Delaware Court Again Finds Conflicted Transaction Safe Harbors Not So Safe

Limited partnerships and limited liability companies, as creatures of contract, often have in their governing agreements safe harbor provisions for approval of conflicted transactions with interested parties.  These are designed to establish as a matter of contract that the actions taken by the general partner or managers met the required standard of conduct.  Typical safe harbors might include (i) approval by an independent committee, (ii) approval by disinterested interest holders, or (iii) action taken in reliance on the opinion of a professional or expert, such as an investment banker.  Because these safe harbor provisions override the need to comply with general fiduciary duties that otherwise would apply, Delaware courts have shown a tendency to examine compliance with those safe harbor provisions strictly.

On October 29, 2019, in Dieckman v. Regency GP LP,[1] the Delaware Court of Chancery once again applied a strict reading to safe harbor provisions and found either that they were not satisfied or that a genuine issue of fact existed as to whether they were satisfied.

This case involved a publicly-traded master limited partnership in the energy industry that merged with an affiliate of the partnership’s general partner.  The plaintiff, the holder of a common interest in the partnership, claimed that the merger consideration was unfair and favored the general partner’s affiliate.  The defendants responded by asserting that the partnership agreement’s safe harbor provisions along the lines of those described above applied and created a conclusive presumption that the action taken was proper.  The Delaware Supreme Court previously had reversed the Court of Chancery’s dismissal of the claims, finding that the plaintiff sufficiently pled facts indicating that the safe harbors were not satisfied.[2]

In this decision, the Court of Chancery held as follows:

• The safe harbor for independent committee approval was not satisfied because the committee was not independent as defined in the agreement due to one of its members being a director of another affiliate of the general partner when he was appointed to the committee and during at least some of the time when the committee considered the transaction before he resigned the directorship.
• The safe harbor for disinterested interest holder approval was not satisfied because the proxy statement soliciting the approval was materially false and misleading as a result of stating that the committee that approved the transaction consisted of two independent directors and that the committee’s approval constituted the “special approval” by an independent committee as defined in the partnership agreement.
• A general issue of fact existed as to whether the general partner in fact relied on the investment banker’s fairness opinion because there were deliberations indicating approval of the transaction at a lower price before the fairness opinion was delivered and subsequently when the terms of the transaction were changed without an update of the fairness opinion.[3]

Lessons:

This decision demonstrates the importance of well-drafted safe harbor provisions in governing agreements of non-corporate entities for approval of conflicted transactions in order to mitigate exposure to litigation challenging the fairness of those transactions.  As important as their being well-drafted, safe harbor provisions must be scrupulously complied with to avoid being found not to be satisfied.  This requires ensuring that an approving committee is in fact independent as contemplated by the agreement and that any approval of disinterested interest holders is obtained on the basis of complete and accurate disclosure.

[1] C.A. No. 11130-CB (Oct. 29, 2019).

[2] Dieckman v. Regency GP LP, 155 A. 3d 358 (Del. 2017).

[3] The Court found it unnecessary to address a separate argument that this safe harbor, which appears in a separate section of the partnership agreement, does not apply to a conflicted transaction.  That issue was addressed in Morris v. Spectra Energy Partners (DE) GP, LP, 2017 WL 2774559 (Del. Ch. June 27, 2017), in which the Court, interpreting the partnership agreement in that case, held that the reliance safe harbor did not apply to a conflicted transaction.

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