Corporate Governance

Selectica, the Delaware Supreme Court, and the Effort to Limit Access (The Impact on Access)

By J Robert Brown Jr.

We are examining the Delaware Supreme Court's recent decision in Selectica.  The opinion affirmed the validity of a poison pill with a 5% trigger.  ??

As we have suggested, the true significance of this decision can be seen with respect to shareholder access.  Selectica (and Yucaipa) are beginning to develop a line of cases that put into the hands of the board the ability to prevent the election of insurgent directors.  Under Moran and Unocal, the board has long had that authority with respect to insurgents seeking control of the board.  But the more recent jurisprudence is designed to allow directors to stop the election of a minority of directors on the board.

This case illustrates exactly how poison pills can be designed to interfere with access.  Access provides that nominations must be submitted by those shareholders holding more than 3% of the outstanding shares.  In Selectica, the insurgent had a 5% block but would have needed to hold at least 3% of the outstanding shares for at least three years.  In other words, to the extent not owning 3% for at least three years, Trilogy would have needed to form a group with other shareholders meeting the holding period requirement.  Yet had Trilogy tried to do so, it would have triggered the poison pill since it would have entailed an agreement with shareholders that collectively exceeded the 5% threshold.  As a result, the pill would have potentially prevented access nominees from Trilogy.

To the extent 5% poison pills (or pills with even lower triggers) become common, a federal response may be necessary.  One possibility would be to lower the 3% threshold in the access rule dramatically, at least for companies with poison pills that have low thresholds.  This is only a partial solution.  There should be no restrictions on the right of shareholders who have held their shares for more than three years to collectively decide on a common slate of access candidates.  The SEC removed restrictions in Rule 14a-2.  Poison pills, however, will interfere with any agreement to the extent the collective ownership of the shareholders approaches the poison pill trigger.

Perhaps more dramatically the SEC ought to give consideration to a provision in the rule that provides explicitly that 3% shareholders will not trigger a rights plan solely as a result of negotiations over access nominees.

Finally, the approach in Delaware puts greater pressure on the need for corporate law reform.  In truth, shareholders ought to have the right to propose changes to the articles, at least where they interfere with the voting process.  In other words, shareholders ought to have the right to propose the elimination of staggered boards, provisions usually in the articles.  Likewise they ought to have the direct authority to repeal a poison pill.  This would be a change but it would ensure that corporate governance remained a matter of private ordering.   

For materials from the lower court proceeding, access the DU Corporate Governance web site.

Full post as published by The Race to the Bottom on October 28, 2010 (boomark / email).