The Delaware Supreme Court narrowly refined the Revlon analysis in RBC Capital Markets, LLC v. Jervis (“Rural Metro”). The Court found that financial advisors aid and abet a director’s breach of fiduciary duties when they knowingly induce, advise, or assist the board’s breach. The Rural Metro ruling impacts other recent Court of Chancery decisions and offers several fundamental lessons to boards and financial advisors alike.
Over time, the Delaware General Corporation Law (“DGCL”) and Delaware Supreme Court precedent have steadily decreased Revlon’s authority. The General Assembly enacted § 102(b)(7), which, if affirmatively adopted in the corporation’s articles of incorporation, exculpates directors from liability for duty of care violations. If the corporation elects such a provision, plaintiffs must rely upon the director’s non-waivable duty of loyalty to bring a claim. As a result, some opine that Revlon has few remnants left and much of the opinion has been rendered ineffective. Although § 102(b)(7) provisions can exculpate directors, third-party advisors are afforded no similar protection.
On November 30, 2015, the Delaware Supreme Court sitting en banc issued its Rural Metro ruling, which runs 107 pages. In late 2010, a Rural/Metro, Corp. special committee hired RBC Capital Markets, LLC (“RBC”) as a financial advisor to help facilitate the sale of the company. RBC created informational gaps, such as failing to update their valuation of Rural at the time the board made critical decisions. Additionally, the board approved an unreasonable sale process that was proposed by RBC. RBC’s conflict of interest, including possible financing for purchasers of Rural/Metro, further added to these informational gaps.
Rural/Metro agreed to sell its company to a private equity fund. Following the announcement, the stockholders sued Rural/Metro’s board of directors and its two financial advisors for breaching their Revlon duty to maximize the sale price. All defendants except RBC settled before trial.
In order to find the third-party advisor liable for aiding and abetting, the Court required that the third-party advisor knowingly aid the breach; therefore, simply failing to prevent the breach was not enough for advisor liability. The Court held RBC liable for aiding and abetting because: (1) a fiduciary relationship existed between the Rural/Metro board and shareholders, (2) the board breached their fiduciary duties of care and disclosure, (3) RBC knowingly participated in that breach, and (4) damages were proximately caused by the breach.
The Court focused on the third element—RBC’s knowing participation in the breach. Since third-party advisors cannot rely on 102(b)(7) protections, the plaintiffs of an aid and abet case must prove that the third-party acted with scienter. Specifically, the Rural Metro Court held that the third-party must have acted with “knowledge that the conduct advocated or assisted constitutes such a breach.” The Court agreed with the Court of Chancery’s narrow holding: “[i]f the third-party knows that the board is breaching its duty of care and participates in the breach by misleading the board or creating the informational vacuum, then the third-party can be liable for aiding and abetting.”
Although Rural Metro reinforces the expansion of Revlon liability to third parties, financial advisors who disclose conflicts of interest and possible ramifications would likely not face any liability under Rural Metro. RBC’s failure to disclose their conflict of interest directly contributed to the board’s breach of failing to be fully informed and to maximize the company’s sale price. Had RBC disclosed their self-interest and fully disclosed the sale process, they likely would have been shielded from liability. This protection should create an additional incentive for third-party advisors to be completely transparent with their clients. Otherwise, an advisor could be liable for aiding and abetting a subsequent breach by the board of directors.
The Court offered an additional protection to third-party advisors by refusing to adopt the Court of Chancery’s notion that financial advisors function as gatekeepers. In loose language, the Court of Chancery implied that the financial advisors owe a duty to the directors to oversee the sale and acquisition of a company. The Delaware Supreme Court rejected this proposition, stating that the financial advisor relationship is contractual in nature. Boards and financial advisors typically negotiate their arrangements at arms-length; therefore, the boards are free to negotiate with the financial advisor what role, services, and expertise the financial advisor will bring to the company. In the absence of any specialized arrangement, the board of directors retains the oversight function and must oversee the merger or acquisition, and the financial advisor’s responsibility is not expanded beyond rendering candid and transparent advice.
Although the Court’s Rural Metro opinion focuses on the implications for third-party financial advisors, it also offers a few lessons for boards of directors. First, Rural Metro reinforces that Revlon applies when the company commences a sale process. Second, the board must remain adequately informed about the value of the company throughout the entire sale process. Third, boards must attempt discovery of their advisor’s conflicts or at least require that the third-party disclose a potential conflict of interest. Boards of directors, as well as third-party advisors, would do well to heed Rural Metro’s reminders that Revlon is alive and well.
Michael Laukaitis is a second-year law student at Widener University Delaware Law School and a Staff Member on the Delaware Journal of Corporate Law. Michael has experience working in the public sector at the Delaware Department of Justice.
Suggested Citation: Michael Laukaitis, Delaware Supreme Courts Finds Third-Party Advisor Liable for the Board’s Breach, Del. J. Corp. L. (Jan. 18, 2016), www.djcl.org/blog.