Three recent decisions from the Delaware Court of Chancery (the "Court") have upended long-standing market practice related to, among other matters, stockholder agreements, board approvals of merger agreements and the availability of damages for lost stockholder premiums following a failed deal. The decisions carried a common theme, standing in favor of strict statutory interpretation over generally accepted market practice, with one decision noting that"[w]hen market practice meets a statute, the statute prevails." Delaware's Council of the Corporation Law Section of the Delaware State Bar Association, which is responsible for proposing amendments to the Delaware General Corporation Law ("DGCL"), responded swiftly by drafting proposed amendments to the DGCL that would abrogate the Court's decisions. After some revision, on June 20, 2024, the Delaware General Assembly passed a bill to enact the proposed amendments, which, as of this writing, is awaiting the signature of Governor John Carney. Below we provide an overview of the three cases and the amendments to the DGCL that have been proposed in response to those decisions.
THE CASES AND RELATED PROPOSED LEGISLATION
WEST PALM BEACH FIREFIGHTERS' PENSION FUND V. MOELIS & CO., 2024 WL 747180 (DEL. CH. FEB. 23, 2024)
The plaintiff challenged the facial validity of various provisions in a stockholder agreement between a public corporation and its founder. The agreement in question provided the founder veto rights over various corporate actions and over the composition of the corporation's board of directors and board committees. The Court granted partial summary judgment in favor of the plaintiff, holding that most of the challenged provisions in the agreement were facially invalid under the DGCL because they restricted the authority of the board of directors to manage the business and affairs of the corporation. The Court found that requiring the board of directors to obtain the founder's prior consent for significant actions effectively delegated managerial authority to the founder, and restricted the board of directors' independent judgment.
Though the rights granted to the founder in Moelis were more generous than typically seen, it is common practice for a controlling stockholder to have powers over certain aspects of the running of a corporation, effectively delegating certain decisions to such stockholder. The DGCL amendments in response to Moelis add new Section 122(18), which expressly authorizes a corporation to enter into contracts with its stockholders and beneficial owners containing the types of consent rights at issue in Moelis, in exchange for minimum consideration determined by the board of directors. The amendments allow for contracts pursuant to which the approval or consent of a stockholder, or stockholders, is required before the corporation may take certain actions. The proposal also codifies the long-standing market practice of corporations agreeing to take or refrain from taking certain corporate actions, providing stockholders or beneficial owners veto rights over certain corporate decisions, and agreeing to support for election director nominees designated by one or more stockholders and appoint stockholder-designated directors to committees of the board.
SJUNDE AP-FONDEN V. ACTIVISION BLIZZARD, INC., 2024 WL 863290 (DEL. CH. FEB. 29, 2024)
In January 2022, Activision, Inc.'s ("Activision") board met and approved a draft merger agreement in connection with Activision's acquisition by Microsoft Corporation. The full board did not review or approve any subsequent version of the merger agreement, including a final and complete execution version. The merger was later approved by Activision's stockholders, with more than 98% of stockholders voting in favor of the transaction. The plaintiff alleged that the board approval process violated the DGCL. The draft agreement approved by the board did not yet contain (as is typical in complex and confidential transactions) certain key items, including: (i) the company disclosure letter and disclosure schedules, (ii) the surviving corporation's certificate of incorporation, and (iii) the consideration amount and Activision's name as the target (placeholders were included for both), all of which such items the Court found needed to be included "at a bare minimum". The draft agreement also did not address an open issue of dividends Activision would be permitted to pay while the merger was awaiting regulatory approval. The board had delegated this issue to a board committee, which negotiated a resolution. The Court found the delegation improper. Additionally, as is customary practice, the notice Activision sent to its stockholders in connection with the special stockholders' meeting to vote on the transaction included an agenda item for a vote to adopt the merger agreement and attached a proxy statement, which contained an extensive summary of the merger agreement and a copy of the agreement itself.
In its decision on defendants' motion to dismiss, the Court acknowledged it is common practice to present the target board with an incomplete (but "near final") version of a merger agreement for approval, but it concluded that market norms do not supersede statutory terms. The Court went on to find that, at a minimum, the DGCL required that the draft agreement approved by the board be essentially complete and concluded that the draft agreement approved by the Activision board was not. The Court also found the stockholder notice to be defective because (i) the merger agreement annexed to the proxy statement did not include a copy of the surviving corporation's certificate of incorporation, and (ii) while the proxy statement contained a summary of the merger agreement, the notice did not. Numerous amendments to the DGCL have been proposed to ameliorate the practice issues implicated by the Activision decision, including by providing, as is common practice, a board of directors the authority to delegate document finalization to a corporation's advisors following agreement on material terms.
- New Section 147 allows a board of directors to approve any agreement, instrument or document (i.e., the amendment includes more than just merger agreements, which was the primary issue in Activision) that requires board approval under the DGCL in either final form or "substantially final" form.
- Pursuant to new Section 268(a), if a merger agreement provides that all shares of capital stock of the constituent corporation issued and outstanding immediately before a merger are converted into or exchanged for cash, property, rights or securities (other than stock of the surviving corporation), then the merger agreement approved by the board does not require any provision regarding the certificate of incorporation of the surviving corporation in order for the agreement to be considered to be in final form or substantially final form.
- New Section 268(b) provides that, unless otherwise provided in the merger agreement, a disclosure letter or disclosure schedules or any similar documents delivered in connection with the agreement that modify, qualify, supplement or make exceptions to representations, warranties, covenants or conditions in such agreement will not be deemed part of the agreement for purposes of the DGCL.
- Section 232 is being amended to provide that materials included with or attached to a notice to stockholders are deemed part of the notice for purposes of compliance with the DGCL's notice procedures.
CRISPO V. MUSK, 304 A.3D 567 (DEL. CH. OCT. 31, 2023)
Elon Musk agreed to acquire Twitter, Inc. ("Twitter") in April 2022. Musk's counsel subsequently sent a letter to Twitter purporting to terminate the merger agreement. Twitter and certain of its stockholders sued for, among other things, specific performance of the agreement, and the merger later closed. Following the closing, one of Twitter's stockholders that had filed suit attempted to claim partial credit for the deal's consummation and petitioned the Court for a mootness fee alleging that his suit had been meritorious when filed on the basis of a provision in the merger agreement providing that in the event of breach, the buyer would be liable for "lost stockholder premiums." Under the doctrine set forth in Consolidated Edison, Inc. v. Northeast Utilities1, legal practitioners generally operated under the premise that an agreement could provide a target corporation the ability to claim damages for lost stockholder premiums by specifying in the agreement that the measure of target's damages would include lost stockholder premiums. The ability to hold a buyer liable for lost stockholder premiums in the event of its breach of the merger agreement is an important right for a target corporation to incentivize buyers to close transactions. The Court held, however, that the lost premium provision was unenforceable because the lost stockholder premiums were amounts meant to be received by Twitter stockholders (not Twitter), and a contract party cannot recover damages for consideration it did not expect to receive in the transaction (as such amounts would be considered unenforceable penalties).
Proposed new Section 261(a)(1) provides that parties to a merger agreement may specify the penalties or consequences for a party's failure to perform its obligations. Such penalties or consequences may include payments to the other party if a merger does not become effective, including damages based on the lost premium that stockholders would be entitled to receive if the merger had been consummated. In addition, new Section 261(a)(2) provides that parties may appoint one or more persons to serve as representative(s) of the stockholders, and to delegate to such representative(s) the authority to enforce the stockholders' rights under the agreement (e.g., to receive payments).
EFFECTIVE DATE OF AMENDMENTS
If the DGCL amendments are enacted, they will become effective on August 1, 2024. The amendments will apply to (i) all contracts made by a corporation; (ii) all agreements, instruments or documents approved by the board of directors; and (iii) all merger and consolidation agreements entered into by a corporation, in each case whether approved or entered into on or before August 1, 2024. The amendments will not apply to or affect any civil action or proceeding completed or pending on or before such date (to which the law predating the amendments will apply).
SPOTLIGHT ON DELAWARE
The amendments, particularly those that address the Moelis decision, have not been without controversy. For example, a group of over 50 law professors submitted a letter to the Delaware legislature in opposition to the DGCL amendments, arguing that the "appropriate response to the Moelis decision is to allow the appellate process to proceed to the Delaware Supreme Court". Others, however, have praised the Delaware legislators and the Council of the Corporation Law Section of the Delaware State Bar Association, for helping to reestablish the clarity and predictability that corporations have come to expect from the Delaware legal framework. With recent events such as Tesla shareholders voting to move the company's place of incorporation out of Delaware, there is added spotlight on how the Delaware legislature and judiciary will proceed.
Footnote
1 426 F.3d 524 (2d Cir. 2005).
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