Justia.com Opinion Summary: Petitioner, former CEO of Fitracks, sought advancements from Fitracks for attorneys' fees and expenses incurred defending claims in litigation in the underlying action. Aetrex sued petitioner in the underlying action and Aetrex is currently the parent corporation of Fitracks, having acquired Fitracks by triangular merger in 2008. Because Aetrex's claims in the underlying action arose out of representations made by petitioner in his capacity as CEO of Fitracks, petitioner was entitled to advancements for the underlying action. Therefore, summary judgment was granted in favor of petitioner and against Fitracks on the issues of liability for advancements in the underlying action and indemnification for this proceeding.
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IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
NOAM DANENBERG,
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) C.A. No. 6454-VCL
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Petitioner,
v.
FITRACKS, INC.,
Respondent.
MEMORANDUM OPINION
Date Submitted: December 14, 2011
Date Decided: January 3, 2012
Edmond D. Johnson, Bradley W. Voss, PEPPER HAMILTON LLP, Wilmington,
Delaware; Attorneys for Petitioner.
William E. Manning, James D. Taylor, Jr., SAUL EWING LLP, Wilmington, Delaware;
Michael S. Gugig, SAUL EWING LLP, Newark, New Jersey; Attorneys for Respondent.
LASTER, Vice Chancellor.
Petitioner Noam Danenberg formerly served as CEO of Fitracks, Inc., a Delaware
corporation.
Danenberg seeks advancements from Fitracks for attorneys‟ fees and
expenses incurred defending claims in litigation pending before the United States District
Court for the District of Delaware (the “Underlying Action”). Aetrex Worldwide, Inc.
sued Danenberg in the Underlying Action. Aetrex is currently the parent corporation of
Fitracks, having acquired Fitracks by triangular merger in 2008. Because Aetrex‟s claims
in the Underlying Action arise out of representations made by Danenberg in his capacity
as CEO of Fitracks, Danenberg is entitled to advancements for the Underlying Action.
Although originally I was inclined to accept Fitracks‟ representation that Aetrex was not
asserting any claims against Danenberg in his covered capacity, upon further reflection I
reject that representation as inconsistent with the claims Aetrex has pled and contrary to
positions Aetrex has taken in the Underlying Action. Summary judgment is therefore
granted in favor of Danenberg and against Fitracks on the issues of liability for
advancements in the Underlying Action and indemnification for this proceeding.
I.
FACTUAL BACKGROUND
Fitracks owns technology that generates accurate three-dimensional measurements
of a person‟s feet. The measurements facilitate the manufacture and sale of custom
orthotic shoes and inserts. Danenberg founded Fitracks and served as its CEO from 2002
until June 16, 2008.
Aetrex manufactures footwear.
In 2007, Aetrex began negotiating with
Danenberg to acquire Fitracks. The parties‟ negotiations culminated in an agreement and
plan of merger dated May 15, 2008 (the “Merger Agreement”). The merger closed on
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June 16, 2008, with Fitracks emerging from the transaction as a wholly owned subsidiary
of Aetrex. Danenberg‟s corporate roles with Fitracks terminated upon closing.
To bridge a disagreement over value during the merger negotiations, the parties
agreed that Danenberg and other Fitracks equity holders would receive additional
consideration in the form of a continuing interest in Fitracks‟ technology. To implement
this deal term, the Merger Agreement granted Danenberg and fellow Fitracks equity
holders the right to form a new company that would receive an exclusive worldwide
license to develop “Virtual Stores.” This concept envisioned placing booths, stalls, or
kiosks in existing brick-and-mortar locations.
Using Fitracks‟ 3-D measurement
technology, the “Virtual Store” would measure a customer‟s feet and facilitate the
ordering of custom shoes or inserts.
Section 6.03(a) of the Merger Agreement described the deal term as follows:
Prior to the Closing Date, all or some of the Equity Holders
may form a new legal entity beneficially owned by such
Equity Holders (“Newco”) which entity shall be created for
the express purpose of marketing and selling [Aetrex‟s] and
any [Aetrex] Subsidiary‟s . . . products through Virtual
Stores. . . . Newco shall be granted a worldwide exclusive
license (the “Newco License”) pursuant to a license
agreement in a form to be agreed upon by [Aetrex] and
Newco as a result of good faith negotiations prior to the
Closing [of the Aetrex/Fitracks merger]. . . .
Pet‟r‟s Opening Br. App. at A-107 (the “Virtual Store Provision”) (emphasis added). The
closing of the merger was conditioned on reaching agreement on the form of the Newco
License, which I will refer to by its eventual title of “Virtual Store License Agreement.”
Id. at A-112.
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As contemplated by the Virtual Store Provision, the parties worked before closing
on the Virtual Store License Agreement. The final pre-closing draft defined a Virtual
Store as:
a non-shoe store environment (such as a booth, stall or kiosk)
at a fixed site, situated in a location other than at a shopping
mall or shopping center in North America containing an
existing iStep customer (unless Aetrex agrees otherwise in
writing), which contains single or multiple foot-measuring
devices and is intended to function as a promoter and direct
seller of customized footwear products, including, without
limitation, insoles and shoes, but which shall carry no
inventory of shoes and which shall occupy a space of not
more than 150 square feet.
Id. at A-351. By mutual agreement, the parties continued to negotiate the terms of the
Virtual Store License Agreement after closing. Also by mutual agreement, Danenberg
formed Just4Fit, Inc., a Delaware corporation, after closing on September 2, 2008.
Just4Fit is the “Newco” referenced in the Virtual Store Provision, a party to the Virtual
Store License Agreement, and the entity through which Danenberg pursued the Virtual
Store concept.
In March 2009, Aetrex and Just4Fit executed the Virtual Store License
Agreement. The final agreement remained substantially the same as the pre-closing
document.
Most importantly, the operative definition of a Virtual Store remained
functionally unchanged. The only post-closing change was to delete “but which shall
carry no inventory of shoes” and to add a final sentence: “Additionally, the Virtual
Stores shall be permitted to carry a limited fitting inventory in amounts as mutually
agreed upon between the Parties in writing from time to time.” Id. at A-379.
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The Virtual Store License Agreement required that Just4Fit establish certain
numbers of Virtual Stores by certain dates to retain its license. The first benchmark
called for twenty-five Virtual Stores by July 1, 2010. Just4Fit claimed to have met the
benchmark. Aetrex asserted that Just4Fit missed the first benchmark because the stores it
established did not conform to Danenberg‟s representations.
Aetrex consequently
refused to extend Just4Fit‟s license.
In September 2010, Just4Fit filed a complaint in this Court alleging that Aetrex
breached the Virtual Store License Agreement by refusing to extend its license. Aetrex
removed the action to the District Court. Rather than merely counterclaiming for breach
of contract, Aetrex adopted the shock-and-awe strategy of suing Danenberg personally.
In a third-party complaint naming Danenberg, Aetrex asserted counts for fraud, civil
conspiracy, unjust enrichment, and civil violations of the Racketeer Influenced and
Corrupt Organizations Act (“RICO”). Aetrex also sought injunctive relief and to pierce
Just4Fit‟s corporate veil. Aetrex would later dismiss its RICO claim voluntarily after
Danenberg‟s counsel provided precedent showing that the claim was not colorable.
In support of Aetrex‟s various claims against Danenberg, the third-party complaint
alleged as follows:
At various times, Danenberg solicited Aetrex with an idea to
develop a “Virtual Store” concept. This concept was
described by Danenberg to be an elaborate, visibly beautiful,
free-standing, self-sufficient retail setup . . . . Danenberg
provided Aetrex with detailed documents, illustrations,
videos, promotional materials and representations of the
“Virtual Store” he claimed to be developing. (Attached
hereto as Exhibit B are several examples of the many
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representations made to Aetrex and provided by Danenberg
as to the intended appearance . . . of Virtual Stores).
Id. ¶29. The third-party complaint attached artistic renderings of the Virtual Stores
dating from August 2005, nearly three years before the closing of the merger. Id., Ex. B.
The third-party complaint alleged that “[i]n reliance on Danenberg‟s representations
regarding (among other things) the intended purpose and appearance of Virtual Stores,
Aetrex agreed to grant Danenberg a limited license to open Virtual Stores in the form that
Danenberg had represented to Aetrex prior to signing the V[irtual] S[tores] License
Agreement.” Id. ¶41. As discussed above, Aetrex “agreed to grant Danenberg a limited
license” during pre-merger negotiations and memorialized the agreement in the Merger
Agreement itself.
Danenberg moved to dismiss the third-party complaint for lack of personal
jurisdiction. In its March 2011 brief in opposition to the motion to dismiss, Aetrex made
clear that it was relying on Danenberg‟s pre-merger representations.
According to
Aetrex, the Underlying Action involved
a protracted web of deceit perpetrated upon Aetrex by
Just4Fit and its co-conspirators, the Third-Party Defendants,
in an attempt to force Aetrex to grant Just4Fit an exclusive
worldwide license to market the Virtual Store concept. The
deceit started with Danenberg‟s pre-contract fraudulent
misrepresentations to Aetrex regarding what constituted a
Virtual Store.
Pet‟r‟s Answering Br. Ex. A at 1. Aetrex then described its allegations in the third-party
complaint as follows:
Aetrex has alleged that for years Danenberg made false
written and oral representations to Aetrex that were intended
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to, and did, induce Aetrex to enter into the V[irtual] S[tores]
License Agreement . . . . [I]t appears likely that the
Aetrex/Fitracks Delaware merger would not have been
consummated absent Danenberg‟s blatant misrepresentations
of what Virtual Stores were intended to be.
Id. at 9-10. Aetrex thus represented to the District Court that Danenberg had made the
representations on which it was suing “for years” prior to the execution of the Virtual
Store License Agreement in March 2009, which necessarily meant that at least some of
the representations pre-dated the closing of the merger in June 2008. Confirming this
inference, Aetrex represented to the District Court that it relied on Danenberg‟s
representations when entering into the Merger Agreement, such that “it appears likely
that the Aetrex/Fitracks Delaware merger would not have been consummated absent
Danenberg‟s blatant misrepresentations of what Virtual Stores were intended to be.” Id.
In May 2011, Danenberg filed his petition for advancement. The same lawyers
who represented Aetrex in the Underlying Action, who had signed the third-party
complaint, and who had made the representations to the District Court in Aetrex‟s briefs
appeared for Fitracks in the advancement proceeding. In September, the parties crossmoved for summary judgment on liability for advancements in the Underlying Action
and indemnification in this proceeding.
Faced with the reality that their shock-and-awe strategy of suing Danenberg
personally could require Fitracks to advance Danenberg‟s legal fees, the Aetrex/Fitracks
lawyers heroically backpedaled. In briefing on the cross-motions, the Aetrex/Fitracks
lawyers represented to this Court, contrary to their representations to the District Court,
that they were not suing Danenberg for any pre-merger conduct. During the hearing on
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the cross-motions, the Aetrex/Fitracks lawyers repeatedly confirmed this representation.
They further stipulated that Aetrex would not rely on any pre-September 2, 2008
representations in the Underlying Action and that, to the extent that there was any such
reliance, Aetrex would dismiss any claims based on pre-September 2, 2008
representations.
These undertakings had obvious implications for the personal
jurisdiction motion, where Aetrex relied on Danenberg‟s pre-merger and merger-related
representations to obtain jurisdiction.
In reliance on counsel‟s representations, I concluded that Danenberg‟s claim for
advancements was moot. I held that Danenberg was entitled to indemnification for the
fees and expenses incurred in seeking advancements because, although he had not
obtained the advancements themselves, he had succeeded on the merits in eliminating the
litigation threat otherwise giving rise to advancements.
I also indicated that once
Danenberg obtained the resulting dismissal of pre-merger claims in the Underlying
Action (and potentially a dismissal of all claims for lack of personal jurisdiction), he
would have succeeded on the merits with respect to those aspects of the Underlying
Action and could seek indemnification.
I asked the parties to agree on a form of
implementing order.
Despite counsel‟s representations, Aetrex took no action to amend the third-party
complaint. When Danenberg brought the representations made in this proceeding to the
attention of the District Court, Aetrex contended that the representations had no effect on
the Underlying Action or on the motion to dismiss for lack of personal jurisdiction. The
parties also proved unable to agree on a form of implementing order, and they returned
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for a further hearing on December 14, 2011.
At the conclusion of that hearing, I
determined that Aetrex‟s conduct had muddied the waters sufficiently that I would need
to issue this written ruling. To the extent this ruling conflicts in any respect with my
earlier oral ruling, I have reconsidered those aspects of the prior ruling sua sponte.
II.
LEGAL ANALYSIS
Summary judgment is appropriate when the record shows that “there is no genuine
issue as to any material fact and that the moving party is entitled to a judgment as a
matter of law.” Ct. Ch. R. 56(c). Danenberg‟s entitlement to advancements for the
Underlying Action turns on whether the allegations of the third-party complaint fall
within the scope of the advancement right conferred on Danenberg under the Fitracks
bylaws in effect while he served as CEO (the “Bylaws”). See 8 Del. C. § 145(f) & (j).
A.
Danenberg Is Entitled To Advancements For The Underlying Action.
The Bylaws provided Fitracks‟ officers with the right to mandatory
indemnification and advancements. Section 43(a) of the Bylaws provided that Fitracks
“shall indemnify its directors and executive officers . . . to the fullest extent not
prohibited by the Delaware General Corporation Law or any other applicable law . . . .”
Pet‟r‟s Opening Br. App. at A-318. Section 43(a) of the Bylaws further required that
Fitracks
advance to any person who was or is a party . . . to any . . .
proceeding . . . by reason of the fact that he is or was a
director or executive officer[] of the corporation . . . prior to
the final disposition of the proceeding, promptly following
request therefor, all expenses incurred by any director or
executive officer in connection with such proceeding upon
receipt of an undertaking by or on behalf of such person to
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repay said amounts if it should be determined ultimately that
such person is not entitled to be indemnified under this Bylaw
or otherwise.
Id. at A-319.
Under the Bylaws, the right to advancements turns on whether the individual was
named as a defendant “by reason of the fact” that he was a Fitracks‟ officer. “[I]f there is
a nexus or causal connection between any of the underlying proceedings . . . and one‟s
official corporate capacity, those proceedings are „by reason of the fact‟ that one was a
corporate officer, without regard to one‟s motivation for engaging in that conduct.”
Homestore, Inc. v. Tafeen, 888 A.2d 204, 214 (Del. 2005).
The requisite causal
“„connection is established if the corporate powers were used or necessary for the
commission of the alleged misconduct.‟” Zaman v. Amedeo Holdings, Inc., 2008 WL
2168397, at *17 (Del. Ch. May 23, 2008) (quoting Bernstein v. Tractmanager, Inc., 2007
WL 4179088, at *5 (Del. Ch. Nov. 20, 2007)).
After the merger closed on June 16, 2008, Danenberg no longer held any corporate
position at Fitracks. Danenberg‟s entitlement to advancements therefore depends on
whether the third-party complaint sufficiently implicates his pre-closing conduct during
the negotiations of the merger, when he was acting in a covered corporate capacity as
Fitracks‟ CEO.
After initially reviewing the third-party complaint and Aetrex‟s representations to
the District Court, I concluded preliminarily that Aetrex‟s claims related in significant
part to representations made by Danenberg in his corporate capacity during the premerger negotiations. Although the Virtual Store License Agreement ultimately was
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signed post-closing, and although there were some post-closing negotiations over its
terms, I regarded these events as consequences of the core agreement to provide
additional consideration to Danenberg and other Fitracks equity holders in the form of the
Virtual Store Provision. The third-party complaint and Aetrex‟s related representations
to the District Court appeared to recognize that the pivotal event for Aetrex‟s claims was
the execution of the Merger Agreement containing the Virtual Store Provision. But for
that agreement, there would have been no merger, no Virtual Store License Agreement,
and no dispute.
In response to this powerful case for advancements, however, counsel to Fitracks
and Aetrex represented that Aetrex would confine its claims in the Underlying Action to
post-closing representations. Counsel went further and undertook that Aetrex would not
rely on any events pre-dating September 2, 2008, when Just4Fit was formed. Counsel
relied heavily on Xu Hong Bin v. Heckmann Corp., in which this Court accepted a
defendant‟s representation that its claims in an underlying proceeding related only to the
plaintiff‟s post-merger conduct, which was not be covered by the plaintiff‟s advancement
right, and deemed the representation sufficient to moot the plaintiff‟s advancement claim.
See Xu Hong Bin v. Heckmann Corp., 2010 WL 187018, at *2 (Del. Ch. Jan. 8, 2010).
In reliance on the repeated representations and undertakings made by counsel, I
initially followed Xu Hong Bin and treated the advancement claim as moot. Upon further
reflection, and after taking into account what occurred after the hearing, I can no longer
accept those representations. Aetrex declined to amend the third-party complaint in the
Underlying Action to remove any allegations based on pre-merger representations, and
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Aetrex continued to rely on pre-merger conduct to establish jurisdiction over Danenberg
in the Underlying Action. Most importantly, I no longer believe that it is possible at the
advancement stage to parse finely between Danenberg‟s pre- and post-merger conduct.
Consistent with my preliminary inclinations, the claims in Aetrex‟s third-party
complaint necessarily relate in significant part to representations made by Danenberg in
his covered corporate capacity during the pre-merger negotiations. For purposes of
advancements, the limited post-closing negotiations over the Virtual Store License
Agreement represent a continuation of the pre-merger negotiations. Those discussions
flowed out of the Virtual Store Provision, which was the critical agreement between
Danenberg and Aetrex. Danenberg negotiated and obtained that provision in a covered
corporate capacity as CEO of Fitracks. Aetrex confirmed the natural inferences from the
third-party complaint by representing to the District Court that Danenberg made
representations to Aetrex concerning the Virtual Stores “for years” and that Aetrex relied
upon them in entering into the Merger Agreement.
Aetrex cannot disavow its
representations for the limited purpose of avoiding the advancement obligations it
triggered by choosing to sue Danenberg personally.
Danenberg is therefore entitled to advancements for defending against the thirdparty complaint. The allegations regarding Danenberg‟s pre-merger conduct and their
necessary implications underpin the third-party complaint to such a degree that
Danenberg is entitled to advancements for 100% of his fees and expenses for defending
against the Underlying Action. It is not possible at this stage to parse between pre- and
post-merger representations or among causes of action such that a lesser allocation would
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be appropriate. This ruling addresses advancements only. In any eventual dispute over
ultimate indemnification, Fitracks is free to argue for an allocation and consequent
recovery of advancements from Danenberg. See Kaung v. Cole Nat’l Corp., 884 A.2d
500, 509 (Del. 2005) (“Whether a corporate officer has a right to indemnification is a
decision that must necessarily await the outcome of the investigation or litigation.”).
The granting of full advancements to Danenberg does not mean that all of
counsel‟s fees and expenses must be paid by Fitracks. The same law firm represents
other defendants who were named in the third-party complaint. Fitracks only must
advance those fees and expenses that Danenberg‟s counsel would have incurred if
Danenberg were the sole third-party defendant. If a particular defense or litigation
activity benefits multiple third-party defendants, but Danenberg would have raised or
undertaken it himself if he were the sole third-party defendant, then Fitracks must
advance 100% of the related fees and expenses. By contrast, if a particular defense or
litigation activity only partially benefits Danenberg, then counsel must make a good faith
allocation of the amount of fees and expenses that Danenberg would have incurred if he
were the sole third-party defendant. If a defense or litigation activity only benefits thirdparty defendants other than Danenberg, then obviously Fitracks need not advance the
related fees and expenses.
B.
Danenberg Is Entitled To Indemnification For This Action.
Danenberg has been successful on the merits in seeking advancements in this
action. He therefore is entitled to indemnification for the fees and expenses incurred in
this proceeding. See 8 Del. C. § 145(c).
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C.
Further Proceedings
This ruling addresses only liability for advancements and indemnification. It does
not address the amounts. The parties shall confer regarding the fees and expenses that
Danenberg has incurred to date and present any dispute promptly for the Court to resolve.
The parties also shall confer about how to handle future advancement requests, including
(i) time periods for submitting, reviewing, and responding to requests, (ii) a mechanism
for paying undisputed amounts or providing for full payment subject to an escrow or
claw-back, and (iii) procedures for periodically submitting disputes to the Court.
III.
CONCLUSION
Summary judgment is granted for Danenberg for advancement of fees and
expenses incurred in the Underlying Action and for indemnification of fees and expenses
incurred in this proceeding. IT IS SO ORDERED.
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