The Consequences of Excessive Pleading Standards

We have been discussing the impact of excessive pleading standards on director independence.  Do we have an example of a case that would likely have been dismissed under Delaware’s “reasonable doubt” standard but where plaintiffs obtained discovery and uncovered evidence of an absence of independence? In re Oracle, 824 A.2d 917 (Del. Ch. 2003), is a good example.

Plaintiffs filed a derivative action against certain officers and directors alleging, among other things, that they engaged in insider trading. Oracle formed a special litigation committee consisting of independent directors of the board to determine whether the litigation ought to be terminated. The two directors were professors at Stanford University. Unlike the traditional requirement that plaintiffs establish reasonable doubt about independence, the company had the burden of showing that the directors on the committee were independent. Moreover, plaintiffs were entitled to discovery on the issue.

The SLC report revealed that the directors did not receive compensation from Oracle other than fees and that the directors had no material ties to the defendant officers and directors. The report also disclosed that one of the defendants had made contributions to Stanford.

Based upon these facts, a Delaware court almost certainly would have dismissed the case for the failure to show a “reasonable doubt” about the lack of independence. Because plaintiffs received the right to discovery, however, the outcome was different. Allowed to explore the relationship between the defendants and Stanford University, plaintiffs uncovered an assortment of additional facts and relationships, including one defendant who “directed” “millions of dollars of contributions” to Stanford and another who made “millions of dollars in donations” through a personal foundation and considered substantial gifts to fund a scholarship program. As the court concluded: “Rather than form an SLC whose membership was free from bias-creating relationships, Oracle formed a committee fraught with them. As a result, the SLC has failed to meet its Zapata burden, and its motion to terminate must be denied.” 

The court was able to make the determination, however, only because it allowed for complete exploration of the issue through the use of discovery.  For a student post on the case, go here.