New York Supreme Court Denies Carl Icahn’s Motion for Summary Judgment

In May 2010, minority stockholders of XO Holdings, Inc. (“XO”) brought a class action lawsuit against Carl C. Icahn (the Chairman of XO’s Board), his affiliates and members of the XO Board of directors.  Plaintiffs challenged two transactions which they alleged were the product of a predatory scheme spanning several years by defendant Icahn, to first dilute and ultimately freeze out XO’s minority shareholders and to wrongfully take for his own use and benefit all of XO’s corporate assets including the Company’s net operating losses (“NOLs”) which could be used to offset his tax liability arising from his ownership interest in other companies.

The two challenged transactions ultimately permitted Icahn to acquire 100% of XO’s shares and use of the Company’s NOLs. Plaintiffs alleged that XO minority shareholders suffered damages because their interests were massively diluted and ultimately eliminated by means of defendants’ unfair dealing in violation of their fiduciary duties.

On January 29, 2013, Judge Charles E. Ramos issued an Order substantially denying the defendants’ motion to dismiss and largely upheld the majority of the claims asserted in the class plaintiffs’ sixth amended complaint. In that Order, the Court also denied defendants’ motion for summary judgment in a companion case filed by an individual plaintiff R2 Investments, LDC.

Defendants had argued that the proper standard to be applied to analyzing the challenged transactions is the business judgment rule.  The Court rejected that argument and agreed with Plaintiffs’ view that under Delaware law, the more exacting standard of entire fairness should apply:

“Delaware law clearly provides that ‘[w]hen a transaction involving self-dealing by a controlling shareholder is challenged, the applicable standard of judicial review is entire fairness, with the defendants having the burden of persuasion.’” (Americas Mining Corp. v. Theriault, 51 A3d 1213, 1239 [Del 2012] ).

“[W]hen entire fairness applies, the defendants may shift the burden of persuasion by one of two means: first they may show that the transaction was approved by a well-functioning committee of independent directors; or second, they may show that the transaction was approved by an informed vote of a majority of the minority shareholders” (id. at 1240). “Nevertheless, even when an interested cash-out merger transaction received the informed approval of a majority of minority stockholders or a well-functioning committee of independent directors, an entire fairness analysis is the only proper standard of review” (id.).

The court held that “[t]o obtain the benefit of a burden shifting, the controlling shareholder must do more than establish a perfunctory special committee of outside directors” (id.). Rather, the special committee must “function in a manner which indicates that the controlling shareholder did not dictate the terms of the transaction and that the committee exercised real bargaining power an arms-length” (id.).

“Regardless of where the burden lies, when a controlling shareholder stands on both sides of the transaction the conduct of the parties will be viewed under the more exacting standard of entire fairness as opposed to the more deferential business judgment standard.” (Kahn v. Tremont Corp., 694 A.2d 422, 428 [Del 1997] ).

After reviewing the record in the litigation, the Court determined that “the Plaintiffs have alleged numerous incidents where the Special Committees capitulated to or were limited by Icahn’s demands, including, inter alia, failing to pursue alternative transactions or use those alternatives as leverage in negotiations with Icahn, ignoring the advice of its financial advisers, and allowing Icahn to withhold his financial information from the Special Committees, and consequently, undermine the valuation of the XO NOLs. The resolution of these issues require a trial and testimony from experts and cannot be decided on a motion for summary judgment.”

Abbey Spanier, LLP, located in New York City, is a well-recognized national class action and complex litigation law firm.  As lead counsel in the XO class action, we believe that the Court’s decision is a significant victory for former XO minority shareholders and intend to actively litigate this case through trial.