Chancery Court Denies Rescission of Merger Agreement Where “Indispensable” Company Stockholders Not Named as Parties to Litigation
It is customary, when a private corporation with numerous stockholders is sold, for a representative to be appointed to act on behalf of the stockholders if a dispute arises post-closing with respect to a purchase price adjustment or indemnification claim. The representative may be one of the stockholders, perhaps the largest, or may be a professional organization established to perform these and related functions. A buyer clearly prefers to deal with a single individual or entity rather than to pursue individual claims against a large number of former stockholders.
What happens, though, when a buyer seeks a type of relief to address a dispute not contemplated by the acquisition agreement? May the buyer obtain the desired relief by suing only the representative, or must all stockholders be joined in the lawsuit?
The Delaware Court of Chancery (“Chancery Court”) faced this issue in Shareholder Representative Services LLC v. RSI Holdco, LLC, C.A. No. 2018-0517-KSJM, 2019 WL 2207452 (Del. Ch. May 22, 2019) (“Shareholder Services”). Vice Chancellor Kathaleen St. J. McCormick, applying the Chancery Court’s joinder test in connection with a buyer’s action for rescission of a merger agreement, determined that company stockholders having a financial stake in the litigation, and not just their contractually appointed representative, must be named as parties. In so ruling, the Vice Chancellor found no merit in the buyer’s contention that the representative was illegitimately seeking to use its status both as a “sword”—by seeking recovery on behalf of company stockholders for alleged breaches by buyer—and as a “shield”—by claiming it had no authority to defend the stockholders against rescission.
On the other hand, the Vice Chancellor refused to dismiss the buyer’s unjust enrichment claim based on alleged fraudulent inducement. The Vice Chancellor was not persuaded by the representative’s argument that the merger agreement provided for indemnity as buyer’s exclusive remedy for breach.