Corporate Governance

City of Westland v. Axcelis Technologies: Majority Voting and Delaware Law (The Beginning of the Evisceration)

By J. Robert Brown

We are discussing CITY OF WESTLAND POLICE & FIRE RETIREMENT SYSTEM v. AXCELIS TECHNOLOGIES, INC., a case involving the invocation of inspection rights to investigate the reasons why the board of directors of Axcelis did not accept the resignation of three directors who failed to receive majority support from shareholders voting in the election.

The case illustrates the burdens imposed by the Delaware courts on efforts by shareholders to inspect corporate records.  Under the reigning standard, plaintiff must allege the need to inspect and explore some type of impropriety and must present "credible" evidence of the impropriety.  While Delaware courts purport to describe this as a low standard, in fact they use it regularly to dismiss inspection requests made by shareholders with an obvious and legitimate reason to look into the board's behavior (a position that has earned us the umbrage of the Delaware Chancery Court).

Plaintiff in this case is trying to circumvent these restrictions by invoking the higher standards of review in Blasius (which imposed on the board an obligation to provide a "compelling justification" for its behavior) and Unocal.  In other words, the "credible basis" is essentially the failure of the Company to provide a "compelling justification."  This is not, however, a favored doctrine in Delaware, making a Chancery Court's willingness to apply it in these circumstances unclear. 

The problem in the end is that there shouldn't be a need to invoke a higher standard of review.  For matters that directly contradict the voting position of shareholders, shareholders ought to have an inherent right to know the reasons and explore any supporting documentation.  Only with the information can shareholders be certain that the board acted in a manner consistent with its fiduciary obligations.  In other words, there should be no need for "credible" evidence beyond the actions taken by the board to overturn the shareholder vote.

What will happen in this case? The Delaware courts and their pro-management bias will have a strong incentive to deny inspection rights.  If the inspection is allowed, it will open the door for shareholders to examine most decisions by the board to retain directors after they have been effectively voted out of office.  The courts will not want that to occur, preferring to render the decision unreviewable, thereby leaving the board with maximum discretion.

There is, however, a glint of hope. With talk of preemption in the air, the Chancery Court will not want to look too unfriendly to shareholders, less Congress decide to act.  In that case, Westland P&F better hope that the decision is made quickly, while the courts still have that concern.

If the Chancery Court does not allow inspection to occur in this case, it will be another area where the SEC will need to preempt and substantially increase the disclosure obligations on the company. It will be the only way for the owners of the company to obtain the information they need to assess the quality of the managers.

The complaint and other primary materials are posted on the DU Corprate Governance web site.

Full post as published by The Race to the Bottom on July 22, 2009 (boomark / email).