Board Members Side Deal Allegedly Harmed Shareholders Class Action Claims

Although most board members of publicly traded companies are paid an annual salary, plus a bonus based on performance (usually in the form of company stock), being on the board of a company or organization tends to be a part-time job and most members have day jobs in addition to their position on the board.

But because board members bear a fiduciary responsibility to look after the financial interests of the company’s investors, they have to be very careful where they get the rest of their income. Accept some money or do a favor for someone from the wrong company, and you raise suspicions that you might have a conflict of interests.

Alan Kahn, an investor in United Flexible, Inc., an aerospace parts manufacturer and an affiliate of Arlington Capital Partners, filed a lawsuit in Delaware against two of Kreisler Manufacturing Corp.’s board members for allegedly conducting a merger in bad faith. According to the lawsuit, the two board members, Edward Stern and his brother Michael, received side deals from Arlington just before the board decided to drop its asking price for the company.

The lawsuit further alleges board members deliberately failed to disclose important information from shareholders regarding the merger. As evidence, Kahn’s complaint points to the fact that the board members refused to make copies of the merger agreement, requiring instead that all shareholders who wanted any information about the details about the agreement needed to be willing to fly to Philadelphia to see a physical copy of the contract.

Kahn’s lawsuit alleges United’s share prices dropped as a result of the side deals the board members had arranged between themselves and for their own profit.

The securities lawsuit was initially dismissed a few months ago by Vice Chancellor Sam Glasscock III, who found that most of Kreisler’s board members were independent and disinterested in the alleged side deals, and that Kahn had not provided sufficient evidence to support his allegations that the board members had breached their fiduciary duties concerning the merger with United. Kahn appealed the decision and is asking the Delaware Supreme Court to hear his case.

In his motion to appeal the case to the state supreme court, Kahn claimed the Stern brothers (who, together, own approximately 25% of the company’s stock and are the only two executives on the board) received advantageous employment agreements, as well as a sales bonus agreement from Arlington right before Kreisler decided to lower its asking price. Kahn’s complaint alleges that these favorable agreements between representatives of the two companies prior to the mergers may have influenced the board’s decision to lower their asking price for United to acquire Kreisler, especially since the board allegedly failed to disclose those agreements to shareholders prior to the merger, or the reason for lowering their asking price.

Kahn alleges the company failed to disclose at least three key pieces of information to shareholders regarding the merger, which he maintains is more than enough evidence to bring claims of bad faith and violation of fiduciary responsibility. But attorneys for the board members insist Kahn’s lawsuit was rightly dismissed the first time and that his appeal is little more than reorganizing and restating his original allegations for the state supreme court.

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