of Encorp since July 1997. He is Vice President of Pacificorp Energy Services, Inc., and owns 5,000 shares of Encorp Series A preferred stock.

B. The February 2001 Offering

1. The Series D Offering And The Purchase Agreement

On or about February 9, 2001, Wexford and a number of other persons (collectively, the "Purchasers") entered into a Stock and Warrant Purchase Agreement (the "Purchase Agreement") with Encorp for the purchase of certain Encorp stock and warrants (the "February 2001 Offering"). Defendant Whitham signed the Purchase Agreement on behalf of Encorp. The Purchase Agreement provided for Delaware law to govern the transaction.

On or about February 9, 2001, Wexford paid $1,999,800 to Encorp in exchange for 909 units of Encorp stock and warrants (the "Units"), pursuant to the Purchase Agreement. Each Unit that Wexford purchased consisted of one share of Encorp's Series D Convertible Preferred Stock (the "Series D Stock") and one warrant to purchase a share of Series D Stock. An automatic conversion of the warrants later occurred, and, as a result, the Units purchased by Wexford currently consist of 1,808 shares of Series D Stock.³

In Section 3.05 of the Purchase Agreement, Encorp stated that it had delivered to the Purchasers the company's unaudited balance sheet as of September 30, 2000, as well as audited balance sheets as of December 31, 1998 and December 31, 1999. Encorp also provided statements of operations, stockholders equity, and cash flows for those periods (collectively, the "Company Financial Statements"). All of these documents were provided to the Purchasers before the execution of the Purchase Agreement.

In Section 3.05 of the Purchase Agreement, Encorp represented that the Company Financial Statements presented the financial position of Encorp fairly, except where adjusted by notes or schedules. Encorp also represented in Section 3.14 and 3.18 thereof that all books and records were complete and correct and, since the date of the latest balance sheet, there was no material adverse change in its financial condition, contractual arrangements, or any other event or condition that would have a material adverse effect on Encorp's business.

2. The Private Placement Memorandum

Before it signed the Purchase Agreement, Wexford received a copy of a Private Placement Memorandum ("PPM") dated January 11, 2001. The PPM included audited financial information for the year ending December 31, 1999, and unaudited financial information for the eleven-month period ending November 30, 2000. Additionally, the PPM contained projections for the years ending December 31, 2001 and December 31, 2002. The projected figures in the PPM indicated that the sales for the twelve-month period ending December 31, 2000 would be $10.7 million, with a 31% gross margin of $3.3 million. The actual sales for the twelve months ending December 31, 2000 were $9.6 million, and Encorp only had an 11% gross margin of $1.1 million. There also were significant differences in the projections for the year ending December 31, 2001 and the actual results.⁴

The complaint alleges that, before the Purchase Agreement was executed, Encorp and Whitham knew about Encorp's actual sales revenues, and the corresponding gross margins for December 2000 and January 2001, and knew the results for the year ending December 31, 2000. The defendants also allegedly knew that Encorp had lost a significant customer. After the closing, the complaint alleges, Wexford realized that Encorp's financial condition was significantly worse than had been represented in the PPM.

C. The Settlement Proposals And Related Transactions

1. The May 17 Proposal

On or about May 17, 2002, Wexford received a package of documents that set forth the terms of a proposal by Encorp to effectively reprice the Series D Stock (the "May 17 Proposal"). The proposal was an attempt by Encorp, the Board of Directors, and Orwig to resolve informal complaints from Purchasers relating to the February 2001 Offering, and Encorp's ensuing poor financial performance. The documents show that the Board of Directors and Orwig approved the May 17 Proposal. Under the May 17 Proposal, Encorp proposed to issue a sufficient number of additional shares of the Series D Stock in order to effectively reprice the February 2001 Offering at $625 per share.

The May 17 Proposal contemplated that, as part of the transaction, Encorp would grant each Purchaser additional Series D Stock in exchange for a release from any and all claims and obligations related to the February 2001 Offering. The release applied to Encorp, as well as its past and present directors and officers (except Whitham) and Encorp's affiliates and agents. In addition, it was contemplated that Encorp would also grant releases in favor of its directors. Iannucci, Patterson and Schreck constituted a majority of Encorp's directors both at the time of the February 2001 Offering and at the time of the May 17 Proposal and, therefore, allegedly would have benefited from these releases. In his letter to the Purchasers, Orwig stated that the board strongly recommended the May 17 Proposal, but he did not disclose the apparent potential benefit that any such release may have afforded the directors.

The terms of the May 17 Proposal required that Purchasers holding at least 98% of the Series D Stock approve and participate in the settlement. If that condition were satisfied, then all Purchasers would receive additional shares of Series D Stock, pro rata, regardless of whether or not they approved and participated in the settlement. Wexford told Encorp that it was not interested in...