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Court Declines to Dismiss Shareholder Lawsuit Alleging Failure to Use “Commercially Reasonable Efforts” to Develop Product

The Delaware Court of Chancery recently denied a motion to dismiss a breach of contract suit brought by former shareholders of a corporation, who alleged that the corporation’s buyers had failed to fulfill their obligations under a merger contract. Himawon, et al. v. Cephalon, Inc., et al, C.A. No. 2018-0075-SG, mem. op. (Del. Chanc. Ct., Dec. 28, 2018). Since Delaware law tends to influence businesses around the country, the ruling could be relevant to California business disputes. The case presents interesting questions about the use of highly subjective language to define a party’s obligations in a contract. In this case, the buyers agreed to use “commercially reasonable efforts” to develop a valuable product owned by the corporation, id. at 2, and the plaintiffs allege that they failed to do so.

Although the plaintiffs in Himawon are shareholders of the corporation, it is not a shareholder derivative suit. Instead, it is a suit for breach of contract, based on a merger contract in which the plaintiffs agreed to sell their shares. In California, a plaintiff claiming breach of contract must prove six elements by a preponderance of the evidence: (1) a valid and enforceable contract existed between the parties; (2) the plaintiff performed their duties under the contract, or was excused from doing so; (3) all conditions necessary for the defendant to perform their duties under the contract had either occurred or been excused; (4) the defendant either failed to do something required by the contract, or did something prohibited by the contract; (5) the plaintiff suffered harm; and (6) the defendant’s breach substantially caused the plaintiff’s harm.

The corporation in Himawon owned the intellectual property rights to an antibody, which is a type of protein used to fight diseases. Antibodies are a natural part of the human immune system, but they are also used in medical and pharmaceutical research to develop new treatments. The court notes that “bringing antibodies to market” involves a “long, arduous, and risky” process due to “rigorous governmental oversight for risk and efficacy.” Id. The corporation entered into a merger agreement with another corporation, which reportedly tried to divide the risk among the parties. The buyer agreed to pay an initial sales price, followed by earn-outs paid to the former shareholders based on “certain milestones in the approval of the antibody to treat two different conditions.” Id. It agreed to use “commercially reasonable efforts” to attain these goals.

The plaintiffs allege that the defendants, which include the original corporation and the buyer, abandoned efforts to develop the antibody and obtain approval for the treatment of one of the two conditions. They filed suit for breach of contract, claiming that the defendants failed to use “commercially reasonable efforts.” Since the amount of earn-out the plaintiffs will receive depends on approval of the antibody for commercial use, they allege that the defendants’ breach has caused them financial harm, or is likely to cause them harm.

The defendants moved to dismiss the complaint, arguing that the plaintiffs had failed to state an actionable claim. The court disagreed. While it noted that the plaintiffs’ case might be very hard to prove, the court held that their allegations present valid questions of fact that should proceed beyond the pleading stage.

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