TOOLEY BROOKS NO EXCEPTIONS—EQUITY DILUTION IS DIRECT.

This Article argues that the Delaware rule that equity “dilution claims are classically derivative” is not consistent with the Tooley test, which sets forth that whether a claim is direct or derivative “turn[s] solely on” who “suffered the harm” and who “recover[s].” Examining the caselaw behind the “classical[]” rule reveals that the underlying reasoning is a relic from the “special injury” framework that Tooley overruled. It does not comport with Tooley as the company suffers no harm when the company issues stock. That is because stock that the company itself holds is not a company asset, has no economic value, and cannot be voted. Indeed, it is well established in the literature that treasury stock is valueless. Put another way, compare the company and its assets to a pie, of which all stockholders own a slice. When an entity issues new shares for cash, pre-existing stockholders hold a smaller percentage of the pie, but the total size of the pie increases. Stockholders hold the same-sized slice as before so long as equity purchasers paid a fair price. When share purchasers do not pay enough, however, existing stockholders find that their slices of the pie have shrunk, even though the pie itself has not. In fact, the pie is now bigger due to the cash payment. An equity issuance does not transfer value out of the company; it only redistributes existing stockholders’ economic and voting rights in the company to the equity purchasers. The entity is uninjured and only its ownership structure is affected. Rather, it is existing stockholders who pay the bill when the company issues equity, and it is therefore stockholders who are harmed—not the company—when a company dilutes stockholders by overpaying in stock. Under Tooley, that is a direct claim. [ABSTRACT FROM AUTHOR]