In the recent case In re KKR Financial Holdings LLC Shareholder Litigation, the Delaware Court of Chancery reaffirmed that it will not lightly impose fiduciary duties on non-majority shareholders. Consol. C.A. No. 9210-CB (Del. Ch. October 14, 2014). In a shareholder action challenging the acquisition of KKR Financial Holdings LLC (“Holdings”) by KKR & Co. LP (“KKR”), the court dismissed claims that: (1) KKR breached its duty of loyalty as a controlling shareholder; (2) the Holdings board breached its fiduciary duties by agreeing to the merger; and (3) KKR aided and abetted the Holdings board’s alleged breach.
KKR formed Holdings’ predecessor entity in 2004. Under the terms of a management agreement, an affiliate of KKR managed Holdings’ day-to-day operations.KKR itself owned less than 1% of Holdings’ shares.In 2013, the companies negotiated and executed a merger agreement whereby KKR would acquire Holdings.The merger was subject to the approval of a majority of disinterested Holdings’ shareholders.
Holdings’ shareholders filed suit to enjoin the transaction.Based largely on the management agreement, the complaint alleged that KKR was a “controlling shareholder” of Holdings and as such owed fiduciary duties to Holdings’ other shareholders.The Chancery Court disagreed and reaffirmed the Delaware Supreme Court’s holding in Kahn v. Lynch Communications Systems: in the absence of majority stock ownership, “the operative question under Delaware law for determining whether a stockholder is controlling” is whether that stockholder exercised domination or control over the company’s board at the time it approved the merger. The Chancery Court held that, although KKR’s affiliate managed the operations and investment strategies of Holdings, there was no indication that KKR had the right to appoint any directors, or to dictate or veto board actions.
The court went on to dismiss the claims that the Holdings’ board had breached its fiduciary duties of care and loyalty. Finding that plaintiffs failed to allege sufficient facts to show that a majority of the directors were interested, the court held that the board’s actions were entitled to the protection of thebusiness judgment rule. Further, the court noted, even if plaintiffs had successfully challenged the board’s independence, the business judgment rule would still apply, because the transaction was approved by a fully-informed vote of a majority of disinterested shareholders and there was no controlling shareholder involved.
This case clarifies the type of shareholder control (that is, voting power or de facto domination of a board rather than management of day-to-day affairs) that may lead to controlling shareholder duties under Delaware law. In addition, in pointing out that Holdings shareholders’ “real grievance” was the restrictive nature of Holdings’ structure and contractual arrangements, Chancellor Bouchard signaled that the Delaware courts will not use the imposition of controlling shareholder duties as a panacea for all shareholder ailments.