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IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE PARTNER INVESTMENTS, L.P., : a Delaware limited partnership, : PFM HEALTHCARE MASTER FUND, L.P., : a Cayman Islands limited partnership, and : PFM HEALTHCARE PRINCIPALS : FUND, L.P., a Delaware limited partnership, : :
Plaintiffs, : v. : C.A. No. 2017-0262-JTL
: THERANOS, INC., a Delaware corporation, : Original Version Filed: ELIZABETH HOLMES, : April 6, 2017 FABRIZIO BONANNI, : WILLIAM H. FOEGE, and : Redacted Public Version DANIEL J. WARMENHOVEN, : Filed: April 11, 2017 :
Defendants. :
PLAINTIFFS’ OPENING BRIEF IN SUPPORT OF THEIR MOTION FOR A TEMPORARY RESTRAINING ORDER
HEYMAN ENERIO GATTUSO & HIRZEL LLP Kurt M. Heyman (# 3054) Patricia L. Enerio (# 3728) Aaron M. Nelson (# 5941) 300 Delaware Avenue, Suite 200 Wilmington, DE 19801 (302) 472-7300 Attorneys for Plaintiffs
OF COUNSEL: GIBSON, DUNN & CRUTCHER LLP Reed Brodsky 200 Park Avenue New York, NY 10166 (212) 351-4000
EFiled: Apr 11 2017 04:50PM EDT Transaction ID 60459576
Case No. 2017-0262-JTL
GIBSON, DUNN & CRUTCHER LLP Winston Y. Chan Matthew S. Kahn Aimee M. Halbert Sarah Cunningham 555 Mission Street, Suite 3000 San Francisco, CA 94105 (415) 393-8200 Dated: April 6, 2017
TABLE OF CONTENTS
Page
PRELIMINARY STATEMENT ............................................................................... 1
STATEMENT OF RELEVANT FACTS .................................................................. 5
I. The Parties To This Action. .................................................................. 5
II. The Fraud Action Defendants Make Material Misrepresentations, Misleading Statements, And Omissions To Induce Plaintiffs’ $96.1 Million Investment In Theranos. .................... 7
III. Fact Discovery Has Revealed Rampant Fraud...................................... 9
IV. Theranos Now Seeks To Use The Exchange Offer To Prevent PFM From Recovering Its Fraudulently Induced Investment. ...........18
ARGUMENT ...........................................................................................................21
I. The Legal Standard For Issuing A TRO. ............................................21
II. Plaintiffs Assert Colorable Claims That Defendants Breached Their Fiduciary Duty Of Loyalty And Committed Waste. .................22
A. Plaintiffs Allege A Colorable Claim For Breach Of The Duty Of Loyalty. ................................................................................23
B. Plaintiffs Allege A Colorable Claim For Waste. ......................29
III. The Exchange Offer Is Subject To The Entire Fairness Test, Which Defendants Cannot Satisfy. .....................................................31
A. Entire Fairness Applies To The Exchange Offer. .....................31
B. The Exchange Offer Does Not Survive Entire Fairness Scrutiny. ....................................................................................35
IV. The Coercive And Misleading Exchange Offer Cannot “Cleanse” Defendants’ Egregious Self-Interested Breach Of Fiduciary Duty. ....................................................................................38
V. The Exchange Offer Will Irreparably Harm Plaintiffs. ......................45
VI. The Balance Of Hardships Favors Plaintiffs. ......................................48
CONCLUSION ........................................................................................................50
i
TABLE OF AUTHORITIES
Page(s)
CASES
AC Acquisitions Corp. v. Anderson, Clayton & Co., 519 A.2d 103 (Del. Ch. 1986) ............................................................................ 27
Am. Gen. Corp. v. Unitrin, Inc., 1994 WL 512537 (Del. Ch.) ............................................................................... 49
Arnold v. Soc. for Sav. Bancorp., Inc., 650 A.2d 1270 (Del. 1994) ........................................................................... 39-40
In re Citigroup Inc. S’holder Deriv. Litig., 964 A.2d 106 (Del. Ch. 2009) ...................................................................... 29-30
Condec Corp. v. Lunkenheimer Co., 230 A.2d 769 (Del. Ch. 1967) ............................................................................ 25
Corwin v. KKR Fin. Holdings LLC, 125 A.3d 304 (Del. 2015) ................................................................................... 38
Desert Equities, Inc. v. Morgan Stanley Leveraged Equity Fund, II, L.P., 624 A.2d 1199 (Del. 1993) ................................................................................. 25
Eisenberg v. Chi. Milwaukee Corp., 537 A.2d 1051 (Del. Ch. 1987) ...................................................................passim
Emerald Partners v. Berlin, 787 A.2d 85 (Del. 2001) ..................................................................................... 36
In re Emerging Commc’ns, Inc. S’holders Litig., 2004 WL 1305745 (Del. Ch.) ............................................................................. 41
Gagliardi v. TriFoods Int’l, Inc., 683 A.2d 1049 (Del. Ch. 1996) .......................................................................... 24
Gimbel v. Signal Cos., Inc., 316 A.2d 599 (Del. Ch. 1974) ............................................................................ 47
Glazer v. Zapata Corp., 658 A.2d 176 (Del. Ch. 1993) ............................................................................ 29
ii
Page(s)
Jedwab v. MGM Grand Hotels, Inc., 509 A.2d 584 (Del. Ch. 1986) ...................................................................... 26-27
Jeter v. RevolutionWear, Inc., 2016 WL 3947951 (Del. Ch.) ............................................................................. 24
Joseph v. Shell Oil Co., 482 A.2d 335 (Del. Ch. 1984) ................................................................ 32, 38, 41
In re Lear Corp. S’holder Litig., 926 A.2d 94 (Del. Ch. 2007) .............................................................................. 41
Lewis v. Anderson, 477 A.2d 1040 (Del. 1984) ................................................................................. 25
Lewis v. Vogelstein, 699 A.2d 327 (Del. Ch. 1997) ............................................................................ 31
Lewis v. Ward, 852 A.2d 896 (Del. 2004) ................................................................................... 25
Nagy v. Bistricer, 770 A.2d 43 (Del. Ch. 2000) .............................................................................. 44
ODS Tech., L.P. v. Marshall, 832 A.2d 1254 (Del. Ch. 2003) .......................................................................... 45
In re Orchard Enters., Inc. S’holder Litig., 88 A.3d 1 (Del. Ch. 2014) ................................................................ 23, 24, 33, 35
Partner Investments, L.P. et al. v. Theranos, Inc., et al., C.A. No. 12816-VCL (Del. Ch.) .......................................................................... 2
Police & Fire Ret. Sys. of the City of Detroit v. Bernal, 2009 WL 1873144 (Del. Ch.) ............................................................................. 48
In re Pure Resources, Inc., S’holders Litig., 808 A.2d 421 (Del. Ch. 2002) ................................................................ 35, 40, 45
Ryan v. Gifford, 918 A.2d 341 (Del. Ch. 2007) ...................................................................... 25-26
iii
Page(s)
Sample v. Morgan, 914 A.2d 647 (Del. Ch. 2007) ...................................................................... 30, 31
Schreiber v. Carney, 447 A.2d 17 (Del. Ch. 1982) .............................................................................. 25
Sherwood v. Ngon, 2011 WL 6355209 (Del. Ch.) ....................................................................... 22, 43
In re Siliconix Inc. S’holders Litig., 2001 WL 716787 (Del. Ch.) ................................................................... 31, 32, 39
Skeen v. Jo-Ann Stores, Inc., 750 A.2d 1170 (Del. 2000) ................................................................................. 39
Solar Cells, Inc. v. True N. Partners, LLC, 2002 WL 749163 (Del. Ch.) ........................................................................passim
Solomon v. Armstrong, 747 A.2d 1098 (Del. Ch. 1999) .................................................................... 31-32
Solomon v. Pathe Commc’ns Corp., 672 A.2d 35 (Del. 1996) ..................................................................................... 31
In re Staples, Inc. S’holders Litig., 792 A.2d 934 (Del. Ch. 2001) ............................................................................ 48
T. Rowe Price Recovery Fund, L.P. v. Rubin, 770 A.2d 536 (Del. Ch. 2000) ...................................................................... 48-49
Tanimura & Antle, Inc. v. Packed Fresh Produce, Inc., 222 F.3d 132 (3d Cir. 2000) ............................................................................... 47
True North Commc’ns Inc. v. Publicis S.A., 1997 WL 33173290 (Del. Ch.) ..................................................................... 23, 46
In re Volcano Corp. Stockholder Litig., 143 A.3d 727 (Del. Ch. 2016) ...................................................................... 38-39
Weinberger v. UOP, Inc., 457 A.2d 701 (Del. 1983) ....................................................................... 27, 36-37
iv
Plaintiffs Partner Investments, L.P., PFM Healthcare Master Fund, L.P., and
PFM Healthcare Principals Fund, L.P. (collectively, “Plaintiffs” or “PFM”)
respectfully submit this brief in support of their motion for a Temporary Restraining
Order (“TRO”) temporarily enjoining Defendants Theranos, Inc. (“Theranos” or the
“Company”), Elizabeth Holmes (“Holmes”), Fabrizio Bonanni (“Bonanni”),
William H. Foege (“Foege”), and Daniel J. Warmenhoven (“Warmenhoven”)
(collectively, “Defendants”) from closing the Offer to Exchange Preferred Stock set
to expire at 5:00 p.m. on April 14, 2017.
PRELIMINARY STATEMENT
Through a string of repeated lies, misrepresentations, misleading statements,
and omissions of material information, Theranos, Holmes, and former Chief
Operating Officer and member of the Board of Directors Ramesh Balwani
(“Balwani”) induced PFM to invest approximately $96.1 million in Theranos in
February 2014. PFM became a holder of Series C-2 Preferred Stock in the
Company, with a liquidation preference ahead of holders of the Company’s common
stock and holders of the Company’s Series A and B Preferred Stock, and pari passu
with the holders of Series C and C-1 Preferred Stock. After it became clear that
Theranos, Holmes, and Balwani had fraudulently induced PFM’s investment and
continued to lie and omit material information throughout the parties’ business
relationship, PFM brought an action in the Delaware Court of Chancery (the “Fraud
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Action”) against Theranos, Holmes, and Balwani (the “Fraud Action Defendants”)
to rescind PFM’s Stock Purchase Agreement and recover restitutionary,
compensatory, and other relief. See Partner Investments, L.P. et al. v. Theranos,
Inc., et al., C.A. No. 12816-VCL (Del. Ch.). The Fraud Action is set for trial in June
2017 before this Court, and the parties are actively engaged in fact discovery.
With Theranos hemorrhaging cash, and faced with mounting evidence
revealing the fraudulent scheme of the Fraud Action Defendants, Holmes engineered
an Offer to Exchange Preferred Stock (“Exchange Offer”) that would inoculate the
Fraud Action Defendants, including herself, and all former and current executives,
employees, and directors, from future legal action and deprive PFM of the ability to
recover any judgment it may ultimately obtain in the Fraud Action. With the Board’s
approval, Theranos distributed the Exchange Offer to holders of its Series C-1 and
C-2 Preferred Stock on March 20, 2017.
The Exchange Offer allows Series C-1 and Series C-2 preferred stockholders
who agree to release the Company and its Board from liability for their fraudulent
conduct to obtain a higher liquidation preference to which they would otherwise be
entitled under the Company’s Articles of Incorporation. Participating stockholders
will receive shares in “Series C-1A,” “Series C-1B,” and “Series C-2A” preferred
stock, allowing them to jump PFM—a Series C-2 preferred stockholder—in line for
a higher preference in the event of liquidation, dissolution, or winding up of the
2
Company, unless PFM also agrees to release Defendants from liability. The
Exchange Offer is therefore designed to penalize PFM for exercising its rights to
hold the Company, Holmes, and Balwani accountable for their fraudulent
misrepresentations and omissions—all while insulating Defendants from liability for
their wrongful conduct.
Accordingly, the Board breached its fiduciary duty of loyalty and committed
corporate waste when it approved the Exchange Offer. And because the Exchange
Offer is a product of bad faith and self-dealing involving Holmes—who is the
Company’s controlling stockholder, Chief Executive Officer, and Chairman of the
Board—it is subject to Delaware’s most stringent standard of review: entire fairness.
As alleged in Plaintiffs’ Complaint and as shown below, Defendants fall woefully
short of satisfying the entire fairness standard.
Nor can Defendants rely on the prospect of disinterested stockholder approval
to “cleanse” their egregious self-dealing and waste. On the contrary, any such
approval would be ill-informed, involuntary, and far from disinterested. As
described in Plaintiffs’ Complaint, the Exchange Offer is rife with intentionally false
and misleading disclosures and omissions of material information that any
reasonable stockholder would need to know before deciding whether to release
Defendants from any and all liability for their misconduct. Most glaring is
Theranos’s failure to disclose the overwhelming evidence against the Fraud Action
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Defendants and the fact that PFM’s participation in the Exchange Offer would
effectively cancel upcoming depositions of Holmes, Balwani, and Foege. But there
are numerous other disclosure issues, including Theranos’s utterly incomplete
financial disclosures, which merely describe the Company’s cash position at a high
level and nothing more. See Compl. Ex. A at 187 (Annex H).
The Exchange Offer is set to close at 5:00 p.m., Eastern Time, on April 14,
2017. Unless this Court enjoins the Exchange Offer from closing until after the June
2017 trial on the Fraud Action, PFM will be irreparably harmed. If the Exchange
Offer is permitted to proceed, PFM will end up with a substantially decreased
liquidation preference, making it virtually impossible to collect on any judgment it
obtains in the Fraud Action if the Company declares bankruptcy—a very likely
scenario given that as of December 31, 2016, the Company had less cash on hand
than the amount of relief PFM seeks in the Fraud Action and no discernable source
of revenue. See Compl. Ex. A (Annex H); see also id. at 140 (Annex G-1).
Moreover, Theranos is expending massive sums on legal expenses every month due
to the Fraud Action, pending investigations by regulatory agencies (including the
Securities and Exchange Commission and U.S. Department of Justice), consumer
class actions in two different states, and its attempts to appeal the crippling monetary
and non-monetary sanctions imposed by the Centers for Medicare and Medicaid
Services.
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Because Plaintiffs have colorable claims that Defendants breached their
fiduciary duties of loyalty and committed waste in devising, negotiating, approving,
and distributing to stockholders the coercive, self-serving, and unfair Exchange
Offer, and because the Exchange Offer will cause Plaintiffs irreparable harm
outweighing any potential harm to Defendants, Plaintiffs respectfully request that
the Court grant this Motion and enjoin the Exchange Offer until judgment is
rendered in the Fraud Action.
STATEMENT OF RELEVANT FACTS
I. The Parties To This Action.
Plaintiff Partner Investments, L.P. is the beneficial owner of 3,263,529 shares
of Theranos Series C-2 Preferred Stock, which constitutes 5.8% of Theranos’s
outstanding Series C-1 and C-2 Preferred Stock. Compl. ¶ 9. Plaintiff PFM
Healthcare Master Fund, L.P. is the beneficial owner of 2,255,096 shares of
Theranos Series C-2 Preferred Stock, which constitutes 4% of Theranos’s
outstanding Series C-1 and C-2 Preferred Stock. Compl. ¶ 10. Plaintiff Healthcare
Principal Fund, L.P. is the beneficial owner of 136,669 shares of Theranos Series C-
2 Preferred Stock, which constitutes 0.2% of Theranos’s outstanding Series C-1 and
C-2 Preferred Stock. Compl. ¶ 11. Collectively, Plaintiffs own roughly 10.2% of
Theranos’s Series C-1 and C-2 Preferred Stock.
5
Defendant Theranos is a Delaware corporation with its principal place of
business in Palo Alto, California. Compl. ¶ 12. Defendant Holmes is the founder,
Chief Executive Officer, and Chairman of Theranos’s Board of Directors, while
Defendants Bonanni, Foege, and Warmenhoven are members of Theranos’s Board
of Directors. Compl. ¶¶ 13-14.
Holmes is the controlling stockholder of Theranos. According to the
Exchange Offer materials, Holmes “presently holds 100% of [the Company’s]
issued and outstanding shares of Class B Common Stock, controls 98.9% of the
combined voting power of [the Company’s] capital stock and therefore is able to
control all matters submitted to [the Company’s] stockholders which require at least
majority approval of [the Company’s] Class A Common Stock, Class B Common
Stock, and Preferred Stock voting together on an as-converted basis.” Compl. Ex. A
at 161 (Annex G-3). Additionally, “Holmes has the ability to influence management
and the conduct of [the Company’s] affairs as a result of her position as [its] CEO,
as a member of [its] board of directors and with her ability to appoint a majority of
[its] board of directors.” Id. Finally, the Company’s charter provides that “so long
as any holder of Class B Common Stock, like Ms. Holmes, is a member of [its]
Board, that board member must be present at any board meetings in order to establish
a quorum.” Id. “Following the Exchange, Ms. Holmes will control 98.3% of the
combined voting power of the Company.” Id. at 169 (Annex G-3).
6
II. The Fraud Action Defendants Make Material Misrepresentations, Misleading Statements, And Omissions To Induce Plaintiffs’ $96.1 Million Investment In Theranos.
Beginning in 2013, Theranos actively and publicly touted its purported
innovations in drawing and accurately testing small amounts of blood. Compl. ¶ 21.
The Company claimed it had developed and was using in commercial settings its
own tests and analyzers to test “blood sample[s] as small as a few drops,” thereby
“eliminating the need for large needles and numerous vials of blood typically
required for diagnostic lab testing.” Id. It announced that it was rolling out Theranos
“wellness centers” in commercial settings, including in Walgreens pharmacies
nationwide. Id.
Shortly after this announcement, Theranos and PFM began communicating
about a potential investment. Compl. ¶ 22. In meetings and telephone calls from
December 2013 through February 2014, the Fraud Action Defendants made a series
of representations to Plaintiffs regarding the state of the Company’s tests and
devices, its strategic business model and scheduled rollout, and the status of its
regulatory interactions, portraying Theranos as a revolutionary company in the
laboratory testing industry. Id. For example, they represented that Theranos had
developed and validated blood tests on analyzers manufactured in-house that
covered 99.9% of all laboratory requests; that Theranos had submitted many of its
blood tests to the Food and Drug Administration for clearance; that Theranos was
7
using finger sticks for all but 1-2% of its customers’ blood tests, for which it was
using traditional venous blood draws as a short-term solution; that Theranos had
contracts in place to launch testing centers in thousands of pharmacies at leading
retail chains nationwide; and that Theranos’s analyzers were being used by
pharmaceutical companies and the U.S. military. Id. ¶¶ 22-23 . The Fraud Action
Defendants also provided Plaintiffs with financials reporting 2013 revenues of $25
million and projecting a gross profit of more than $1 billion in 2015 and listing, in
addition to Theranos’s purported partnerships with leading retail pharmacy chains,
supposed partnerships in place with the U.S. military, hospitals, and physician
offices. Id. ¶ 23.
It was all lies, made to trick Plaintiffs into investing in Theranos, and it
worked. On February 4, 2014, in reliance on the Fraud Action Defendants’ false and
misleading statements and omissions, Plaintiffs purchased 5,655,294 shares of
Theranos’s Series C-2 Preferred Stock at a purchase price of $17 per share, for a
total investment of $96,139,998. Compl. ¶ 24.
In the months and years following PFM’s investment, Theranos continued to
tout its tests and analyzers publicly, representing that the vast majority of its
commercially available blood tests were performed by finger stick, with the blood
samples stored in nanotainers and tested on analyzers developed and manufactured
by Theranos. These misrepresentations were consistent with those made directly to
8
PFM prior to its investment in Theranos, and were made to reinforce PFM’s belief
in the truth of such representations, and to lull PFM and others into remaining
trusting and non-objecting stockholders. Compl. ¶ 25.
In late 2015, however, various media outlets began to publish disturbing news
about Theranos. Compl. ¶ 26. As more information came to light regarding
Theranos’s tests and devices, its regulatory interactions, and its business dealings,
Plaintiffs realized that the Fraud Action Defendants had made a series of knowing
misrepresentations, misleading statements, and material omissions to Plaintiffs both
before and throughout their investment in Theranos. Id.
On October 10, 2016, PFM filed the Fraud Action in this Court against the
Fraud Action Defendants to recoup its approximately $96.1 million investment,
alleging fraudulent misrepresentation, inducement, and concealment (among other
claims), and seeking restitutionary, compensatory, and other relief.
III. Fact Discovery Has Revealed Rampant Fraud.
Trial is set for June 26, 2017 in the Fraud Action, and the parties are actively
engaged in fact discovery. The testimony elicited at 22 depositions of current and
former Theranos employees and Board members proves that the Fraud Action
Defendants made knowing and intentional misrepresentations and omissions to PFM
(and others) throughout the parties’ relationship about the capabilities of Theranos’s
analyzers and finger-stick technology, the accuracy and safety of Theranos’s tests,
9
the status of the Company’s regulatory approvals, and the Company’s strategic and
financial outlook.
As Theranos’s September 2013 Walgreens launch date approached, Theranos,
Holmes, Balwani, and others were forced to confront the fact that the Company was
not going to be able to fulfill its customers’ orders using its own analyzers, so they
concealed their use of more than 20 different types of commercially available
analyzers instead. Compl. ¶ 47. Indeed, with respect to the Walgreens launch in the
fall of 2013, one witness testified that “they were deadly serious about hitting these
goals, and they were willing to do anything that was going to – that was going to be
necessary. And there was definitely a push from them towards everybody else to
sort of, like, try and make this happen.” Decl. of Aaron Nelson, Ex. A (Patel Dep.)
116.1
PFM has learned that what the Fraud Action Defendants deemed “necessary”
was to purchase and use third-party equipment anonymously to cover up that their
own technology could not perform as promised. Theranos formed a wholly-owned
subsidiary through which it secretly purchased commercially available devices.
Ex. B (Shadpour Dep.) 128. Another witness testified that in late 2013 and early
2014, once Theranos had purchased and begun to use this equipment, “most of the
1 Unless otherwise noted, all citations to exhibits herein refer to the exhibits attached to the Declaration of Aaron M. Nelson.
10
tests weren’t even run on the Theranos platform . . . most of the tests were being run
on third party machines.” Ex. C (T. Shultz Dep.) 21.
Indeed, a former member of Theranos’s Board of Directors testified that “it
was not until some of the press reporting that [he] became aware that there was
extensive commercial analyzers in use.” Ex. D (Roughead Dep.) 40. Another
former Board member testified that he understood, based on his communications
with Holmes, that Theranos ran all of its tests on Theranos-manufactured devices,
and if that was not true, he “would have wanted to know, and [he] would have
wanted to know why.” Ex. E (G. Shultz Dep.) 44.
Just as they deceived and lied to these two former Board members, the Fraud
Action Defendants lied to and deceived PFM. Among other things, they provided a
presentation to PFM that purported to show the accuracy and high correlation of
Theranos tests as compared to commercially available methods. Compl. ¶ 47. Yet
the slides in the presentation actually contained data from commercial analyzers,
including one manufactured by Bio-Rad. Id. When asked whether, without
familiarity with the appearance of Bio-Rad machine data, a viewer would know
where the data came from, a former employee answered: “No, there’s nothing that
suggests it’s from Bio-Rad.” Ex. A (Patel Dep.) 96.
In addition to their misrepresentations and omissions regarding Theranos’s
use of its own analyzers, the Fraud Action Defendants misrepresented to PFM that
11
98% of the tests it performed for customers were run using small blood samples
drawn from the finger using a finger stick (also known as “capillary samples”) rather
than traditional venous samples drawn from the arm. Compl. ¶ 47. A Theranos
employee involved in creating and maintaining its electronic laboratory information
system testified that in reality, however, “out of all the tests that were performed in
the fourth quarter of . . . 2013, I’m very, very confident that 98 percent were not
performed from capillary [i.e. finger-stick] collection.” Ex. F (Fosque Dep.) 203.
Similarly, Theranos’s former laboratory director stated that when he first began
working at Theranos in December 2013, he would “estimate 90 percent of the testing
was done by venous draw.” Ex. G (Pandori Dep.) 74. Both he and Theranos’s
former head of Arizona Operations estimated that in the spring of 2014, mere months
after PFM invested in the Company, only 50% of customers’ tests were performed
with finger-stick samples. Id.; Ex. H (Masson Dep.) 47. And these finger-stick
samples were analyzed on commercially available equipment—not Theranos’s
promised technology.
Moreover, the Fraud Action Defendants misrepresented to PFM that Theranos
tests had very low coefficients of variation (“CV”) of 2.5% or less—meaning that
they had a high degree of accuracy—and misrepresented publicly that its tests had
CVs of 10% or less. But in reality, Theranos’s tests had extraordinarily high CVs.
Compl. ¶ 47. Indeed, one former Theranos employee testified that soon after he
12
started working at Theranos he “realized that the CVs were much higher than
what . . . [Holmes’s] comments would lead you to believe or [the] website would
lead you to believe.” Ex. C (T. Shultz Dep.) 95. Another explained that far from
the tests having CVs of 10% or even 2.5%, “[w]e rarely had CVs less than 10
percent. We were lucky if we had CVs less than 20 percent.” Ex. I (Cheung Dep.)
153. Theranos’s former laboratory director also testified “that there were
particularly large coefficients of variance compared to what [he] had seen in [his]
career[.]” Ex. G (Pandori Dep.) 68.
Shockingly, instead of reporting or admitting such high degrees of variance,
the Fraud Action Defendants manipulated data relating to patients’ blood tests by
dropping “outliers,” averaging data points, and using other misleading tricks in order
to bring down CVs. Compl. ¶ 47. A Theranos scientist described the Company’s
failure to establish any procedures or guidelines regarding the elimination of
outliers: “There was no rhyme or reason to what would constitute an outlier versus
what wasn’t . . . it was just . . . does it give you a thumbs up or a thumbs down.”
Ex. I (Cheung Dep.) 46. The Fraud Action Defendants appear to have treated test
validation data similarly. As one former employee described it, “if you . . . flip a
coin enough times, eventually you’re going to get ten heads in a row, and then you
can say, ‘Oh, this coin returns heads every time.’” Ex. C (T. Shultz Dep.) 138. The
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testimony illustrates that the data presented by the Fraud Action Defendants was
generated only by cherry-picking, deleting, and ignoring particular data points.
The fraud at Theranos extended beyond misrepresenting its tests and devices
to grossly inflating its actual and projected revenues. In January 2014, before PFM
invested in Theranos, the Fraud Action Defendants provided PFM with financial
documents that included a cash flow statement and revenue projections. Compl.
¶¶ 46-47. Theranos’s former Controller created similar materials just a month and
a half later to assist a third-party firm in the preparation of Theranos’s Section 409(a)
reports. Ex. J (Yam Dep.) 141, 147. Yet when she compared the numbers for fiscal
year 2014 in those materials against the numbers for fiscal year 2014 in the materials
provided to PFM, she stated that she was “not sure” why there was “an almost 211-
million-dollar difference between the two revenue projections[.]” Id. at 154-55.
With respect to fiscal year 2015, she likewise was “not sure” why there was a
“massive discrepancy of almost $1.5 billion between the two revenue figures[.]” Id.
at 155. Nor could she explain the “nearly 1-billion-dollar difference between the
gross profit projected” in the two documents for fiscal year 2015. Id. at 158.
Relatedly, and contrary to the Fraud Action Defendants’ representations to
PFM that Theranos had contracts in place to open in more than 8,000 Walgreens
stores nationwide (Compl. ¶ 47), there was never an agreement in place to open in
more than approximately 40 Walgreens locations. The Company’s Supply Chain
14
Manager, who had asked for sufficient lead time to be able to plan the global supply
chain for new stores, testified that it was “correct” that he was “never given
information about any other Walgreens store openings beyond those 41.” Ex. B
(Shadpour Dep.) 164. The Company’s Head of Arizona Operations similarly
testified that she “understood the plan was to roll out a total of 40 Theranos-
Walgreens locations” and, when asked “how many total Walgreens-Theranos
locations were planned” through the end of 2014, she responded, “I don’t know.”
Ex. H (Masson Dep.) 39; see also id. at 33 (testifying “I don’t recall specifics around
the rollout” beyond 40 Walgreens stores).
The Fraud Action Defendants also misrepresented the nature and extent of
other business partnerships in addition to Theranos’s partnership with Walgreens.
For example, contrary to their representations to PFM regarding the use of
Theranos’s proprietary technology by the U.S. military (Compl. ¶¶ 22-23), Admiral
Gary Roughead, USN (Ret.), one of Theranos’s former Board members, testified:
Q. Okay. And did Theranos ever end up with a contract or deal with the military?
A. Not to my knowledge, no. Q. Or with any branch of the military? A. Not that I’m aware of, no. Q. Okay. Was Theranos technology ever used in the field? A. Not that I’m aware of. Q. Okay. Was it ever used on submarines? A. No.
15
Ex. D (Roughead Dep.) 97-98. Admiral Roughead also was “not aware” of Theranos
devices ever being placed in physicians’ offices (id. at 115), contrary to the Fraud
Action Defendants’ representations to PFM. Compl. ¶¶ 22-23.
In order to keep their massive fraud hidden from the Company’s partners, its
investors, and the public, the Fraud Action Defendants went to extreme lengths to
protect secrecy so as not to reveal that the entire business was built on lies. As one
former employee testified, “we would have to hide things from people, we were
constantly hiding things from all sorts of people, whether it was regulators or
whether it was outside vendors or even people that would come in for demos or even
from other employees.” Ex. I (Cheung Dep.) 154. Another former employee
explained that the Fraud Action Defendants “made it sound like they just had
something so special that they didn’t want it to get stolen,” but in reality “they didn’t
want anyone to realize that they really didn’t have anything that innovative.” Ex. C
(T. Shultz Dep.) 75-76. Indeed, one employee said he “was told not to talk to
people” about the Company’s use of the commercially available Siemens ADVIA
device to run blood tests. Ex. K (Gong Dep.) 75.
Multiple Theranos employees testified about the culture of fear that the Fraud
Action Defendants instilled in employees in order to prevent them from raising
questions. As one explained: “It was a tough culture to be a part of to constantly
fear losing your job if you said anything that the CEO or the COO didn’t like.” Ex. I
16
(Cheung Dep.) 200; see also Ex. L (Niroomand Dep.) 108 (“there’s a general fear
that Theranos is not afraid to come after you if you speak up”); Ex. C (T. Shultz
Dep.) 72 (“It was just, you know, people – I mean, that was – that was the culture.
People knew. They would say, ‘Don’t speak up or you get fired.’”); Ex. M (Nugent
Dep.) 96, 104, 111 (describing the “adversarial,” “intimidating,” “stressful,” and
“caustic” environment at Theranos).
These fears were not unfounded, given that the Fraud Action Defendants
routinely threatened and harassed Theranos employees in order to ensure that the
truth would not see the light of day. One employee testified at length regarding the
harassment she experienced upon resigning after raising quality control issues:
I realized like when they were furiously calling me and they threaten to sue me, that they were guilty of something; that they knew that they had done things that were wrong and things that were bad. And so it sort of shifted me from being in this place of being really fearful and being really scared and being really kind of like frightened of potential retaliation.
Ex. I (Cheung Dep.) 155. Another employee described the “witch hunt” for the
author of a negative review about Theranos on the company review website
Glassdoor.com. Ex. L (Niroomand Dep.) 108-109.
The evidence described above represents only a fraction of the compelling
testimonial evidence that PFM has obtained in support of its claims in the Fraud
Action. Fact discovery is ongoing and continues to reveal the ugly truth about the
massive fraud perpetrated by the Fraud Action Defendants.
17
IV. Theranos Now Seeks To Use The Exchange Offer To Prevent PFM From Recovering Its Fraudulently Induced Investment.
Faced with the mounting evidence of widespread misconduct in the Fraud
Action, Holmes hatched a plan to deprive PFM of its ability to collect on any
judgment rendered in the Fraud Action and to shield the Company and its officers,
directors, and stockholders from liability to other investors for the Fraud Action
Defendants’ wrongful conduct—all in an effort to undermine the proceedings before
this Court in the Fraud Action.
On March 20, 2017, Theranos distributed the Exchange Offer to the holders
of its First Series C-1 Preferred Stock, Second Series C-1 Preferred Stock, and Series
C-2 Preferred Stock “in order to realign [its] relationship with the holders” of such
securities and “to protect the Company and its officers, directors and stockholders
from any potential legal claims that holders of Series C-1 Preferred and Series C-2
Preferred may have against the Company as stockholders.” Compl. Ex. A at 5. The
Exchange Offer gives holders of First and Second Series C-1 Preferred and Series
C-2 Preferred Stock an opportunity to exchange those shares for three new types of
securities: Series C-1A Preferred Stock, Series C-1B Preferred Stock, and Series
C-2A Preferred Stock. Under the Company’s proposed Amended and Restated
Certificate of Incorporation—which would be adopted if the Exchange Offer is
consummated—holders of these three new securities would have a liquidation
preference above Series C-2 Preferred Stockholders like PFM:
18
In the event of any liquidation, dissolution or winding up of the Corporation, either voluntary or involuntary, the holders of the Series C-1A Preferred Stock, Series C-1B Preferred Stock, Series C-1B* Preferred Stock, Series C-2A Preferred Stock, and Series C-2A* Preferred Stock (collectively, the “Senior Preferred”) shall be entitled to receive, on a pari passu basis, prior and in preference to any Distribution of any of the assets of the Corporation to the holders of the Series C-2 Preferred Stock, Series C-1 Preferred Stock, Series C Preferred Stock, Series B Preferred Stock, Series A Preferred Stock, Class A Common Stock or Class B Common Stock by reason of their ownership of such stock, an amount per share for each share of Senior Preferred held by them equal to the sum of (i) the Liquidation Preference specified for such share of Senior Preferred, as applicable, and (ii) all declared but unpaid dividends (if any) on such share of Senior Preferred, as applicable. If upon the liquidation, dissolution or winding up of the Corporation, the assets of the Corporation legally available for distribution to the holders of the Senior Preferred are insufficient to permit the payment to such holders of the full amounts specified in this Section 3(a)(i), then the entire assets of the Corporation legally available for distribution shall be distributed pro rata among the holders of the Senior Preferred in proportion to the full amounts they would otherwise be entitled to receive pursuant to this Section 3(a)(i).
Compl. Ex. A at 20 (Annex A, § 3(a)(i)) (emphases added).
Only “[a]fter payment of the Liquidation Preference specified for the Senior
Preferred” above are the “Series C-2 Preferred Stock, Series C-1 Preferred Stock and
the Series C Preferred Stock . . . entitled to receive, on a pari passu basis, prior and
in preference to any Distribution of any assets of the Corporation to the holders of
the Series B Preferred Stock, Series A Preferred Stock, Class A Common Stock or
Class B Common Stock,” their liquidation preference. Compl. Ex. A at 20 (Annex
A, § 3(a)(ii)).
19
In exchange for additional shares of a company built on a house of lies and
liquidity preference in a bankruptcy proceeding, Defendant Holmes stands to reap
great personal gain and extract substantial cost from the stockholders to whom she
owes fiduciary duties of loyalty and disclosure—all while subordinating PFM. And,
to the extent that the other members of the Board of Directors had an actual voice in
this Exchange Offer and voted with Holmes, they went along with this corrupt and
unfair plan. To gain such an enhanced liquidation preference, preferred stockholders
must execute a broad general release that immunizes Defendants and others from
liability for their fraudulent or otherwise unlawful conduct. Section 2.1 of the
Exchange Offer Agreement provides, in relevant part, that each participating
stockholder:
fully, finally, and forever waives, releases, relinquishes, and discharges the Company and (a) its current and former officers and employees, and each of its and their affiliates, contractors, consultants, auditors, accountants, financial advisors, professional advisors, attorneys, investment bankers, representatives, insurers, trustees, trustors, agents, professionals, spouses, immediate family members, predecessors, successors, assigns, heirs, executors, or administrators, (b) its current and former directors, and each of their affiliates, contractors, consultants, auditors, accountants, financial advisors, professional advisors, attorneys, investment bankers, representatives, insurers, trustees, trustors, agents, professionals, spouses, immediate family members, predecessors, successors, assigns, heirs, executors, or administrators, (c) other stockholders (and any of their affiliates) who execute this Agreement, and (d) their respective successors and assigns, (individually, a “Releasee” and collectively, “Releasees”) from any and all claims, demands, losses, rights, obligations, debts, liabilities, and causes of action of any nature whatsoever, whether known or unknown, suspected or unsuspected, direct or derivative, and that
20
have been or could in the future be asserted in any forum, whether foreign or domestic, whether arising under federal, state, common, or foreign law or in equity, which Releasors now have or have ever had or may hereafter have directly or indirectly against any Releasee arising out of, based on, or relating in any way to any transaction with the Company or to their capacity as a stockholder of the Company that has occurred up until and including the date hereof . . . .
Compl. Ex. A at 45-46 (Annex B, § 2.1) (emphases added); see also id. at 46 (Annex
B, §§ 2.2-2.5). Once a stockholder executes and submits the Exchange Offer
Agreement, it cannot “revoke its participation in the Exchange.” Compl. Ex. A at
52 (Annex B, § 9).
To prevent the Exchange Offer from causing them irreparable harm, Plaintiffs
filed (1) a Verified Complaint for Injunctive and Declaratory Relief to enjoin the
coercive, grossly inadequate, and unfair Exchange Offer as an egregious breach of
Defendants’ fiduciary duty of loyalty and as corporate waste, (2) a motion for a TRO
and this supporting brief, and (3) a motion to expedite.
ARGUMENT
I. The Legal Standard For Issuing A TRO.
A TRO “is a special remedy of a short duration designed primarily to prevent
imminent irreparable injury pending a preliminary injunction or final resolution of a
matter.” Sherwood v. Ngon, 2011 WL 6355209, at *6 (Del. Ch.). “To obtain such
an order, a party must demonstrate three things: (i) the existence of a colorable claim,
(ii) the [existence of] irreparable harm . . . if relief is not granted, and (iii) a balancing
21
of hardships favoring the moving party.” Id. (quotations omitted). “When deciding
whether to issue a TRO, the Court’s focus usually is less upon the merits of the
plaintiff’s legal claim than on the relative harm to the various parties if the remedy
is or is not granted.” Id. “Indeed, if imminent irreparable harm exists, the remedy
ought ordinarily to issue unless” “the claim is frivolous,” “granting the remedy
would cause greater harm than denying it,” or “the plaintiff has contributed in some
way to the emergency nature of the need for relief.” Id. (quotations omitted).
Here, a TRO is proper because PFM asserts colorable claims against
Defendants, PFM will be irreparably harmed if the Exchange Offer is permitted to
close, and the irreparable harm PFM will suffer outweighs any harm to Defendants
if the Exchange Offer is temporarily enjoined.
II. Plaintiffs Assert Colorable Claims That Defendants Breached Their Fiduciary Duty Of Loyalty And Committed Waste.
A “colorable claim” is one “that is not frivolous” and “has some possibility of
succeeding on the merits.” True North Commc’ns Inc. v. Publicis S.A., 1997 WL
33173290, at *1 (Del. Ch.). A colorable claims exists so long as a court can “simply
acknowledg[e] that it is a close question and . . . that there are strong arguments that
can be advanced on both sides of the issue.” Id. (plaintiff asserted colorable claim
where parties reasonably disputed “the proper interpretation” of language in an
agreement).
22
Here, Plaintiffs’ claims that Defendants breached their duties of loyalty and
committed corporate waste are colorable because the self-interested Exchange Offer
seeks to penalize PFM for exercising its rights against the Fraud Action Defendants
and insulates Defendants from liability for their wrongful conduct, conferring on
them a substantial personal benefit without adequate consideration.
A. Plaintiffs Allege A Colorable Claim For Breach Of The Duty Of Loyalty.
“Directors of a Delaware corporation owe two fiduciary duties—care and
loyalty.” In re Orchard Enters., Inc. Stockholder Litig., 88 A.3d 1, 32 (Del. Ch.
2014). “The duty of loyalty includes a requirement to act in good faith, which is a
subsidiary element, i.e., a condition, of the fundamental duty of loyalty.” Id. at 32-
33 (quotations omitted). “A plaintiff can call into question a director’s loyalty by
showing that the director was interested in the transaction under consideration or not
independent of someone who was,” or “that the director failed to pursue the best
interests of the corporation and its stockholders and therefore failed to act in good
faith.” Id. at 33. “The duty of loyalty mandates that the best interest of the
corporation and its shareholders takes precedence over any interest possessed by a
director, officer or controlling shareholder and not shared by the stockholders
generally.” Id. (alteration and quotations omitted). A “‘bad faith’ transaction [i]s
one ‘that is authorized for some purpose other than a genuine attempt to advance
corporate welfare or is known to constitute a violation of applicable positive law.’”
23
Id. at 33 n.17 (quoting Gagliardi v. TriFoods Int’l, Inc., 683 A.2d 1049, 1051 n.2
(Del. Ch. 1996)).
Here, Defendants violated their duty of loyalty by acting in bad faith. The
compelling evidence in the Fraud Action, described in detail above and in the
Complaint (Compl. ¶ 47), demonstrates Holmes’s motive to shield herself, Balwani,
and others from liability for their wrongdoing and to punish PFM. See Jeter v.
RevolutionWear, Inc., 2016 WL 3947951, at *13 (Del. Ch.) (denying motion to
dismiss claims for breach of fiduciary duties where Derek Jeter, “while acting as a
fiduciary to the Company, made statements that were knowingly false and caused
investors to invest in the Company”).
Faced with mounting evidence against her, Holmes exercised her nearly 99%
voting control and overwhelming influence such that the Board approved the
Exchange Offer—all in order to deprive PFM of its ability to collect on any judgment
rendered in the Fraud Action and to shield herself, current and former executives
and employees, and current and former board members from liability. See Desert
Equities, Inc. v. Morgan Stanley Leveraged Equity Fund, II, L.P., 624 A.2d 1199,
1202 (Del. 1993) (reversing order granting motion to dismiss claims for breach of
fiduciary duty and good faith and fair dealing where plaintiff alleged that general
partner of the defendant, an investment fund, excluded plaintiff from certain
24
investment opportunities in bad faith and in retaliation for plaintiff filing a suit
regarding a related fund).2
Coupled with the rampant fraud discussed above, the substantial personal
benefit conferred on Holmes and the Board under the Exchange Offer also supports
a finding of bad faith. See Ryan v. Gifford, 918 A.2d 341, 358 (Del. Ch. 2007) (“the
intentional violation of a shareholder approved stock option plan, coupled with
fraudulent disclosures regarding the directors’ purported compliance with that plan,
constitute conduct that is disloyal to the corporation and is therefore an act in bad
faith”). Under the Exchange Offer, Defendants stand to reap great personal gain and
extract substantial cost from the stockholders to whom they owe fiduciary duties of
loyalty—all while subordinating PFM. To gain such an enhanced liquidation
preference, preferred stockholders must execute a broad general release that “fully,
finally, and forever waives, releases, relinquishes, and discharges” Holmes,
2 This Court has a rich tradition of scrutinizing deal structures deliberately designed to prejudice the ability of a stockholder-plaintiff to prosecute its claims. See, e.g., Lewis v. Ward, 852 A.2d 896, 905 (Del. 2004); Lewis v. Anderson, 477 A.2d 1040, 1047 n.10 (Del. 1984); Schreiber v. Carney, 447 A.2d 17, 24 (Del. Ch. 1982); Condec Corp. v. Lunkenheimer Co., 230 A.2d 769, 775 (Del. Ch. 1967) (“corporate machinery may not be manipulated so as to injure minority stockholders.”). The only rational conclusion one can draw from the Exchange Offer’s coercive terms and timing is that Holmes structured this deal to prejudice PFM by forcing it to either give up its claims or risk a pyrrhic victory.
25
Balwani, the Board, and others from liability for their fraudulent or otherwise
unlawful conduct. Compl. Ex. A at 45 (Annex B, § 2.1).
Moreover, the Exchange Offer’s timing is particularly problematic in light of
the fact that the Fraud Action is going to trial in June and Theranos is burning
through cash at an alarming rate. Indeed, Defendants have tendered the Exchange
Offer such that it will close just before Plaintiffs are scheduled to depose Holmes,
Balwani, and other key figures in the Fraud Action. The Exchange Offer is thus
especially advantageous to the Fraud Action Defendants and other witnesses, two of
whom are among the group of four that authorized this offer. Considered in context,
this timing alone suggests a breach of Defendants’ fiduciary duties.3 See Jedwab v.
MGM Grand Hotels, Inc., 509 A.2d 584, 599 (Del. Ch. 1986) (“The timing of such
a transaction, we have been authoritatively reminded, may be such as to constitute a
breach of a fiduciary’s duty to deal fairly with minority shareholders.”) (citing
Weinberger v. UOP, Inc., 457 A.2d 701 (Del. 1983)).
3 PFM and Defendants know that these depositions could have substantial implications not only for the Fraud Action but also for the ongoing investigations by the Department of Justice and the Securities and Exchange Commission. Yet this is likely unknown to other stockholders presented with the Exchange Offer. Aside from a brief disclosure that the discovery period in the Fraud Action closes in early May 2017, the Exchange Offer fails to disclose that these depositions are scheduled or that unless PFM agrees to the Exchange Offer, Holmes, Balwani, and others will be deposed.
26
If the Exchange Offer is permitted to close before trial in the Fraud Action,
PFM will end up with a substantially decreased liquidation preference, making it
virtually impossible to collect any judgment it obtains in the Fraud Action. See AC
Acquisitions Corp. v. Anderson, Clayton & Co., 519 A.2d 103, 115 (Del. Ch. 1986)
(“Having concluded that the effect of the particular timing of the Company
Transaction will be to deprive shareholders of an option that may as likely as not be
the more attractive alternative to a majority of them, I conclude, considering all of
the surrounding circumstances, that the action is unlikely to be sustained as fair to
shareholders.”).
In AC Acquisitions Corp., the Court enjoined a defensive self-tender offer
that, due in part to its timing, put stockholders in a coercive double-bind and thus
was “likely to be found to constitute a breach of a duty of loyalty.” 519 A.2d at 114.
The Court concluded “that no rational shareholder could afford not to tender into the
Company’s self-tender offer” because “a current shareholder who elects not to
tender into the self-tender is very likely, upon consummation of the Company
Transaction, to experience a substantial loss in market value of his holdings” and
“[t]he only way, within the confines of the Company Transaction, that a shareholder
can protect himself from such an immediate financial loss, is to tender into the self-
tender so that he receives his pro rata share of the cash distribution that will, in part,
cause the expected fall in the market price of the Company’s stock.” Id. at 113-14.
27
Here, as in AC Acquisitions Corp., the Company’s Exchange Offer provides
investors with no reasonable choice between relinquishing their liquidation
preference and releasing their claims against Defendants for their prior wrongdoing.
Indeed, as the Exchange Offer materials explicitly warn:
If you do not participate in the Exchange and we have insufficient cash and other collateral to pay all or any amounts due or owing to any of our creditors and all holders of New Preferred, or the Series C-1B* Preferred Stock or Series C-2A* Preferred Stock, as applicable, in a liquidation event, then your existing shares of Series C-1 Preferred Stock and Series C-2 Preferred Stock may have little or no value.
Compl. Ex. A at 164 (Annex G-3) (emphases added).
For PFM in particular, this purported choice, which would require it to dismiss
its Fraud Action, is particularly coercive. As discussed above, the evidence obtained
in the Fraud Action demonstrates that Theranos, Holmes, and Balwani fraudulently
induced PFM to invest in the Company and fraudulently concealed critical
information from PFM about the Company. Yet, if PFM refuses to participate in the
Exchange Offer and maintains its Fraud Action, PFM will lose its liquidation
preference to the Company’s dwindling assets and will be unable to enforce any
judgment it obtains. If, on the other hand, PFM signs the Exchange Offer Agreement
to retain its present liquidation preference, then it must dismiss the Fraud Action and
forgo the possibility of achieving the relief it seeks.
Accordingly, the Exchange Offer is a brazen attempt by Holmes and her
fellow directors to prevent PFM from collecting on any judgment it obtains in the
28
Fraud Action and to immunize the Company and its officers and directors from past
fraudulent acts without adequate disclosure. Indeed, it is unclear whether Bonanni,
Foege, or Warmenhoven are even aware of the evidence being uncovered in the
Fraud Action. Plaintiffs’ claim that Defendants breached the duty of loyalty is
therefore colorable.
B. Plaintiffs Allege A Colorable Claim For Waste.
Directors are liable for corporate waste “when they authorize an exchange that
is so one sided that no business person of ordinary, sound judgment could conclude
that the corporation has received adequate consideration.” Glazer v. Zapata Corp.,
658 A.2d 176, 183 (Del. Ch. 1993). For example, in In re Citigroup Inc. Shareholder
Derivative Litigation, 964 A.2d 106, 111-12, 138 (Del. Ch. 2009), the Court denied
a motion to dismiss a corporate waste claim involving a letter agreement “approving
a multi-million dollar payment and benefit package” for Citigroup’s retiring CEO in
exchange for the CEO signing “a non-compete agreement, a non-disparagement
agreement, a non-solicitation agreement, and a release of claims against the
Company.” Id. The Court allowed this claim to proceed in light of the plaintiffs’
allegations that approving such a “compensation package to a departing CEO whose
29
failures as CEO were allegedly responsible, in part, for billions of dollars of losses
at Citigroup” constituted waste.
Here, too, Defendants committed corporate waste by approving a transaction
that benefits themselves, and not the Company. As this Court has explained, “most
transactions that actually involve waste are almost [always] found to have been
inspired by some form of conflicting self-interest. The doctrine of waste, however,
allows a plaintiff to pass go at the complaint stage even when the motivations for a
transaction are unclear by pointing to economic terms so one-sided as to create an
inference that no person acting in good faith pursuit of the corporation’s interests
could have approved the terms.” Sample v. Morgan, 914 A.2d 647, 670 (Del. Ch.
2007). Holmes in particular stands to receive a significant benefit for obtaining the
broad release contained in the Exchange Offer Agreement, given that she faces
substantial liability in the Fraud Action for repeatedly lying to Plaintiffs about the
Company. Because the Company has not been adequately compensated for this
handout to Holmes—not to mention the other directors, officers, and employees who
stand to reap the benefits of the self-interested Exchange Offer release—Plaintiffs
have alleged a colorable claim of corporate waste. See Citigroup Inc., 964 A.2d at
138; Lewis v. Vogelstein, 699 A.2d 327, 336-39 (Del. Ch. 1997) (allowing waste
claim to proceed where company provided annual grants to directors of up to 10,000
options and a one-time grant of 15,000 options exercisable immediately with a
30
present value of as much as $180,000 per director); Sample, 914 A.2d at 652-53 (“If
giving away nearly a third of the voting and cash flow rights of a public company
for $200 in order to retain managers who ardently desired to become firmly
entrenched just where they were does not raise a pleading-stage inference of waste,
it is difficult to imagine what would.”).
III. The Exchange Offer Is Subject To The Entire Fairness Test, Which Defendants Cannot Satisfy.
A. Entire Fairness Applies To The Exchange Offer.
Delaware law subjects a transaction to an “entire fairness” review “to protect
the rights of the shareholders to make a voluntary choice.” In re Siliconix Inc.
S’holders Litig., 2001 WL 716787, at *6 (Del. Ch.). A tender offer may be
considered involuntary, and thus subject to the entire fairness test, if “coercion is
present, or [if] there is ‘materially false or misleading disclosures made to
shareholders in connection with the offer.’” Solomon v. Pathe Commc’ns Corp.,
672 A.2d 35, 39 (Del. 1996) (quoting Eisenberg v. Chi. Milwaukee Corp., 537 A.2d
1051, 1056 (Del. Ch. 1987)); see also Joseph v. Shell Oil Co., 482 A.2d 335, 341
(Del. Ch. 1984) (finding majority shareholder’s failure to disclose material
information to minority shareholders in tender offer “structures the offer in such a
31
way as to result in an unfair price being offered and the disclosures are unlikely to
call the unwary stockholder’s attention to the unfairness”).
A tender offer is “coercive if the tendering shareholders are wrongfully
induced by some act of the defendant to sell their shares for reasons unrelated to the
economic merits of the sale.” Siliconix, 2001 WL 716787, at *15 (quotations
omitted). A tender offer will also be considered “coercive” and subject to entire
fairness review if the offer resulted from breaches of fiduciary duty or other bad acts.
See Solar Cells, Inc. v. True N. Partners, LLC, 2002 WL 749163, at *4 (Del. Ch.)
(preliminarily enjoining proposed merger and holding that defendants’ bad faith and
breaches of fiduciary duty triggered an entire fairness test); Solomon v. Armstrong,
747 A.2d 1098, 1112-13 (Del. Ch. 1999) (holding that when a party has sufficiently
alleged lack of care or loyalty, the court should review the proposed transaction
under “entire fairness’s strict scrutiny”).
“The entire fairness test helps uncover situations where facially independent
and disinterested directors have failed to act loyally and in good faith to protect the
interests of the corporation and the stockholders as a whole and instead have given
in to or favored the interests of the controller.” In re Orchard, 88 A.3d at 37. The
test applies, for example, “when a plaintiff challenges a transaction between the
corporation and its majority stockholder where the majority stockholder has not
sufficiently disabled itself from exercising influence during the negotiation and
32
approval of the transaction at both the board and the stockholder levels.” Id. at 34.
Thus, “[a] plaintiff can call into question a director’s loyalty by showing that the
director was interested in the transaction under consideration or not independent of
someone who was.” Id. at 33.
Here, entire fairness applies because Holmes—the controlling stockholder
with 99% voting power, CEO, and Chairman of the Board—played an active role in
devising, negotiating, and obtaining approval of the Exchange Offer while also
standing to benefit from its consummation as one of the Fraud Action Defendants.
As the Exchange Offer materials themselves admit, “Holmes has the ability to
influence management and the conduct of [the Company’s] affairs as a result of her
position as [its] CEO, as a member of [its] board of directors and with her ability to
appoint a majority of [its] board of directors.” Compl. Ex. A at 161 (Annex G-1).
The Exchange Offer also directly benefits Holmes’s fellow directors.
Moreover, as demonstrated above, entire fairness review applies because
Holmes and her fellow board members acted in bad faith. See, e.g., Solar Cells,
2002 WL 749163, at *1-4 (when a fiduciary acts in bad faith and violates its
fiduciary duties in connection with a transaction, the challenged transaction is
subject to the entire fairness test). In Solar Cells, the Court found it necessary to
apply entire fairness scrutiny to a proposed merger in which one company, First
Solar, would merge into a wholly owned subsidiary of another, True North, resulting
33
in a dilution of the plaintiff-stockholder’s (Solar Cells) ownership from 50% to 5%.
Solar Cells, 2002 WL 749163, at *1-4. Although Solar Cells owned 50% of the
company, it only controlled two members of the Board of Managers, whereas True
North controlled three members. When the full Board met on March 6, 2002, “the
True North Managers made no mention of the planned merger,” yet they met the
very next day and approved the merger. Id. at *4. Notably, “[n]o effort was made
to inform the Solar Cells Managers that this action was contemplated, or imminent,
when those facts were surely known at the time of the March 6 meeting.” Id.
Instead, they were given notice of the merger, which was “presented as a fait
accompli” just “a week before [its] consummation. Id. Because these “actions [did]
not appear to be those of fiduciaries acting in good faith,” the Court concluded that
it was “likely . . . that the defendants would be required to show the entire fairness
of the proposed merger.” Id.
Similarly, in Eisenberg, the Court issued a preliminary injunction against a
tender offer that the plaintiffs argued violated the duty of loyalty because it
impermissibly coerced preferred stockholders to tender their shares by threatening
to delist the shares from the New York Stock Exchange—a step that would
“adversely affect the interests of the nontendering Preferred shareholders.”
Eisenberg, 537 A.2d at 1061-62. Because “[t]he only apparent purpose of such a
disclosure would be to induce shareholders to tender,” the Court concluded “that the
34
Offer is inequitably coercive.” Id.; see also In re Pure Res. Inc. S’holders Litig., 808
A.2d 421, 438 n.26 (Del. Ch. 2002) (holding an offer is coercive where its “back-
end is so unattractive as to induce tendering at an inadequate price to avoid a worse
fate”).
Here, too, Defendants have acted in bad faith and violated their fiduciary duty
of loyalty. Like the True North managers in Solar Cells, Defendants negotiated the
Exchange Offer in secret and did not disclose the offer to PFM until the last minute.
And, as in Eisenberg, Defendants have sent a clear signal to minority stockholders
like Plaintiffs that refusing to participate in the exchange—that is, refusing to waive
any and all claims against the Defendants for their misconduct—will substantially
reduce their liquidation preference. This is a particularly valuable attribute of
Plaintiffs’ preferred stock given the Company’s precarious financial status and
potentially looming bankruptcy.
Thus, because Defendants breached their duty of loyalty in devising and
approving the Exchange Offer, it must survive “Delaware’s most onerous standard
of review”—“entire fairness.” In re Orchard, 88 A.3d at 34. It cannot.
B. The Exchange Offer Does Not Survive Entire Fairness Scrutiny.
There are two aspects to the entire fairness test: fair dealing and fair price.
“However, the test for fairness is not a bifurcated one as between fair dealing and
price. All aspects of the issue must be examined as a whole since the question is one
35
of entire fairness.” Weinberger, 457 A.2d at 711. The concept of fair dealing
“embraces questions of when the transaction was timed, how it was initiated,
structured, negotiated, disclosed to the directors, and how the approvals of the
directors and the stockholders were obtained.” Emerald Partners v. Berlin, 787 A.2d
85, 97 (Del. 2001) (citations omitted); see also Solar Cells, 2002 WL 749163, at *5
(“Fair dealing pertains to the process by which the transaction was approved and
looks at the terms, structure, and timing of the transaction.”). “Part of fair dealing is
the obvious duty of candor,” and “one possessing superior knowledge may not
mislead any stockholder by use of corporate information to which the latter is not
privy.” Weinberger, 457 A.2d at 711 (citations omitted). This duty applies to
officers and directors, as well as to those who “are privy to matters of interest or
significance to their company.” Id. (citations omitted).
In a transaction where a majority stockholder conceals critical information
from minority stockholders, the transaction will not satisfy entire fairness. See
Weinberger, 457 A.2d at 712 (holding that merger did not meet “any reasonable test
of fairness” where majority shareholder concealed feasibility study from
independent directors and firm rendering fairness opinion and denied minority
shareholders information concerning the true value of their shares); see also Solar
Cells, 2002 WL 749163, at *4-5.
36
In Solar Cells, the Court found “a reasonable likelihood that defendants
w[ould] not be able to establish that the proposed merger was the result of fair
dealing” where the controlling managers had secretly negotiated the merger to dilute
Solar Cells’ voting power in the company. 2002 WL 749163, at *5. The defendants
argued that the merger was fair to Solar Cells because it “retain[ed] voting rights in
the surviving company.” Id. But on matters where the unit-holders could vote, Solar
Cells was diluted from an equal voice to only 5%, and True North retained “complete
control over the managing board and any other decision requiring the vote of unit-
holders.” Id.
Here, as detailed above, Defendants’ dealing with Plaintiffs has been anything
but “fair.” Moreover, Defendants have withheld critical information from PFM and
have made false and misleading statements concerning the purpose of the Exchange
Offer, the negotiation process that led to it, the Company’s financial outlook, and
the evidence in the Fraud Action—all of which bear on the irrevocable decision of
whether to release Defendants from any and all liability for their prior misdeeds in
exchange for a higher liquidation preference. See Eisenberg, 537 A.2d at 1059
(“Shareholders are entitled to be informed of information in the fiduciaries’
possession that is material to the fairness of the price.”); Shell, 482 A.2d at 341
(where “the disclosures made to the stockholders fail[ ] to clearly and unequivocally
37
disclose that essential and necessary information [has] been withheld by the
appraiser,” the offering price will not meet the “fair price” standard).
Accordingly, the Exchange Offer falls woefully short of satisfying Delaware’s
entire fairness test.
IV. The Coercive And Misleading Exchange Offer Cannot “Cleanse” Defendants’ Egregious Self-Interested Breach Of Fiduciary Duty.
Defendants cannot “cleanse” their conflicted breach of fiduciary duty by
pointing to other stockholders’ expected participation in the Exchange Offer because
the offer is coercive and contains numerous misrepresentations, partial disclosures,
and omissions of material fact. The business judgment rule applies only where a
“transaction not subject to the entire fairness standard is approved by an informed,
voluntary vote of disinterested stockholders.” See Corwin v. KKR Fin. Holdings
LLC, 125 A.3d 304, 311 (Del. 2015); In re Volcano Corp. Stockholder Litig., 143
A.3d 727, 743-45 (Del. Ch. 2016) (applying Corwin to a tender offer). But where
“troubling facts regarding director behavior were not disclosed that would have been
material to a voting stockholder, then the business judgment rule is not invoked.”
Corwin, 125 A.3d at 312. Similarly, the rule is not invoked if stockholders are not
disinterested. See In re Volcano Corp., 143 A.3d at 747 (examining “whether the
38
Volcano stockholders that accepted the Tender Offer were fully informed,
disinterested, and uncoerced”).
The “defendant bears the burden of demonstrating that the stockholders were
fully informed when relying on stockholder approval to cleanse a challenged
transaction.” In re Volcano Corp., 143 A.3d at 748. “Evaluating whether
shareholders are fully-informed as to a particular transaction depends on whether
those stockholders were apprised of all material information related to that
transaction.” Id. (quotations and alterations omitted). “Where a corporation tenders
for its own shares, the exacting duty of disclosure imposed upon corporate
fiduciaries is even ‘more onerous’ . . . because in a self-tender, the disclosures are
unilateral and not counterbalanced by opposing points of view.” Eisenberg, 537
A.2d at 1057; see also id. (“A related reason for requiring the strictest possible
standard of disclosure is that corporate self-tenders, by their very nature, involve
built-in conflicts of interest between the fiduciaries responsible for conducting the
offer and the stockholders to whom the offer is directed.”).
“A fact is material if there is a ‘substantial likelihood’ that its disclosure
‘would have been viewed by the reasonable investor as having significantly altered
the ‘total mix’ of information made available.’” Siliconix, 2001 WL 716787, at *9
(quoting Skeen v. Jo-Ann Stores, Inc., 750 A.2d 1170, 1172 (Del. 2000)); see also
Arnold v. Soc. for Sav. Bancorp., Inc., 650 A.2d 1270, 1277-81 (Del. 1994) (holding
39
that “partial and incomplete disclosure of historical information” regarding vague
discussions of “investigation[s]” of certain transactions in advance of exchange-of-
stock merger was material); Eisenberg, 537 A.2d at 1059 (where “disclosures
relating to [tender offer] price were calculated to, and did, obscure and divert
attention from” the fact that the price was unfair, “the disclosures would clearly be
defective”).
In Pure Resources, the Court enjoined an exchange offer that would have
allowed the controlling shareholder of Pure to acquire the rest of Pure’s shares in
exchange for its own stock, because the Court found that “material information
relevant to the Pure stockholders’ decision-making process ha[d] not been fairly
disclosed.” 808 A.2d at 425. Specifically, Pure had failed to give “a fair summary
of the substantive work performed by the investment bankers upon whose advice the
recommendations of their board as to how to vote on a merger or tender rely.” Id.
at 449. This information was material because “[w]hen controlling stockholders
make tender offers, they have large informational advantages that can only be
imperfectly overcome by the special committee process, which almost invariably
involves directors who are not involved in the day-to-day management of the
subsidiary.” Id. at 450.
Other cases have similarly recognized the importance of disclosing
information regarding the negotiation or approval of corporate transactions. See,
40
e.g., In re Lear Corp. S’holder Litig., 926 A.2d 94, 112 (Del. Ch. 2007) (granting
motion to preliminarily enjoin merger where plaintiffs argued that board breached
fiduciary duty by failing to “disclose the fact that, in late 2006, Lear’s CEO. . .
approached the board expressing a serious concern about whether it was in his best
interest to continue as CEO in light of the financial risks that [it] presented” to him);
In re Emerging Commc’ns, Inc. S’holders Litig., 2004 WL 1305745, at *39 (Del.
Ch.) (finding director violated the fiduciary duty of disclosure by not telling
company’s board that he was purchasing the company for less than he knew it was
worth); Shell, 482 A.2d at 342-43 (enjoining tender offer where offer materials failed
to disclose numerous facts, including recent negative discoveries in oil field,
management’s opinions as to going concern value, and failure to provide investment
bank with the “data necessary to fully and completely evaluate the value of the
probable oil reserves”).
Here, the Exchange Offer is rife with misrepresentations, misleading partial
disclosures, and material omissions regarding its purpose, the negotiation process
that led to it, the Company’s financial outlook, and the extensive evidence of
wrongdoing uncovered in the Fraud Action—all of which bear on the irrevocable
decision of whether to release Defendants and others from any and all liability for
their prior misdeeds in exchange for a higher liquidation preference.
41
Most troubling, the Exchange Offer Agreement seeks to obtain a broad,
general release of any and all liability from preferred stockholders, but the offering
materials utterly fail to disclose the overwhelming evidence of the extensive
fraudulent activity by the Fraud Action Defendants that has come to light. As
detailed above, the testimony elicited from current and former Theranos employees
and directors in the Fraud Action demonstrates that the Fraud Action Defendants
made knowing and intentional misrepresentations and omissions to PFM regarding
(among other things) the capabilities of Theranos’s tests and devices, the status of
the Company’s regulatory approvals, and the Company’s strategic and financial
outlook.
Indeed, PFM has learned in discovery that a presentation it was provided by
the Fraud Action Defendants prior to its investment, which contains slides filled with
material misrepresentations and omissions, was also provided to Theranos Board
members and other holders of Theranos shares. By now, many of these holders have
likely been presented with the Exchange Offer but have no way of knowing that in
pursuit of its own claims, PFM has uncovered evidence of potential fraud against
others as well.
In addition, the offer materials provide scant information about how the
Exchange Offer negotiations came about, their content, or their purpose, apart from
a general assertion that “[c]ertain of the Company’s preferred investors . . . have
42
indicated an interest to participate and exchange their shares of First Series C-1
Preferred, Second Series C-1 Preferred or Series C-2 Preferred in the Exchange.”
Id. at 2 (Information Statement); see Eisenberg, 537 A.2d at 1059 (“The shareholder-
offerees are entitled to an accurate, candid presentation of why the self-tender offer
is being made.”).
The Exchange Offer materials are also silent as to why the Board approved
the offer but takes no position on it. See Eisenberg, 537 A.2d at 1060 (holding that
had certain facts been disclosed about the board of directors’ fairness conclusion,
“shareholders would have been given a more even-handed presentation of the
economic merits of the Offer” and that “[t]he need for such a presentation would
appear even more essential, because the directors had concluded that the Offer was
fair, yet decided not to recommend that their shareholders tender into it”); Sherwood,
2011 WL 6355209, at *7 (proxy supplement inadequately “fail[ed] to disclose the
true reason the board removed [a board member] from the Company’s slate”).
Further, the Exchange Offer’s financial disclosures are inadequate. The offer
materials devote a single page to “Financial Information,” which purports to convey
the Company’s “Financial Position as of December 31, 2016.” Compl. Ex. A at 188
(Annex H). But this chart merely discloses the Company’s “cash position as of
December 31, 2016.” Compl. Ex. A at 12 (Information Statement). The offer
materials also include an Investor Presentation with a “Finance Update” (Compl.
43
Ex. A at 138 (Annex G-1)), but this, too, is woefully deficient and provides scant
information about the Company’s finances apart from a simplistic chart reflecting
the Company’s “2017 Cash Outlook.” Compl. Ex. A at 142 (Annex G-1). Notably,
the materials provide no disclosure as to how that outlook was generated or whether
it was audited or reviewed by an accountant, which is particularly concerning given
that Theranos has never had a permanent Chief Financial Officer and its Controller
was laid off in early 2017. Nor do the offer materials include any balance sheets,
income statements, or similarly robust financial statements that would help
stockholders assess whether to participate in the exchange. See Nagy v. Bistricer,
770 A.2d 43, 51 (Del. Ch. 2000) (faulting directors for “fail[ing] to provide
[plaintiff] with any material financial information regarding [the target companies]
that would enable [plaintiff] to judge whether the Tentative Merger Consideration
was fair”).
These inadequate disclosures are particularly disturbing given that the Fraud
Action Defendants’ misstatements and omissions concerning the Company’s
financial condition played a critical role in their fraudulent inducement of PFM’s
investment. Specifically, in January 2014, when PFM was evaluating a potential
investment in Theranos, Balwani sent PFM financial results from 2013 and
projections for 2014 and 2015 that dramatically overrepresented the Company’s
actual and projected gross profit (to the tune of $25 million, $130 million, and
44
$980 million in 2013, 2014, and 2015, respectively). The Exchange Offer suggests
no change in this pattern of fraudulent conduct.
Thus, the Theranos Board, led by Holmes, has withheld critical information
concerning the purpose of the Exchange Offer, the extensive evidence against the
Fraud Action Defendants, and the fact that individuals scheduled to be deposed in
that action are among the small group that authorized this Exchange Offer. All of
this information is necessary to evaluate the Exchange Offer. Accordingly, because
the Exchange Offer is coercive and materially misleading, and many of the
approving stockholders are not disinterested, Defendants cannot find solace in the
“cleanse” doctrine described in Corwin and Volcano.
V. The Exchange Offer Will Irreparably Harm Plaintiffs.
Plaintiffs will suffer irreparable harm unless this Court temporarily enjoins
Defendants from closing the Exchange Offer. As an initial matter, it is well settled
in Delaware that “the possibility that structural coercion will taint the tendering
process also gives rise . . . to injury sufficient to support an injunction” or TRO.
Pure Resources, 808 A.2d at 452; see also ODS Tech., L.P. v. Marshall, 832 A.2d
1254, 1263 (Del. Ch. 2003); see also Eisenberg, 537 A.2d at 1063 (enjoining
coercive tender offer).
Here, Defendants’ breaches of fiduciary duty are depriving Plaintiffs of the
opportunity to make a voluntary, uncoerced decision as to whether to tender their
45
shares. As the Court held in Eisenberg, permitting such a coercive offer “to go
forward might forever deprive the tendering shareholders of their right to be treated
fairly. In that event the harm could not easily be undone, and given the nature of the
shareholder interests at stake, damages would not be a meaningful or adequate
remedy. Therefore, the threatened harm is irreparable.” Eisenberg, 537 A.2d at
1062 (enjoining tender offer that threatened to delist—and thus drastically reduce
the value of—untendered shares); see also True North, 1997 WL 33173290, at *2-3
(enjoining allegedly “illegal tender offer” until after preliminary injunction hearing
because the “the Court would have no way . . . of changing back and realigning” the
stockholders’ rights, interests, and incentives “the way they were as of today”).
Moreover, there is a substantial likelihood that PFM will not be able to collect
on a judgment if it prevails in the Fraud Action unless the Exchange Offer is
enjoined—thus making illusory any remedy at law. As a result of the Fraud Action
Defendants’ web of lies, Theranos has no revenue, no products, and no customers.
And Defendants have admitted that Theranos is continuing to spend the money it
received from defrauded stockholders, such as PFM, at a monthly rate of
approximately $20 million. If the Exchange Offer is permitted to proceed, PFM’s
ability to collect on any judgment from Theranos will be further constrained because
it will be behind other preferred stockholders in the queue. PFM will lose its
liquidation preference to the Company’s dwindling assets and be unable to enforce
46
any judgment it obtains—particularly if the Company dissolves or declares
bankruptcy before this Court enters judgment in the Fraud Action. In these
circumstances, once the Exchange Offer is consummated, PFM will in all likelihood
be unable to obtain the relief it seeks in the Fraud Action. If, on the other hand, PFM
signs the Exchange Offer Agreement to retain its present liquidation preference, then
it must dismiss the Fraud Action and forgo the possibility of achieving the relief it
seeks.
Moreover, a long line of cases recognizes that a plaintiff suffers irreparable
harm if it shows that the defendant’s looming insolvency is likely to prevent the
plaintiff from collecting on a judgment. See, e.g., Tanimura & Antle, Inc. v. Packed
Fresh Produce, Inc., 222 F.3d 132, 139 (3d Cir. 2000) (“We conclude that an
adequate remedy at law does not exist, and that injunctive relief to prevent
dissipation of [the] trust assets may issue, when it is shown that the trust is being
depleted and the likelihood is great that there will be no funds available to satisfy a
legal judgment against the delinquent buyer.”); Gimbel v. Signal Cos., Inc., 316 A.2d
599, 603 (Del. Ch. 1974) (enjoining consummation of sale because “when the
plaintiff claims . . . a potential damage in the neighborhood of $300,000,000, it is
doubtful that any damage claim against the directors can reasonably be a meaningful
alternative”).
47
The fact that the Exchange Offer Agreement immunizes Defendants from any
liability for their wrongdoing also weighs in favor of finding irreparable harm to
PFM. See Police & Fire Ret. Sys. of the City of Detroit v. Bernal, 2009 WL 1873144,
at * 3 (Del. Ch.) (“[I]njunctive relief may be the only relief reasonably available to
shareholders for certain breaches of fiduciary duty . . . , particularly where the
company has adopted a provision exculpating its directors from personal liability for
monetary damages for breaches of the duty of care.”).
Finally, the fact that this Court would have to unwind the liquidation
preference of participating preferred stockholders—perhaps even after the Company
declares bankruptcy—militates in favor of a finding of irreparable harm. See Police
& Fire Ret. Sys., 2009 WL 1873144, at *2 (“[I]t would be impossible to ‘unscramble
the eggs’ by attempting to unwind the merger once it has been completed.”).
VI. The Balance Of Hardships Favors Plaintiffs.
A balancing of the equities also favors granting Plaintiffs’ motion for a TRO,
as the harm Plaintiffs would suffer from a denial of relief would vastly outweigh any
potential harm to Defendants should such relief be granted. See, e.g., In re Staples,
Inc. S’holders Litig., 792 A.2d 934, 960-61 (Del. Ch. 2001); T. Rowe Price Recovery
Fund, L.P. v. Rubin, 770 A.2d 536, 558-59 (Del. Ch. 2000) (enjoining
implementation of agreements that were an integral part of another company’s plan
to emerge from bankruptcy because, while defendants “are not threatened with any
48
harm by the issuance of the injunction,” plaintiffs, in the absence of a preliminary
injunction, would suffer “substantial, imminent and irreparable harm”).
Here, balancing the hardships favors granting a TRO to prevent Defendants
from consummating the Exchange Offer. If the Exchange Offer is temporarily
enjoined, the potential harm to Defendants is insignificant compared to the harm that
will result to PFM if it loses its liquidation preference and its ability to collect any
judgment obtained in the Fraud Action. See, e.g., Am. Gen. Corp. v. Unitrin, Inc.,
1994 WL 512537, at *6 (Del. Ch.) (granting temporary restraining order because
“the potential injury [defendant] will allegedly suffer lasts only until the preliminary
injunction applications are resolved in a few weeks, while the injury to the Moving
Parties, if no injunction issued, might never be redressed”); Solar Cells, 2002 WL
749163, at *8 (enjoining proposed merger despite defendants’ claims of a forced
sale because “[s]uch a forced sale would adversely affect Solar Cells as well” given
its liquidation position behind defendants). The offer materials do not suggest why,
even if the Exchange Offer does ultimately go forward, it must be now rather than
several months from now. PFM, by contrast, immediately stands to suffer numerous
irreparable injuries from Defendants’ breach of the duty of loyalty and corporate
waste. See Eisenberg, 537 A.2d at 1063 (enjoining tender offer that threatened to
devalue non-tendering stockholders’ shares after balancing the equities).
* * *
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In sum, all relevant factors counsel strongly in favor of temporarily enjoining
consummation of the Exchange Offer.
CONCLUSION
For all of the foregoing reasons, the Court should grant the Motion for a TRO
enjoining Defendants from closing the Exchange Offer set to expire at 5:00 p.m. on
April 14, 2017.
HEYMAN ENERIO GATTUSO & HIRZEL LLP
/s/ Patricia L. Enerio Kurt M. Heyman (# 3054) Patricia L. Enerio (# 3728) Aaron M. Nelson (# 5941) 300 Delaware Avenue, Suite 200 Wilmington, DE 19801 (302) 472-7300 Attorneys for Plaintiffs
OF COUNSEL: GIBSON, DUNN & CRUTCHER LLP Reed Brodsky 200 Park Avenue New York, NY 10166 (212) 351-4000 Winston Y. Chan Matthew S. Kahn Aimee M. Halbert Sarah Cunningham 555 Mission Street, Suite 3000 San Francisco, CA 94105 (415) 393-8200 Dated: April 6, 2017
50
CERTIFICATE OF SERVICE Aaron M. Nelson, Esquire, hereby certifies that on April 11, 2017, copies of
the foregoing Redacted Public Version of Plaintiffs’ Opening Brief in Support of
Their Motion for A Temporary Restraining Order were served electronically upon
the following individuals:
Gregory P. Williams, Esquire Catherine G. Dearlove, Esquire Richards, Layton & Finger, P.A. One Rodney Square 920 North King Street Wilmington, DE 19801
/s/ Aaron M. Nelson Aaron M. Nelson (# 5941)