Unlock document.
This document is partially blurred.
Unlock all pages and 1 million more documents.
Get Access
You Be the Judge: eBay Domestic Holdings, Inc. v. Newmark1
Facts: Defendant, craigslist, Inc. owned the most popular website in the country for classified ads. It
had just two shareholders – Craig Newmark and Jim Buckmaster -- and only 34 employees. eBay, Inc.
was a publicly traded company that operated online auction sites worldwide. It employed over 16,000
people. eBay bought a minority interest in craiglist with the goal of ultimately acquiring the company
or, failing that, learning the “secret sauce” of craigslist’s success. It turned out, though, that craigslist
and eBay were not a good match because they had entirely different cultures and approaches to
business. craigslist focused on enhancing its user community, rather than maximizing its profits or
expanding its business model. In contrast, eBay’s primary focus was to increase profitability and
market share.
Without undergoing any pre-marital discussions in which these divergent goals might have been
revealed, eBay purchased 28.4% of craigslist’s shares. Under the explicit terms of the deal, it had the
right to compete with craigslist. Craig and Jim said that if eBay was able to offer customers a better
experience, then it should be allowed to do so.
As eBay gradually realized that Craig and Jim would never sell out to them, at least in this lifetime, it
launched a competing classifieds website at www.Kijiji.com. In this process, it used nonpublic
information about craigslist that it garnered, without Craig and Jim’s knowledge, from its relationship
with the company. That “betrayal” further inflamed the situation. As other people have discovered,
agreeing in theory to an open marriage is very different from experiencing it in practice. Jim and Craig
were furious about eBay's foray into online classifieds. They asked for a divorce, but eBay refused to
sell its stock.
Craig and Jim, in their role as directors, responded by adopting a Rights Plan that restricted eBay’s
ability to buy more shares of craigslist or sell its existing shares to third parties. They also eliminated
its right to choose one board member. eBay filed suit, alleging that this Rights Plan violated craigslist’s
fiduciary rights to eBay as a minority shareholder.
Issue: Did Craig, Jim and craiglist violate their fiduciary duty to the minority shareholder?
Excerpts from Chancellor Chandler’s Decision: All directors of Delaware corporations are
fiduciaries of the corporations' stockholders. Similarly, controlling stockholders are fiduciaries of their
corporations' minority stockholders.
[In a situation such as this] directors must (1) identify the proper corporate objectives served by their
actions; and (2) justify their actions as reasonable in relationship to those objectives. Thus, the two
main issues I confront are: First, did Jim and Craig properly and reasonably perceive a threat to
craigslist's corporate policy and effectiveness? Second, if they did, is the Rights Plan a proportional
response to that threat?
Jim and Craig contend that they identified a threat to craigslist and its corporate policies that will
materialize after they both die and their craigslist shares are distributed to their heirs. To prevent this
unwanted potential future reality, Jim and Craig have adopted the Rights Plan now so that their vision
of craigslist's culture can bind future fiduciaries and stockholders from beyond the grave. Having given
new meaning to the concept of a "dead-hand pill," Jim and Craig ask this Court to validate their
attempt to use a pill to shape the future of the space-time continuum.
Ultimately, defendants failed to prove that craigslist possesses a palpable, distinctive, and
advantageous culture that sufficiently promotes stockholder value to support the indefinite
implementation of a poison pill. Jim and Craig did not make any serious attempt to prove that the
craigslist culture, which rejects any attempt to further monetize its services, translates into increased
profitability for stockholders.
I am sure that part of the reason craigslist is so popular is because it offers a free service that is also
extremely useful. It may be that offering free classifieds is an essential component of a successful
online classifieds venture. After all, by offering free classifieds, craigslist is able to attract such a large
community of users that real estate brokers in New York City gladly pay fees to list apartment rentals
1 2010 Del. Ch. LEXIS 187 Court of Chancery of Delaware, 2010.
in order to access the vast community of craigslist users. Giving away services to attract business is a
sales tactic, however, not a corporate culture. To the extent business measures like loss-leading
products, money-back coupons, or putting products on sale are cultural artifacts, they reflect the
American capitalist culture, not something unique to craigslist.
The defendants also failed to prove at trial that when adopting the Rights Plan, they concluded in good
faith that there was a sufficient connection between the craigslist "culture" (however amorphous and
intangible it might be) and the promotion of stockholder value. Jim and Craig simply disliked the
possibility that the Grim Reaper someday will catch up with them and that a company like eBay might,
in the future, purchase a controlling interest in craigslist. They considered this possible future state
unpalatable, not because of how it affects the value of the entity for its stockholders, but rather because
of their own personal preferences. Jim and Craig therefore failed to prove at trial that they acted in the
good faith pursuit of a proper corporate purpose when they deployed the Rights Plan.
I personally appreciate and admire Jim's and Craig's desire to be of service to communities. The
corporate form in which craigslist operates, however, is not an appropriate vehicle for purely
philanthropic ends, at least not when there are other stockholders interested in realizing a return on
their investment. If Jim and Craig were the only stockholders affected by their decisions, then there
would be no one to object. eBay, however, holds a significant stake in craigslist, and Jim and Craig's
actions affect others besides themselves.
As long as Jim and Craig have control they can maintain the craigslist "culture" regardless of whether
eBay sells some or all of its shares. The Rights Plan therefore does not have a reasonable connection to
Jim and Craig's professed goal. It therefore falls outside the range of reasonableness.
I rescind the Rights Plan in its entirety.
Question: Chancellor Chandler gives two main reasons why Craig and Jim failed to make their
case. What are they?
Answer: First, they failed to prove that their corporate “culture” promotes stockholder value in any
Additional Case: Michael L. Retzer v. Nancy B. Retzer2
Facts: Mr. Retzer worked long hours to acquire five McDonald's franchises. He owned 1,610 shares of
stock in the close corporation that owned the franchises; his wife had 1,600 shares. Mrs. Retzer was
unfaithful and a profligate spender. The couple divorced.
Issue: What are Mr. Retzer's obligations to Mrs. Retzer as a minority shareholder?
Holding: Because of her adultery, Mrs. Retzer would not be entitled to any alimony. However, she was
entitled to a fair return as a shareholder and Mr. Retzer owed her a fiduciary duty. The court promised
that it would closely scrutinize Mr. Retzer's conduct.
Question: What did Mr. Retzer owe Mrs. Retzer for alimony?
Question: What is Mr. Retzer’s duty to Mrs. Retzer as a shareholder of the company?
Question: Is the result in this case fair?
Answer: Although students often begin by saying that the case is not fair, they ultimately
2 578 So. 2d 580, 1990 Miss. LEXIS 858 Supreme Court of Mississippi, 1990.
Example: The Sinven Case3
Sinclair Oil owned 97 percent of Sinven. Sinven's minority shareholders complained that Sinclair:
Forced Sinven to pay dividends so large that the subsidiary faced bankruptcy,
Hired other, wholly owned subsidiaries but not Sinven, and
Refused to force its other subsidiaries to abide by their contracts with Sinven. For instance, a
Sinclair subsidiary signed a contract with Sinven to buy crude oil but failed to purchase the
required amount.
Question: Was it fair for Sinclair to force Sinven to pay dividends so large that it faced bankruptcy?
Question: Was it fair for Sinclair to hire other, wholly owned subsidiaries rather than Sinven?
Question: Was it fair for Sinclair not to force its other subsidiaries to abide by their contracts with
Sinven?
Enforcing Shareholder Rights
Shareholders in serious conflict with management have two different mechanisms for enforcing their
rights: a derivative lawsuit or a direct lawsuit.
Derivative Lawsuits
Shareholders bring a derivative lawsuit to remedy a wrong to the corporation. The suit is brought in the
name of the corporation and all proceeds of the litigation go to the corporation.
Additional Case: In re eBay, Inc. Shareholder Litigation4
Facts: Pierre M. Omidyar and Jeffrey Skoll founded eBay, Inc. a company that hosts an online auction
site. Later, Robert C. Kagle and Margaret C. Whitman joined the eBay board. Whitman also became
President and CEO. Goldman Sachs Group Inc. twice served as lead underwriter when eBay sold
shares to the public. Then Whitman became a director of Goldman. Afterwards, Goldman served as
eBay’s financial advisor when it acquired PayPal, Inc.
During this period in which Goldman engaged in three major transactions with eBay, the
investment bank also served as underwriter for a substantial number of technology companies that
went public. Many investors wanted to buy stock in these initial public offerings (IPOs) because an
immediate and large profit was virtually guaranteed. Often stock prices doubled or tripled on the day of
the offering. Goldman allowed Omidyar, Skoll, Kagle, and Whitman, all directors of eBay, to buy
shares in hundreds of its IPOs, effectively giving them millions of dollars in profits. The following
chart reveals the percentage of eBay shares that each director owned and the number of Goldman IPOs
in which he or she was allowed to invest:
3 Sinclair Oil Corp. v. Levien, 280 A.2d 717, 1971 Del. LEXIS 225 Supreme Court of Delaware, 1971.
4 2004 Del. Ch. LEXIS 4 Court of Chancery of Delaware, 2004.
In each case, the eBay directors sold the stock immediately for millions of dollars in total profit.
eBay shareholders sued, alleging that Goldman had effectively bribed the defendants to continue
giving business to the bank. The lawsuit was brought as a derivative action in the name of eBay. The
plaintiffs alleged that demand was futile because the directors had a conflict of interest.
eBay’s board of directors had seven members: Omidyar, Kagle, Whitman, Philippe Bourguignon,
Scott D. Cook, Dawn G. Lepore, and Howard D. Schultz. (At the time of the lawsuit, Skoll was no
longer a director.) The court determined that the three defendants had a conflict of interest because they
were the targets of the lawsuit. It was obvious they would not vote for eBay to pursue the litigation. If
one of the remaining four directors also had a conflict, then that would constitute a majority and
demand would be excused. The shareholders could then proceed with the lawsuit.
Issue: Did a majority of the board of directors have a conflict of interest? Was demand on the board
futile?
Holding: Judgment for the shareholders.
Excerpts from Chancellor Chandler’s Decision: Plaintiffs allege that Cook, Lepore, Schultz, and
Bourguignon have received huge financial benefits as a result of their positions as eBay directors and,
furthermore, that they owe their positions on the board to Omidyar, Whitman, Kagle, and Skoll.
[I]n 1998, when Cook joined eBay’s board, it awarded him 900,000 [stock] options. In 1998, eBay
adopted a director’s stock option plan pursuant to which each non-employee director was to be
awarded 30,000 options each year. [T]he stock options are worth potentially millions of dollars.
I need not address each of the four outside directors, as I agree with plaintiffs that the allegations
of the complaint are sufficient to raise a reasonable doubt as to Cook’s independence from the eBay
insider directors who accepted Goldman Sachs’ IPO allocations.
First, Whitman, Omidyar, Kagle, and Skoll (and their affiliates) own about one-half of eBay’s
outstanding common stock. As a result, these eBay officers and directors effectively have the ability to
control eBay and to direct its affairs and business, including the election of directors and the approval
of significant corporate transactions.
Second, a significant number of options have not yet vested and will never vest unless the outside
directors remain directors of eBay. [“Vested” means that the owner is allowed to keep the options, even
if he leaves the company.] Given that the value of the options for Cook (and allegedly for the other
outside directors) potentially run into the millions of dollars, one cannot conclude realistically that
Cook would be able to objectively and impartially consider a demand to bring litigation against those
to whom he is beholden for his current position and future position on eBay’s board. With the specific
allegations of the complaint in mind, I conclude that plaintiffs have adequately demonstrated that
demand on eBay’s board should be excused as futile.
Update: Meg Whitman and the two other company officials agreed to pay $3 million to settle this suit.
Question: What is a derivative suit?
Question: Why would anyone want to do that?
Question: Why can't they simply file a direct lawsuit?
Answer: The theory is that, if the corporation is injured, all shareholders suffer the same injury
Question: Why would any shareholder file suit if recovery goes to the corporation?
Answer: If the corporation loses, it must pay the legal fees of the victorious plaintiffs. Most
Question: Are there any circumstances under which a shareholder can bring a direct action against
the company?
Answer: Only if the shareholder has some “special injury.” This means that either:
Question: Can you give an example?
Answer:
Question: Could the shareholders have filed a direct lawsuit in this case?
Question: What was the injury to the corporation?
Question: Did they make money?
Question: How did this harm eBay?
Question: What did the court hold?
Question: What happened next?
Question: Some of the defendants in this case were billionaires. Why would they take stock from
Goldman?
Direct Lawsuits
Shareholders are permitted to sue the corporation directly only if their own rights have been harmed.
Multiple Choice Questions
1. CPA QUESTION Generally, a corporation’s articles of incorporation must include all of the
following except the:
(a) Name of the corporation’s registered agent
(b) Name of each incorporator
(c) Number of authorized shares
(d) Quorum requirements
2. CPA QUESTION A corporate stockholder is entitled to which of the following rights?
(a) Elect officers
(b) Receive annual dividends
(c) Approve dissolution
(d) Prevent corporate borrowing
3. Participating preferred stockholders:
(a) only receive payment after other preferred shareholders have been paid
(b) only receive payment after common shareholders have been paid
(c) are treated like both a preferred shareholder and a common shareholder
(a) receive all their payments before all other shareholders
4. If a manager engages in self-dealing, which of the following answers will NOT protect him from a
finding that he violated the business judgment rule:
(a) The disinterested members of the board approved the transaction
(b) The transaction was of minor importance to the company
(c) The disinterested shareholders approved the transaction
(d) The transaction was entirely fair to the corporation
5. The duty of care:
(a) Is not a requirement of the business judgment rule
(b) Protects directors who make an uninformed decision if it was entirely fair to the company
(c) Protects a decision that has a rational business purpose, even if the activity was illegal
(d) Will not protect directors who make a decision that harms the company
6. The president of R. Hoe & Co., Inc., refused to call a special meeting of the shareholders although
55 percent of them requested it. One purpose of the meeting was to demand that the former
President be reinstated. Do shareholders have the right to make these two requests?
(a) Yes to both.
(b) No to both.
(c) The shareholders have the right to call a meeting but not to reinstate the President.
(d) The shareholders have the right to reinstate the President but not to call a meeting.
7. Under SOX and Dodd-Frank:
(a) Companies are prohibited from making personal loans to directors and officers.
(b) If a company restates its earnings, the five top executives must reimburse the company for any
income they have received during that period.
(c) All directors must be independent.
(d) Shareholders have the right to strike down golden parachutes.
Essay Questions
1. Michael incorporated Erin Homes, Inc., to manufacture mobile homes. He issued himself a stock
certificate for 100 shares for which he made no payment. He and his wife served as officers and
directors of the organization, but, during the eight years of its existence, the corporation held only
one meeting. Erin always had its own checking account, and all proceeds from the sales of mobile
homes were deposited there. It filed federal income tax returns each year, using its own federal
identification number. John and Thelma paid $17,500 to purchase a mobile home from Erin, but the
company never delivered it to them. John and Thelma sued Erin Homes and Michael, individually.
Should the court “pierce the corporate veil” and hold Michael personally liable?
Answer: The appeals court pierced the corporate veil and held the shareholder liable because the
2. You Be the Judge: WRITING PROBLEM Asher and Stephen formed a corporation
named “Ampersand” to produce plays. Both men were employed by the corporation. Stephen
decided to write Philly’s Beat, focusing on the history of rock and roll in Philadelphia. As the play
went into production, however, the two men quarreled over Asher’s repeated absences from work
and the company’s serious financial difficulties. Stephen resigned from Ampersand and formed
another corporation to produce the play. Did the opportunity to produce Philly’s Beat belong to
Ampersand? Argument for Stephen: Ampersand was formed for the purpose of producing plays,
not writing them. When Stephen wrote Philly’s Beat, he was not competing against Ampersand.
Furthermore, Ampersand could not afford to produce the play even if it had had the opportunity.
Argument for Asher: Ampersand was in the business of producing plays, and it wanted Philly’s
Beat. Ampersand was perfectly able to afford the cost of production—until Stephen resigned.
Answer: Producing “Philly’s Beat” was clearly within the scope of Ampersand’s business.
3. Angelica is planning to start a home security business in McGehee, Arkansas. She plans to start
modestly but hopes to expand her business within 5 years to neighboring towns and, perhaps,
within 10 years to neighboring states. Her inclination is to incorporate her business in Delaware. Is
her inclination correct?
4. Eve bought defective ball bearings from Saginaw Corp. Alfred was the sole shareholder of the
company and also its landlord. After Alfred sold all of Saginaw’s assets, he withheld enough money
to cover the rent that Saginaw owed him. As a result, Saginaw had no money to pay Eve. Does Eve
have a claim against Alfred?
Answer: The court ruled that Alfred had engaged in self-dealing, which violated his fiduciary duty
5. Congressional Airlines was highly profitable operating flights between Washington D.C. and New
York City. The directors approved a plan to offer flights from Washington to Boston. This decision
turned out to be a major mistake and the airline ultimately went bankrupt. Under what
circumstances would shareholders be successful in bringing suit against the directors?
Answer: Even if the plan was bad, it met the standard of having a “rational business purpose.”
Discussion Questions
1. States compete for lucrative filing fees by passing corporate statutes that favor management. One
proposed solution to this problem would be a federal system of corporate registration. Is this a
good idea? What are the impediments to such as system?
Answer: It would also solve the problem of qualifying to do business in other states. Under a
2. Ford Motor Co. and TheFacebook, Inc. have both created dual classes of stock so that the founders
can continue to control their company even after it goes public. Should corporate laws permit this?
Should some shareholders be more equal than others? If the founders want to control a company,
why shouldn’t they buy enough regular stock to do so?
3. ETHICS Edgar Bronfman, Jr., dropped out of high school to go to Hollywood, write songs, and
produce movies. Eventually, he left Hollywood to work in the family business—the Bronfmans
owned 36 percent of Seagram Co., a liquor and beverage conglomerate. Promoted to President of
the company at the age of 32, Bronfman seized a second chance to live his dream. Seagram
received 70 percent of its earnings from its 24 percent ownership of DuPont Co. Bronfman sold this
stock at less than market value to purchase (at an inflated price) 80 percent of MCA, a movie and
music company that had been a financial disaster for its prior owners. Some observers thought
Bronfman had gone Hollywood; others that he had gone crazy. After the deal was announced, the
price of Seagram shares fell 18 percent. Was there anything Seagram shareholders could have done
to prevent what to them was not a dream but a nightmare? Apart from legal issues, was Bronfman’s
decision ethical? What ethical obligations did he owe Seagram’s shareholders?
4. Pfizer Inc. paid $2.3 billion to settle civil and criminal charges alleging that it had illegally
marketed 13 of its most important drugs. This settlement made history, but not in a good way. It
was both the largest criminal fine and the largest settlement of civil health care fraud charges ever
paid. Shareholders filed a derivative suit against the Pfizer board and top executives. Defendants
responded with a motion to dismiss on the grounds that shareholders had not made demand on the
board. Is demand necessary?
Answer: The court excused demand because the Complaint alleged "misconduct of such
pervasiveness and magnitude, undertaken in the face of the board's own express formal
5. ETHICS After a recent annual meeting, Cisco Systems reported the results of the votes on both
management and shareholder proposals. The company reported the results of its own proposals as a
simple ratio of those in favor divided by the total number of votes cast. But for shareholder
proposals, it reported the percentage as a ratio of those in favor divided by all outstanding shares.
As a result, it reported the favorable vote for one shareholder proposal as 19% when, in fact, 34%
of the votes cast supported this proposal. Is Cisco behaving ethically?
