Recent Developments in Case Law
03/11/2014
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Dear clients and friends,

Introduction of the “Enhanced Business Judgment Rule”

Derivative Claim 43335-11-12 Ilan Verdnikov v. Shaul Elovitch

The Financial Division of the District Court of Tel-Aviv-Jaffa (Hon. Chaled Kabub) rejected a motion to file a derivative claim against directors and officers of a company in connection with the approval of a restructuring that was led by its controlling shareholder, who previously purchased the controlling stake in a leveraged buyout (LBO).  The applicants argued that by approving the restructuring, which served the controlling shareholder’s interests, directors and officers of the company breached their fiduciary duties.

In its analysis of the case, the Court introduced the “Enhanced Business Judgment Rule” (Enhanced BJR), which is based on the principles of good faith, the company’s best interest, due care, minority shareholder support and consideration of the company’s financial condition.

The Court ruled that in order to invoke the court’s scrutiny under the Enhanced BJR, an applicant must first show that the controlling shareholder had significant influence over the company’s decision-making processes, coupled with a strong need for the restructuring as a consequence of the LBO.  If this threshold is met, it is then up to the respondent directors and officer to prove that the decision was based on reasonable business-sense, was in the best interest of the company or all of its shareholders and that they acted with due transparency and disclosed all relevant information.  Where necessary, the court will also consider minority shareholder involvement and the company’s financial condition.  Where the circumstances are such that the controlling shareholder had pressing liquidity needs that amount to a “personal interest” in the decision, the court will review the respondent’s position with enhanced scrutiny.  Generally, however, the court will not interfere with the decision if it was made in good faith, with due mindfulness and under no conflict of interests.

Although the Court’s ruling in this case is limited to the circumstances of a restructuring following an LBO, the rationale of the ruling may be applicable to other similar circumstances.

We note that the above decision may be subject to additional review and appeal, and is therefore not necessarily the final word on this matter.

A Shareholder’s Right to sell Shares to be Purchased by Exercising a Right of First Refusal

Civil Claim 36414-11-11 Dorlem Investments (1999) Ltd. v. Delek Real Estate – Yielding Properties Ltd.

The District Court of Tel-Aviv-Jaffa (Hon. Ruth Ronnen) ruled that a shareholder who wishes to purchase shares of a company by exercising its right of first refusal (ROFR) may agree, prior to exercising such right, to offer such shares to a third party, unless explicitly determined otherwise in the company’s constitutive documents.

The District Court reasoned that the main purpose of a ROFR is to protect the expectations and interest of a non-selling shareholder, especially with respect to introduction of new business partners, who may not be amenable to the remaining shareholder(s).  Therefore, the remaining non-selling shareholder may exercise its ROFR with the purpose of selling such shares to a third party, with whom it wishes to partner.

This ruling was given with respect to a company with only two shareholders.  Note that if the company had more than two shareholders, and assuming that the company’s constitutive documents provided all shareholders with a ROFR, the purchasing shareholder would be required to offer the purchased shares to all other shareholders prior to offering them to an external third party.

We note that the above decision may be subject to additional review and appeal, and is therefore not necessarily the final word on this matter.

“Technical Dissolution” of a Partnership

Motion for Leave to Appeal 8521/09 Shraga Biran. Adv. v. Tzidkiyahu Harmolin, Adv.

The Supreme Court (Hon. President Asher D. Grunis, Hon. Hanan Melcer, and Hon. Daphne Barak-Erez) ruled that despite a partner having the right to initiate the dissolution of a partnership, if the court is convinced that an actual dissolution of the partnership is not advisable (such as when the partnership, as a separate corporate entity, is a viable and profitable venture), the court may order a “technical dissolution” of the partnership. A “technical dissolution” practically means the sale of the partnership interests held by the partner wishing to dissolve the partnership to the other partners, for the value of the partnership.  Such “technical dissolution” enables the viable partnership to continue to exist, despite the departure of the departing partner, without any interruption to the continuity of its business.

Applicability of the Negative Personal Interest Doctrine to Partnerships

Opening Summons  25301-07-14 Globe Exploration v. Alexie Danilov

The Financial Division of the District Court of Tel-Aviv-Jaffa (Hon. Danya KarethMeyer) ruled that the duties of a shareholder under the Companies Law, 5759-1999 to act in good faith and to avoid abusing its voting power at a shareholder meeting, as well as the “Negative Personal Interest” doctrine (i.e., a personal interest in opposing a proposed transaction), apply to publicly traded partnerships (notwithstanding there being no current statutory application thereof, although legislation in this respect is pending).  Therefore, the Court ruled that a vote by a partner who has a “negative personal interest” in a resolution brought before the partners may be disregarded with respect to such resolution. In the case at hand, one of the partners conditioned its vote in favour of a resolution on receipt of personal benefits.  The court ruled that such a demand by the partner constituted a “negative personal interest” of such partner, and thus did not count its vote.

Proposed Legislation

Proposed Amendment of the Encouragement of Industrial Research & Development Law, 5744-1984

Proposed legislation has been introduced calling for the amendment of the Encouragement of Industrial Research & Development Law (the R&D Law).  The R&D Law determines the rules, conditions and procedures for receipt of government funding for research and development ventures. If the proposed legislation is adopted, it will materially change certain aspects of rules pertaining to government funding of R&D ventures, mainly with respect to the following:

1. Establishment of a “National Authority for Technological Innovation”. This Authority will have extensive powers and be responsible for providing solutions for challenges and opportunities in the industry in general and more specifically, the hi-tech industry.  The Authority will convert governmental policy into action with respect to research, development and technological innovation, and will be responsible for its execution.
2. Transfer of Know-How. Research Committees that will operate under the Authority will have the power to determine special conditions for the transfer of know-how developed by funded ventures, both inside and outside of Israel.
3. Ownership of IP. The Research Committees will be entitled to give instructions as to ownership of know-how and other IP rights of funded ventures, where the source of such know-how or IP is an academic, health or research institute.

Proposed Amendment of the Penal Law, 5737-1977

Proposed legislation has been introduced calling for the amendment of provisions of the Penal Law regarding corporate criminal liability. If the proposed legislation is adopted, it will redefine the scope of corporate criminal liability and impose a new duty of oversight. Following are the main aspects of such proposed legislation:

1. Corporate Criminal Liability. With respect to criminal offenses requiring criminal intent or negligence, an entity will be criminally liable for such an offense if (i) committed by its senior executive, if it has to do with the executive’s position, or (ii) if the criminal offense was committed by a person with managerial authority in the field of the criminal offense, and due to the circumstances the criminal offense should be deemed as an act of the entity. With respect to criminal offenses requiring criminal intent, the entity will not be liable if the offender had no intention for the entity to benefit from such act, and the act was not such that by nature benefits the entity.
2. Corporate Oversight Duty. The entity will be required to oversee and take all reasonable measures to prevent criminal offenses in the field in which it operates and conducts business. If such an offense is committed by an affiliated party related to the entity, the entity will be presumed to have violated its duty of oversight, unless it proves that it took all reasonable measures to fulfill such duty.
3. Affects of a Merger of Corporate Criminal Liability. A criminal offense committed by a target entity prior to a merger, will be automatically assumed by the acquiring entity. The proposed legislation includes a suggested exemption from liability, if at the time of the merger the acquiring entity was unaware and should not have been aware of the facts constituting the criminal offense.

This publication provides general information and should not be used or taken as legal advice for specific situations, which depend on the evaluation of precise factual circumstances.

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