Title: Levco Alternative Fund Ltd. et al. v. The Reader's Digest Association, Inc. et al. v. Ryder et al.
Citation: N/A
Docket Number: 466, 2002, 467, 2002
State: Delaware
Issuer: Delaware Supreme Court
Date: August 13, 2002

IN THE SUPREME COURT OF THE STATE OF DELAWARE 
 
LEVCO ALTERNATIVE FUND 
§ 
LTD. and PURCHASE  
 
§ 
ASSOCIATES, L.P., 
 
 
§ No. 466, 2002 
§ 
Plaintiffs Below, 
 
§ Court Below: Court of Chancery 
Appellants,  
 
§ of the State of Delaware in and 
§ for New Castle County  
v. 
 
 
 
 
§ C.A. No. 19771 
§  
THE READER’S DIGEST 
 
§ Consolidated  
ASSOCIATION, INC., THOMAS 
§ 
O. RYDER, JONATHAN B. 
 
§ 
BULKELEY, HERMAN CAIN, § 
LYNNE V. CHENEY, M.  
§ 
CHRISTINE DEVITA, JAMES E. 
§ 
PRESTON, LAWRENCE R.  
 
§ 
RICCIARDI, C.J. SILAS,  
§ 
WILLIAM J. WHITE, ED 
 
§ 
ZSCHAU, DEWITT WALLACE- 
§ 
READER’S DIGEST FUND and  
§ 
LILA WALLACE-READER’S § 
DIGEST FUND,  
 
 
§ 
§ 
Defendants Below, § 
Appellees. 
 
 
§ 
 
CAROLE LANG,  
 
§ 
§ 
Plaintiff Below, 
 
§ 
Appellant,  
 
§ No. 467, 2002 
§ 
v. 
 
 
 
 
§ Court Below: Court of Chancery 
§ of the State of Delaware in and for 
THOMAS O. RYDER, 
 
 
§ New Castle County 
JONATHAN B. BULKELEY, 
 
§ C.A. No. 19574 
HERMAN CAIN, LYNNE V. 
 
§ 
 
 
2 
CHENEY, M. CHRISTINE 
 
§      Consolidated 
DEVITA, JAMES E. PRESTON, 
§ 
LAWRENCE R. RICCIARDI, C.J. 
§ 
SILAS, WILLIAM J. WHITE, ED 
§ 
ZSCHAU, DEWITT WALLACE- 
§ 
READER’S DIGEST FUND, LILA 
§ 
WALLACE-READER’S DIGEST 
§ 
FUND, and THE READER’S  § 
DIGEST ASSOCIATION, INC., 
§ 
§ 
Defendants Below, § 
Appellees. 
 
 
§ 
 
Submitted: August 13, 2002 
Decided: 
August 13, 2002 
 
Before WALSH, BERGER, and STEELE, Justices. 
 
 
O R D E R 
 
This 13th day of August 2002, upon consideration of the briefs of the parties and 
oral argument it appears to the Court that: 
(1) 
This is an expedited appeal from the Court of Chancery following denial 
of an application for a preliminary injunction.  The appellants-plaintiffs below are Class 
A non-voting shareholders of Reader’s Digest Association, Inc. (“RDA”), a Delaware 
corporation, who seek to prevent the implementation of a recapitalization of RDA 
scheduled for shareholder vote on August 14, 2002.  This Court accepted interlocutory 
review upon certification from the Court of Chancery.  After expedited briefing and 
 
 
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oral argument, we conclude that the Court of Chancery erred in estimating the 
probability of success on the issue of entire fairness of the transaction.  Given the 
constraints of time, our ruling is necessarily brief. 
(2) 
The recapitalization plan at issue calls for RDA to: (i) purchase all the 
shares of its Class B voting stock at a premium ratio of 1.24 to 1 with the newly issued 
common stock at one vote per share; (ii) recapitalize each share of the Class A non-
voting stock into one share of the new voting common stock; (iii) create a staggered 
Board of Directors; and (iv) eliminate the ability of shareholders to act by written 
consent. 
(3) 
The key to the recapitalization proposal is the agreement by RDA to 
purchase 3,636,363 shares of Class B Voting Stock owned by the DeWitt Wallace-
Reader’s Digest Fund and the Lila Wallace Reader’s Digest Fund (the “Funds”) at 
$27.50 per share for an aggregate purchase price of approximately $100 million.  The 
Funds currently control 50 percent of the Class B voting stock.  Following the 
recapitalization, the funds will hold 14 percent of the new voting stock. 
(4) 
The appellants sought a preliminary injunction in the Court of Chancery 
asserting that the purported recapitalization was ultra vires to the extent it contravened 
RDA’s charter-based requirement to treat all classes of shareholders identically.  
 
 
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Appellants alleged that the recapitalization resulted in financial detriment to the Class 
A shareholders.  Appellants also argued that the Special Committee established to 
evaluate the fairness of the transaction breached its fiduciary duty to consider the 
separate interests of the Class A shareholders.  RDA and its directors do not dispute 
that the directors owe a fiduciary duty to the Class A shareholders but contend that they 
discharged that duty through the intensive negotiations between the Funds and the 
Special Committee, composed of three outside directors. 
(5) 
Appellants contend that the recapitalization violates Article IV(l) of the 
Reader’s Digest certificate of incorporation, which provides that Class A and Class B 
stock “shall participate share and share alike in all dividends and distributions of assets 
upon liquidation or otherwise and shall be identical in all other respects....”  As 
appellants read the certificate, on all matters except voting rights, Class A and Class B 
stock must be treated identically. 
(6) 
The Court of Chancery held that the recapitalization does not violate 
Article IV.  We review that decision of law de novo, and conclude that the trial court 
correctly interpreted the disputed provision.  Kaiser Alum. Corp. v. Matheson, 681 A.2d 
392, 394 (Del. 1996).  First, the recapitalization is not a dividend or a distribution of 
assets, as those terms are commonly understood.  Second, the “identical in all other 
 
 
5 
respects” language, read in context, refers to the other stock rights and preferences 
identified in the first eleven subsections of Article IV – conversion rights, redemption 
preferences, etc.  It does not mandate identical  treatment of Class A and Class B stock 
in a recapitalization. 
(7) 
Appellants next assert that the directors, including the Special Committee, 
were subject to the control of the Funds and were thus required to demonstrate the 
entire fairness of the transaction.  Appellants further contend that the directors 
breached their duty of care.  Rejecting the entire fairness claim, the Court of Chancery 
ruled that regardless of where the burden of proof reposed, the evidence does not 
support the view that plaintiffs would ultimately succeed in demonstrating that the 
activities of the Special Committee did not result in a “fair and genuinely negotiated 
price.”  In our view the record does not support that conclusion. 
(8) 
Although the Court of Chancery did not elaborate on the burden of 
proof, we think it significant here that the initial burden of establishing entire fairness 
rests upon the party who stands on both sides of the transaction.  Kahn v. Lynch Comm. 
Sys., Inc., 638 A.2d 1110, 1117 (Del. 1994).  That burden may shift, of course, if an 
independent committee of directors has approved the transaction.   Emerald Partners v. 
Berlin, 726 A.2d 1215, 1221 (Del. 1999).  While we agree with the Court of Chancery 
 
 
6 
that the independent committee who negotiated the recapitalization believed it was 
operating in the interests of the corporation as an entity, we conclude that the 
committee’s functioning, to the extent it was required to balance the conflicting 
interests of two distinct classes of shareholders, was flawed both from the standpoint of 
process and price. 
(9) 
With respect to the unfair dealing claim, the Special Committee never 
sought,  nor did its financial advisor, Goldman Sachs, ever tender, an opinion as to 
whether the transaction was fair to the Class A shareholders.  Goldman Sachs  directed 
its fairness opinion to the interests of RDA as a corporate entity.  Given the obvious 
conflicting interests of the shareholder classes, the conceded absence of an evaluation of 
the fairness of the recapitalization on the Class A shareholders is significant.  While the 
Class A shareholders received voting rights, their equity interests decreased by at least 
$100 million without either their consent or an objective evaluation of the exchange.  
In short, while the Special Committee believed, perhaps in good faith, that the 
transaction was in the best interests of the corporation, arguably, it never focused on the 
specific impact upon the Class A shareholders of RDA’s payment of $100 million to the 
Class B shareholders.  
 
 
7 
(10) With respect to the premium paid to the Class B shareholders, given 
RDA’s tenuous financial condition, having recently committed to a large acquisition, 
incurring additional debt in order to pay $100 million to the Class B shareholders is a 
matter of concern.  The net result of the transaction was to significantly reduce the post-
capitalization equity of the corporation.  To the extent that the directors did not secure 
sufficient information concerning the effect of the recapitalization premium on the 
Class A shareholders, a serious question is raised concerning the discharge of their duty 
of care.  Kahn v. Tremont Corp., 694 A.2d 422, 430 (Del. 1997). 
(11) When seeking a preliminary injunction, a plaintiff must demonstrate a 
reasonable probability of success on the merits and that some irreparable harm will 
occur in the absence of the injunction.  Gimbel v. Signal Companies, Inc., 316 A.2d 599, 
603 (Del. Ch. 1974).  In evaluating the need for a preliminary injunction, the Court 
must balance the plaintiff’s need for protection against any harm that can reasonably be 
expected to befall the defendants if the injunction is granted.  This balancing may prove 
difficult but where, as here, the need for protection outweighs possible detriment to the 
defendants if the transaction does not proceed immediately the injunction should issue. 
 (12) We are not required, nor was the Court of Chancery, to determine the 
final merits of appellants’ claims but, in our view, they stand a reasonable probability of 
 
 
8 
success.  It is unquestioned that the appellants will be irreparably harmed.   While 
future monetary relief may be available, the issuance of the shares contemplated by the 
recapitalization may place a practical remedy beyond judicial reach. 
(13) Appellants have also attacked the staggered board and elimination of 
written consents proposals as entrenchment measures subject to enhanced judicial 
scrutiny under Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985).  Since the  
alleged entrenchment measures are intended to limit the exercise of voting rights of 
shares to be issued under the recapitalization plan, the enjoining of that plan renders 
consideration of these claims unnecessary. 
We recognize that appellants have been somewhat dilatory in pressing the claims 
but, in view of the fact that the proxy material was not issued until July 12, 2002 we 
cannot say that the delay in this case requires the forfeiture of relief.  Finally, we note 
that the transaction between RDA and the Funds remains viable until September 30, 
2002.  A trial on the merits may permit the transaction to proceed in any event. 
NOW, THEREFORE, IT IS ORDERED that the judgment of the Court of 
Chancery be, and the same hereby is REVERSED.  The matter is REMANDED to the 
Court of Chancery with instructions to enter a preliminary injunction as prayed by 
plaintiffs.  The mandate shall issue forthwith. 
 
 
9 
BY THE COURT: 
 
   s/Joseph T. Walsh 
         Justice