Corporate Governance

Grayson v. Imagination Station, Inc: Contract Displaces Fiduciary Duties with Respect to Voting Agreement

By Tracy Taylor

In Grayson v. Imagination Station, Inc., C.A. No. 5051-CC, 2010 WL 3221951 (Del. Ch. Aug. 16, 2010), plaintiff George Grayson ('Grayson') brought an action to enforce a voting agreement between certain directors, the company Imagination Station ('iStation'), and himself, and to void certain transactions entered into between iStation and the Chairman of the Board, defendant Richard Collins ('Collins'). 

Grayson brought three claims:  Count I alleged defendants breached a Voting Agreement ('Agreement') by failing to recognize Doug Kittelson ('Kittelson') as Grayson's second designee to the board of directors, Count II alleged that Collins breached his fiduciary duties by denying Kittelson's status as director and approving the loan transaction, and Count III alleged that defendants violated 8 Del. C. § 141 by agreeing to the loan transaction without the approval of the properly authorized board of directors.  Defendants moved to dismiss Count II and Count III of the complaint. 

In December 2006, iStation recapitalized; as part of this recapitalization, iStation, Grayson, Collins, and Randall Goss entered into a Voting Agreement.  The Agreement provided:

Each of the Parties shall vote or cause to be voted all shares owed by them or over which they have voting control (i) to remove from the Board any director designated by any Party pursuant hereto at the request of such Party, and (ii) to fill any vacancy in the membership of the Board with a designee of the Party whose designee's resignation or removal from the Board caused such vacancy. 

A dispute arose between the parties when, at an annual board meeting in September of 2008, Grayson informed the board that his designated board member had resigned, leading Grayson to move to appoint Kittelson.  The board unanimously approved the motion.  However, five days later, the Company's attorney sent Kittelson an email contesting his appointment. 

The email stated that since the previous board meeting was not a shareholder's meeting, the Agreement did not control.  Instead, Collins believed that iStation's bylaws controlled and it was his right, as Chairman of the Board, to fill the empty board position.  Because Collins did not recognize Kittelson as a member of the board, he demanded that Kittelson remain silent during a telephone board meeting in 2009.  Kittelson refused, and Collins thereafter disconnected the telephone line.  After disconnecting the line, the remaining directors approved a loan transaction between iStation and Collins.

Grayson sued to void the loan transaction, to obtain damages and attorney's fees for breach of the Agreement, and to force Collins to disgorge any benefits received in the loan transaction and to reimburse the company.  Grayson brought three claims. 

Count I alleged that defendants Collins and iStation breached the voting agreement by failing to recognize Kittelson as Grayson's second designee to the board.  Count II alleged that Collins breached his fiduciary duties by denying Kittleson's status as director and approving the interested loan transaction.  Count III alleged that defendants violated 8 Del. C. § 141 by agreeing to the loan transaction without the approval of the properly authorized board of directors. 

Defendants sought to dismiss Count II of the complaint, asserting that the breach of fiduciary duty was duplicative of the breach of contract allegations in Count I.  The court stated that under Delaware law, if a contract claim addresses the alleged wrongdoing by the director, 'any fiduciary duty claim arising out of the same conduct is superfluous.'  In this case, the obligation Grayson sought to enforce arose solely from the Agreement, and not from any fiduciary duty independently owed; therefore, the court found that Count II was duplicative of Count I and dismissed the claim. 

Defendants asserted that Count III of the complaint should be dismissed because it alleged a derivative claim, but Grayson failed to comply with the requirements set forth by Court of Chancery Rule 23.1.  To determine if Count III was a derivative claim, rather than a direct claim, the court applied the test of Tooley v. Donaldson, Lufkin, & Jenrette, Inc., setting forth two deciding factors: (1) who suffered the alleged harm (the shareholder or the corporation); and (2) who would receive the benefit of the remedy.  The court concluded that Count III alleged a direct claim because the alleged violation harmed the shareholders, not the company, and Grayson primarily sought injunctive relief under Claim III. 

Therefore, because Grayson asserted Count III directly, Rule 23.1 did not apply, and the court denied defendants' motion to dismiss Count III for failure to comply with Rule 23.1. 

The primary materials for this case may be found on the DU Corporate Governance website.?

Full post as published by The Race to the Bottom on October 04, 2010 (boomark / email).