Donoghue v. Tannenbaum

Background

Deborah Donoghue and Mark Rubenstein, who owned securities in Oaktree Specialty Lending Corporation (OCSL), brought a shareholder derivative action on OCSL’s behalf under Section 16(b) of the Securities Exchange Act of 1934. Section 16(b) generally requires an insider to return profits from matching a purchase and sale of an equity security within six months.

The plaintiffs alleged that Leonard M. Tannenbaum was a statutory insider because he owned more than 10% of OCSL’s stock. They claimed that he acquired approximately 8.35 million OCSL shares when Oaktree Strategic Income Corporation (OCSI) merged into OCSL, exchanging approximately 6.36 million OCSI shares for OCSL shares. They further alleged that Tannenbaum sold 4,704,822 OCSL shares within the relevant six-month period for a purported profit of $1,076,059.86.

Tannenbaum had entered into voting agreements with Oaktree. Those agreements required him to vote his shares according to Oaktree’s written instructions, although they allowed him to vote freely when Oaktree gave no instruction on a specific proposal. On February 8, 2021, Tannenbaum’s wife asked Oaktree how to vote his shares, and Mathew Pendo responded, “Please vote in favor of all 3 proposals.” Tannenbaum’s wife later voted in favor of the relevant proposals at the OCSL and OCSI shareholder meetings. The merger was approved and closed on March 19, 2021.

Procedural history

Tannenbaum initially moved to dismiss. Because the key February 8 emails were not part of the amended complaint and could not properly be considered on the pleadings, the parties conducted limited discovery concerning whether Oaktree had instructed Tannenbaum how to vote. The court then converted Tannenbaum’s dismissal motion into a summary-judgment motion. After discovery, both sides moved for summary judgment.

Legal framework

The parties agreed that the OCSL shares were covered securities, that Tannenbaum was a statutory insider, that he sold OCSL shares, and that the challenged sales occurred within six months before or after his merger-related acquisition. They disputed whether that acquisition counted as a “purchase” under Section 16(b).

The court treated the merger-related stock exchange as an “unorthodox transaction,” meaning a transaction that does not look like an ordinary purchase but must be examined pragmatically under the statute. Under that two-part test, the transaction is exempt only if the insider’s acquisition was involuntary and the insider lacked access to exploitable inside information.

Analysis

Involuntary transaction. The court held that Tannenbaum’s acquisition was involuntary. It found that the February 8 email was a written instruction under the voting agreements and that the instruction covered the merger votes in both Tannenbaum’s capacity as an OCSL shareholder and as an OCSI shareholder. Although the email referred to “all 3 proposals,” the court concluded that the merger was properly understood as one proposal requiring separate votes by the two shareholder groups. The court found that a reasonable factfinder could not interpret the email as allowing Tannenbaum to vote for one part of the merger and against or abstain on the other.

Because Oaktree’s instruction contractually bound Tannenbaum’s votes, the court concluded that he had no meaningful control over the merger. The court rejected the plaintiffs’ arguments that Tannenbaum could have foreseen the merger, had created the circumstances leading to it, or had solicited the instruction through his wife’s email. Those circumstances did not give him control once Oaktree issued its written instruction.

Access to exploitable inside information. The court also held that Tannenbaum lacked access to inside information that he could exploit in connection with the merger. Although his ownership normally created a presumption that he had access to inside information, the court found that the voting agreements restricted his ability to influence management and helped separate him from such information. Tannenbaum testified that he first learned about the proposed merger through public announcements and that his later discussion with Pendo concerned information from public documents.

The plaintiffs argued that Tannenbaum may have learned nonpublic information about how the exchange ratio would be calculated. The court concluded that any such information was immaterial because the public already knew the formula and had received illustrative exchange ratios based on publicly disclosed net asset values. The only unknown figure was the net asset value shortly before the merger, which the court described as inherently unknowable at the earlier time.

The court also rejected the argument that Oaktree’s private voting instruction was exploitable inside information. Oaktree had publicly supported and helped arrange the merger, and the voting agreements publicly disclosed Oaktree’s authority to direct Tannenbaum’s votes. The court found that it was obvious Oaktree would instruct Tannenbaum to support the merger. Finally, the court rejected the theory that Oaktree’s knowledge should be attributed to Tannenbaum merely because he had given Oaktree control over his voting rights.

Disposition

The court held that both requirements of the unorthodox-transaction exemption were established without a genuine dispute of material fact: Tannenbaum’s merger-related acquisition was involuntary, and he lacked access to exploitable inside information. It therefore held that the acquisition and subsequent sales were exempt from Section 16(b) liability. The court granted Tannenbaum’s motion for summary judgment, denied the plaintiffs’ mirror-image motion, and directed the clerk to close the case.