In re Orchard Enters., Inc.

• Decision Date: 28 February 2014
• Docket Number: C.A. No. 7840–VCL
• Parties: In re ORCHARD ENTERPRISES, INC. STOCKHOLDER LITIGATION.
• Court: Court of Chancery of Delaware

88 A.3d 1

In re ORCHARD ENTERPRISES, INC. STOCKHOLDER LITIGATION.

C.A. No. 7840–VCL

Court of Chancery of Delaware.

Submitted: Jan. 9, 2014.

Decided: Feb. 28, 2014.

Peter B. Andrews, Faruqi & Faruqi, LLP Wilmington, Delaware; Samuel J. Lieberman, Paulina Stamatelos, Sadis & Goldberg LLP, New York, New York; James S. Notis, Jennifer Sarnelli, Jonathan A. Adler, Gardy & Notis, LLP, New York, New York; Attorneys for Plaintiffs.

William M. Lafferty, Jay N. Moffitt, Bradley D. Sorrels, Christopher P. Quinn, Morris, Nichols, Arsht & Tunnell LLP, Wilmington, Delaware; Attorneys for Defendants Michael Donahue, David Altschul, Viet Dinh, Joel Straka, and Nathan Peck.

Philip Trainer, Jr., Toni–Ann Platia, Ashby & Geddes, P.A., Wilmington, Delaware; Kenneth J. Pfaehler, David I. Ackerman, Dentons U.S. LLP, Washington, District of Columbia; Attorneys for Defendants The Orchard Enterprises, Inc., Dimensional Associates, LLC, Daniel Stein, and Bradley Navin.

OPINION

LASTER, Vice Chancellor.

In 2010, Dimensional Associates, LLC (“Dimensional”) squeezed out the minority stockholders of The Orchard Enterprises, Inc. (“Orchard” or the “Company”). The merger consideration was $2.05 per share. In 2012, Chief Justice Strine, writing while Chancellor, determined that the fair value of the common stock at the time of the merger was $4.67 per share. See In re Appraisal of The Orchard Enters., Inc., 2012 WL 2923305, at *8 (Del.Ch. July 18, 2012), aff'd,––– A.3d ––––, 2013 WL 1282001 (Del. Mar. 28, 2013) (TABLE). In this plenary action, the plaintiffs contend that Dimensional and the directors who approved the merger breached their fiduciary duties and should be held liable for damages.

After completing fact discovery, the parties filed cross motions for summary judgment. The plaintiffs contend that the defendants breached their duty of disclosure, that entire fairness is the operative standard of review, and that the merger was not entirely fair. They claim that Dimensional, Daniel Stein, Bradley Navin, and Michael Donahue breached their duty of loyalty and that judgment should be entered against them as a matter of law. Various combinations of defendants resist these determinations, contend that neither rescissory damages nor quasi-appraisal are available remedies, and assert that the directors who served on a special committee are exculpated from liability. The plaintiffs oddly named Orchard as a defendant, and Orchard adds that it cannot be held liable for breach of fiduciary duty or for aiding and abetting.

The plaintiffs' motion is denied except in two respects: one of the claimed disclosure violations was a material misrepresentation, and the standard of review for trial will be entire fairness with the burden of persuasion on the defendants. The defendants' motions are denied except in two respects: one of the alleged disclosure violations was factually accurate, and Orchard cannot be held liable on the theories asserted.

I. FACTUAL BACKGROUND

The facts are drawn from the materials presented in support of the cross-motions for summary judgment. When considering the plaintiffs' motion, conflicts in the evidence must be resolved in favor of the defendants, and all reasonable inferences drawn in their favor. When considering the defendants' motion, the opposite is true. The evidence in the record conflicts on many issues and can support competing inferences. At this stage of the case, the court cannot weigh the evidence, decide among competing inferences, or make factual findings.

A. Orchard And Dimensional

Orchard is a Delaware corporation that distributes music and video through digital stores and mobile carriers. Orchard's common stock traded on NASDAQ until the merger. The parties have sharply divergent views about Orchard's business prospects going into the merger, and each side has evidence that supports its view.

Dimensional is a private equity fund. Non-party Joseph D. Samberg is the founder of JDS Capital Management, LLC, the ultimate parent of Dimensional. He is also a senior executive officer of Dimensional.

Since 2007, Dimensional has controlled Orchard. As of the 2010 squeeze-out, Dimensional and its affiliates held approximately 42% of Orchard's common stock (2,738,327 shares) and 99% of its Series A convertible preferred stock (446,918 shares). Through these holdings, Dimensional wielded approximately 53.3% of Orchard's outstanding voting power.

Under an agreement that governed a transaction in 2007 that created Orchard, Dimensional received the right to designate four of the seven members of Orchard's board of directors (the “Board”). Its designees were Greg Scholl, Stein, Donahue, and Viet Dinh.

Scholl served as Orchard's CEO until his resignation in September 2009. He is not a defendant in this action.

Stein is an executive officer and a director of Dimensional. He acted as the point man for Dimensional in the events giving rise to the merger.

Donahue is a nominally disinterested and independent director. He served as Chairman of the Board and as Chair of the special committee formed to negotiate with Dimensional. As Chair of the special committee, he acted as the point man for Orchard in negotiating with Stein.

Discovery revealed that Donahue has long-standing ties to members of the Samberg family. Donahue and Jeff Samberg, who is Joseph's brother, have been business associates and personal friends for approximately twenty years. They attended the NCAA Final Four together every year from 1999 to 2008, and they have invested together in fifteen different companies, either directly or through Greylock Partners, a venture capital fund. Donahue and Arthur Samberg, Joseph and Jeff's father, are also long-time friends.

Discovery further revealed that during the negotiation of the merger, Donahue approached Dimensional about serving as a consultant to Orchard after the merger closed. He got the job and provided post-closing consulting services for annual compensation of approximately $108,000.

Dinh is a facially disinterested and independent director. The plaintiffs have not identified any conflict-creating ties between Dinh and Dimensional, its principals, or Orchard.

B. The First Dimensional Proposal

On November 12, 2008, Stein informed the Board that Dimensional planned to contact third parties about buying Orchard or participating with Dimensional in taking it private. Stein asked the Board to direct management to cooperate with Dimensional and meet with interested parties. Stein also asked the Board to authorize the Company to enter into non-disclosure agreements with interested parties.

On November 14, 2008, the Board agreed to Dimensional's requests and formed a special committee of independent directors (the “Initial Special Committee”) to oversee the Company's involvement. The committee members were Donahue, Dinh, Nathan Peck, and Joel Straka. Like Dinh, Peck and Straka were facially disinterested and independent directors. Donahue, the director with the closest relationship to Dimensional, served as Chair of the Initial Special Committee. The committee hired legal counsel, Patterson Belknap Webb & Tyler LLP (“Patterson Belknap”), and determined that depending on the type of transaction proposed, they might need to retain a financial advisor.

Dimensional contacted fifty-three parties, and eleven entered into non-disclosure agreements with the Company. Eight met with Company management. Two parties—Stripes Group and Sony Music—expressed interest after the management meetings. Stripes Group submitted an initial proposal, and discussions continued with both Stripes Group and Sony Music through March 2009. Sony Music did not make a formal proposal, and Dimensional terminated the process in April 2009. At that point, the Board dissolved the Initial Special Committee.

C. The Second Dimensional Proposal

Five months later, in September 2009, Scholl announced his resignation as CEO, and the Board appointed Stein to serve as interim CEO in his place. On October 9, Stein contacted his fellow directors individually, told them that Dimensional was considering a going-private transaction, and proposed that the subject be discussed at the next Board meeting on October 13. On October 15, Dimensional delivered a formal proposal to squeeze out the minority for $1.68 per share, a 25% premium to the then-current stock price of $1.35 per share.

In response, the Board formed a second special committee (the “Special Committee”). The Board gave the Special Committee the exclusive power and authority to (i) negotiate the terms of a transaction with Dimensional, (ii) terminate consideration of Dimensional's proposal, (iii) solicit interest (or respond to inquiries) from third parties, and (iv) retain independent legal and financial advisors of its choosing.

The members of the Special Committee were Dinh, Donahue, Peck, Straka, and David Altschul. Except for Altschul, all had served on the Initial Special Committee. Altschul also is a facially disinterested and independent director. Donahue again served as Chair. Patterson Belknap again served as legal counsel. This time, the Special Committee hired Fesnak & Associates, LLP (“Fesnak”) to provide financial advice and to opine on the financial fairness of a transaction with Dimensional.

D. The Initial Negotiations

On October 24, 2009, Donahue told Stein that the Special Committee wanted him to resign as interim CEO in light of Dimensional's proposal. Donahue also told Stein that Dimensional's price was low. Later that day, Stein called back and indicated that Dimensional would increase its offer to $1.84 per share. On October 27, Stein resigned as interim CEO. He continued to serve as a director. The Board appointed Navin, previously the Company's Executive Vice President and General Manager, as interim CEO in Stein's place.

On October 30, 2009, the Company filed a Form 8–K disclosing Stein's resignation, Navin's appointment, Dimensional's initial proposal, and the...