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IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE

In re KKR FINANCIAL HOLDINGS LLC

SHAREHOLDER LITIGATION

Consol. C.A. No. 9210-CB

OPINION

Date Submitted: July 29, 2014

Date Decided: October 14, 2014

Stuart M. Grant, Mary S. Thomas, Nathan A. Cook and Bernard C. Devieux of Grant & Eisenhofer P.A., Wilmington, Delaware; Mark Lebovitch, Jeroen van Kwawegen and Adam Hollander of Bernstein Litowitz Berger & Grossmann LLP, New York, New York; Christine S. Azar, Peter C. Wood, Jr. and Ned C. Weinberger of Labaton Sucharow LLP, Wilmington, Delaware; Christopher J. Keller, Eric J. Belfi and Michael W. Stocker of Labaton Sucharow LLP, New York, New York, Co-Lead Counsel for Plaintiffs.

Gregory P. Williams, Blake Rohrbacher and Susan M. Hannigan of Richards, Layton & Finger, P.A. of Wilmington, Delaware; Paul C. Curnin, Peter E. Kazanoff and Janet A. Gochman of Simpson Thacher & Bartlett LLP, New York, New York, Attorneys for Defendants KKR & Co. L.P., KKR Fund Holdings L.P., and Copal Merger Sub LLC.

Collins J. Seitz, Jr., Garrett B. Moritz and Eric D. Selden of Seitz Ross Aronstam & Moritz LLP, Wilmington, Delaware; William Savitt, Ryan A. McLeod and David Zhou of Wachtell, Lipton, Rosen & Katz, New York, New York, Attorneys for Defendants Tracy Collins, Robert L. Edwards, Craig J. Farr, Vincent Paul Finigan, Jr., Paul M. Hazen, R. Glenn Hubbard, Ross J. Kari, Ely L. Licht, Deborah H. McAneny, Scott C. Nuttall, Scott Ryles, Willy Strothotte, and KKR Financial Holdings LLC.

BOUCHARD, C.

I. INTRODUCTION

This action involves the novel claim that a holder of less than one percent of the stock of a Delaware corporation was a controlling stockholder and thus owed fiduciary obligations to the other stockholders of the corporation.

In April 2004, KKR & Co. L.P. (“KKR”) acquired KKR Financial Holdings LLC (“KFN”) in a stock-for-stock merger involving two widely-held, publicly-traded companies. Seeking to overcome the presumption that business judgment review would apply to such a transaction, plaintiffs argue that entire fairness should apply because KKR was a controlling stockholder of KFN despite its less than one percent ownership and because a majority of the twelve members of the KFN board that approved the merger was beholden to and not independent from KKR.

Plaintiffs’ controlling stockholder theory is based on the terms of a management agreement whereby an affiliate of KKR managed the day-to-day business of KFN, making KFN operationally dependent on KKR. Since KFN’s inception, however, the ultimate authority for managing its business and affairs, including the decision whether to approve a merger with KKR, was in the hands of a board of directors subject to annual stockholder election.

In this opinion, I conclude that, although the allegations of the complaint demonstrate that KKR’s affiliate managed the day-to-day operations of KFN, they do not support a reasonable inference that KKR controlled the board of KFN when it approved the merger, which is the operative question under Delaware law for determining whether a stockholder is controlling in this case. For this reason, I dismiss plaintiffs’ fiduciary

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duty claim against KKR premised on the theory that KKR was a controlling stockholder of KFN.

I also conclude that plaintiffs’ fiduciary duty claim against the directors of KFN fails to state a claim for relief because the board’s approval of the merger is subject to business judgment review for two independent reasons. First, plaintiffs have failed to allege facts from which it is reasonably inferable that a majority of the KFN board was not disinterested in the transaction or independent from KKR. Second, even if plaintiffs had alleged sufficient facts to reasonably support such an inference, business judgment review still would apply because the merger was approved by a majority of disinterested stockholders in a fully-informed vote.

For these reasons, and others stated below, this action is dismissed with prejudice under Rule 12(b)(6) for failure to state a claim for relief.

II. BACKGROUND1

A. The Parties

Plaintiffs Pompano Beach Police & Firefighters’ Retirement System, Robert A. Corwin, Eric Greene, Margaret DeMauro and Pipefitters Local Union No. 120 Pension Fund were stockholders of KFN who owned shares of KFN at all times relevant to this action.

1 Unless otherwise noted, the facts recited in this Opinion are based on the allegations in the complaint, documents integral to or incorporated in the complaint, or facts of which the Court may take judicial notice.

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Defendant KKR, a Delaware limited liability partnership, is a private equity firm based in New York that specializes in leveraged buyouts. The company was founded in 1976. Today it is a multinational investment firm. KKR completed an initial public offering on July 15, 2010, and its common stock trades under the ticker symbol “KKR” on the New York Stock Exchange.

Defendant KFN, a Delaware limited liability company, was a specialty finance company whose business was generating income and capital appreciation, primarily through investing in sub-investment grade corporate debt securities.

Defendants Tracy Collins, Robert L. Edwards, Craig J. Farr, Vincent Paul Finigan, Jr., Paul M. Hazen, R. Glenn Hubbard, Ross J. Kari, Ely L. Licht, Deborah H. McAneny, Scott C. Nuttall, Scott Ryles, and Willy Strothotte (together, the “KFN board”) were the twelve members of the KFN board of directors in December 2013, when the decision was made to merge with KKR.

Defendants KKR Fund Holdings L.P., an exempted limited partnership formed under the laws of the Cayman Islands (“Holdings”), and Copal Merger Sub LLC, a Delaware limited liability company (“Copal”), are wholly owned subsidiaries of KKR. They were parties to the merger agreement along with KKR and KFN.

B. The Formation of KKR Financial

In 2004, KKR formed KKR Financial Corp., a Maryland real estate investment trust (“KKR Financial”). In June 2005, KKR Financial engaged in an initial public offering. The prospectus for that offering described KKR Financial as “a specialty

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finance company created to invest across multiple asset classes with the objective of achieving attractive leveraged risk-adjusted returns.”2

The 2005 prospectus disclosed that KKR Financial would be “externally managed and advised by KKR Financial Advisors LLC, an affiliate of KKR, pursuant to a management agreement.”3 The prospectus describes the management agreement in detail.4 The terms of the management agreement, as amended following the restructuring of KKR Financial into KFN, are described below.

C. The Restructuring of KKR Financial into KFN

In April 2007, KKR Financial announced a proposed restructuring whereby KKR Financial would be reincorporated as a subsidiary of KFN, a newly created entity. The transaction was subject to the approval of the stockholders of KKR Financial. The prospectus for the transaction (the “2007 Prospectus”) disclosed that KFN would “assume all obligations of KKR Financial Corp. under the management agreement,” which would be amended and restated (hereafter, the “Management Agreement”), and that the “economic terms of the amended and restated management agreement will not be 2 KKR Fin. Corp., Prospectus (Form B4) 1 (June 24, 2005) (KFN Defs.’ Op. Br. Ex. 1 at

1). Although this document is not referenced in the complaint, I take judicial notice of its text, which cannot reasonably be disputed. See Narrowstep, Inc. v. Onstream Media Corp., 2010 WL 5422405, at *5 (Del. Ch. Dec. 22, 2010) (“For example, a court may take judicial notice of the contents of an SEC filing, but only to the extent that the facts contained in them are not subject to reasonable dispute.”).

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4 Id. at 6. Id. at 6-8, 20-22, 101-03, 115-25.

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