Advancement Claim Denied – 'By Reason Of The Fact' Standard Analyzed

Under Section 145 of the Delaware General Corporation Law ("DGCL"), claims for indemnification or advancement by a director or officer of a corporation must relate to lawsuits or proceedings "by reason of the fact" that such person was or is serving in such capacity. The recent decision of Lieberman v. Electrolytic Ozone, Inc., C.A. No. 10152-VCN (Del. Ch. Sept. 5, 2015) sheds light on the "by reason of the fact" standard, and qualifies as a relatively rare finding that the claims for which advancement is sought do not qualify under the statutory standard.

[We previously wrote about the recent Lieberman decision in this prior post to discuss the Court's decision not to grant "fees on fees" in favor of plaintiff given his lack of success in obtaining advancement, despite language in the governing documents allowing for a recovery of attorneys' fees so long as the claim is not found to have been brought in bad faith.]

In Lieberman, former directors of Electrolyte Ozone, Inc. ("EOI"), Wayne Lieberman and Carl Lutz, sought advancement arising from third party claims brought by EOI against plaintiffs in an arbitration proceeding between EOI and plaintiffs' current employer, Franke Foodservice Systems, Inc. ("Franke"). The arbitration between EOI and Franke arose from EOI's early termination of a contract whereby EOI provided Franke with product and an exclusive license to intellectual property. Franke alleged breach of contract claims, and EOI brought counterclaims against Franke and third-party claims against Lierberman and Lutz in connection with their respective At-Will Employment, Proprietary Information, Invention Assignment and Non-Solicit and Non-Compete Agreement (the "PIIA Agreements") entered into by plaintiffs with EOI while employed therewith.

The Court analyzed whether the claims against plaintiffs were brought "by reason of the fact" that plaintiffs were former directors of EOI. The Court noted that "the 'by reason of the fact' test requires 'a nexus or causal connection between any of the underlying proceedings . . . and [Plaintiffs'] official corporate capacit[ies].'" Homestore, Inc. v. Tafeen...