United States: The Sooners Plat In The Delaware Bowl: Fleming vs. Quickturn

The Sooners Plat In The Delaware Bowl: Fleming vs. Quickturn

Background: Quickturn Upholds Primacy of Board

The respective powers of directors to decide fundamental questions of corporate strategy-including when a company should be sold-has again come to the forefront of corporate law as a result of two important recent decisions, which arguably resolve this question differently. In the first case, Quickturn Design Systems, Inc. v. Shapiro, (1), the Delaware Supreme Court invalidated, on statutory grounds, the "No Hand" or "Deferred Redemption Provision" ("DRP") of the Quickturn Design Systems' rights plan. In the second case, International Brotherhood of Teamsters v. Fleming Companies (2) the Oklahoma Supreme Court held that shareholders may pass a mandatory bylaw attachment that requires a board of directors to obtain shareholder approval prior to adopting a rights plan. These two decisions raise anew the issue of whether shareholders or a board has the ultimate authority to decide on the adoption and redemption of a rights plan.

In Quickturn, the Delaware Supreme Court struck down on statutory grounds a target company's DRP. The court held that one of the most tenets of Delaware Corporate Law is that the board of directors has the ultimate responsibility for managing the business and affairs of a corporation. Section 141 (a) of the Delaware General Corporation Law requires that any limitation on the boards authority be set out in the certificate of incorporation".(3) The court then held that the DRP violated these provisions by restricting the board's authority to negotiate a sale of the company. (4)

The court's ruling emphasised again the primacy of the board in decisions involving potential changes of control. The control quoted from its ruling in Paramount Communications, Inc. v. QVC Networks, Inc.(5), that "to the extent a contract, or a provision thereof, purports to require a board to act or not act in such a fashion as to limit the exercise of fiduciary duties, it is invalid and unenforceable." Because the DRP limited "in a substantial way the freedom of newly elected directors decisions on matters of management policy" the court that the DRP " impermissibly circumscribes the board's statutory power under Section 141 (a)" and therefore "is invalid."(7)

In Fleming the Oklahoma Supreme Court held that shareholders may pass a mandatory bylaw amendment that requires a board of directors to obtain shareholder approval prior to adopting a rights plan.

Fleming Shows Deference To Shareholders

In potential conflict with the reasoning of the Delaware Supreme Court's decision in Quickturn, the Oklahoma Supreme Court in International Brotherhood of Teamsters v. Fleming Companies held that limitations may be placed upon a board's right to adopt or utilise a rights plan. (8) The Fleming decision arose out of an effort by the Teamsters Pension Fund, a small shareholder of Fleming, to require Fleming to obtain shareholder approval prior to renewing its rights plan. (9) In 1996, the Teamsters Fund had introduced, had obtained majority support for, a non-binding resolution calling on Fleming to redeem rather than renew its Rights Plan. Despite this vote, the Fleming board maintained the plan. (10)

In response to the board's actions, in 1997 the Teamsters Fund began a more organised effort to remove the Rights Plan. In particular, Teamsters mounted a proxy contest to pass an amendment to Fleming's bylaws that would require any rights plan adopted by a majority of shareholders. The proposal further prohibited the board from amending this by-law without prior shareholder proposal.

Fleming sought to invalidate the amendment and postpone its shareholder meeting until the issue of whether or not the bylaw was proper but its effort was rejected by the Federal District Court for the Western District Court of Oklahoma. The Teamsters' resolution then was approved at Fleming's shareholder meeting with approximately 60% of the voted shares. Fleming appealed the district court's decision, and the Us Court of Appeals for the Tenth Circuit certified two questions to the Oklahoma Supreme Court:

Does Oklahoma law (A) restrict the authority to create and implement Shareholder Rights Plans exclusively to the board of directors, or (B) may shareholders propose resolutions, requiring that Shareholders Right Plans be submitted to the shareholders for vote at the succeeding annual meeting?

The Court "answered the first part of the question in the negative and the second part in the affirmative," holding that "there is no exclusive authority to a corporation's board of directors for the formulation of shareholders rights and no authority which precludes shareholders rights plans and no authority which precludes shareholders from proposing...bylaws which restrict implementation of shareholder rights plans..." (11)

Potential Conflict with Delaware Law:

The Oklahoma Supreme Court's analysis began by noticing that the issue "is ultimately one of corporate governance and what degree of control shareholders can exact upon corporations in which they own stock." The court also recognised that Oklahoma's corporate law was "substantially similar" to Delaware law on these issue, but "a review of Delaware decisions revealed no comparable cases..." (12)

The court rejected Fleming's argument that a charter, which is silent on Shareholder Rights Plans, precludes shareholder-enacted bylaws regarding rights plans. The court noted that a number of states had adopted anti-takeover statutes that explicitly provided that boards have the sole authority with respect to rights plans, but that Oklahoma (and Delaware) did not have a statute. The court held that without an express statute may enact "bylaws which limit the board's authority to implement shareholder rights plans." (13)

The Delaware court held that absent provision in the charter, may be no limitations on a board's ability to adopt or redeem a rights plan, while the Oklahoma Court held that the absence of a charter provision allowed shareholders to adopt a restrictive bylaw limiting the board's use of a rights plan.

The Fleming decision sets up an interesting potential conflict with the Delaware Supreme Court's analysis in Quickturn. Specifically the Delaware Court held that absent an express provision in the charter, there may be no limitations on a board's ability to adopt or redeem a rights plan, while the Oklahoma Court held that the absence of a charter provision allowed shareholders to adopt a restrictive bylaw limiting the board's use of a rights plan. As a result the ruling in Fleming, if followed by Delaware, may prevent a board from adopting a rights plan when confronting an inadequate and/or coercive cover. Further, the holding may also conflict with Quickturn's prohibition against any restriction which limits a board's right (and duty) " to act or not act in such a fashion as to limit the exercise of fiduciary duties." Simply put, the Fleming and Quickturn decisions each again raise the age-old question about who decides whether a company is to be sold, the board or the company's shareholders. More importantly, the two cases arguably resolve the issue on opposite grounds, at least where the issue of a rights plan-the most common and successful defensive measure in the last 15 years-is at stake and not covered by the company's charter.

Fleming's Impact On Hostile Takeovers:

The issues raised by these caves have already begun to percolate in Delaware. In General DataComm Indus.,Inc. v. State of Wisconsin Inv. Board (14) the Chancery Court recently faced a mandatory bylaw resolution question in response to General DataComm's ("GDC") request for a declaratory and injunctive relief against a bylaw sponsored by the State of Wisconsin Investment Board ("SWIB"). The SWIB bylaw, if approved, would prohibit GDC's board from repricing employee options without stockholder approval. The vice-chancellor's decision came in the context of GDC's request for expedited proceedings, seeking a ruling prior To GDC's stockholder meeting. The court rejected GDC's shareholders voted in favour of the by-law, the issue of the legality of the by-law was not ripe for resolution. However, the court noted that whether a stock holder-approved bylaw which may be repealed by the board is valid following Quickturn is "a question worthy of careful consideration" involving analyses of "several provisions in the Delaware General corporation law." (15)

Following the Delaware Court's decision, the SWIB bylaw amendment was voted on, and approved by, the GDC's shareholders. Although GDC has indicated that currently it is not pursuing its case in Delaware, it continues to claim the legality of its position. More significantly, the issue of mandatory bylaws, at least as they relate to the repricing of options, is likely to be addressed in the near future.

More generally, the rationale of the Fleming decision, were it adopted in Delaware, would give a potentially powerful new weapon to hostile bidders, particularly when the target has a classified board of directors. This is because prior to this decision, a bidder would have to wait until it could replace a majority of directors before removing a rights plan. With a classified board this process could take up to two years, and even where no classified board exists and a special meeting can be called, replacing directors may require a majority vote of all outstanding shares (as opposed to a majority of just those voting at the meeting).

However, following Fleming a bidder could avoid this process by simply putting on the ballot a binding bylaw amendment, requiring the board to redeem the rights plan immediately. If the target allows shareholders to call a special can be called, replacing directors may require a majority of just those voting of all outstanding shares (as opposed to a majority of just those voting at a meeting). However, following Fleming a bidder could avoid this process by simply putting on the ballot a binding bylaw amendment, requiring the board to redeem the rights plan immediately. If the target allows shareholders to call a special meeting, under Delaware law this process ca be completed as soon as 45-60 days after the call a special meeting (assuming no by-law establishing the timing of special meetings), irrespective of the boards position on the issue.

Simply put, the Fleming and again raise the age-old question about who decides whether a company is to be sold, the board or the company's shareholders. More importantly, the two cases arguably resolve the issue on opposite grounds...

In light of these two decisions, the balance between the proper role of boards and shareholders has again been confused. While this issue is being clarified, the uncertainty will raise significant issues for bidders, boards and their advisors.

Footnotes:

1)Nos. 511, 1998 and 512, 1998, Del. LEXIS 496 (Del. Dec. 31, 1998).

2)Nos. 90, 185, 1999 Okla. LEXIS 3 (Okla. Jan. 26,1999).

3)Quickturn Design Systems, Inc. v. Shapiro, Nos. 511, 1998 and 512, 1998, Del. LEXIS 496 (Del. Dec. 31, 198), at *36 (emphasis in original).

4)Id. at *34 (emphasis in original).

5)Del. Supr., 637 A.2d 34, 57 (1994)

6)Quickturn Design Systems, Inc. v. Shapiro, Nos. 511, 1998 and 512, 1998, Del. LEXIS 496 (Del. Dec. 31, 1998), at *36 (emphasis in original).

7)Id

8)International Brotherhood of Teamsters v. Fleming Companies, Nos. 90, 185, 1999 Okla.  LEXIS 3 (Okla. Jan. 26, 1999).

9)Id.,slip Op. At **3.  Fleming had adopted a rights plan in 1986, which, ia as common with Rights Plan, had a 10 year life.

10)Id. At **7

11)Id. At **2.  The potential restriction noted by the court was if the company's charter prohibited such action by shareholders. Id.

12)Id. **10.

13)Id. Slip op. At **19.

14)C.A. No. 16923-NC (Del. Ch. Feb. 1, 1999).

15)Id., slipop. At 9-10 and n.2.

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