DealLawyers.com Blog

Last week, in Coster v. UIP Companies, (Del.; 6/23), the Delaware Supreme Court affirmed Chancellor McCormick’s earlier decision holding that the company’s board had a “compelling justification” for authorizing a dilutive share issuance to resolve a stockholder deadlock. The decision marks the lawsuit’s second trip to Delaware’s highest court. The first time around, the Supreme Court overruled an earlier Chancery Court decision and held that the Chancellor must address the argument that the board interfered with the plaintiff’s voting rights and leverage as an equal stockholder without a compelling reason to do so.

Two precedents featured prominently in the Supreme Court’s initial decision overruling the Chancery Court. The first, Schnell v. Chris-Craft Industries, stands for the proposition that actions taken by an interested board with the intent of interfering with a stockholder’s voting rights are a breach of the directors’ fiduciary duty. The second, Blasius v. Atlas Industries, holds that even good faith actions by the board that have the effect of interfering with voting rights require a “compelling justification.”

On remand, Chancellor McCormick determined that the board acted in good faith and established the compelling justification required to support its decision to issue the shares, and the Supreme Court affirmed her decision. In reaching that conclusion, the Supreme Court conducted an extensive review of Delaware case law interpreting Schnell and Blasius and concluded that the standards “have been and can be folded into Unocal review to accomplish the same ends – enhanced judicial scrutiny of board action that interferes with a corporate election or a stockholder’s voting rights in contests for control.” It then summarized what courts must do when confronted with claims that board action interferes with voting rights:

When a stockholder challenges board action that interferes with the election of directors or a stockholder vote in a contest for corporate control, the board bears the burden of proof. First, the court should review whether the board faced a threat “to an important corporate interest or to the achievement of a significant corporate benefit.” The threat must be real and not pretextual, and the board’s motivations must be proper and not selfish or disloyal. As Chancellor Allen stated long ago, the threat cannot be justified on the grounds that the board knows what is in the best interest of the stockholders.

Second, the court should review whether the board’s response to the threat was reasonable in relation to the threat posed and was not preclusive or coercive to the stockholder franchise. To guard against unwarranted interference with corporate elections or stockholder votes in contests for corporate control, a board that is properly motivated and has identified a legitimate threat must tailor its response to only what is necessary to counter the threat. The board’s response to the threat cannot deprive the stockholders of a vote or coerce the stockholders to vote a particular way.

Applying this standard to the Chancellor’s decision, the Supreme Court upheld her findings that the company’s board was properly motivated in responding to the existential threat posed by the stockholder deadlock. It also upheld Chancellor McCormick’s conclusion that the board’s actions in authorizing the share issuance were reasonable and proportionate to the existential threat posed by the potential stockholder deadlock and that its response was not preclusive or coercive.

Ultimately, it looks like the key takeaway from this decision is that Blasius is officially gone as an independent standard of review, and is instead subsumed into the Unocal standard – just as then-Vice Chancellor Strine advocated more than 15 years ago.  For more in-depth discussion of the potential implications of this doctrinal shift, be sure to check out the commentary on this decision from Prof. Stephen Bainbridge and Prof. Ann Lipton.

– John Jenkins