Chancery Court bill moves through Senate

A bill intended to ease corporate jitters over the state’s Chancery Court and help prevent an exodus of corporations to other states passed the Senate with 20 votes and one absent March 13. It now moves to the House for consideration.

“This is an exceptional piece of legislation,” said Sen. Bryan Townsend, D-Newark, Senate majority leader and sponsor of Senate Bill 21. “We hope to be able to stop these trends.”

The bill, co-sponsored by Sen. Russ Huxtable, D-Lewes, along with Sen. Brian Pettyjohn, R-Georgetown, affirms decision-making by a company’s independent directors and shareholders – not the court – as a result of a high-profile court case filed against Tesla in 2018 by a shareholder who owned nine shares. 

The need to clarify decision-making by independent directors has been ongoing for a while, said expert witness Lawrence Hamermesh. “The ideas in the bill are not new,” he said.

“This is not done to placate Mr. Musk,” he said. “You need the General Assembly to steer the ship a bit when it goes off course, and I think that’s what this bill is about.”

Chancery Court ruled against Tesla, despite two shareholder votes approving a $56 billion compensation plan for Elon Musk, and Chancellor Kathaleen McCormick then awarded $345 million for attorney compensation. The decision is under appeal in Delaware Supreme Court.

SB 21 also tightens up plaintiff requests for company documents, requiring they show a compelling need to review them and evidence of wrongdoing. A revision to the bill deleted certain language in order to assure the law will not be retroactive.

The legislation, however, has come too late for Musk, who packed up Tesla and SpaceX, and took them to Texas, with similar departures soon taken by Dropbox and TripAdvisor. Recent reports suggest Meta and Walmart are considering moving.

This would have a chilling effect on Delaware’s state budget, which depends on about $2 billion in corporate funds each year.

Expert witnesses all spoke in favor of the legislation during a public hearing March 12.

Amy Simmerman, a partner with Wilson Sonsini Goodrich and Rosati, said there is a lot going on that should be taken seriously.

In the last five years, she said, she’s seen clients become more frustrated over the direction of Delaware law, and it has intensified over the past year.

“I’ve seen many independent directors who are actually very independent and strong-willed in the boardroom worried that they won’t be considered independent in litigation,” she said.

Simmerman said her company was involved in Dropbox’s reincorporation to Nevada, and she fears other companies will follow.

“I’ve honestly never seen anything like this in my career,” she said. “If those 15 companies went, you can be assured that others in our client base would soon follow.”

As companies go to other states to incorporate, it gets normalized, she said. And although she represents only one law firm, Simmerman said she’s aware that other firms are experiencing similar discussions.

Prominent venture investors such as Bill Ackman and Marc Andressen and others have publicly questioned why companies should incorporate in Delaware over Nevada or Texas. Some law firms have gone as far as to circulate PowerPoint comparisons of the states, she said.

“[Initial public offering] planning was beginning to include discussion of where to be incorporated when you became publicly traded,” she said.

Simmerman said SB 21 is not driven by Elon Musk, despite the Chancery Court trial decision.

“His companies are all gone from Delaware. They’re gone,” she said.

But other companies are reevaluating whether to stay.

Simmerman said there is no time to collect hard data on the trend. “It’s too late,” she said.

Hamermesh, an attorney and professor at Delaware Law School, said he was asked to help draft legislation after state officials heard concerns from corporate law firms across the state over Delaware law.

On the topic of books and records, which SB 21 addresses, Hamermesh said he and others have written of their concern over a law that requires the production of emails, texts, and other documents, “In a way, that imposes, and I’m quoting here, ‘Staggering costs on both sides of the litigation,’ and departed from the understanding that the term books and records describes the formal documents that a corporation uses to document important actions such as minutes of board meetings, resolutions, and contracts,” he said.

Srini Raju, chair of the corporation law section of the Delaware State Bar Association and chair of the 26-member Corporation Law Council, said the council met several times since Feb. 17 to review all aspects of SB 21, and it approves the adoption of the bill.

“The council delivered an unqualified endorsement of the legislation,” he said. “It is advisable that SB 21 as revised by the council become law.”

Sen. Marie Pinkney, D-Bear, said she heard the legislation would overturn 30 decisions, but Hamermesh said the bill would not impose a binding conclusive presumption on whether any director is independent, would not change the fairness standard, and would not change the initial burden with regard to entire fairness. “It simply clarifies whose approval matters in validating the transaction,” he said.

“Either independent directors or disinterested stockholders … but the initial burden of proving entire fairness rests upon the person with the conflict of interest.”

Pinkney also asked how her constituents would be affected by the potential loss of $2 billion in corporate revenue in the state budget.

“The risk is enormous, and the potential threat to the well-being of the state’s citizens, myself included, in the form of additional sales taxes and so forth – substantial would be an understatement,” she said.

Pettyjohn said many legislators began sounding the alarm before the SB21 was introduced.

“We saw there was something happening,” he said,

Public comment was largely in favor of the bill, but two attorneys had some choice words on the bill’s creation.

Attorney Joel Friedlander said two former judges are behind the legislation in an effort to overturn Supreme Court decisions. “That is a bad business for Delaware to be in,” he said.

Attorney Chris Foulds, who represents union and state pension funds with a capital of $95 trillion, said he is appalled by the process.

“I was told by Tesla’s lawyers that there would be no material revisions,” he said. “The CLC was told, we have heard from senior defense members of the bar who are deeply troubled, that they were hemmed in. That they were told there would be no material revisions.”