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Choupak v. Rivkin

Court of Chancery of Delaware

April 6, 2015

MICHAEL CHOUPAK and SERGUEI SOFINSKI, Plaintiffs,
v.
VLADIMIR RIVKIN, Defendant. VLADIMIR RIVKIN, Counterclaim Plaintiff,
v.
MICHAEL CHOUPAK and INTERMEDIA.NET, INC., Counterclaim Defendants.

Submitted: March 2, 2015

John M. Seaman, ABRAMS & BAYLISS LLP, Wilmington, Delaware; Igor Kroll, KROLL & O'CONNOR, New York, New York; Attorneys for Plaintiffs Michael Choupak and Serguei Sofinski and Counterclaim Defendants Michael Choupak and Intermedia.Net, Inc.

Evan O. Williford, THE WILLIFORD FIRM LLC, Wilmington, Delaware; Attorney for Defendant and Counterclaim Plaintiff Vladimir Rivkin.

MEMORANDUM OPINION

LASTER, Vice Chancellor.

In early 2000, plaintiff Michael Choupak promised defendant Vladimir Rivkin that he would receive 4% of the equity of Choupak's start-up company. Later in 2000, Choupak signed a stock option agreement granting Rivkin an option for 2, 000, 000 shares that would vest over four years. In 2001, Choupak permitted Rivkin and other senior employees to exercise all of their options and pay the strike price with unsecured notes. Rivkin received 2, 000, 000 shares of common stock, equal to 4.4% of the equity.

In 2008, Rivkin needed cash, and he sold his shares for $300, 000 to Choupak and another executive, plaintiff Serguei Sofinski. In 2011, Choupak sold his company to Oak Hill Capital Partners for $127, 500, 000 (the "Oak Hill Merger). Rivkin wanted some of that money. He dug up his employment agreement and his original stock option agreement and noted that they referred to shares of "preferred stock rather than "common stock. He wrote to Choupak and asserted that he had never received shares of preferred stock representing 4% of the equity. He purported to exercise his option for preferred stock and demanded that Choupak either issue him the shares or turn over 4% of the proceeds from the Oak Hill Merger. He also accused Choupak of defrauding him when purchasing his shares in 2008.

Choupak and Sofinski filed this lawsuit. They sought declarations that Rivkin received more than 4% of the equity when he was issued his shares of common stock, that Rivkin never had a right to an additional 4% of the equity in the form of shares of preferred stock, and that they validly purchased Rivkin's shares in 2008 without engaging in fraud. Rivkin responded with counterclaims and third party claims, the gist of which was that Rivkin should get his preferred stock or money damages.

This decision enters judgment against Rivkin on all counts and shifts fees against him under a contractual provision in Rivkin's employment agreement. Separately, in light of the numerous and striking problems with Rivkin's testimony, his fabrication of critical documents, and his discovery misconduct, this decision shifts fees against him under the bad faith exception to the American Rule.

I. FACTUAL BACKGROUND

Trial took place on January 21, 2015. The following facts were proven by a preponderance of the evidence.

A. Choupak Founds Intermedia.

In 1993, Michael Choupak founded Intermedia[1] to provide website hosting services to local businesses in Minneapolis. Today, Intermedia is a successful national provider of cloudbased, business-class email services.

In 1995, during the early stages of the dot-com era, Choupak moved the Company's operations to Palo Alto. Two years later, Choupak hired Sofinski, a hosting manager, and Constatin Filin, a software engineer, to help the Company transition its business from websites to email services. Cash was tight, and stock was part of Silicon Valley's culture, so Choupak promised stock options to Sofinski and Filin.

B. Rivkin Joins Intermedia.

In late 1999, Choupak met Rivkin, who was working as a real estate broker. Rivkin had recently graduated from law school, and Choupak thought he could help with various projects at Intermedia, including (i) organizing and cleaning up the corporate books and records, (ii) preparing a stock option plan, (iii) resolving a dispute with a former employee, and (iv) raising capital. Choupak hoped to delegate these tasks to Rivkin and others so he could focus on expanding Intermedia's business.

Rivkin had not yet passed the bar (he never did). He told Choupak that in California, passing the bar was not a prerequisite to practicing law inhouse. That representation was inaccurate.[2]

In March 2000, Rivkin started work. In an email sent to all employees on March 13, Choupak welcomed Rivkin, stating: "I should have made this announcement two weeks ago before you had a chance to meet or speak with Gregg Eyman and Vladimir Rivkin. Both are joining Intermedia. NET this month.- JX 14.

Because of Intermedia's financial limitations, Choupak and Rivkin agreed that Rivkin would work on a parttime, as-needed basis. In return for his services, Rivkin would receive 4% of the Company's equity, and his 4% interest would not be diluted by subsequent issuances. At the time, neither of them understood how antidilution protection worked; they just knew Rivkin would not receive less than 4% of the equity. Intermedia paid Rivkin a token salary of $1 per month, because Rivkin believed that he could obtain superior tax treatment for his equity if he received nominal cash compensation as an employee. Choupak told Rivkin that any more significant cash compensation was "a future topic to be discussed once we have the first round completed (money in the bank). JX 38.

In July 2000, Rivkin prepared an employment agreement for himself using the Company's standard form as a template. JX 43 (the "Employment Agreement). Rivkin backdated it to March 1, 2000, reflecting when he started at Intermedia. Rivkin added a new section to document his agreement with Choupak about equity compensation:

Employee shall receive options to purchase 4% of the company's preferred stock at a price of $00.15 per share, vested over a period of four years. The vesting shall be on monthly basis, and occur on the first of each month, starting on March 1st, 2000. AntiDilution shall apply until initial public offering or acquisition of the Company by another private or public entity. The provisions of the stock option agreement and stock option plan shall govern the stock option benefit(s). In case company reincorporates, merges or uses another instrument to change corporate form, employee shall be issued equivalent percentage of stock from the new entity, resulting from the reincorporation, merger or other change of form instrument.

JX 43 § 5(e) (emphasis added).

Section 5(e) spoke of "preferred stock without providing any details. It did not identify a class or series of preferred stock, and there were no references to rights, powers, preferences, limitations, or other features. At the time, Intermedia was not authorized to issue preferred stock. Although Choupak later amended the Charter to authorize blank check preferred, he never designated any particular series of preferred stock, and no shares of preferred stock were ever issued. The Employment Agreement referenced a security that did not exist and failed to specify in what ways the nonexistent security would be "preferred over the common stock.

Similar problems afflicted the term "AntiDilution. The Employment Agreement did not include any provisions to implement that general concept. Antidilution comes in multiple forms, with weightedaverage and fullratchet protection being the most common. When stock option agreements, warrants, certificates of designation, and other corporate documents provide for antidilution protection, they establish triggering events, formulas for the calculations, and implementing procedures. With the Employment Agreement, there was no way to determine how the antidilution concept would operate.

The lack of detail rendered the terms "preferred stock and "antidilution ambiguous. Having considered the evidence, I find that by using these terms, Rivkin tried to document his right to receive 4% of Intermedia's equity and the fact that his ownership percentage would not drop below the 4% figure. By using the term "preferred stock, Rivkin contemplated a stock that had a preference in the form of antidilution protection. By using the term "AntiDilution, he sought to specify the nature of the preference. At trial, Rivkin could not name any other right, power, or preference that he thought the preferred stock had. Tr. 8183.

Choupak signed the Employment Agreement without focusing on the references to preferred stock and antidilution. He trusted Rivkin, and he often signed documents that Rivkin presented without paying much attention. Choupak acknowledged that he remained responsible for what he had signed.

C. The Stock Option Plan

One of Rivkin's tasks was to prepare a stock option plan for Intermedia. Having just graduated from law school, Rivkin did not have the expertise for this task, so he turned to the Silicon Valley Law Group ("SVLG).

At Rivkin's request, SVLG prepared three sets of documents: (i) a stock option plan called the 2000 Stock Option Plan (the "2000 Plan), (ii) a set of form documents called for by the 2000 Plan, including an employee stock option agreement and an exercise notice, and (iii) a third document called an "Executive Stock Option Agreement. The first two were what Choupak asked Rivkin to create. The Executive Stock Option Agreement was a special agreement Rivkin wanted for himself.

Between May and November 2000, the documents went through many drafts. As drafted by SVLG, all of them contemplated options for common stock. The final version of the Executive Stock Option Agreement, however, purported to grant Rivkin an option for preferred stock. Rivkin made this change to the final version. His Employment Agreement spoke of preferred stock, and he edited the final version to conform to that reference. Because the Executive Stock Option Agreement mentioned preferred stock, this opinion refers to it as the "Preferred Stock Option.

On November 20, 2000, Choupak approved the 2000 Plan. He also signed the Preferred Stock Option. As with the Employment Agreement, Choupak did not focus on the reference to preferred stock or think about its implications.

On the same day, acting on Rivkin's recommendation, Choupak amended the Charter to authorize 70 million shares of common stock and 10 million shares of preferred stock. The amendment did not authorize any specific class or series of preferred stock. It merely authorized blank check preferred. The Intermedia board of directors never designated any particular series of preferred stock. The Company never issued any shares of preferred stock. No one ever received any shares of preferred stock.

D. The Capitalization Table

Beginning in November 2000, Rivkin worked with SVLG to create and maintain a capitalization table for Intermedia (the "Cap Table). For each employee on the list, the Cap Table identified the individual's date of hire, salary, the number of shares that the employee owned or had an option to purchase, and the exercise price for the option.

Rivkin maintained the Cap Table from 2000 to 2002. The early versions listed Rivkin's date of hire as March 1, 2000, consistent with his Employment Agreement and historical events. In later versions, Rivkin moved his date of hire back to November 20, 1999, which brought forward the vesting of his options and lowered his exercise price.

Notwithstanding Rivkin's manipulation of his hire date, every version of the Cap Table listed Rivkin as owning an option to purchase 2, 000, 000 shares of common stock.

There is not one reference in any version of the Cap Table to Rivkin having an option to purchase preferred stock, much less an option to purchase 2, 000, 000 shares of preferred stock in addition to an option to purchase 2, 000, 000 shares of common stock.

E. Rivkin And Other Senior Employees Acquire Common Stock.

Early in 2001, Choupak decided to let his senior employees exercise all of their options. To facilitate the exercise, Choupak decided that the senior employees could pay the strike price by executing unsecured notes. On February 2, 2001, Rivkin informed SVLG of Choupak's decision and instructed the firm to prepare the necessary documents. Rivkin did not mention to SVLG that he had an option for preferred stock.

Rivkin did notice that Filin, who had started work in 1997, had an exercise price of $0.009 per share, the lowest of any employee. Rivkin told SVLG that he should have the same exercise price "due to [his] starting around that time, and not becoming 'full time' until [November 20, 1999]. JX 86. Every part of that statement was false: Rivkin did not start work in 1997, he did not start fulltime in November 1999, and he should not have had an exercise price of $0.009 per share.

To document the exercise, each senior employee executed a Restricted Stock Purchase Agreement (the "RSPAs), a promissory note for the exercise price, and a security agreement which provided that the shares would revert to Intermedia if the note was not timely paid. The notes required repayment on or before February 27, 2003.

The RSP As were given effective dates of February 27, 2001. The recitals to each agreement referenced the employee's original hiring date and an oral agreement to grant stock options as of that date. Except for Rivkin's RSPA, the recitals accurately reflected the hiring dates on the Cap Table. Rivkin's RSPA referenced a fictitious hiring date of November 20, 1997. JX 92. That date was false: Rivkin was not an Intermedia employee in 1997. He picked that date to give himself the lowest possible exercise price. Thanks to the lower exercise price, Rivkin executed a note for $18, 000, rather than a note for $300, 000 at his actual exercise price of $0.15 per share.

On February 27, 2001, Rivkin received a certificate for 2, 000, 000 shares of Intermedia common stock. The shares represented 4.4% of Intermedia's outstanding equity, more than the 4% Choupak had promised him.

Even though Choupak permitted Intermedia's senior employees to exercise all of their options and pay with an unsecured note, Rivkin did not attempt to exercise an option for 2, 000, 000 shares of preferred stock. At trial, Rivkin could not explain why, assuming he also held the Preferred Stock Option for another 4% of the equity, he would not have exercised it at the same time on the favorable terms Choupak was offering.

F. Rivkin Loses Interest In Intermedia But Remains Friends With Choupak.

By late 2001, after the dotcom bubble burst, Rivkin lost interest in Intermedia. He had always worked from home, but he visited the office frequently to meet with Choupak and have him sign documents. With the prospect of equitybased riches receding, Rivkin's visits became rare. Eventually he stopped showing up, choosing to concentrate on the real estate business that he owned with his father.

Although Rivkin was no longer working for Intermedia, he and Choupak remained friends. They met for meals and vacationed together. Rivkin also continued to draw his $1 per month salary. No one noticed that automated payment until 2009, when William Gomes, the Company's CFO, learned of it and stopped it.

G. Rivkin Sells His Common Stock To Choupak And Sofinski.

In 2008, the real estate crash put Rivkin under financial duress. His home was in foreclosure, and several of his real estate properties were underwater. To generate cash, Rivkin asked Choupak to consider buying his 2, 000, 000 shares of common stock. But Rivkin discovered a problem: he had not repaid his promissory note by February 27, 2003, so his shares had reverted to Intermedia. Rivkin explained the problem to Choupak and noted that Intermedia's other senior employees likely faced the same difficulty. To remedy the issue, Choupak signed new stock purchase agreements that superseded the RSPAs. The replacement agreements included substitute promissory notes that were not due until May 1, 2009. The new documents were backdated with an effective date of May 1, 2001, but Choupak signed them in July 2008.

Rivkin's new stock purchase agreement changed the date on which he purportedly started at Intermedia and received an oral promise of options. The original RSPA recited the date of that event as November 20, 1997. His replacement agreement said it occurred on December 15, 1997. The dates in the replacement agreements for the other employees matched their RSPAs. The discrepancy in Rivkin's agreements resulted from his practice of manufacturing fictitious dates for ahistorical events.

With the replacement agreement in place, Rivkin sold his Intermedia common stock to Choupak and Sofinski for $300, 000. Choupak purchased 1, 500, 000 shares, and Sofinski purchased 500, 000. The value Rivkin received was actually $318, 000, because

Choupak never insisted that Rivkin pay off his $18, 000 note. The value Rivkin received was arguably $600, 000, because Rivkin's note should have been for $300, 000.

The parties documented the transaction in a written stock transfer agreement. JX 132 (the "Stock Transfer Agreement). Rivkin executed an affidavit of lost stock certificate. The affidavit was false: Rivkin still had his stock certificate, which he produced in this litigation.

H. The Oak Hill Merger

In 2010, Oak Hill and Choupak had preliminary discussions about Intermedia. In March 2011, the discussions resumed. On May 5, Intermedia and Oak Hill entered into a merger agreement. JX 149 (the "Merger Agreement).

The Merger Agreement reflected that Intermedia only issued common stock. In Section 4.5(a), Intermedia represented that as of the date of the Merger Agreement,

(i) 45, 002, 972 shares of Common Stock are issued and outstanding and held by Company Stockholders as reflected in Section 4.5(a) of the Disclosure Schedule, (ii) 14, 528 shares of Common Stock have been issued and are held in the treasury of the Company, and (iii) the Company has not issued any preferred stock . . . .

Id. § 4.5(a). Schedule 4.5(a) did not identify Rivkin as a stockholder and did not list anyone as holding preferred stock. See id. at Sched. 4.5(a).

The Merger Agreement likewise reflected that Intermedia had not issued any options to purchase preferred stock. In Section 4.5(c), Intermedia represented that

[e]xcept pursuant to the Stock Option Plan or as listed in Section 4.5(c) of the Disclosure Schedule, neither the Company nor any Company Subsidiary nor Choupak is bound by or subject to any (i) preemptive or outstanding rights, subscriptions, options, warrants, conversion, put, call exchange or other rights, agreements, commitments, arrangements or understandings of any kind pursuant to which the Company or any Company Subsidiary, contingently or otherwise, is or may become obligated to offer, issue, sell, ...

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