Delaware’s Most Recent Thinking on the Preferred-Common Conflict

In two recent decisions, the Delaware Court of Chancery addressed the differing rights of preferred and common stockholders in the M&A context. On April 14, 2017, in Frederic Hsu Living Trust v. ODN Holding Corp., the Court refused to dismiss claims that a private equity fund and the directors of one of its portfolio companies breached their fiduciary duties to common stockholders by selling certain of the company’s business lines and assets in order to fund a mandatory redemption of preferred stock. The case, while decided on a limited record in the context of a motion to dismiss, illustrates the primacy—and power—of director duties to holders of common stock as compared to the contractual obligations owed to holders of preferred stock. Separately, on June 7, 2017, in In re Appraisal of GoodCents Holdings, Inc., the Court determined that common stockholders who had received no consideration in a 2015 merger were entitled to a pro rata share of the merger proceeds; in reaching that conclusion, the Court interpreted the company’s certificate of incorporation—which established a liquidation preference for the company’s preferred stockholders—as guaranteeing only a voting right, not a liquidation preference, in the event of a merger. Though the case centered on an issue of contractual interpretation—and its implications are therefore limited—the outcome favored the holders of common stock over the holders of preferred stock.

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