Shareholder Reimbursement, Private Ordering, and Delaware Law

Remember when Delaware adopted secctions 112 (access bylaws) and 113 (proxy reimbursement)?  It was supposed to usher in an era of private ordering.  Management and shareholders would come to agreement on access bylaws and reimbursement for proxy contests.  Eschewing one size fits all, each company could devise the most efficient set of terms given their own particular situation.

Now, a couple of years later, there has been no private ordering.  With respect to access bylaws, there are none that have been adopted under Section 112.  As for reimbursement of expenses, only one company has put in place such a bylaw:  HealthSouth (this was determined both anecdotally; there have been no other reports that I've seen on others adopting the provision and through searches of the EDGAR database for similar bylaws filed by public companies).   See Section 3.4(c), Bylaws of UnitedHealth, attached to Quarterly Report on Form 10-Q, filed Nov. 2009.  

The bylaw provided that shareholders could be reimbursed only if the election involved a contest of “fewer than 30% of the Directors to be elected,” the nominating shareholders owned shares of the company for at least one year, and the nominee received at least 40% of the votes cast (calculated based upon all votes voted for, against, and withheld).  In addition, the amount of reimbursement could in no case exceed the expenses incurred by the company.

The bylaw also contained a number of restrictions on the nominating shareholder.  They could not engage in solicitations on behalf of candidates for the board other than their own nominees or otherwise have a purpose of changing control.   They were ineligible if they received reimbursement during any of the preceding three years or if their nominees appeared on the company’s proxy card. 

Most importantly, however, the bylaw contained a fiduciary out.    

• Notwithstanding any other provision hereof, there shall be no reimbursement under this Section 3.4(c) in the event the Board of Directors determines that any such reimbursement is not in the best interests of the Corporation or would result in a breach of the fiduciary duties of the Board of Directors to the Corporation and its stockholders or that making such a payment would render the Corporation insolvent or cause it to breach a material obligation incurred without reference to the obligations imposed by this Section 3.4(c). 

In other words, even if a shareholder met all of the requirements and restrictions of the bylaw, the board could still decide to refuse reimbursement.  In short, the provision did not guarantee repayment of proxy expenses at all.  

Sections 112 and 113 are, like majority voting, ineffective.  As noted in Opting Only in: Contractarians, Waiver of Liability Provisions, and the Race to the Bottom, private ordering is an appropriate goal.  One size fits all can and often is inefficient.  But shareholders are at a decided disadvantage in the private ordering realm, particularly for those provisions that go into the articles of incorporation.  Often provisions that are designed to promote private ordering simply result in a categorical rule that favors management.  This is true with waiver of liability provisions; it is also true with respect to proxy reimbursement and access bylaws.  

Comments

[Tim]

First, I believe sections 112 and 113 became effective in August of 2009, correct? See, e.g. http://www.paulweiss.com/files/Publication/a9c3240e-229d-4eec-82d5-2e783f35bfb2/Presentation/PublicationAttachment/0565060a-94ce-49ad-8112-361128b2ed59/22Feb10PLI.pdf

So it is not "a couple of years later".

Second, maybe shareholders simply do not care enough about the issue to push it through. Due to shareholder pressure/voting, most companies now have majority voting, and staggered boards are becoming a thing of the past. Maybe this is just an issue that wasn't important enough to fight for. Then again, maybe not enough time has past to tell - since it has only been ONE year.

[J Robert Brown Jr.]

My mistake. Adopted in April 2009 (http://www.delawarelitigation.com/2009/04/articles/chancery-court-updates/new-delaware-statute-allowing-proxy-access-pursuant-to-bylaw-provision/) Effective August 1. The point doesn't change. Maybe shareholders haven't pushed but the concept of private ordering does not require that it come from shareholders. Management can initiate private ordering but has not (with the exception of HealthSouth). One bylaw in 15 months. Hardly evidence of private ordering.

[Tim]

If shareholders do not care enough to push, then why should we care - as it is the shareholders who are affected? Management probably isn't going to do this sua sponte, as you note. I think we all know that institutional shareholders are wielding more and more power and DGCL 112 and 113 gave them the tools to push the issue if it mattered to them.

[J Robert Brown Jr.]

Its a fair point.

But you overstate the power of shareholders. While Delaware has only had its access provision since 2009, there was little doubt that companies could put in place an access bylaw before Delaware acted. In fact, over the years, a number of bylaws have been proposed that would provide shareholders with access. Only one (Cryo-Cell) has ever passed.

My prediction is that 112 and 113 will remain a dead letter. Perhaps I'll post on this again in a year (when it really is two years) and we'll see if there is any activity beyond HealthSouth.