Corporate and Securities Law Alert

2009 Amendments to Delaware Corporation Law

Wednesday, April 22, 2009

On April 10, 2009, the governor of Delaware signed into law several amendments to the Delaware General Corporation Law (DGCL). The amendments, which will go into effect on August 1, 2009, provide for changes in several key areas including the right of access to proxy solicitation materials; proxy expense reimbursement; retroactive elimination of indemnification or advancement of expenses; record dates; and the judicial removal of directors. It is important to note, however, that with respect to the amendments relating to proxy access and expense reimbursement, the amendments merely authorize the adoption of bylaws addressing these issues and do not impose any requirements on corporations.

• Access to Proxy Solicitation Materials (new §112) – Stockholder access to a corporation’s proxy statement has been debated at the state and federal level in recent years. Prior to the effectiveness of the amendments to the DGCL, a Delaware corporation has had no obligation to include stockholder nominees in the corporation’s proxy solicitation materials. Stockholders seeking to nominate candidates for election to the board of directors have been obligated to prepare and mail a separate proxy statement from the corporation’s proxy statement, which generally results in the stockholder incurring significant costs.

  New Section 112 of the DGCL will allow (but not require) a corporation’s bylaws to provide that if a corporation solicits proxies for an election of directors, individuals nominated by stockholders also be included in the corporation’s proxy solicitation materials, including any form of proxy distributed by the corporation.

  Delaware’s adoption of Section 112 coincides with renewed review by the Securities and Exchange Commission (SEC) of federal proposals regarding shareholder access. Earlier this month, SEC Chairman Mary Shapiro announced that in May, the SEC also will consider a proposal regarding shareholder proxy access. The SEC will examine the issue with “fresh eyes” and take into consideration the 2009 amendments to the DGCL and previous proposals made by the SEC in 2003 and 2007. Chairman Shapiro stated that the SEC wants to ensure that any procedural requirements for access are rational and ensure that a corporation’s stockholders have a meaningful opportunity to nominate directors. The proposals may set forth a minimum ownership threshold that must be satisfied by a stockholder in order for its nominees to be included in the corporation’s proxy material, or may leave such threshold or other rules to be set by the states independently, which the amendments to the DGCL would accommodate.

  The new requirements under Section 112 provide that to the extent that a bylaw is adopted, the obligation to include stockholder nominees will be subject to any lawful procedures and conditions that are set forth in the bylaw adopted by a corporation. The non-exclusive list of conditions include:

  • A requirement for minimum record or beneficial ownership of shares and duration of ownership by the nominating stockholder. The minimum threshold may define beneficial ownership to include ownership of options, derivative rights or other similar rights. This requirement seeks to prevent manipulation of the election process by stockholders with only a nominal or transitory interest in the corporation.
  • A provision providing that specified information concerning the stockholder and its nominees is to be included in the proxy solicitation materials.
  • A condition of eligibility upon the number or proportion of directors nominated by stockholders or whether the stockholder previously sought to require inclusion. Section 112 was not intended to be used to effectuate a change in control of a corporation. As such, a bylaw may condition eligibility for a limited number or “short slate” of seats.
  • A condition precluding nominations by a person if such person acquired shares representing a certain percentage of the corporation’s voting power within a certain period before the election of directors. Thus, the corporation can preclude nominations relating to an acquisition of a significant percentage of the corporation’s stock, such as in connection with a tender offer or other acquisition related to a change in control.
  • A requirement that the nominating stockholder indemnify the corporation for false or misleading information submitted by the stockholder in connection with the nomination.

   

• Proxy Expense Reimbursement (new §113) – In 2008, the Delaware Supreme Court ruled on two certified questions of law from the SEC related to a stockholder-proposed bylaw that would have required reimbursement of stockholders in connection with a successful proxy solicitation. See CA, Inc. v. AFSCME Employees Pension Plan, 953 A.2d 227 (Del. 2008). The Supreme Court held that a stockholder bylaw amendment proposal that provides for reimbursement of the stockholder by a corporation for proxy expenses may be a valid proposal since it is procedural in nature. However, the Delaware Supreme Court struck down the proposal in question because, if adopted, the directors would be committed to reimburse expenses in all circumstances and thus directors would be prevented from fully discharging their fiduciary duties. Thus, because the proposed bylaw did not contain a fiduciary out, it was held to be invalid.

  To address this decision, newly adopted Section 113 of the DGCL permits the bylaws of a corporation to provide for reimbursement of reasonable expenses incurred by a stockholder in the solicitation of proxies for the election of directors. Section 113 does not include a fiduciary out; however, in light of the Delaware Supreme Court’s decision in CA v. AFSCME, courts may read a fiduciary duty into a bylaw provision if such a carve-out is not included in a proposed bylaw.

  Section 113 includes a non-exclusive list of conditions that the corporation may impose on stockholders that effectively reward a stockholder for a successful proxy solicitation. The lawful conditions that may be imposed include:

  • conditioning reimbursement eligibility upon the number or proportion of persons nominated by the stockholder seeking reimbursement or whether the stockholder had previously sought reimbursement for similar expenses
  • limiting the amount of reimbursement based upon the proportion of votes cast in favor of any of such stockholder’s nominees or based on the amount spent by the corporation in soliciting proxies, and
  • imposing limits concerning elections of directors by cumulative voting.

  Any bylaw would only apply to elections following the date of the adoption of the bylaws.

   

• Prohibition of Retroactive Elimination of Indemnification or Advancement (amendment to §145(f)) – Under the amendment to Section 145, the right to indemnification or to an advancement of expenses cannot be eliminated once an act or omission has occurred giving rise to proceedings for which the indemnification or an advancement of expenses is sought, unless an amendment after the occurrence of the act is expressly permitted in the certificate of incorporation or bylaws.

  This amendment changes the rule set forth in Schoon v. Troy Corp. 948 A.2d 1157, 1165-1166 (Del. Ch. 2008), which provided that an amendment may be made following the occurrence of the act or omission that is the subject of the proceeding for which the indemnification or advancement is sought as long is it is prior to the commencement of the underlying proceeding itself. In Schoon, a plaintiff director had retired from the company. Thereafter, the company amended its bylaws to eliminate the company’s obligation to advance fees to former directors. The company later sued the plaintiff directors for acts that the company alleged were committed during their tenure as directors. The Chancery Court held that the director did not have a vested right in the indemnification provisions as of the date of resignation and that such rights only trigger at the time a lawsuit is commenced in which the indemnification would be called upon. However, by that time, the bylaws had been amended so that they no longer provided former directors with indemnification rights.

  The Schoon opinion had resulted in several corporations amending their bylaws or certificate of incorporation to override the court’s decision. The amendment to Section 145 of the DGCL will statutorily eliminate the concerns raised by the Schoon opinion.

   

• Separate Record Dates (amendments to §211(c), §213(a), §219, §222(a), §262) – A series of amendments to the DGCL will allow the board of directors to set separate record dates for determining which stockholders are entitled to notice of any meeting (which remains unchanged under the DGCL of not more than 60 and not less than 10 days before the date of the meeting) and for determining which stockholders are entitled to vote. There is no statutory requirement as to how close the record date may be to the meeting date. By allowing a corporation to set another later record date relating to voting close to the meeting, the amendment attempts to have voting at a meeting more accurately reflect the stockholder base with an economic interest in the corporation at the time of a meeting. The record date for determining the stockholders entitled to vote must be set forth in the written notice of the meeting.

  If the record date for determining which stockholders are entitled to vote is less than 10 days before the date of the meeting, the list of stockholders required to be prepared and made available prior to the meeting must only reflect the stockholders entitled to vote as of the tenth day before the meeting date. Delaware’s appraisal statute is also being amended to clarify that the record date related to appraisal proceedings is the record date to determine stockholders entitled to receive notice of the meeting.

  These amendments were adopted to address in part “empty voting,” which occurs when stockholders, through various financial or contractual arrangements, are able to acquire voting power without a corresponding economic interest. For example, this can occur in connection with a short selling strategy whereby an investor borrows shares prior to the record date; sells the shares between the record date and the stockholders meeting; votes in a manner to effect a decrease in the company’s stock price, such as voting down a merger; and, after the stockholders meeting, purchases stock at the lower price in order to fulfill its short sale contract for stock that it sold at a higher price prior to the stockholder meeting. Such arrangements by stockholders may improperly influence elections because stockholders may not vote in a manner that maximizes their economic ownership in the corporation or may fail to vote because they no longer have an economic interest in the corporation.

   

• Judicial Removal of Directors (amendment to §225(c)) – Section 225 governs contested elections of directors. The amendment to Section 225(c) will grant a corporation the ability to request the removal from office of a director convicted of a felony in connection with the duties of the director to the corporation or if there is a prior judgment on the merits that a director has breached its duty of loyalty to the corporation. The corporation may seek such removal directly or pursuant to a derivative suit by a stockholder or a member of a non-stock corporation on the corporation’s behalf. The court may order the removal of the director only if it determines that the director did not act in good faith in performing the acts resulting in the conviction or judgment and that removal is necessary to avoid irreparable harm to the corporation.

Matthew M. Greenberg and Odia Kagan

Written by

The material in this publication is based on laws, court decisions, administrative rulings and congressional materials, and should not be construed as legal advice or legal opinions on specific facts. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship.

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