Director independence after Zynga: The second case in little over a year expands the grounds on which a director's independence may be challenged.

Author:Raymond, Doug
Position:LEGAL BRIEF - Sandys v. Mark J. Pincus - Zynga Game Network Inc.

The Delaware courts have seen many cases challenging transactions between a corporation and one or more directors or significant shareholders. More often than not, these transactions create conflicts of interest, as the interests of the director or shareholder diverge from those of the corporation. Such transactions can be challenged on the basis of that conflict of interest.

In its October 2015 decision Del. Cty. Emps. Ret. Fund v. Sanchez, the Supreme Court reversed a Chancery Court decision and held that a "close friendship" between a director and an interested party, unlike a "thin social-circle friendship," could undermine that directors independence. The Court gave little guidance on how to distinguish a close friendship from a less meaningful relationship, however, beyond emphasizing the parties' 50-year friendship as signaling the former.

Recently, in its December 2016 decision in Sandys v. Pincus ("Zynga"), the Supreme Court again reversed the Chancery Court on the issue and revisited what relationships may prevent friends from being independent. Along the way, it created confusion for boards that need to have a clear understanding of where to draw these lines.

In Zynga, the plaintiff claimed that certain officers had breached their fiduciary duties to the corporation by selling shares on the basis of material, non-public information. The plaintiff also claimed the directors had breached their duty of loyalty when they exempted these sales from a blackout policy that would have otherwise barred them until after an earnings announcement. The sales instead occurred before the announcement, and after the announcement the stock price dropped sharply.

As these claims were derivative, under Delaware law, the plaintiff first needed to either ask that the board address the issue or show that this request would be futile. The defendants filed a motion to dismiss for plaintiff's failure to make such a demand on the board. The plaintiffs, in turn, claimed the demand would have been futile because a majority of the directors had relationships with the alleged wrongdoers that made them unable to exercise independent judgment on the issue. The Chancery Court sided with the defendants, reasoning that under the facts pleaded by the plaintiff, a majority of the board was independent.

The Supreme Court, however, disagreed. It focused particularly on one director. The Court found that she shared an "extremely close, personal bond" with ex-CEO and...

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