Delaware Supreme Court: Permissive Business Judgment Rule Applies to Corporate Conversions

Delaware has long been regarded as the epicenter of U.S. corporate law. However, in 2024, several decisions by the Delaware Court of Chancery led some prominent corporate leaders to express frustration over perceived increased liability standards for corporate officers and directors. These leaders went so far as to publicly advise new companies against incorporating in Delaware and urged others to reincorporate in different states, a process known as "conversions." Whatever the merits of these grievances, the recent court decisions and unusually vocal response from affected parties have sparked public debate about a potential "DExit" – a mass exodus from Delaware to states such as Nevada and Texas, which are positioning themselves as corporate-friendly alternatives.

Against this backdrop, the decision in Maffei v. Palkon, No. 125, 2024, 2025 WL 384054 (Del. Feb. 4, 2025), was issued earlier this month. In Maffei, directors, officers and stockholders of TripAdvisor Inc. and Liberty TripAdvisor Holdings Inc. (the defendants) voted to convert from Delaware to Nevada, nominally because Nevada law offers greater protection for directors and officers. This action was challenged by a group of dissatisfied shareholders. Maffei placed the Delaware Supreme Court at the center of the DExit debate, as corporate practitioners awaited the court's stance on scrutinizing challenged conversions and whether corporations should anticipate any obstacles in the departure process. The Maffei decision indicates Delaware courts are unlikely to impede such conversions.

Chancery Court Proceedings

The proponents of the challenged conversion in Maffei included corporate directors, officers and a controlling minority shareholder. The record showed that the majority of affected shareholders voted against the transaction, but the support of the minority controller resulted in approval of the conversion over their objection.

Certain dissenting stockholders (the plaintiffs) filed a lawsuit, arguing that the conversions would provide non-ratable benefits by reducing liability exposure for directors and officers, rendering the transactions unfair to the plaintiffs. The defendants moved to dismiss, asserting that the business judgment rule (BJR) applied because the plaintiffs failed to allege a self-interested transaction.

In Delaware, the applicable standard of review often determines the case's outcome. Cases frequently settle after the standard of review is litigated. BJR challenges are generally expected to fail due to the high burden on plaintiffs, and cases are routinely dismissed at the pleading stage under this standard, whereas entire fairness challenges are more likely to survive the motion to dismiss and potentially succeed given the heavy burden on defendants.

• The BJR "presumes that the defendant fiduciaries acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company." When applied, "the court merely looks to see whether the business decision made was rational in the sense of being one logical approach to advancing the corporation's objectives" and "[o]nly when a decision lacks any rationally conceivable basis will a court infer bad faith and a breach of duty."
• Entire fairness requires that the fiduciary defendants establish that the contested transaction was the product of both fair dealing and fair price. "Not even an honest belief that the transaction was entirely fair will be sufficient to establish entire fairness. Rather, the transaction itself must be objectively fair, independent of the board's beliefs."

The Court of Chancery agreed with the Maffei plaintiffs that entire fairness applied and denied the defendants' motion to dismiss. The decision rested on the conclusion that it was reasonably conceivable that the proposed conversion would confer a non-ratable benefit on the defendants. Non-ratable benefits are unique to a minority of participants and obtained at the shareholders' expense. For directors, a non-ratable benefit is one not shared with stockholders and must be materially significant, such that it could influence the director's fiduciary duties. Similarly, for controllers, a non-ratable benefit exists when controllers receive something uniquely valuable, even if they receive the same consideration as other stockholders.

The Maffei defendants recognized that applying entire fairness review could jeopardize the conversion – and likely deter future DExits – and sought an interlocutory appeal to the Delaware Supreme Court.

Interlocutory Appeal to the Delaware Supreme Court

On interlocutory appeal, the Delaware Supreme Court reversed, holding that the BJR – not the entire fairness standard – applied and that the plaintiffs failed to adequately plead facts showing that the defendants received a material, non-ratable benefit. The plaintiffs argued that the Maffei defendants would receive non-ratable benefits through protection against liability in shareholder litigation due to Nevada law's permissive exculpation standards for corporate officers and directors. Such insulation, the plaintiffs contended, could incentivize mismanagement and self-interested conduct.

In reversing, the Delaware Supreme Court held that in order to trigger the entire fairness standard, a non-ratable benefit must be material – i.e., significant enough to make it improbable that the challenged directors could satisfy their fiduciary duties. In assessing materiality, the court focused on temporality as a key factor. Critically, the plaintiffs had not alleged that any existing litigation claims would be impaired or that any specific transaction would occur following the conversions. The court reviewed Delaware precedent to distinguish cases where corporate action was invalidated for seeking to exculpate directors and officers from existing or foreseen liability. The court compared this to the scrutiny applied to 102(b)(7) amendments – corporate charter amendments intended to waive director and officer liability to the fullest extent permitted by Delaware law. Increased scrutiny is typically applied when such amendments coincide with actual or threatened litigation, rather than those adopted in the ordinary course on a "litigation-clear" day. According to the court, the applicable inquiry is akin to familiar "standing" and "ripeness" issues that require courts to assess the imminence and materiality of a dispute.

In Maffei, the absence of any existing or specifically foreseen litigation or self-interested transaction weighed "heavily against finding that the alleged reduction in liability exposure under Nevada's corporate law regime is material" because "the hypothetical and contingent impact of Nevada law on unspecified corporate actions that may or may not occur in the future [was] too speculative." Consequently, the court found that the plaintiffs had failed to adequately plead the conferral of a non-ratable benefit.

The court also noted that its holding furthered comity by "declining to engage in a cost-benefit analysis of the Delaware and Nevada corporate governance regimes." If enhanced scrutiny were to apply to conversions, Delaware courts would regularly face the uncomfortable task of making normative judgments about the statutory and policy protections offered by sister states, which the Delaware Supreme Court appeared disinclined to do in Maffei.

Conclusion and Considerations

Following Maffei, absent evidence of existing or imminent claims or self-interested transactions, most conversions are likely to be reviewed under the permissive BJR and will likely succeed. It remains to be seen whether the Maffei decision and increasing competition from states vying for Delaware's share of the incorporation market will lead to further DExits.

Holland & Knight routinely assists parties navigate corporate governance matters and disputes in courts and jurisdictions around the country. Our deep bench of practitioners continuously monitors developments in the law that affect transaction participants. For more information or questions about a specific matter, please contact the authors.

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