BOUCHARD, C.
Plaintiff Dov Charney is the founder and former Chairman and Chief Executive Officer of American Apparel, Inc. (the "Company"). In June 2014, he was suspended from his CEO position. In July 2014, he entered a Nomination, Standstill and Support Agreement (the "Standstill Agreement") and resigned as a director of the Company. In December 2014, Charney was formally terminated as CEO for cause. In May 2015, the Company sued Charney in this Court (C.A. No. 11033-CB) for allegedly breaching the Standstill Agreement (the "Standstill Proceeding").
In this action, Charney seeks to have the Company advance his legal expenses incurred in mounting his defense in the Standstill Proceeding. The parties cross moved for summary judgment over whether Charney is entitled to advancement for the Standstill Proceeding under the Company's charter and his Indemnification Agreement. In this opinion, I conclude that he is not.
The most significant legal issue raised by the cross motions is the meaning of the advancement provision in the Indemnification Agreement, which mandates advancement for events or occurrences "related to the fact" that Charney is or was a director or officer of the Company. For the reasons explained below, I construe this phrase as used in the Indemnification Agreement to be equivalent to the phrase "by reason of the fact" found in Section 145 of the Delaware General Corporation Law, which requires a nexus or causal connection between the claims in the underlying proceeding and one's official corporate capacity to obtain advancement. Construed as such, Charney is not entitled to advancement for the claims asserted in the Standstill Proceeding because none of them implicate his use or abuse of corporate power as a fiduciary of American Apparel.
I also find that, because the Company's charter mandates advancement only for current directors and current officers, Charney is not entitled to advancement under the charter for the additional reason that he was neither a current director nor a current officer when he was sued in the Standstill Proceeding in May 2015.
Plaintiff Dov Charney, a California resident, is the founder and former Chairman and Chief Executive Officer (CEO) of American Apparel, Inc. He is the beneficial owner of approximately 42.3% of the Company. Charney and the Company are parties to an Indemnification Agreement dated as of March 6, 2008 (the "Indemnification Agreement"), and an Employment Agreement effective as of April 1, 2012 (the "Employment Agreement").
Defendant American Apparel, Inc., a Delaware corporation based in Los Angeles, California, is a vertically integrated clothing designer, manufacturer, and retailer.
Non-party Standard General L.P. ("Standard General") is a New York-based investment firm.
Charney contends that, by June 2014, the Company's Chief Financial Officer, John J. Luttrell, and several of the Company's directors had implemented a plan to oust him from American Apparel. The Company vigorously denies these allegations, the truth of which is not necessary to resolve the present cross-motions.
On June 18, 2014, at a regular meeting of the Company's board of directors, Allan Mayer, an American Apparel director, hand delivered a letter to Charney notifying him of the board's intention to terminate him for cause under his Employment Agreement. The letter immediately suspended Charney as American Apparel's President and CEO:
According to the meeting minutes, the board suggested a willingness to accept Charney's resignation under proposed separation documents, but Charney refused to resign.
After excusing Charney from the meeting, the remaining directors unanimously resolved to suspend him as CEO, to revoke his authority to act for or on behalf of the Company, and to remove him from his position as Chairman of the board. Specifically, the board's resolution provided:
The board subsequently appointed Luttrell to be the Company's Interim CEO.
On June 19, 2014, the Company filed a Form 8-K with the Securities and Exchange Commission ("SEC") disclosing these developments. On June 23, 2014, Charney filed a Schedule 13D with the SEC acknowledging his suspension. Around this time, Charney entered into an agreement with Standard General (acting on behalf of its funds) providing for a financing transaction to acquire additional American Apparel stock and an arrangement governing the voting control of the additional stock and Charney's original stock.
On June 27, 2014, Charney purported to call a special meeting of the Company's stockholders to, among other proposed actions, expand the size of the board and elect individuals to those newly created directorships. That same day, a committee of the American Apparel board adopted a one-year stockholder rights plan with a 15% trigger.
On July 9, 2014, three weeks after his suspension as American Apparel's CEO, Charney, the Company, and Standard General (and several of its affiliates) entered into the Standstill Agreement. Broadly speaking, the Standstill Agreement constrained Charney's ability to run a proxy contest by contractually preventing Charney from acting to replace directors and from disparaging the Company. For example, Section 3(c) of the Standstill Agreement prohibits Charney from taking certain actions, including seeking the removal of any member of the American Apparel board, until completion of the Company's 2015 annual meeting, and Section 6(b) prohibits Charney from making any statement to any third party that "disparages or otherwise negatively reflects upon the Company."
The Standstill Agreement also governed whether Charney could return to the Company as CEO. Section 5 sets forth the process by which a committee of the American Apparel board (the "Suitability Committee") would conduct an investigation of the alleged misconduct that led to Charney's suspension. Following its investigation, the Suitability Committee would make a determination whether it was appropriate for Charney to be reinstated as CEO. Section 5 further provided that, in the interim, Charney would serve as a consultant to the Company, not as an officer or employee:
Separate counsel represented each of the three primary parties to the Standstill Agreement (Charney, the Company, and Standard General)
In accordance with Section 1(a) of the Standstill Agreement, Charney resigned as a director of the Company effective ten days after the Company filed a Schedule 14F-1 Information Statement with the SEC. The Company filed that Information Statement on July 23, 2014.
On December 16, 2014, following the Suitability Committee's investigation, the American Apparel board terminated Charney's employment with the Company. In doing so, the board determined that Charney's misconduct constituted cause to terminate him under his Employment Agreement.
On May 15, 2015, the Company filed the Standstill Proceeding against Charney in this Court alleging that he had violated the Standstill Agreement. In addition to several generalized allegations about Charney's conduct, the Company specifically alleged that Charney had taken the following actions in violation of the Standstill Agreement:
The Company's complaint in the Standstill Proceeding asserts claims for breach of contract and breach of the implied covenant of good faith and fair dealing.
On May 21, 2015, the Company moved for a temporary restraining order against Charney. In briefing that motion, the Company submitted an affidavit from Paula Schneider, the current CEO of American Apparel, regarding a May 21, 2015, conversation she had had with Ilse Metchek, a mutual friend of hers and Charney's. As reflected in her affidavit, Schneider's impression from her conversation with Metchek was that "Charney was actively encouraging potential candidates to run on a slate of directors that would represent his interest in connection with the 2015 annual meeting."
On June 1, 2015, after briefing and oral argument, I granted the Company's motion for a temporary restraining order. On June 8, 2015, I granted the parties' stipulated order extending the relief provided by the temporary restraining order until the conclusion of the Company's 2015 annual meeting, which was held on July 16, 2015.
By email dated May 23, 2015, Charney made a demand on the Company under the Indemnification Agreement, the Employment Agreement, and the Company's bylaws for advancement of his attorneys' fees and expenses incurred in connection with the Standstill Proceeding. Charney's demand included an undertaking to repay if it is ultimately determined that he is not entitled to indemnification.
On June 4, 2015, Charney filed a Verified Complaint for Advancement, asserting two claims for relief: (i) advancement for his attorneys' fees and expenses incurred in connection with the Standstill Proceeding under the Indemnification Agreement, the Employment Agreement, and the Company's bylaws (Count I); and (ii) indemnification for his attorneys' fees and expenses incurred in connection with this action under the Indemnification Agreement and applicable law (Count II). On June 12, 2015, the Company filed its Answer.
On June 19, 2015, the parties cross moved for summary judgment. Charney contends he is entitled to advancement under the Amended and Restated Certificate of Incorporation of American Apparel, Inc., dated December 12, 2007 (the "Charter"), and the Indemnification Agreement, and to indemnification for this advancement proceeding under the Indemnification Agreement and applicable law.
Under Court of Chancery Rule 56(c), summary judgment shall be granted where "there is no genuine issue as to any material fact and . . . the moving party is entitled to a judgment as a matter of law."
Although Court of Chancery Rule 56(h) permits the Court to deem cross motions for summary judgment "to be the equivalent of a stipulation for decision on the merits based on the record submitted with the motions," the rule does not apply when one party argues that a genuine issue of material fact exists.
Here, Charney asserts he is entitled to advancement under the Company's Charter and his Indemnification Agreement. Before addressing those issues, I address the legal effect, if any, of the Standstill Agreement with respect to Charney's advancement rights.
Charney's brief created some confusion as to whether he was contending that the Standstill Agreement provided him an independent source of advancement separate and apart from the Charter and Indemnification Agreement. In a terse argument, he asserted at one point that the "plain language" of Section 2(g) of the Standstill Agreement "requires American Apparel to advance the fees and costs [he] incurs in defending" the Standstill Proceeding and, at another point, that the "plain language" of that provision merely "confirms that [Charney's] existing advancement rights apply to" the subject matter of the proceeding.
Section 2(g) of the Standstill Agreement states, as follows:
At oral argument, Charney's counsel confirmed that Charney does not contend that Section 2(g) provides an independent source of a right to advancement.
Although Charney did not identify the Company's Charter as a source of advancement rights in his complaint, it became the lead argument in his brief. Article Eighth, Paragraph B of the Company's Charter provides that the Company must indemnify any person "to the full extent permitted" by 8 Del. C. § 145 and that the Company must advance expenses to any "officer or director" who may be entitled to such indemnification:
"[T]he rules that govern the interpretation of statutes, contracts, and other written instruments apply to the interpretation of corporate charters and bylaws."
Charney contends that, under Article Eighth, Paragraph B of the Company's Charter, the Company's "advancement obligations are defined by and flow from its indemnification obligations" such that he is entitled to advancement for his expenses in the Standstill Proceeding if the Company could indemnify him for the Standstill Proceeding under 8 Del. C. § 145.
Under Delaware law, although "the rights to indemnification and advancement are correlative, they are still discrete and independent rights."
The first sentence of Article Eighth, Paragraph B, which governs indemnification, makes mandatory what Sections 145(a) and 145(b) of the Delaware General Corporation Law permit, i.e., for a corporation to indemnify any person sued "by reason of the fact that the person is or was a director, officer, employee or agent of the corporation."
In Schoon v. Troy Corp.,
Specifically, the first sentence of Section 145(e) refers to a current director or officer simply as a "director" or "officer" without any qualifier. It provides, in relevant part, that a corporation may advance "[e]xpenses (including attorneys' fees) incurred by an officer or director in defending any . . . action, suit or proceeding . . . in advance of the final disposition of such action, suit or proceeding upon receipt of an undertaking by or on behalf of such director or officer to repay such amount if it shall ultimately be determined that such person is not entitled to be indemnified by the corporation. . . ." The second sentence of Section 145(e) treats former directors and officers differently. It provides that "[s]uch expenses (including attorneys' fees) incurred by former directors and officers . . . may be so paid upon such terms and conditions, if any, as the corporation deems appropriate."
Based on these authorities and the absence of any reference to "former" directors or officers (or any similar qualifier) in enumerating the Company's advancement obligations in Article Eighth, Paragraph B, I conclude that the plain language of the Charter affords mandatory advancement rights only to current directors or officers of the Company as of the time suit is filed against them.
Under 8 Del. C. § 145(f), the advancement rights of a former director or officer set forth in the corporation's charter or bylaws are not "exclusive of any other rights to which those seeking . . . advancement of expenses may be entitled under any . . . agreement, . . . both as to action in such person's official capacity and as to action in another capacity while holding such office." Here, separate from and in addition to the Charter provision discussed above, the Company agreed to indemnify and to advance certain of Charney's expenses under his Indemnification Agreement, which is governed by Delaware law.
Section 2 of the Indemnification Agreement enumerates in four subparts certain rights of indemnification and advancement the Company agreed to provide to Charney. Section 2(b) is the core advancement provision. To construe this provision, it is necessary to understand the indemnification rights afforded under Section 2 and, in particular, the defined terms that the indemnification provision has in common with the advancement provision.
Section 2(a) is the core indemnification provision. It states, in relevant part, as follows:
For purposes of this opinion, the term "Claim" can be simplified to mean a proceeding.
As discussed below, the key interpretative question is the meaning of the phrase "related to the fact" as used in this defined term.
Section 2(b) of the Indemnification Agreement governs advancement. It states, in relevant part: "If so requested by [Charney], the Company shall advance . . . any and all Expenses incurred by [Charney]."
Section 17 appears toward the end of the Indemnification Agreement, among a series of standard provisions governing severability, the use of counterparts, choice of law, and the like. It states in its entirety, as follows:
The Company interprets the third sentence of Section 17 to mean that once Charney was no longer a director or officer of American Apparel, he "is entitled to advancement only if he demonstrates that the claims in the Standstill Litigation are brought `by reason of' his status as a director, officer or fiduciary of the Company."
Delaware law "adheres to the objective theory of contracts,"
In my view, the only reasonable interpretation of Section 17 when read together with the other provisions of the Indemnification Agreement is as a durational provision to define the period of time the obligations in the Indemnification Agreement remain in effect and not, as the Company advocates, as a provision that specifies the circumstances in which Charney would be eligible to receive advancement (or indemnification) once he is no longer a director or officer of the Company. Reading Section 17 in this manner, the provisions of the Indemnification Agreement would remain in effect (a) during the period Charney was a director or officer of the Company (or serving at the request of the Company as a director, officer, employee, trustee, agent or fiduciary of another entity), and (b) thereafter for as long he is exposed to being sued "by reason of" his former status as a fiduciary of the Company, i.e., until such time as such claims would be time-barred.
This construction follows from the ostensible purpose of the operative sentence of Section 17, which is to define the period of time when all of the "obligations of the Company" contained in the Indemnification Agreement "shall continue in effect." It also follows from the context in which this sentence appears within Section 17. The first sentence of Section 17 defines who is bound by the Indemnification Agreement. The second sentence ensures that the Company will cause any successor to expressly assume the obligations in the Indemnification Agreement. It is logical that, after defining the universe of parties to be bound under the Indemnification Agreement, the parties would then address the duration of the obligations owed.
Significantly, construing the last sentence of Section 17 as a durational provision harmonizes that provision with Section 2 of the Indemnification Agreement. As discussed above, Section 2 grants Charney a mandatory right to indemnification as well as advancement for claims falling within the definition of "Indemnifiable Event." In other words, Section 2 creates and carefully defines the scope of the indemnification and advancement obligations the Company owes to Charney. It would be illogical to construe Section 17 to cover the same ground as Section 2. Instead, following the principle that "a particular provision cannot control" if it "conflicts with the agreement's overall scheme,"
Applying this construction of Section 17, it is beyond dispute that the Indemnification Agreement continued to be in effect when the Standstill Proceeding was filed. Charney was no longer a director or officer or fiduciary of the Company at that time, but he was exposed to being sued "by reason of" his status as a former officer and director of the Company at that time. "Although claims for breach of fiduciary duty brought in this court are governed by the equitable doctrine of laches, rather than by strict application of the statute of limitations that applies at law, equity follows the law when that is sensible, and the statute of limitations will apply by analogy."
The next question to be considered is whether the alleged misconduct that forms the basis of the claims in the Standstill Proceeding falls within the scope of the advancement provision in Section 2(b) and, in particular, whether such allegations satisfy the "Indemnifiable Event" standard incorporated in that provision.
As discussed above, using simplified definitions of the terms "Expenses," "Claim," and "Indemnifiable Event," Section 2(b) of the Indemnification Agreement would read as follows:
The phrase "event or occurrence" refers to the misconduct alleged in the underlying proceeding that forms the basis of Charney's alleged breaches of the Standstill Agreement. Thus, the inquiry in this case is whether those actions are
Charney contends that the "related to the fact" phrase is broader in scope than the "by reason of the fact" phrase that appears in 8 Del. C. § 145 and that has been the subject of most advancement disputes in this Court. Without specifically defining "related to the fact," Charney contends he is entitled to advancement for the Standstill Proceeding because some of his alleged violations of the Standstill Agreement occurred before his termination as CEO in December 2014, and because the substance of his alleged violations (in general, his efforts to regain control of the Company and his disparagement of the Company) are all related to the fact that he was a director and/or officer. According to Charney, "[b]ut for [his] former corporate service and his desire to regain the positions wrongfully taken from him, he never would have entered into the Standstill Agreement and could not have been accused of breaching it."
The Company contends that Charney's "but for" interpretation of "related to the fact" would lead to absurd results because it "is so broad that it would encompass any acts, committed at any time, that Mr. Charney claims had any relation to the Company."
Before interpreting "related to the fact" here, it is useful to review the meaning of "by reason of the fact" under Delaware law. In Homestore, Inc. v. Tafeen,
"When interpreting a contract, the role of a court is to effectuate the parties' intent. In doing so, [a court is] constrained by a combination of the parties' words and the plain meaning of those words where no special meaning is intended."
The Indemnification Agreement does not define "related to the fact." The parties have not cited any authority interpreting "related to the fact" in a corporate instrument or agreement providing for advancement,
In Underbrink, the bylaws of the company at issue (Warrior) indemnified a director against claims arising out of events "related to the fact that the Indemnitee is or was a director. . . ."
The Court went on to explain that the "guiding principle" to implement its ruling would involve application of the "nexus or causal connection" standard the Supreme Court articulated in Tafeen to interpret the "by reason of the fact" requirement of Section 145.
Dictionary references similarly support treating "related to the fact" and "by reason of the fact" as interchangeable phrases for purposes of the Indemnification Agreement. "Delaware courts look to dictionaries for assistance in determining the plain meaning of terms which are not defined in a contract."
First, to construe "related to the fact" more broadly as Charney advocates to require only a "but for" connection to his status as former fiduciary of American Apparel would lead to absurd results to which no reasonable person would have agreed. Consider, for example, that a stockholder sues Charney for breaching his fiduciary duty as an American Apparel director, and Charney is deposed in that proceeding. During his deposition, Charney commits a tort against the stenographer, who then files suit against Charney. Adopting Charney's interpretation, he would be entitled to advancement for the tort lawsuit because, "but for" his position as an American Apparel director, he would not have been at the deposition and thus would not have engaged in the tortious conduct. Such an example may seem extreme, but from a legal perspective, it is not so different from the present situation. According to Charney, his alleged breach of the Indemnification Agreement triggers advancement because he never would have entered into the contract "but for" his roles at American Apparel. In my opinion, no reasonable corporation would have subjected itself to such attenuated advancement obligations.
Second, to construe "related to the fact" more broadly than "by reason of the fact" as used in Section 145, would render the indemnification provision in the Indemnification Agreement invalid under Delaware law in my view. As explained above, the definition of "Indemnifiable Event" in which the phrase "related to the fact" appears is incorporated into both the indemnification and advancement provisions of the Indemnification Agreement.
In reaching the conclusion that the phrase "related to the fact" is equivalent to the meaning of "by reason of the fact" under Section 145, I recognize the interpretative tension that is created because the phrases "related to the fact" and "by reason of" are both present in the definition of "Indemnifiable Event."
The canon against surplusage, moreover, is most properly used to fathom the objective intent of the contracting parties, not "to trap a careless draftsperson into including a contract right that he did not mean to include. And [the canon] does not change the fact that courts will not bend contract language to read meaning into the words that the parties obviously did not intend."
This conclusion is sensible in light of the public policy behind 8 Del. C. § 145. When interpreting a contractual provision governing a corporation's advancement obligations, it is critical to "simultaneously apply the patina of [S]ection 145's policy."
Thus, public policy supports enforcing "advancement provisions [that are] written broadly or in a mandatory fashion."
In sum, for the reasons explained above, I construe the phrase "related to the fact" to be equivalent to the recognized meaning of "by reason of the fact" in the context of a corporate advancement claim. I therefore draw from Delaware's established "by reason of the fact" jurisprudence in considering whether Charney's alleged violations of the Standstill Agreement are causally connected to his former position as a director and/or officer of the Company.
The complaint in the Standstill Proceeding identifies five categories of alleged violations of the Standstill Agreement. Specifically, it alleges that Charney violated the Standstill Agreement by: (i) discussing a potential takeover of the Company with Irving Place Capital in violation of Sections 3(e) and 3(f); (ii) influencing stockholders' voting decisions at employee meetings in violation of Section 3(a)(ii); (iii) disparaging the Company in violation of Section 6(b); (iv) participating in a lawsuit seeking to replace directors of the Company in violation of Sections 3(c) and 3(h); and (v) soliciting interest for nominees for a competing slate of directors in violation of Sections 3(a), 3(b), and 3(c).
Delaware courts typically determine whether there is a "causal connection" by "examining the pleadings in the underlying litigation. . . ."
Charney's alleged violations of the Standstill Agreement are equivalent in my view to those of the employment agreement at issue in Weaver. Just as no corporate power was used or abused in taking too much vacation time or submitting fraudulent travel expenses in Weaver, so too was no corporate power used or abused here when Charney, after his suspension as an officer and resignation as a director, privately discussed a potential takeover with Irving Place Capital, tried to influence stockholders at employee meetings, disparaged the Company, sought to replace directors, or solicited director nominees. Charney undertook those actions solely in his personal capacity.
I first assess the causal relationship underlying the signing of the Indemnification Agreement itself, before turning to the alleged breaches. Although it is likely true that, "but for" being a director and/or officer of the Company, Charney would not have been subject to the types of obligations set forth in Sections 3 and 6 of the Standstill Agreement, that observation does not mean that any conceivable violation of the Standstill Agreement is causally connected to Charney's former positions as a director and officer. This is not a case where Charney would not have entered into the Standstill Agreement "unless he was a high-ranking corporate officer with the power to execute such contracts."
I turn next to the alleged breaches of the Standstill Agreement. Charney's chief argument is that, under the logic of Pontone v. Milso Industries Corp.,
In my opinion, the facts here are plainly distinguishable from those in Pontone. In that advancement case, Pontone, a former officer and director of New Milso, sought advancement for expenses incurred in a proceeding in which New Milso asserted contract and tort claims against Pontone for allegedly exploiting the confidential information he obtained as a director and officer when he later went to work for a competitor. New Milso's bylaws provided for mandatory advancement of expenses incurred in connection with a proceeding "by reason of" Pontone's being or having been a director or officer of New Milso.
Here, Charney seeks to extend the concept of "corporate powers" discussed in Pontone to include what is essentially the social status and reputation he obtained as the "face" of the Company he founded and led for many years. Indeed, Charney uses the word "influence" throughout his briefs in reference to the supposed "corporate power" he used when allegedly violating the Standstill Agreement. In my opinion, this type of "influence" is not a "corporate power" because there is no allegation in the Standstill Proceeding that Charney inappropriately misused Company information to violate the Standstill Agreement. Put differently, basing a right to advancement on vague notions of one's persona as the founder and past leader of a corporation would render meaningless the requirement of a causal connection to the use or misuse of corporate power necessary to trigger the advancement provision in the Indemnification Agreement.
Charney's former status may have made his violations of the Standstill Agreement more damaging, but that former status was not necessary for the violations themselves. Had he never been a director or officer of American Apparel, Charney still could have sought out takeover partners, even if his pitch may have been less persuasive; he still could have encouraged employee stockholders to change their voting decisions, even if they may have had less reason to follow his lead; he still could have made disparaging remarks about the Company, even if they may have fallen on deaf ears; and he still could have sued to replace directors and solicit nominees as a stockholder, even if he may have been ignored. His past status only affected the magnitude of the alleged injuries caused by the breaches. Although Charney makes much of the fact that his "efforts to
Finally, that certain of Charney's alleged violations of the Standstill Agreement (the Metchek and Irving Place Capital discussions) may have occurred after he had signed the Standstill Agreement and resigned as a director but before he was terminated as CEO in December 2014 is of no moment in my view.
In sum, for the reasons explained above, I conclude that Charney is not entitled to advancement under the Charter or under the Indemnification Agreement.
Section 4 of the Indemnification Agreement requires the Company to "indemnify [Charney] against any and all Expenses . . . which are incurred by [Charney] in connection with any action brought by [Charney] for . . . an Expenses Advance under this Agreement. . . ."
For the foregoing reasons, Plaintiff's motion for summary judgment is DENIED, and Defendant's motion for summary judgment is GRANTED. The parties are directed to confer and to inform the Court within five business days as to whether there is any reason a final judgment should not be entered given the rulings in this opinion, and to submit a form of order implementing those rulings.