Tara C. Pakrouh
In a recent order, the Delaware Supreme Court affirmed a Delaware Court of Chancery determination that Lehman Brothers Holdings, Inc. (“Lehman”), acquiesced to an alleged violation of Lehman and Spanish Broadcasting System, Inc.’s (“SBS”) Certificate of Designation (“Certificate”) by remaining silent during the alleged breaches.
At the time the complaint was filed, Plaintiff, Lehman, held a significant block of preferred shares in Defendant’s enterprise, SBS, a Delaware corporation that owns and operates Spanish-language radio and television stations in the United States. Under the Certificate, Lehman was entitled to a 10.75% annual dividend, which was to be paid quarterly. Additionally, the Certificate provided Lehman with certain rights in the event that those dividends were in arrears and unpaid for four consecutive quarters. Specifically, the “Voting Rights Triggering Event” (“VRTE”) provided the preferred stockholder with the right to fill company board seats and limit company debt as long as the dividends remained unpaid and in arrears.
Following the 2008 financial crisis, SBS began a cash preservation program in order to sustain cash flow. As part of its cash preservation plan, SBS publicly announced in 2009 that it would defer issuing cash dividends, except for a one-time yearly issuance made payable on April 15. In 2011, SBS publicly announced plans to purchase a television station that would be financed by the issuance of a promissory note. SBS then publicly announced in 2012 its plans to issue debt as part of a refinancing plan.
Notwirthstanding claims that the VRTE was triggered, Lehman failed to assert its rights under the Certificate—that SBS breached its shareholder contract by failing to distribute preferred-share dividends and that other provisions of the VRTE were triggered. That is, until February 14, 2013. According to the Chancery Court, “the Plaintiffs never voiced an objection, exercised rights available to them upon the happening of a VRTE, or even informed SBS that they believed a VRTE had occurred, until they filed this lawsuit, almost three years later.”
In the suit, the parties disputed a contract provision regarding the interpretation of a VRTE. Specifically, they centered on what constituted four consecutive quarters of nonpayment. Lehman asserted a VRTE occurs when non-payment occurs through four consecutive quarters; SBS argued a VRTE occurs when SBS fails to make four consecutive quarterly dividend payments.
In dismissing Lehman’s claims, the Chancery Court looked to the actions of both parties. It held that, assuming a VRTE did occur, Lehman had constructive knowledge that the board both intended to, and in fact did, incur additional debt. Despite this knowledge, Lehman made no objection but rather stood by and allowed the breach to occur. As such, Lehman acquiesced and was barred from bringing any claims against SBS.
The Chancery Court noted that application of the doctrine of acquiescence was inconsistent at best. Nevertheless, the Chancery Court held that in order for the doctrine to apply, “a defendant must show that (1) the plaintiff remained silent (2) with knowledge of her rights (3) and with the knowledge or expectation that the defendant would likely rely on her silence, (4) the defendant knew of the plaintiff’s silence, and (5) the defendant in fact relied to her detriment on the plaintiff’s silence.”
In applying the law to these particular facts, the Chancery Court found Lehman’s rights existed in publicly available documents and disclosures, and therefore Lehman had constructive knowledge of those rights. Lehman had notice of SBS’s intention to take on additional debt in 2011 and to restructure its debt in 2012. Yet, Lehman remained silent throughout the entire time. SBS relied to its detriment on Lehman’s silence because had SBS known about the alleged VRTE breach it would have acted to avoid committing it or would have taken another course of action.
The Chancery Court concluded with wise advice for substantial investors: they must actively monitor their rights as shareholders. Otherwise setting Lehman’s behavior as a precedent may encourage such investors to passively wait as contract breaches occur, only to raise those issues at a later, and perhaps more opportune, time.
Key stakeholders should heed the Chancery Court’s advice and, through adoption, the Delaware Supreme Court’s advice. Remaining silent or failing to thoroughly perform due diligence when a company makes a corporate decision of consequence may result in a negative effect, as it did here for Lehman.
Tara Pakrouh is the Volume 40 External Managing Editor of the Delaware Journal of Corporate Law. She is a Judicial Intern to The Honorable Mary F. Walrath of the United States Bankruptcy Court for the District of Delaware, and she is in the process of completing the Business Organizations Law Certificate Program.
Suggested Citation: Tara C. Pakrouh, Lehman Brothers Holdings, Inc. v. Spanish Broadcasting Systems, Inc.: Anything You Don’t Say or Do May Be Used Against You, Del. J. Corp. L (Feb. 1, 2015), www.djcl.org/blog.