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In re Cyan, Inc. Stockholders Litigation

Court of Chancery of Delaware

May 11, 2017


          Date Submitted: February 7, 2017

          Michael Van Gorder, FARUQI & FARUQI, LLP, Wilmington, Delaware; Seth D. Rigrodsky, Brian D. Long, Gina M. Serra, and Jeremy J. Riley, RIGRODSKY & LONG, P.A., Wilmington, Delaware; Shane T. Rowley, LEVI & KORSINSKY LLP Attorneys for Plaintiffs.

          Bradley D. Sorrels, Ian R. Liston, Andrew D. Berni, and Jessica A. Montellese, WILSON SONSINI GOODRICH & ROSATI, PC, Wilmington, Delaware; Boris Feldman and Ignacio E. Salceda, WILSON SONSINI GOODRICH & ROSATI, PC, Palo Alto, California, Attorneys for Defendants Mark A. Floyd, Michael L. Hatfield, Promod Haque, Paul A. Ferris, Michael J. Boustridge, Niel Ransom, and Robert E. Switz.


          BOUCHARD, C.

         This action arises out of the merger of Cyan, Inc. and Ciena Corporation that closed in August 2015. In exchange for their Cyan shares, the former stockholders of Cyan received shares of Ciena common stock and cash that accounted for 89% and 11%, respectively, of an estimated $335 million in merger consideration.

         Plaintiffs identified a host of alleged disclosure deficiencies in Cyan's proxy statement, but they elected not to seek injunctive relief to cure any of them before the stockholders' meeting, and the transaction closed after receiving the approval of 98% of the shares that voted. Almost one year later, plaintiffs filed their current complaint, advancing two claims.

         Count I asserts that the members of Cyan's board breached their fiduciary duties in approving the merger, primarily on the theory that the directors were motivated out of self-interest to bolster their indemnification rights in the face of a pending securities litigation to partner Cyan with a company with "deeper pockets." Count II seeks equitable relief in the form of quasi-appraisal. Defendants moved to dismiss both claims for failure to state a claim for relief. For the reasons explained below, I conclude that both claims are without merit and the Complaint must be dismissed.

         Count I fails to state a claim for relief for two independent reasons. First, because the merger consideration primarily consisted of stock in a publicly traded company, the board's approval of the transaction is presumptively governed by the business judgment rule and plaintiffs have failed to plead sufficient facts to support a reasonable inference that a majority of Cyan's board was interested in the transaction or acted in bad faith so as to sustain a non-exculpated claim for breach of fiduciary duty. Second, a majority of disinterested stockholders of Cyan approved the merger in a fully informed, uncoerced vote.

         Dismissal of Count II logically follows from the dismissal of Count I. As this Court has previously held, quasi-appraisal is simply a form of remedy, typically sought to address disclosure deficiencies that are the product of a fiduciary breach. Because plaintiffs have failed to identify any material misrepresentation or omission in Cyan's proxy statement, or to allege any other viable claim for a fiduciary breach, there is no basis to impose a quasi-appraisal remedy in this case.

         I. BACKGROUND

         Unless noted otherwise, the facts recited in this opinion come from the allegations of the Verified Third Amended Class Action Complaint (the "Complaint") and documents incorporated therein. Any additional facts are either undisputed or subject to judicial notice.

         A. The Parties and Relevant Non-Parties

         Under an agreement and plan of merger dated May 3, 2015 (the "Merger Agreement"), Ciena acquired all of the outstanding shares of Cyan in a merger transaction with an enterprise value of approximately $335 million, net of estimated cash (the "Merger"). Plaintiffs are individuals who allege they were stockholders of Cyan at all relevant times.

         Before the Merger, Cyan was a Delaware corporation with its principal executive offices in California. Cyan provided various carrier-grade networking solutions in North America, Asia, and Europe. Its common stock was traded on the New York Stock Exchange under the symbol "CYNI."

         Ciena is a Delaware corporation focused on providing communications networking solutions. Ciena's common stock trades on the New York Stock Exchange under the symbol "CIEN."

         Defendants were the seven members of Cyan's board of directors who approved the Merger. Two of them were members of management; the other five were outside directors.

         Defendant Mark A. Floyd was Cyan's Chief Executive Officer and Chairman of the Board, and served on Cyan's three-member Strategic/Finance Committee.[1]Defendant Michael L. Hatfield, a co-founder of Cyan, served as Cyan's President.

         Defendant Promod Haque was an outside director of Cyan. He also was the senior managing partner and co-CEO of Norwest Venture Partners ("Norwest"), which held 22.71% of Cyan's outstanding shares and was Cyan's largest stockholder as of the date of the Merger Agreement. Haque had voting control and dispositive power over Norwest's holdings.

         Defendant Paul A. Ferris was an outside director of Cyan and served on Cyan's Strategic/Finance Committee. He also was the general partner and managing member of Azure Capital Partners ("Azure"). Azure was Cyan's second largest stockholder, holding 12.4% of the company's outstanding shares when the Merger closed. Ferris had voting and dispositive power over the shares Azure held.

         Defendants Michael J. Boustridge, Niel Ransom, and Robert E. Switz were the remaining members of the Cyan board. Each was an outside director. Switz served on Cyan's Strategic/Finance Committee.

         B. The Securities Litigation in California

         On April 1, 2014, two pension funds filed a securities class action in California state court asserting violations of the Securities Act of 1933 in connection with Cyan's initial public offering in May 2013 (the "Securities Litigation"). The defendants in the Securities Litigation include Cyan, the seven members of its board of directors who are defendants in this action, Jefferies LLC, and several other firms that served as underwriters for the IPO: Goldman, Sachs & Co., J.P. Morgan Securities LLC, and Pacific Crest Securities LLC.

         On or about May 18, 2015, a class was certified in the Securities Litigation consisting of "[a]ll persons who purchased or otherwise acquired Cyan common stock from May 9, 2013 to November 4, 2013, except for purchases or acquisitions of non-registered shares in a private transaction, " and excluding certain affiliates of the defendants in the Securities Litigation and any person who validly requests exclusion from the class.[2] The action remains pending as of the date of this opinion. Cyan is obligated to indemnify Jefferies and the Cyan directors for damages that could result from the Securities Litigation.

         C. Cyan Issues Convertible Debt

         On May 22, 2014, during a meeting of Cyan's board of directors, management informed the board that Cyan only had sufficient cash to survive through the second quarter of 2015. Preliminary discussions with several potential lenders indicated that Cyan might only be able to secure modestly more debt than what was available at the time under its existing credit facility.

         In early June 2014, Floyd (Cyan's CEO) held discussions with representatives of Jefferies concerning opportunities for Cyan to raise additional capital. On July 2 and again on July 23, representatives from Morgan Stanley & Co. LLC expressed the view that it would be difficult for Cyan to raise additional capital absent one or more key business developments, such as a major customer win.

         On August 6, 2014, after having discussions with Morgan Stanley and Jefferies, the Cyan board determined that Cyan could raise additional capital through a convertible debt offering (the "Convertible Debt Offering"). By December 4, 2014, however, the board had not been able to secure sufficient commitments from unaffiliated investors to satisfy certain minimum investment conditions for the proposed Convertible Debt Offering. As a result, the two management directors on Cyan's board (Hatfield and Floyd), an investment firm controlled by one of its outside directors (Norwest), and Jefferies agreed to invest in the offering in the following amounts: $4 million, $2 million, $11 million, and approximately $5 million, respectively. The Convertible Debt Offering ultimately raised $50 million.

         Under the indenture governing the convertible notes, if the notes are converted in connection with a merger, the converting note holder would receive the same consideration that a holder of the number of shares of Cyan common stock into which such notes were convertible immediately before the merger would have been entitled to receive in the merger, subject to the acquirer's right to elect to pay cash in lieu of issuing shares. The indenture also contained a "make-whole" provision under which, for a certain period of time, the note holders could require a purchaser to repurchase their convertible notes at 100% of the principal amount plus accrued and unpaid interest if a "Fundamental Change" occurs.[3]

         D. Cyan's Financial Performance Improves

         In 2014 and the first quarter of 2015, Cyan reported continuous revenue growth and improving liquidity. It reported revenues of $19 million, $24.4 million, $26.6 million, and $30.5 million for the first, second, third, and fourth fiscal quarters of 2014, respectively, and $36 million in revenue for the first fiscal quarter of 2015. As of March 31, 2015, Cyan had cash and cash equivalents on hand of $53.87 million.

         By February 10, 2015, Cyan had received a $28 million purchase order from its largest customer, Windstream Corporation. The Windstream order was expected to be filled across the first three quarters of 2015, and management believed that there could be a second round of orders from Windstream in the following months. Management revised its internal revenue outlook for 2015 to incorporate the Windstream order and its outlook for 2016 and 2017 based on Windstream and other generally positive momentum in the business. Due to these developments, management prepared a 2015 momentum plan, which increased the 2015 revenue projection above the level of the previously approved operating plan.

         On April 6, 2015, Cyan's board noted the company's increased dependence on Windstream. It also noted that United States government stimulus spending was driving recent business activity in part, and that it was uncertain whether the increased level of Windstream business could be sustained through all of 2015 and 2016.

         E. Cyan Enters into a Merger Agreement with Ciena

         During the same period when Cyan was conducting the Convertible Debt Offering and its operational results were improving, it also explored potential strategic opportunities with other companies. A sale process began around April 2014, when a third party contacted Cyan's Chief Financial Officer to express its interest in learning about Cyan's business. On December 17, 2014, Cyan's board enlisted Jefferies' assistance for the sale process.

         During a meeting on January 27, 2015, Cyan's management and the Strategic/Finance Committee "discussed the fact that Jefferies had purchased, and was still holding, $5.5 million of the Company's 8% convertible notes and the related warrants and, as such, would have an interest in the outcome of a strategic transaction in addition [to] the fee arrangement in the advisory engagement."[4] The General Counsel of Cyan "noted that the Committee and, eventually the full Board, would want to consider these factors in connection with evaluating the advice and, if applicable, any fairness opinion by Jefferies."[5] The board also considered Jefferies' potential conflict of interest because of its status as a defendant in the Securities Litigation, but ultimately decided to keep Jefferies involved in the sale process.

         On January 29, 2015, Hatfield learned that Ciena, which had been engaged in discussions to acquire Cyan, would prefer him to stay with the company following a transaction.

         On April 9, 2015, Cyan's General Counsel and representatives of its outside counsel, Wilson Sonsini Goodrich & Rosati, P.C., participated in a call with representatives of Ciena and its outside counsel, Hogan Lovells U.S. LLP, to discuss how Cyan's outstanding convertible notes and warrants would be treated in a proposed strategic transaction. Representatives of Hogan Lovells expressed Ciena's concern that the note holders' security interests in Cyan's assets and the negative covenants in the convertible notes would continue to apply after the closing based on the structure of the proposed transaction that was under consideration. They also conveyed Ciena's preference for the proposed transaction to be structured in a way that would qualify as a "Fundamental Change, " which would cause the security interests and the negative operating covenants to terminate after the closing. Representatives of Hogan Lovells then discussed that a "Fundamental Change" could be triggered in a transaction in which the consideration paid for Cyan common stock was a mix of both cash and stock.

         On April 18, 2015, representatives of Hogan Lovells participated in a call with representatives of Wilson Sonsini to discuss Ciena's requirement that the form of merger consideration be adjusted to consist of both cash and stock so as to trigger a "Fundamental Change" under the indenture for the convertible notes. On April 21, representatives of Jefferies participated in a call with Ciena's financial advisor, Morgan Stanley, during which representatives of Morgan Stanley formally proposed that the form of merger consideration Ciena was offering be changed from all stock to a mix of 11% cash and 89% stock in order to trigger a "Fundamental Change." The stock component of the merger consideration would be measured by the value of Ciena's common stock at closing.

         On April 26, 2015, Ciena provided a draft employment term sheet to Hatfield. He then participated in a call with representatives of Ciena to review and discuss the employment terms, as well as the terms of similar term sheets for eight other Cyan employees that Ciena had identified during the due diligence process.

         On April 28, 2015, the Strategic/Finance Committee decided that it would be advisable to contact Houlihan Lokey Capital, Inc. for a second fairness opinion. On April 30, during a board meeting, an attorney from Wilson Sonsini "made note of the fact that certain members of the Board, and Jefferies, held convertible notes and related warrants of the Company, the ownership of which could be interpreted as creating a possible conflict of interest."[6]

         On April 29, and continuing through until a final term sheet was signed on May 3, 2015, Hatfield, with the assistance of independent counsel, negotiated the terms of his employment with representatives of Ciena.

         On May 3, 2015, Houlihan Lokey rendered a fairness opinion concerning the Merger. The board unanimously approved the Merger the same day.

         On May 4, 2015, Ciena issued a press release announcing the Merger, which stated in relevant part that:

HANOVER, Md. - May 4, 2015 - Ciena® Corporation (NYSE: CIEN), the network specialist, has entered into a definitive agreement to acquire Cyan Inc. (NYSE: CYNI), a leading provider of next-generation software and platforms to enable open, agile and scalable software-defined networks. Under the terms of the agreement, Ciena will acquire all of the outstanding shares of Cyan in a cash and stock transaction currently valued at approximately $400 million (or $335 million, net of estimated cash acquired) and inclusive of Cyan's outstanding convertible notes on an as-converted basis.
. . .
Transaction Terms and Timing
Upon the closing of the transaction, Cyan shareholders will receive consideration equal to the value 0.224 shares of Ciena common stock (89% of which will be delivered in Ciena common stock and 11% will be delivered in cash based on the value of Ciena common stock at closing). This exchange ratio represents $4.75 per share of Cyan common stock, based on Ciena's 20-day volume weighted average price as of May 1, 2015. Based on the structure of the transaction, Cyan's outstanding warrants will be deemed to have been automatically exercised upon closing. In addition, Ciena will also assume Cyan's outstanding equity awards.
In connection with the acquisition, Ciena will assume Cyan's $50 million in outstanding principal amount of 8.0% Convertible Senior Secured Notes due 2019. Under the terms of the indenture, for a period following closing, the note holders may elect to convert such notes at an increased conversion rate, or alternatively require that all or a portion of their notes be purchased for cash at a purchase price equal to the principal plus accrued interest. In the event that any note holders do not make either such election, such notes will become obligations of Ciena.[7]

         F. Litigation Ensues and the Transaction Closes

         Beginning on May 15, 2015, five purported class actions were filed in this Court challenging the proposed transaction. On June 23, 2015, these five actions were consolidated and co-lead counsel was appointed.

         On June 26, Ciena filed an amendment to its Form S-4 Registration Statement with the Securities and Exchange Commission, attaching Cyan's preliminary proxy statement (the "Proxy").[8] On June 30, Cyan filed a definitive proxy statement recommending that Cyan's stockholders vote in favor of the Merger.

         In mid-July 2015, defendants made a voluntary production of documents to plaintiffs' counsel. On July 20, 2015, after reviewing the documents that were produced to them, plaintiffs sent a letter to Cyan's counsel demanding that Cyan supplement its disclosures in the Proxy. Cyan declined to do so.

         On July 31, 2015, stockholders of Cyan holding approximately 71% of Cyan's outstanding common stock voted to approve the Merger, with approximately 98% of those voting expressing their approval.[9] The Merger closed on August 3, 2015.

         G. Procedural History

         Plaintiffs' initial complaint sought to enjoin the Merger. As noted above, plaintiffs also demanded that Cyan supplement its Proxy before the stockholders' meeting scheduled to consider the proposed merger, which request Cyan rebuffed. Plaintiffs nevertheless did not file a motion for expedition or preliminary injunctive relief.

         On July 15, 2016, almost one year after the Merger closed, plaintiffs filed the Verified Third Amended Class Action Complaint, asserting two claims. Count I asserts that the seven members of Cyan's board breached their fiduciary duties in connection with their approval of the Merger. Count II asserts that defendants withheld material information that prevented Cyan's stockholders from determining "whether to pursue their statutory appraisal rights, "[10] and asks the Court to award the remedy of quasi-appraisal.

         On July 19, 2016, defendants filed a motion to dismiss the Complaint under Court of Chancery Rule 12(b)(6) for failure to state a claim for relief. On February 6, 2017, after observing that plaintiffs had asserted a lengthy list of alleged disclosure deficiencies in their opposition brief, the Court asked plaintiffs to file a letter before the hearing on the motion to dismiss "identifying what plaintiffs believe are their three strongest disclosure claims."[11] Plaintiffs' counsel did so later that same day.

         II. ANALYSIS

         The standards governing a motion to dismiss for failure to state a claim for relief are well settled:

(i) all well-pleaded factual allegations are accepted as true; (ii) even vague allegations are "well-pleaded" if they give the opposing party notice of the claim; (iii) the Court must draw all reasonable inferences in favor of the non-moving party; and (iv) dismissal is inappropriate unless the "plaintiff would not be entitled to recover under any reasonably conceivable set of circumstances susceptible of proof."[12]

         Although the standard is a minimal one, the Court "will not credit conclusory allegations or draw unreasonable inferences in favor of the Plaintiffs."[13] The Court also "is not required to accept every strained interpretation of the allegations proposed by the plaintiff."[14]

         For the reasons explained below, I conclude that Count I for breach of fiduciary duty must be dismissed for two independent reasons. First, plaintiffs have failed to plead sufficient facts to support a reasonable inference that the directors of Cyan breached their duty of loyalty or acted in bad faith in connection with the Merger. Second, a majority of disinterested stockholders of Cyan approved the Merger in a fully informed, uncoerced vote. Thus, under Corwin v. KKR Financial Holdings LLC and its progeny, the transaction can only be attacked on the ground of waste, which plaintiffs do not allege.[15]

         I also conclude that dismissal of Count II for quasi-appraisal logically follows from the dismissal of Count I. As an initial matter, plaintiffs' request for quasi-appraisal is premised on disclosure deficiencies alleged in the Complaint but, as discussed below, the former stockholders of Cyan were not deprived of any material information in deciding whether to seek appraisal. The cause of action underlying the quasi-appraisal remedy that plaintiffs seek, moreover, is in reality a claim for breach of the fiduciary duty of disclosure. Because plaintiffs have failed to state a non-exculpated claim for breach of fiduciary duty, they cannot obtain quasi-appraisal as a remedy.

         A. Plaintiffs Fail to Plead a Non-Exculpated Breach of Fiduciary Duty

         Under the Merger Agreement, the former stockholders of Cyan received 89% of the merger consideration in the form of Ciena common stock and the rest in cash. Because the merger consideration primarily consisted of stock in a publicly traded company, enhanced scrutiny under Revlon[16] does not apply, as plaintiffs sensibly concede.[17] Plaintiffs also do not allege that the transaction triggers Unocal or should be subject to the entire fairness review ab initio.[18] Thus, the business judgment rule presumptively applies to the Court's review of the transaction, and the Court will not second-guess a board's decision unless that decision "cannot be attributed to any rational business purpose."[19]

         Cyan's certificate of incorporation contained an exculpatory provision permitted under 8 Del. C. § 102(b)(7).[20] Accordingly, to survive the motion to dismiss, plaintiffs must state a claim that a majority of defendants acted in bad faith or otherwise breached their duty of loyalty.[21] As this Court stated in Orman v. Cullman, where self-dealing is not involved, one must allege facts from which it reasonably may be inferred that a director's interest in a transaction is material to that director in order to sustain a claim for breach of the duty of loyalty:

in the absence of self-dealing, it is not enough to establish the interest of a director by alleging that he received any benefit not equally shared by the stockholders. Such benefit must be alleged to be material to that director. Materiality means that the alleged benefit was significant enough in the context of the director's economic circumstances, as to have made it improbable that the director could perform her fiduciary duties to the . . . shareholders without being influenced by her overriding personal interest.[22]

         Well-pleaded allegations that the board did not act in good faith also would state a claim for breach of the duty of loyalty sufficient to survive a motion to dismiss. In general, "bad faith will be found if a fiduciary intentionally fails to act in the face of a known duty to act, demonstrating a conscious disregard for his duties, "[23] or if "the decision under attack is so far beyond the bounds of reasonable judgment that it seems essentially inexplicable on any ground other than bad faith."[24]

         After carefully reviewing the allegations in the Complaint, I conclude that plaintiffs have failed to plead sufficient facts to support a reasonable inference that a majority of Cyan's board were interested in the Merger or acted in bad faith.

         1.Plaintiffs Fail to Plead Sufficient Facts Supporting a Reasonable Inference that a Majority of Cyan's Board ...

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