In this opinion (Lebanon County Employees Retirement Fund v. Collis, 287 A.3d 1160 (Del. Ch. 2022), the Delaware Court of Chancery addressed a matter of first impression regarding the application of the proper statute of limitations framework for breach of fiduciary duty claims where fiduciaries have knowingly ignored red flags reflecting legal violations or have knowingly caused the company to seek profit by violating the law. Ultimately, the Court denied the defendants’ motion to dismiss, finding that the plaintiffs’ claims were timely. Specifically, the court held that (i) the “separate accrual” approach governed the date of accrual of the plaintiffs’ “red flags” claim, (ii) the “discrete act” approach did not apply to the accrual date of a claim based on the pursuit of profit by an illegal business plan, (iii) the plaintiffs failed to specifically plead facts supporting tolling of the actionable period under the doctrine of fraudulent concealment, and (iv) a litigation demand put plaintiffs on inquiry notice of the basis for their claims.
AmeriSource Bergen, Inc. (the Company), is one of three major wholesale distributors of opioid pain medication in the US. As a distributor of opioids, the Company must comply with state and federal regulatory frameworks. The federal regulatory frameworks require that a distributor report any suspicious orders to the federal Drug Enforcement Agency. A distributor must either not fill a suspicious order or first conduct due diligence sufficient to ensure that the order will not be diverted into improper channels.
The plaintiffs in this case were stockholders of the Company. The plaintiffs asserted claims that the Company’s directors and officers breached their fiduciary duties by making certain decisions that harmed the Company. The plaintiffs’ first claim was based on the proposition that corporate fiduciaries cannot consciously ignore evidence showing that the corporation is suffering or will suffer harm. In other words, fiduciaries cannot knowingly ignore “red flags” reflecting legal noncompliance (the Red Flags Theory or Red Flags Claim). For this claim, the plaintiffs contended that the Company’s officers and directors knew of many red flags including subpoenas from law enforcement officials, congressional investigations, lawsuits by state attorneys general, and civil lawsuits regarding the Company’s practices, but the rate at which the Company reported suspicious orders was extremely low.
The plaintiffs’ second claim relied on the concept from In re Massey Energy Co. that fiduciaries cannot be loyal to the corporation by knowingly causing it to seek profit by violating the law (the Massey Theory or Massey Claim). For this claim, the plaintiffs sought an inference that the Company’s officers and directors took a series of actions reflecting that they knowingly prioritized profits over compliance with the law.
The defendants filed a motion seeking dismissal of the plaintiffs’ claims as untimely and as failing to support an inference of demand futility.
As a threshold matter, the Court noted that the plaintiffs asserted equitable claims for breach of fiduciary duty. The Court does not apply the statute of limitations when evaluating the timeliness of these claims, but rather applies the doctrine of laches. When money damages are sought as a remedy for this type of claim, the Court looks to the limitations period that would otherwise apply. To determine when the limitations period would end, the Court must determine when the claim accrues.
As of the time of this opinion, no Delaware court had addressed the timeliness principles that govern a Red Flags Theory or a Massey Theory or how to determine when claims associated with those theories accrue. The Court noted that prior Delaware decisions had applied three methods to determine when claims for breach of fiduciary duty accrue: (i) the discrete act method, (ii) the continuing wrong method, and (iii) the separate accrual method. In evaluating the timeliness of the plaintiffs’ Red Flags Claim and Massey Claim, the Court found that the separate accrual method applied to both.
Time of Accrual—Red Flags Claim
Because the statute of limitations begins to run at the time that the cause of action accrues, the Court had to determine when the plaintiffs’ Red Flags Claim accrued. Typically, in Delaware, a cause of action accrues at the time of the wrongful act, even if the plaintiff is ignorant of the cause of action. For a breach of fiduciary duty claim, if the fiduciary makes a decision that the plaintiff alleges is wrongful, that decision is the wrongful act. However, when the wrongful act is an ongoing series of continual decisions (and nondecisions) occurring over time, determining the time of accrual is more difficult.
After evaluating the three possible methods of determining when a Red Flags Claim accrues, the Court determined that the separate accrual approach provided a “Goldilocks solution.” The separate accrual approach takes ongoing conduct and “dissects [the] misbehavior, instead of aggregating it.” Under this approach, “each continuation or repetition of the wrongful conduct may be regarded as a separate cause of action for which suit must be brought within the period beginning with its occurrence.” Accordingly, this approach recognizes that a Red Flags Theory has dual features: the wrong began at some point, and also persists until the fiduciaries correct it.
Applying this theory has notable implications for liability and damages. Specifically, it allows the plaintiff to prove liability and recover for acts that occurred during the limitations period, even if other aspects of the ongoing conduct occurred outside of the limitations period.
Time of Accrual—Massey Claim
The Court reached the same conclusion for the Massey Claim and applied the separate accrual approach in evaluating the timeliness of that claim. While there are subtle differences between a Red Flags Claim and a Massey Claim (which arises when a fiduciary makes a conscious decision to prioritize profit over legal compliance), the Court noted that the analysis of the claim and the nature of the harm are similar.
A Massey Claim “combines an initial wrongful act with the ongoing continuation of that act.” The initial wrongful act underlying a Massey Claim is more prominent and serious, according to the Court, because the plaintiff must allege that the defendants made a specific decision to pursue profit over legal compliance. However, the wrongful act does not end at that time. Rather, the ongoing violation continues as the company pursues the illegal strategy, and the fiduciaries can decide to stop the illegal business plan at any point and take corrective action.
Like a Red Flags Claim, the Court recognized that it may also be difficult to identify a specific point at which the wrongful decision underlying a Massey Claim was made. Similarly, the Court explained that “the evolving nature of the Massey Theory makes it difficult to identify from the outside when the claim accrues for filing purposes.” In addition, the damages that a Massey Claim generates are likely to increase over time.
Because the Court determined that the separate accrual method should apply to the plaintiffs’ claims, the Court then had to determine the period of time during which the ongoing conduct was actionable. Because the plaintiffs filed the litigation on December 30, 2021, the standard three-year period for fiduciary duty claims would have started on December 30, 2018; but because the plaintiffs first filed a books and records action under Section 220, the Court was able to calculate the actionable period using an earlier date tied to the plaintiffs’ pursuit of their information rights. Specifically, the Court of Chancery has held that a plaintiff could defeat a laches defense by showing that the plaintiff “asserted its rights in a timely manner by making demand [for books and records] and filing this action.”
To determine the start of the actionable period under the separate accrual method, the Court must determine when the plaintiffs began to pursue their claims vigilantly. The defendants argued that this point of “vigilant pursuit” cannot precede the date a Section 220 action was filed. The Court noted, however, that the doctrine of laches is flexible and a rule focused on the filing of a Section 220 enforcement action would incentivize the filing of more of those actions. Instead, the Court explained that “[a] stockholder therefore should receive credit for serving a demand and obtaining books and records without the need for an enforcement action.”
Using this framework, the Court determined that there was support for using May 21, 2019 (the date plaintiffs served their books and records demand), as the starting date for the actionable period, which would then extend back three years to May 21, 2016. The plaintiffs, however, did not request this outcome and preferred to use October 20, 2019, as the starting date for the period. Accordingly, using that date, the actionable period for the plaintiffs’ claims began on October 20, 2016, and ended on December 30, 2022.
This opinion reflects the Delaware Court of Chancery’s framework for calculating the applicable limitations period for breach of fiduciary claims involving fiduciaries that ignore red flags reflecting corporate violations of law. The Court provides a detailed analysis and explanation of different methodologies for determining when this type of claim accrues for purposes of evaluating when such claims are time barred.