Kurz v. Holbrook: Shareholder Voting, Omnibus Proxies, and the Role of DTC: The Proper Basis for Invalidating the Bylaw

We are discussing Kurz v. Holbrook, 2010 Del. Ch. LEXIS 24 (Del. Ch. Feb. 9, 2010).

We are examining the portion of the decision that struck down the bylaw submitted by Crown that would have reduced the size of the board from seven directors to three.

The decision went too far in determining that Section 141 was the exclusive method of removing directors.  Moreover, even if exclusive, dicta in the case went too far in concluding that directors forced out of office for not meeting board qualifications were subject to Section 141 and therefore could not be removed until their term expired.  

It would have been much cleaner and raise fewer questions about existing practice to simply hold that  directors "hold office until such director's successor is elected and qualified or until such director's earlier resignation or removal" and that this provision does not contemplate removal through a reduction in board size. See Section 141(b)

The conclusion is bolstered by the problems that would otherwise result from a different interpretation.  As the opinion pointed out, reducing board size leaves unanswered how to determine which directors are to be removed should that be necessary.  While Crown proposed a bylaw to resolve the issue, it does not address the circumstances where there is no bylaw or the bylaw is defeated.  In other words, to allow for removal by reducing board size would require the courts to create an entire framework for dealing with the consequences. 

To the extent the bylaw somehow leaves "seatless" directors (in other words, no one is actually removed), the court correctly noted that the quorum requirements would be impossible to meet in at least some cases.  See Section 141(b)(imposing a board quorum of a majority unless reduced to no less than one-third).  Because quorums depend upon directorships rather than directors, a board could be reduced to the point where a quorum is impossible. 

Moreover, the MBCA makes this restriction explicit, suggesting that the general practice is to not allow for director removal through a reduction in board size.  See RMBCA § 8.05(c)("A decrease in the number of directors does not shorten an incumbent director’s term."). 

In short, the conclusion was correct.  Directors cannot be removed through bylaws that reduce the size of the board.  The need to find that Section 141 was exclusive and that it applied to directors failing to meet board qualifications was not necessary in arriving at this conclusion. 

For more on the entire system of beneficial ownership and the role of the depositories, see The Shareholder Communication Rules and the Securities and Exchange Commission: An Exercise in Regulatory Utility or Futility?

The opinion and a number of primary materials are posted at the DU Corporate Governance web site.