Golden Rule Financial Corporation v. Shareholder Representative Services LLC

• Court: Supreme Court of Delaware
• Decided: December 3, 2021
• Docket: 61, 2021
• Status: Published

Opinion

IN THE SUPREME COURT OF THE STATE OF DELAWARE

GOLDEN RULE FINANCIAL § CORPORATION, § No. 61, 2021 § Plaintiff Below, § Court Below: Court of Chancery Appellant, § of the State of Delaware § v. § § C.A. No. 2020-0378-PAF SHAREHOLDER § REPRESENTATIVE SERVICES § LLC, § § Defendant Below, § Appellee. §

Submitted: September 22, 2021 Decided: December 3, 2021

Before SEITZ, Chief Justice; VALIHURA and VAUGHN, Justices.

ORDER

This 3rd day of December 2021, upon consideration of the parties’ briefs and

the record of the case, it appears that:

1. The plaintiff-appellant, Golden Rule Financial Corporation (“Golden

Rule”), appeals from a Court of Chancery judgment dismissing its complaint

pursuant to Chancery Rule 12(b)(6). Golden Rule is the buyer in an agreement (“the

Agreement”) for the sale of USHEALTH Group, Inc. (“the Company”). The

defendant-appellee, Shareholder Representative Services LLC (“SRS”), is the

representative of the former stockholders of the Company for purposes of this transaction. The Agreement provides that Golden Rule would acquire the Company

for a base purchase price of $750 million. The base purchase price, however, was

subject to a post-closing purchase price adjustment.

2. The post-closing purchase price adjustment process resulted in a dispute

between the parties as to the final purchase price, and SRS initiated a dispute

resolution procedure contained in the Agreement. When disputes arose during that

process, Golden Rule initiated this proceeding. On appeal, Golden Rule claims that

the Court of Chancery erred by dismissing its complaint. We have concluded that

the Court of Chancery did not err and that its judgment should be affirmed.

3. Golden Rule is a health insurance company organized under the laws of

Delaware. The Company is a Delaware corporation that owns several insurance

companies and other entities. The Seller, SRS, is a Colorado-based LLC and is the

representative agent and attorney-in-fact of the stockholders of the Company for

purposes of the Agreement.

4. On June 2, 2019, Golden Rule and SRS entered into the Agreement

whereby Golden Rule would acquire the Company. The parties closed the

transaction on August 31, 2019. The Agreement includes a price adjustment

mechanism based on whether certain accounting metrics at closing exceeded or fell

short of targets established at signing. The purchase price was to be adjusted either

upward or downward, depending on whether any business changes increased or

2 decreased the value of the Company between signing and closing. Such a price

adjustment provision is common in transactions of this type and is referred to as a

“true-up process.”

5. The specific accounting metric that was to be utilized in the true-up process

is “Tangible Net Worth.”1 The Agreement provides that Tangible Net Worth means

“as of the [closing date], the total assets . . . minus the total Liabilities . . . minus the

total intangible assets . . . in each case determined in accordance with the

Accounting Principles.”2 The Agreement sets the target Tangible Net Worth at $52

million. If the Tangible Net Worth at closing exceeded $52 million under the true-

up process, Golden Rule would owe the excess amount. If the Tangible Net Worth

fell short of the $52 million target, the purchase price would be reduced accordingly.

6. The Agreement includes a several-step process to accurately determine the

purchase price adjustment at closing. First, § 3.1(a) provides that no later than five

days before closing, SRS was required to provide Golden Rule with Pre-Closing

Financials, which included good-faith estimates of the financial metrics relevant to

the true-up process and the Company’s estimated purchase price at closing. The

applicable provision reads, in relevant part, as follows:

No later than five (5) Business Days prior to the anticipated Closing Date, the Company shall deliver to [Golden Rule] a statement setting forth an estimated

1 App. to Appellant’s Op. Br. at A0025 (Compl. ¶ 25) [hereinafter A_]. 2 A0064 (emphasis added).

3 balance sheet of the Company as of the [closing date] prepared in accordance with the Accounting Principles (the “Estimated Balance Sheet”) and a schedule . . . (the “Estimated Schedule”) showing, in reasonable detail, a good faith estimate of the Company’s calculations of the Tangible Net Worth (the “Estimated Tangible Net Worth”) . . . .3

Thus, the Agreement required that estimates be prepared in accordance with

the “Accounting Principles,”4 which are defined in Annex A of the Agreement. The

Agreement further provided at § 3.4(b) that Golden Rule was to respond to SRS’s

calculations within ninety days after the closing date with its own calculation of

Tangible Net Worth. Sec 3.4(b) provides in relevant part, as follows:

No later than 90 days after the Closing Date, [Golden Rule] shall deliver to [SRS] a statement (the “Final Adjustment Statement”) setting forth (i) the balance sheet of the Company as of the [closing date] prepared in accordance with the Accounting Principles, consistently applied (the “Subject Balance Sheet”), and (ii) [Golden Rule’s] good faith calculation of (A) the Tangible Net Worth. . . .5

7. Essential to SRS’s and Golden Rule’s calculations of the Tangible Net

Worth are the Accounting Principles. The Accounting Principles first require that

the Tangible Net Worth be prepared and calculated in accordance with the following

hierarchy:

3 A0073. 4 A0145. 5 A0077.

4 (a) The accounting principles and policies specifically set out below (the “Specific Policies”); (b) To the extent not addressed in paragraph (a) and not inconsistent with GAAP, as applicable, the accounting policies, principles, procedures, rules, practices, methodologies, categorizations, and definitions used to prepare the audited GAAP annual consolidated balance sheet as at December 31, 2018 . . .; (c) To the extent not addressed in paragraphs (a) and (b), GAAP, as applicable.6

8. Therefore, the parties were required to begin their calculations in

accordance with the “Specific Policies.”7 The Specific Policies refer to a special

accounting standard known as “ASC 606.” ASC 606 is the accounting procedure at

issue in this case. ASC 606 was adopted by the Financial Accounting Standards

Board (“FASB”)—an organization that establishes financial accounting standards

for companies that follow the Generally Accepted Accounting Principles (“GAAP”).

ASC 606 is a relatively new accounting standard. Private companies, such as the

Company, were not required to adopt it until the annual reporting period ending

December 31, 2019. Consequently, it was not mandatory for the Company to

implement ASC 606 during negotiations or prior to closing. The parties, through

their negotiations, however, chose to include ASC 606 in the Accounting Principles.

9. Prior to closing, SRS provided Golden Rule with its Estimated Tangible

6 A0145. 7 Id.

5 Net Worth. SRS estimated the Tangible Net Worth at closing to be approximately

$40.75 million, which would reduce Golden Rule’s purchase price by $11.25

million. When Golden Rule began to calculate its final adjustment after closing, it

realized that the Company had consistently but incorrectly applied ASC 606.

Applying the incorrect approach used by the Company prior to closing, Golden Rule

calculated the final Tangible Net Worth to be approximately $35 million, $5.75

million below SRS’s estimations. However, when Golden Rule applied ASC 606

correctly, the final Tangible Net Worth increased to $73.7 million.

10. Believing that the parties had agreed to “consistently apply” the

Accounting Principles post-closing in the same manner as they had been applied

when determining the Tangible Net Worth target set forth in the agreement and

SRS’s calculation just prior to settlement, Golden Rule’s Final Adjustment

Statement relied on the incorrect, yet consistent, ASC 606 approach taken by the

Company and SRS. Under this approach, Golden Rule determined Tangible Net

Worth at the aforementioned $35 million. Golden Rule, however, also provided the

Company and SRS with a Reconciliation Statement that showed the estimate of

$73.7 million had the ASC 606 been applied correctly rather than “consistently.”

11. SRS took the position that ASC 606 should be correctly applied, and that

the Final Adjustment Amount should be based on the Tangible Net Worth of $73.7

million calculated by Golden Rule. It began the Agreement’s dispute resolution

6 process and in that proceeding engaged an independent accounting firm known as

KPMG to determine the Final Adjustment Amount and resolve the dispute over the

application of ASC 606.

12. Golden Rule then filed its complaint in the Court of Chancery. It set forth

three counts: breach of contract, breach of the implied covenant of good faith and

fair dealing, and quasi-estoppel. The relief requested in all three was a declaration

that the Agreement requires the same, consistent application of ASC 606 as had been

applied by the Company and SRS, and an injunction prohibiting SRS from asking

KPMG to determine the Financial Application Amount using an application of ASC

606 that is inconsistent with the Company’s own application. SRS responded with

its motion to dismiss the complaint for failure to state a claim upon which relief

could be granted under Rule 12(b)(6).

13. In its ruling on SRS’s motion to dismiss, the court first found, as to Count

I, the breach of contract claim, that the agreement unambiguously requires the

correct application of ASC 606 to the Closing Balances Sheets and the Tangible Net

Worth estimates. It reasoned that although the Agreement does not use the qualifiers

“accurate” or “correct,” they are inherent in the ordinary and usual meaning of the

provisions involved. The court rejected Golden Rule’s argument that “consistently

applied” in § 3.4(b)(i) required that the Company’s incorrect application of ASC 606

be carried on to the conclusion of the process.

7 14. Regarding Counts II and III, the court found that there was no gap to be

filled by the covenant of good faith and fair dealing, and that Golden Rule did not

meet the high standard required for invoking quasi-estoppel.

15. This Court reviews a decision to grant a motion to dismiss under Rule

12(b)(6) de novo “to determine whether the trial judge erred as a matter of law in

formulating or applying legal precepts.”8 The Court must accept all well-pleaded

allegations as true and draw reasonable inferences in favor of the plaintiff.9

“Nevertheless, conclusory allegations need not be treated as true, nor should

inferences be drawn unless they truly are reasonable.”10 “Dismissal is appropriate

only if it appears with reasonable certainty that, under any set of facts that could be

proven to support the claims asserted, the plaintiff would not be entitled to relief.”11

16. Golden Rule contends that the contractual language that the final true-up

process figures be prepared “in accordance with the Accounting Principles,

consistently applied” means that Golden Rule was entitled (and obligated) to prepare

the true-up process figures in the same manner the Company did before closing; that

the purpose of the true-up process required application of the Accounting Principles

in the same manner both before and after closing; and that inconsistent application

8 Clinton v. Enter. Rent-A-Car Co., 977 A.2d 892, 895 (Del. 2009) (internal quotation marks omitted). 9 Feldman v. Cutaia, 951 A.2d 727, 731 (Del. 2008). 10 Id. 11 Clinton, 977 A.2d at 895 (internal quotation marks omitted).

8 of the Accounting Principles would produce an unfair windfall for SRS. It contends

that the Court of Chancery’s interpretation of the Agreement causes it to read as if

the clause in question, § 3.4(b), said simply “in accordance with the Accounting

Principles[,]” and essentially reads the phrase “consistently applied” out of the

Agreement.

17. As mentioned, Tangible Net Worth is defined as being prepared “in

accordance with the Accounting Principles.”12 The Accounting Principles, in turn,

require that the calculations be prepared in agreement with the outlined hierarchy,

which unambiguously requires that the Tangible Net Worth “reflect the impact of

the requirements of [ASC 606].”13 Golden Rule contends that it did apply ASC 606

because an incorrect application of the rule is still an application of the rule. We

believe, however, that Golden Rule’s contentions are antithetical to the plain

language that the Tangible Net Worth “reflect the impact of the requirements of

[ASC 606].”14

18. The structure of the Agreement illustrates that the intention of the parties

was to implement the correct approach to ASC 606. The “Specific Policies,” which

include ASC 606, are at the top of the Accounting Principles hierarchy, followed by

“the accounting policies [and] principles . . . used to prepare the [Company’s]

12 A0073. 13 A0145. 14 Id.

9 audited GAAP annual consolidated balance sheet as at December 31, 2018.”15 This

hierarchy shows that the parties prioritized the application of ASC 606. An incorrect

application of ASC 606 would effectively result in ASC 606 being left unapplied,

despite the parties’ express agreement to apply ASC 606.

19. Golden Rule’s argument that the Court of Chancery’s interpretation

effectively erases “consistently applied” from the Agreement, violating the principle

that courts give effect to all provisions in a contract, is unpersuasive. Because GAAP

“allows for a variety of treatments,”16 “consistently applied” can reasonably be

interpreted as preventing either party from opportunistically picking and choosing

different treatments under GAAP rather than applying the agreed upon GAAP

provisions. The plain language of the Agreement supports an application of the

correct application of ASC 606. Golden Rule’s position would, in substance, read

ASC 606 out of the agreement.

20. Golden Rule relies, in part, upon this Court’s opinion in Chicago Bridge

& Iron Co. N.V. v. Westinghouse Electric Co. LLC.17 In that case, Chicago Bridge

agreed to sell its subsidiary, Stone, to Westinghouse.18 Chicago Bridge and

Westinghouse had an “extensive collaboration and complicated commercial

15 Id. 16 Chicago Bridge & Iron Co. N.V. v. Westinghouse Electric Co. LLC, 166 A.3d 912, 929 (Del. 2017). 17 166 A.3d 912 (Del. 2017). 18 Id. at 917.

10 relationship”19 in the nuclear power plant business. The relationship became

contentious, and to resolve their differences, the parties agreed that Chicago Bridge

would sell Stone to Westinghouse, which would allow Chicago Bridge to make a

“clean break from the spiraling cost of the nuclear projects.”20 Reflecting the fact

that a purpose of the transaction was essentially to enable Chicago Bridge to get out

of the nuclear power plant business, the contract had several unique provisions.21

One was that the purchase price of the deal was set at zero.22 Chicago Bridge agreed

to this purchase price because of another uncommon provision: a Liability Bar.23

The Liability Bar eliminated Chicago Bridge’s liability to Westinghouse for any

post-closing claims for breaches of representations and warranties.24

21. The agreement had a true-up provision, which required that final

calculations be “prepared and determined from the books and records of the

Company and its Subsidiaries and in accordance with [GAAP] applied on a

consistent basis throughout the periods indicated and with the Agreed Principles.”25

Chicago Bridge was likely to receive compensation only if the true-up process led

19 Id. at 914. 20 Id. at 915. 21 See id. at 920. 22 Id. 23 See id. 24 Id. 25 Id. at 922.

11 to that result. The true-up target in that transaction was Net Working Capital.26

22. Shortly before closing, Chicago Bridge delivered to Westinghouse its

calculation that the Net Working Capital was approximately $428 million above the

target.27 After settlement, Westinghouse informed Chicago Bridge that it calculated

the Net Working Capital at over $2 billion below the target and that Chicago Bridge

owed it that amount.28 Westinghouse admitted that almost all of the $2 billion arose

from the proposition that Chicago Bridge’s historical financial statements were

based on an incorrect application of GAAP in Stone’s financial statements.29

Chicago Bridge argued in response that the Westinghouse’s claims constituted

alleged breaches of the Agreement’s representations and warranties, which were

barred by the Liability Bar, and that Westinghouse was, in essence, trying to make

an end-run around the Liability Bar.30 This Court agreed with Chicago Bridge that

Westinghouse’s claim was barred by the Liability Bar and that the true-up process

could resolve only changes in Stone’s business between signing and closing.31

23. This case is different from Chicago Bridge in significant respects. In this

case, there is no Liability Bar to contend with and the implementation of ASC 606

26 Id. at 914. 27 Id. at 923. 28 Id. 29 Id. 30 Id. at 925. 31 Id. at 934.

12 was a specifically bargained-for term. Because of these and other factual differences

between the cases, Chicago Bridge has no persuasive precedential value in this case.

24. We also find no error in the Court of Chancery’s dismissal of Golden

Rule’s equitable claims of breach of the covenant of good faith and fair dealing and

quasi-estoppel. The implied covenant of good faith and fair dealing is a “limited and

extraordinary legal remedy[,]”32 which applies only “when the contract is truly silent

concerning the matter at hand. ”33 No such gap exists here. “Under Delaware law,

the doctrine of quasi-estoppel applies ‘when it would be unconscionable to allow a

person to maintain a position inconsistent with one to which he acquiesced, or from

which he accepted a benefit. To constitute this sort of estoppel the act of the party

against whom the estoppel is sought must have gained some advantage for himself

or produced some disadvantage to another.’”34 “[C]ourts are particularly reluctant

to find unconscionability in contracts between sophisticated corporations.”35 We see

no error in the Court of Chancery’s conclusion that SRS’s effort to have ASC 606

applied correctly, which we agree is consistent with the express terms of the contract,

32 Nemec v. Shrader, 991 A.2d 1120, 1128 (Del. 2010). 33 Oxbow Carbon & Minerals Hldgs., Inc. v. Crestview-Oxbow Acq., LLC, 202 A.3d 482, 507 (Del. 2019) (quoting Allied Capital Corp. v. GC-Sun Holdings, L.P., 910 A.2d 1020, 1033 (Del. Ch. 2006)). 34 RBC Capital Markets, LLC v. Jervis, 129 A.3d 816, 872-73 (Del. 2015) (quoting Bank of N.Y Mellon v. Commerzbank Capital Funding Trust II, 2011 WL 3360024, at *8 n.21 (Del. Ch. Aug. 4, 2011). 35 Reserves Mgmt., LLC v. Am. Acq. Prop. I, LLC, 86 A.3d 1119, 2014 WL 823407, at *9 (Del. 2014).

13 is not unconscionable.

NOW, THEREFORE, IT IS THE ORDER of the Court that the judgment of

the Court of Chancery is AFFIRMED.

BY THE COURT:

/s/ James T. Vaughn, Jr. Justice