December 11, 2023

Advance Notice Bylaws: Del. Chancery Refuses to Order Company to Include Stockholder Nominees

Last month, in Paragon Technologies v. Cryan, (Del. Ch.; 11/23), Vice Chancellor Will denied an activist stockholder’s request for a preliminary injunction requiring the board of Ocean Powers Technology to let its candidates stand for election and to exempt it from the company’s NOL poison pill.

The case arose out of effort by OPT’s largest stockholder, Paragon Technologies, Inc., to nominate candidates for election to OPT’s board of directors and to increase its stake in the company from 3.9% to 19.9%. In order to facilitate a proposed proxy contest, Paragon sought an exemption from the 4.99% ownership limitation in OPT’s poison pill in July 2023 and provided notice of its intention to nominate director candidates in August 2023.  OPT’s board denied the exemption request and rejected its efforts to nominate its board slate on the basis that Paragon’s notice failed to comply with the company’s advance notice bylaw.

In addition to alleging that Paragon’s notice contained inaccurate information, OPT cited several specific shortcomings in the notice, including Paragon’s alleged failure to disclose its plans and proposals for the company, information that could impede Paragon’s nominees from obtaining a government security clearance, and Paragon’s “substantial interest” in seeking control of the Board through a proxy contest. Paragon responded by amending its 13D filing to disclose its intent to seek control of the company and supplemented its notice in an effort to address the board’s concerns.  The OPT board rejected those efforts, and litigation ensued.

In light of the mandatory nature of the relief sought by Paragon, Vice Chancellor Will noted that it took on a substantial burden – one that it failed to carry.  This excerpt from her opinion demonstrates that she reached that conclusion despite the existence of significant issues relating to the OPT board’s processes:

I reach that conclusion with some trepidation. The board amended its bylaws and adopted the rights plan after Paragon emerged on the scene. The board spent weeks reviewing Paragon’s nomination notice for deficiencies, raised numerous issues of varying degrees of importance, rejected the notice at the end of the nomination window, and then raised more deficiencies in this litigation. Some of the bylaws Paragon purportedly violated are ambiguous or seem untethered from a legitimate corporate end.

Still, there are countervailing facts. One of OPT’s bylaws requires a nominating stockholder to disclose its plans or proposals for the company. Contemporaneous communications suggest that Paragon may have had such plans if its proxy contest succeeded and it gained control of the board, including a stock for stock reverse merger. Absent credibility determinations (and given that Paragon’s principal deleted his text messages), I cannot say whether such undisclosed plans exist. More generally, there is evidence that the board enforced certain bylaws to uphold important corporate interests and rejected the exemption request to protect OPT’s valuable NOLs. Whether this is pretextual is another matter I am unable to resolve at this stage.

In her commentary on this case, Prof. Ann Lipton expressed some discomfort with this decision:

I admit, I’m a bit uncomfortable with this holding, because it seems to me that with these kinds of bylaws, it will be very easy for boards to create factual “disputes” about whether all of an activist’s plans were disclosed, or whether there was some undisclosed conflict lurking somewhere, or whether a bylaw really was vague in application, and with those factual disputes in hand, stave off a proxy challenge for at least another year, which may render it uneconomical for an activist to even litigate the bylaw issues in the first place.

Perhaps the board’s actual conduct – evasiveness and foot-dragging when addressing requests for clarification – should carry more weight.  But I don’t want to overstate; deleted text messages were a real issue, Paragon’s first 13D disclosures were laughable, and Will suggested that she might have looked more favorably on a different request for relief, such as, delay of the annual meeting until trial on Paragon’s claims that OPT breached its duties with respect to the bylaw and the pill.

Ann also pointed out that the nature of the relief sought played a big role in the outcome of this case, because Vice Chancellor Will suggested that she might have looked more favorably on a remedy like delaying the annual meeting until after a trial on Paragon’s breach of fiduciary duty claims arising out of the OPT board’s actions.

John Jenkins