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Williams v. Ji

Court of Chancery of Delaware

June 28, 2017

YVONNE WILLIAMS, on behalf of herself and similarly situated Sorrento Therapeutics, Inc. stockholders and derivatively on behalf of Sorrento Therapeutics, Inc., Plaintiff,
v.
HENRY JI, WILLIAM S. MARTH, KIM D. JANDA, JAISIM SHAH, DAVID H. DEMING, DOUGLAS EBERSOLE, GEORGE NG, and JEFFREY SU, Defendants, and SORRENTO THERAPEUTICS, INC., a Delaware corporation, Nominal Defendant.

          Date Submitted: May 31, 2017

          Joel Friedlander, Christopher M. Foulds, and Christopher Quinn, FRIEDLANDER & GORRIS, P.A., Wilmington, Delaware; Mark Lebovitch, David Wales, Christopher J. Orrico, and Alla Zayenchik, BERNSTEIN LITOWITZ BERGER & GROSSMAN LLP, New York, New York; Francis Bottini Jr., BOTTINI & BOTTINI, INC., La Jolla, California; Attorneys for Plaintiff.

          J. Clayton Athey and John G. Day, PRICKETT, JONES & ELLIOTT, P.A., Wilmington, Delaware; Peter M. Stone and Rachana N. Fischer, PAUL HASTINGS LLP, Palo Alto, California; Attorneys for Defendants.

          MEMORANDUM OPINION

          MONTGOMERY-REEVES, Vice Chancellor

         This action arises out of an alleged scheme in which the directors of a Delaware corporation granted themselves options and warrants for the stock of five subsidiaries over which the corporation has voting control. Shortly before or after the options grants, the board transferred valuable assets and opportunities of the corporation to the subsidiaries. Plaintiff, a stockholder of the corporation, challenges the options and warrant grants as a breach of fiduciary duty. In addition, Plaintiff challenges a voting agreement that the corporation entered in connection with a private placement as illegal vote buying. Under the voting agreement, the private placement investor is required to vote its shares of the corporation as the corporation's board directs.

         Defendants move to dismiss asserting that the business judgment rule should apply. They argue that the options and warrant grants are permissible director compensation for service on the boards of the subsidiaries and that the voting agreement is a means of ensuring that the private placement investor does not vote its shares against the corporation's interests. Defendants also move to stay in favor of an earlier-filed case in this Court. In this opinion, I deny Defendants' motion to dismiss because the options and warrant grants and the voting agreement are subject to entire fairness review, and Defendants have not carried their burden of proving entire fairness at this stage. Defendants' motion to stay is denied as moot because the earlier-filed case has settled.

         I. BACKGROUND

         The facts in this opinion derive from Plaintiff's Verified Class Action and Derivative Complaint (the "Complaint") and the documents it incorporates by reference.[1]

         A. Parties and Relevant Non-Parties

         Sorrento Therapeutics, Inc. is a Delaware corporation with its principal place of business in San Diego, California ("Sorrento"). Sorrento is in the business of biopharmaceutical development and marketing. The company's shares are publicly traded on the Nasdaq Capital Market under the ticker symbol SRNE.

         Concortis Biosystems, Corp. ("Concortis"), TNK Therapeutics, Inc. ("TNK"), LA Cell, Inc. ("LA Cell"), Sorrento Biologics, Inc. ("Biologics"), and Scintilla Pharmaceuticals, Inc. ("Scintilla") are subsidiaries of Sorrento. Sorrento allegedly has voting control over each of the subsidiaries.

         Plaintiff Yvonne Williams is a stockholder of Sorrento.

         Defendants Henry Ji, William S. Marth, Kim D. Janda, Jaisim Shah, David H. Deming, and Douglas Ebersole were the Sorrento directors at the time of the challenged options and warrant grants and the voting agreement. By the time of the Complaint, non-party Yue Alexander Wu had replaced Douglas Ebersole on the board.

         Defendants George Ng and Jeffrey Su-officers of Sorrento-are named Defendants in the Complaint, but Plaintiff has voluntarily dismissed her claims against them.[2]

         B. Facts

         1. The options and warrant grants

         On March 15, 2016-five days before nominations were due for Sorrento directorships-Sorrento issued its form 10-K for the 2015 fiscal year, disclosing that Sorrento subsidiaries had granted a series of stock options and warrants to certain Sorrento personnel, directors, and consultants (the "Grants"). On April 29, 2016, after the deadline for director nominations had passed, Sorrento filed an amendment to the form 10-K, disclosing that all of the Sorrento directors were recipients of the Grants. The Sorrento stockholders did not approve the Grants. Only the Sorrento directors approved the Grants pursuant to the subsidiaries' stock option plans, and the Sorrento stockholders never approved the stock option plans.[3] The Sorrento directors also adopted or amended the certificates of incorporation of the five subsidiaries to allow for the issuance of Class B stock with 10 to 1 voting rights. Those decisions were not approved by the Sorrento stockholders.

         a. Scintilla

         In October 2015, Scintilla, a Sorrento subsidiary, granted options to purchase 1, 600, 000 shares of Scintilla common stock to the six Sorrento directors and a warrant to purchase 9, 500, 000 shares of Scintilla Class B stock with 10 to 1 voting rights to Defendant Ji. The options and the warrant had a $0.01 per share exercise price. Ten months later, on August 2, 2016, Sorrento, Scintilla, and Scilex Pharmaceuticals, Inc., a pharmaceutical development company, ("Scilex") agreed to a term sheet under which Scintilla would purchase all of the Scilex stock. The term sheet contemplated that upon the closing, Sorrento would contribute $10 million to Scintilla to fund working capital expenses. Ji currently owns 6.5% of Scilex's equity, which Scintilla would purchase under the term sheet. On August 15, 2016, Sorrento, Scintilla, and Semnur Pharmaceuticals, Inc. ("Semnur") agreed to a similar term sheet under which Scintilla would acquire all of the Semnur equity for a $60 million initial payment of Sorrento stock and cash. Defendant Shah is a director and Chief Executive Officer of Semnur and owns 5.5% of Semnur's outstanding stock.

         b. Biologics

         In August 2015, Sorrento entered an exclusive license with Mabtech Limited ("Mabtech") to develop and sell four late-stage antibodies in the North American, European, and Japanese markets. In October 2015, Sorrento transferred its rights under the Mabtech exclusive license to its subsidiary Biologics. In the same month, Biologics granted options to purchase 2, 000, 000 shares of Biologics common stock to the Sorrento directors with a $0.01 per share exercise price. Biologics also granted Defendant Ji a warrant to purchase 9, 500, 000 shares of Biologics Class B shares with 10 to 1 voting rights for $0.01 per share.

         c. LA Cell

         In May 2015, LA Cell, a Sorrento subsidiary, granted options to purchase 1, 700, 000 shares of LA Cell common stock to the Sorrento directors and a warrant to purchase 9, 500, 000 shares of LA Cell Class B stock with 10 to 1 voting rights to Ji. The warrant and the options have an exercise price of $0.01 per share. The options and warrant give Ji the right to purchase over 18% of the economic interest and 25% of the voting interest in LA Cell. Subsequently on September 25, 2015, LA Cell entered an exclusive licensing agreement with City of Hope, a medical research center, under which LA Cell licensed to City of Hope certain technology that allows antibodies to target so-called "undruggable" disease-causing molecules. Sorrento announced that the total deal value with City of Hope could be in excess of $170 million.

         d. Concortis

         In 2013, Sorrento acquired Concortis in exchange for Sorrento stock worth $11 million. Concortis drove Sorrento's revenue growth in 2014, and the subsidiary filed five patent applications in 2013 and 2014. In October 2015, Concortis granted options to purchase 1, 600, 000 shares of Concortis common stock to the Sorrento directors and a warrant to purchase 9, 500, 000 shares of Concortis Class B stock with 10 to 1 voting rights to Ji. The options and the warrant had an exercise price of $0.25 per share.

         e. TNK Therapeutics

         On May 18, 2015, Sorrento founded TNK Therapeutics ("TNK") to focus on developing "CAR.TNK immunotherapies" for the treatment of cancer and infectious diseases. In the same month, TNK granted the Sorrento directors options to purchase 1, 700, 000 shares of TNK common stock and granted Ji a warrant to purchase 9, 500, 000 shares of TNK Class B stock with 10 to 1 voting rights. The options and the warrant had exercise prices of $0.01 per share. Sorrento and TNK then entered purchase agreements for TNK to acquire (1) all of the membership interests of CARgenix for $6 million in TNK common stock and (2) all of the stock of BDL Products, Inc. ("BDL") for $6 million in TNK common stock. Both of the purchase agreements provide that if TNK does not complete a financing of at least $50 million or an initial public offering before certain deadlines in 2016, the original owners of CARgenix and BDL will become entitled to receive Sorrento common stock. On November 25, 2015, an analyst report issued by Brean Capital, LLC allegedly valued TNK at $1.3 billion.

         Plaintiff alleges that the Grants from Scintilla, Biologics, LA Cell, Concoritis, and TNK were part of an illegal scheme to siphon assets from Sorrento for the benefit of self-interested Sorrento directors.

         2.The voting ...


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