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Butorin v. Blount

United States District Court, D. Delaware

September 30, 2018

PAVEL BUTORIN, Derivatively on Behalf of Nominal Defendant
v.
W. FRANK BLOUNT, LOREN K. CARROLL, JEFFREY E. CURTISS, LINDA Z. COOK, LESTER L. LYLES, JACK B. MOORE, RICHARD J. SLATER, JOHN R. HUFF, and WILLIAM P. UTT, Defendants, KBR, INC., Plaintiff, and KBR, INC., Nominal Defendant

          Brian D. Long, RIGRODSKY & LONG, P.A., Wilmington, DE Robert I. Harwood, Matthew M. Houston, James G. Flynn, Benjamin I. Sachs-Michaels, HARWOOD FEFFER LLP, New York, NY Attorneys for Plaintiffs

          Kelly E. Farnan, RICHARDS LAYTON &FINGER, P.A., Wilmington, DE Michael C. Holmes, Jeffrey S. Johnston, Amy E. Tankersley, VINSON &ELKINS LLP, Dallas, TX Attorneys for Defendants

          MEMORANDUM OPINION

          STARK, U.S. DISTRICT JUDGE

         Plaintiff Pavel Butorin (“Plaintiff or “Butorin”), who owns shares of stock in Nominal Defendant KBR, Inc. (“KBR” or the “Company”), filed this derivative action against KBR and Defendants W. Frank Blount, Loren K. Carroll, Jeffrey E. Curtiss, Linda Z. Cook, Lester L. Lyles, Jack B. Moore, Richard J. Slater, John R. Huff, and William P. Utt (collectively, the “Director Defendants” and, together with KBR, “Defendants”). (D.I. 28) (“Complaint” or “Compl.”) Butorin seeks to press breach of fiduciary duty claims against the Director Defendants on behalf of the Nominal Defendant.[1] The case was stayed, by agreement of the parties, during the pendency of a motion to dismiss in a related securities fraud class action (the “Securities Lawsuit”) in the United States District Court for the Southern District of Texas. (See D.I 26)

         Pending before the Court is Defendants motion to dismiss pursuant to Federal Rules of Civil Procedure 23.1 and 12(b)(6). (D.I. 30) The Court will grant the motion.

         I. BACKGROUND

         This lawsuit arises out of “seven construction contracts related to pipe fabrication and modular assembly projects” to which KBR was a party in Canada (the “Canadian Contracts”). (Compl. ¶ 33) (internal quotation marks omitted) The Complaint alleges that these projects were of high importance to KBR, as reflected in the fact that losses incurred from the misreporting of these projects cost KBR more than the Company made in net income in either 2012 or 2013. (Id. ¶ 34) The Complaint alleges that in KBR's 2012 Form 10-K, the Company disclosed that “at least quarterly, significant projects are reviewed in detail by senior management.” (Id. ¶ 36) (internal brackets and quotation marks omitted) It further alleges “[t]he Board also engages in risk oversight through the project approval process, whereby projects reaching a threshold level of expected revenues require Board approval.” (Id.) Plaintiff, however, does not identify that threshold or how the Canadian Contracts compare to it. The Complaint does allege that the Board permitted KBR representatives to state that the Canadian Contracts “were a core element of KBR's financial performance and highly profitable” and to “issue disclosures hyping the strong performance of the Canadian pipe fabrication business.” (Id. ¶ 38)

         Plaintiff also alleges that prior to approval of a large project, KBR's senior management would receive white-paper briefs, which “would include cost estimates, an explanation of how they were created, [and] risk evaluation, and they specifically would note the presence or absence of ‘design drawings.'” (Id. ¶ 37) (emphasis added)[2] Incorporating allegations from the Securities Lawsuit, Plaintiff adds that Company policy is to view “entering a new construction contract without design drawings . . . as a significant risk and required the approval of senior management.” (Id.) (citing Kohut, et al., v. KBR, Inc., et al., No. 4:14-cv-01287 (S.D. Tex.) (ECF No. 60 at ¶ 62))

         In 2013, KBR filed its form 10-K with the Securities and Exchange Commission (“SEC”) for the 2012 fiscal year, disclosing a decrease in consolidated operating income due to “increased estimated costs to complete several U.S. construction fixed-price projects.” (Id. ¶ 39) The 2012 10-K also disclosed that revenue from KBR's “Services” business increased overall compared to the prior year, largely due to the Canadian Contracts. (Id.) The 10-K described KBR's accounting policies, which include a percentage-of-completion methodology, [3] whereby significant projects are reviewed quarterly in detail by senior management. (Id. ¶ 40) The Complaint specifies the risk management role of the Board, the role of the Board's Audit Committee, [4] and which directors were on the Audit Committee.

         On April 12, 2013, KBR supplemented its SEC disclosures and, on April 25 of that year, issued a press release describing increases in revenue and discussing the Canadian Contracts. (Id. ¶¶ 44-45) Relying in part on these representations regarding the Canadian Contracts, “various analysts published reports projecting strong growth for KBR.” (Id. ¶ 47) Other SEC filings and statements of KBR corporate officers mentioned the importance of the Canadian Contracts and their relation to the success of the Company. (See Id. ¶¶ 48-51) Defendant Utt stated on November 13, 2013 “that the Company's operations in Canada have been very successful in construction fabrication turnarounds.” (Id. ¶ 55) (internal quotation marks omitted) Shortly thereafter, on December 16, KBR announced that Defendant Utt would be retiring as Chairman, President, and CEO. (Id. ¶ 56)

         KBR's 2013 Form 10-K, filed on February 27, 2014, “concluded there was a material weakness in the operating effectiveness of its internal control over financial reporting, ” adding that after additional analysis “the consolidated financial statements included in this Form 10-K present fairly, in all material respects, our financial position.” (Id. ¶ 58) The same 10-K touted the Canadian Contracts (i.e., “oil sands-related projects in western Canada”). (Id. ¶ 59)

         KBR's Chief Accounting Officer resigned on March 4, 2014, which the Company publicly disclosed on March 10. (Id. ¶ 61) Meanwhile, on March 6, Defendant Utt sold $4.5 million worth of KBR stock. (Id. ¶ 62) On April 1, the Board filed with the SEC its definitive proxy statement for a May 15 shareholder meeting, at which stockholders would vote on matters including election of directors. (Id. ¶ 64) The proxy statement disclosed that each of the incumbent directors attended 75% or more of the aggregate meetings and repeated information about the Board's risk oversight functions. (Id. ¶¶ 65-66)

         “On April 9, 2014, the Board caused the Company to announce that [D]efendant Utt had resigned and Stuart Bradie (‘Bradie') had been named President and Chief Executive Officer of KBR, effective June 2, 2014.” (Id. ¶ 67) “On May 5, 2014, the Board caused KBR to issue a press release announcing that it would restate its financial statements for the year 2013.” (Id. ¶ 68) The restatement involved recognition of $158 million of losses associated with the Canadian Contracts. (Id. ¶ 68) The loss triggered a default in certain credit covenants and caused analysts to downgrade KBR stock from Buy to Neutral and to lower the stock price target by 20%. (Id. ¶¶ 68-70)

         The SEC opened an investigation into the “material weaknesses to KBR's internal controls and the restatement.” (Id. ¶ 72) In response, the Board put forward a plan to remediate oversight weaknesses, but then, on June 19, KBR reported further losses during the first quarter of 2014 stemming from the same Canadian Contracts. (Id. ¶¶ 75-79) On a call with investors and analysts, KBR's Chief Financial Officer and Executive Vice President blamed the unexpected losses on the lack of in-house drawings earlier in the process. (Id. ¶¶ 79-80)[5]

         Plaintiff instituted this derivative suit without first making a demand on the Board, based on his view that “a pre-suit demand on the KBR Board would be futile, and therefore, [is] excused.” (Id. ¶¶ 85-86) This alleged futility stems from Defendants' (1) bad faith concealment of their inability to “accurately estimate the costs of major contracts, ” (2) failure “to institute functioning internal controls, ” and (3) decision to allow “the Company to issue misleading and untruthful disclosures.” (Id. ¶ 86) Plaintiff alleges that these errors expose the Director Defendants to “a substantial risk of liability for breaches of good faith and loyalty, rendering them unable to fairly and objectively evaluate a pre-suit demand.” (Id.)

         As part of their motion to dismiss, Defendants point to KBR's Certificate of Incorporation, which, they contend, “precludes KBR's directors from being monetarily liable to the [C]ompany or its shareholders for breach of fiduciary duty, except in cases where directors breach their duty of loyalty, act in bad faith, [or] engage in intentional misconduct.” (D.I. 31 at 6) (citing exculpatory ...


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