In re Tronox Incorporated, et al., 2011 WL 1815149 (Bankr. S.D.N.Y. May 11, 2011)
The spun-off subsidiary sued its parent for breach of fiduciary duty, and sued the corporation that acquired its parent shortly after the spin-off for civil conspiracy and aiding and abetting a breach of fiduciary duty. The plaintiff alleged that, in order to become an attractive acquisition target, the parent company breached fiduciary duties by creating the subsidiary to isolate millions of dollars of legacy liabilities and retiree costs in the subsidiary, leaving the subsidiary insolvent and severely undercapitalized. The court denied the parent’s motion to dismiss the count alleging breach of fiduciary duty, and granted the defendant’s motion to dismiss the civil conspiracy and aiding and abetting counts.
Kerr-McGee Corporation, a global energy and chemical company, had accrued liabilities for decades’ worth of environmental cleanup and associated costs. In 2001, it initiated a program of corporate restructuring, designed to segregate its valuable oil and gas business within one entity, and leave all other assets, as well as the liabilities, within other entities. Kerr-McGee set up a holding company framework, creating “New Kerr-McGee,” into which the oil and gas business was placed. It left its other assets and liabilities in “Old Kerr-McGee,” which became Tronox Incorporated. Under the reorganized structure, New Kerr-McGee directly held the oil and gas operations, and was the parent of Old Kerr-McGee, which retained the other assets and the legacy liabilities. New and Old Kerr-McGee executed various agreements that provided for the assumption of the liabilities by Old Kerr-McGee, as well as the indemnification of New Kerr-McGee against any future liability related to the assets retained by Old Kerr-McGee. In May 2005, these companies entered into agreements effectuating the spin-off of Old Kerr-McGee/Tronox. On November 28, 2005, these companies entered into a Master Separation Agreement, pursuant to which Tronox incurred bank debt, issued bonds, and conducted its IPO. Tronox transferred substantially all of the IPO proceeds to New Kerr-McGee, as well as more than half a billion dollars of other financing. New Kerr-McGee remained the majority owner of Tronox until the spin-off was completed on March 31, 2006, when New Kerr-McGee distributed to its shareholders the remaining Tronox shares. Less than three months after this, Andarko Petroleum announced that it was acquiring New Kerr-McGee for $18 billion. Tronox filed its chapter 11 petition on January 12, 2009.
Tronox initiated adversary proceedings against its former parent, and against Andarko. Tronox charged that the defendants imposed 70 years of legacy liabilities, including enormous environmental remediation and retiree-related obligations, in connection with the Tronox spin-off. Tronox alleged that Andarko expressed interest in purchasing the oil and gas assets of Kerr-McGee in 2002, and that Andarko stepped back upon discovering the extent of the legacy liabilities. Tronox further alleged that Kerr-McGee and Andarko conspired to separate the valuable assets from the liabilities, and that the consummation of Andarko’s acquisition less than three months after the spin-off of Tronox was the conclusion of this conspiracy, rather than an arm’s-length transaction.
Tronox filed multi-count complaints against New Kerr-McGee and Andarko (and numerous affiliates). The defendants filed motions to dismiss three counts addressed in this opinion: Count IV—breach of fiduciary duties owed Tronox by New Kerr-McGee; Count V—civil conspiracy between New Kerr-McGee and Andarko; and Count VI—aiding and abetting breach of fiduciary duty against Andarko.
In deciding a motion to dismiss, the court must accept as true all of the factual allegations of the complaint, draw inferences from those allegations in a light most favorable to the plaintiff, and construe the complaint liberally.
In the instant case, the plaintiff asserted three theories in support of Count IV. First, Tronox alleged that New Kerr-McGee owed it fiduciary duties as the parent company of a subsidiary that had minority shareholders between the date of the IPO and the date of the spin-off. Second, Tronox alleged that New Kerr-McGee owed Tronox and its creditors fiduciary duties as the parent of an insolvent subsidiary. Third, the plaintiff alleged that New Kerr-McGee was liable as promoter, by acting as Tronox’s sponsor, obtaining initial credit facilities, soliciting investors, arranging for the IPO, and distributing its ownership interests to shareholders in the spin-off.
The court first noted that, under Delaware law, a parent does not owe a fiduciary duty to its subsidiary under normal circumstances. It is, however, settled law that the existence of minority shareholders of the subsidiary does impose fiduciary duties on the parent with respect to the subsidiary. Further, Delaware law imposes fiduciary duties on the parent of an insolvent subsidiary, and when a parent is engaged in a plan or scheme of promotion of a subsidiary, fiduciary duties may be imposed on the parent until the plan or scheme ends.
The court held that Tronox had adequately alleged a fiduciary duty was owed to Tronox, as a subsidiary with minority shareholders, and that New Kerr-McGee breached this duty. The plaintiff sufficiently pleaded that, at least from the time the reorganization process was undertaken through the date of the spin-off, New Kerr-McGee engaged in transactions that “lacked intrinsic fairness, involved gross overreaching, and caused Tronox to become insolvent in breach of fiduciary duties….” The plaintiff also alleged that the spin-off itself constituted a breach of duty, because New Kerr-McGee “knew or should have known that Tronox could never survive as an independent company.”
The court held that the question of insolvency of Tronox was “a hotly contested factual one,” such that this issue must survive the motion to dismiss. The court also held that Tronox’s allegations that the scheme of promotion did not end until the spin-off date of March 31, 2006, were sufficient to create a factual question Therefore, the court, taking the allegations made by Tronox as true, held that the complaint did set forth a claim for breach of fiduciary duties.
New Kerr-McGee did plead that the statute of limitations barred Tronox’s claim. The cut-off date was January 12, 2006, so that a claim for conduct occurring before that date would be outside the statutory limit. Tronox based much of its claim under Count IV on conduct (including the spin-off itself) occurring on the date of the spin-off, March 31, 2006. New Kerr-McGee argued that the spin-off was merely an exercise of an appropriate corporate action. Tronox, however, pled that the spin-off was the culmination of the scheme to segregate the valuable assets from the legacy liabilities, leaving Tronox insolvent and undercapitalized. The court concluded that Tronox had adequately alleged “new and independent acts” after January 12, 2006.
The Bankruptcy Court therefore denied the motion to dismiss Count IV—breach of fiduciary duties.
The court did dismiss Counts V and VI, however, finding instead that “although the anticipation of a merger with Andarko provides the motive for New Kerr- McGee to maximize the net value of its enterprise by transferring out all the valuable property and leaving the legacy liabilities behind, the allegations do not provide a sufficient basis to infer an agreement between Andarko and New Kerr- McGee to commit an unlawful act, as required for an allegation of civil conspiracy, or of knowing and substantial assistance in a breach of duty, as required for liability for aiding and abetting. Counts V and VI are dismissed.”
It is common business practice to structure organizations in such a way as to isolate assets and liabilities. Holding companies may have dozens of subsidiaries, direct and indirect, under their umbrella. The ability to establish such a structure, however, is not unrestricted. Parent companies are not entitled to so dominate the capitalization of and assignment of liabilities to their subsidiaries. Depending on the circumstances, a parent may find that it must act as a fiduciary toward its subsidiary, and like New Kerr-McGee, have to fight its progeny in federal court.