Quarterly State Compliance Review

This edition of the Quarterly State Compliance Review looks at some legislation of interest to corporate lawyers that went into effect between Aug. 1 and Oct. 1, 2016, including amendments to Delaware's corporation and LLC laws. It also looks at some recent cases of interest, including two decisions from the Delaware Chancery Court.

IN THE STATE LEGISLATURES

Delaware Amends Its Corporation and LLC Laws

House Bill 371, effective Aug. 1, amended the Delaware General Corporation Law. Highlights include the following:

Sec. 111 was amended to permit the Court of Chancery to exercise jurisdiction over actions involving certain agreements: 1) in which a corporation is a party, involving a stockholder selling or offering to sell stock; and 2) in which a corporation agrees to sell assets and which requires stockholder approval. Sec. 141 was amended to provide a default majority rule for quorum and voting for a committee or subcommittee of directors.

Sec. 158 was amended to allow any two authorized officers to execute stock certificates.

Sec. 251(h), which permits an acquisition via a short-form, back-end merger after a front-end tender or exchange offer was amended in several respects to clarify the applicability and operation of the procedure.

Sec. 262, which governs appraisal rights, was amended to limit the right to an appraisal for shares of publicly held stock that do not meet certain thresholds and to permit the surviving corporation to make a payment to stockholders before the entry of judgment which will limit the accrual of interest. Secs. 311 and 312 were amended to clarify and distinguish the procedures for restoring and reviving a certificate of incorporation

House Bill 372, effective Aug. 1, amended the Delaware Limited Liability Company Act. Highlights include the following:

Sec. 18-105 was amended to specify how service of process on a series of a Series LLC may be effected. Sec. 18-215 (which provides for Series LLCs) was amended to clarify that a series, or an LLC on behalf of a series, may agree to be liable for the debts existing with respect to the LLC or any other series.

Secs. 18-302 and 18-404 were amended to provide that actions by members and managers may be taken without a meeting, prior notice, or a vote if consented to or approved, in writing, by electronic transmission or by any other means permitted by law.

Various sections were amended to eliminate the requirement for a written consent and thereby permit the members (or in some cases their personal representatives) to consent to the specified action by means other than a writing. And Sec. 18-704 was amended to provide a default rule stating that upon the voluntary assignment by the sole member of the LLC of all of its LLC interests to a single assignee, the assignee is admitted as a member of the LLC.

Amendments to the Business Entity Laws of Other States

Amendments to business entity statutes went into effect in a number of states during the last quarter. Highlights include the following:

In Colorado, House Bill 1329, effective August 10, amended the LLC law regarding member contributions, tax status, statute of frauds and operating agreements, and remuneration for services. Also in Colorado, House Bill 1330, effective Aug. 10, allowed a statement of correction to be filed to revoke a filed document that was delivered to the Secretary of State in error.

In Louisiana, House Bill 714, effective Aug. 1, amended provisions of the corporation law regarding various topics including qualification of directors, protections for directors against monetary liability, shareholder participation by remote means. quorum and voting, indemnification, business opportunities, and reinstatements. Also in Louisiana, Senate Bill 220, effective Aug. 1, amended the LLC law to provide that the articles of organization or a written operating agreement may alter the general rule that a member's membership ceases upon death, incompetency, dissolution or termination.

In Nebraska, Legislative Bill 1050, effective July 21, authorized the conversion of domestic partnerships and LLPs into domestic or foreign LLCs. Also in Nebraska, Legislative Bill 758, effective July 21, prohibited LLCs from operating as insurers. And in New Hampshire, Senate Bill 405, effective Aug. 9, amended the LLC law regarding the domestication of LLCs, dissociated members, voting requirements, and limitations on distributions.

IN THE STATE COURTS

Delaware Chancery Court Holds That Inclusion in Stock Ledger Creates Rebuttable Presumption Of Stock Ownership

In Pogue v. Hybrid Energy, Inc., C.A. No. 11563, decided Aug. 5, 2016, the plaintiff sought an inspection of books and records under Sec. 220 of the corporation law. The defendant corporation claimed the plaintiff was not entitled to an inspection because he was not a stockholder. The plaintiff alleged that he had been issued a stock certificate representing 1 million shares and that he was represented on the corporation's stock ledger as a stockholder. The plaintiff conceded that the stock issuance was void because the corporation's certificate of incorporation only authorized 1,500 shares. However, he argued that his inclusion on the stock ledger was the sole determinant of stock ownership under Sec. 220.

The Delaware Chancery Court held that inclusion on the stock ledger states a prima facie, but rebuttable, case that a plaintiff is a stockholder of record. The defendant may rebut the presumption by clear and convincing evidence, which the defendant in this case was able to do. The court explained that to provide the plaintiff standing to vindicate a non-existent interest would not advance the purpose of Sec. 220 ' which is to further a person's interest as a stockholder.

Delaware Chancery Court Dismisses Caremark Derivative Claim

In Melbourne Municipal Firefighters' Pension Trust Fund v. Jacobs, C.A. No. 10872, decided Aug. 1, 2016, a derivative suit was brought on behalf of a corporation after it paid a nearly $1 billion fine for violating China's antitrust law. The derivative suit alleged that the board of directors breached its duty of loyalty because it was on notice the corporation was violating antitrust laws and consciously disregarded its duty to remedy or prevent it. Specifically, the plaintiff alleged that the board ignored three red flags ' a previous settlement of an antitrust suit brought against the corporation, and findings by Korea and Japan that the corporation violated those countries' antitrust laws. The plaintiff did not make a pre-suit demand, claiming it would be futile because a majority of the board faced a substantial likelihood of personal liability. The defendants moved to dismiss based on the failure to make a demand.

The Delaware Chancery Court granted the motion. The court noted that the plaintiff was alleging a Caremark claim. And in such a case, the plaintiff must plead facts from which the court can infer that the defendants acted in bad faith by consciously disregarding their duty to oversee the corporation's compliance with the law ' which the plaintiff here did not do. The court distinguished this case from two earlier decisions in which Caremark claims were allowed to continue. In one of the cases, the defendants pled guilty to criminal charges. And in the other, the defendants were advised that the corporation's business plan included illegal conduct. In this case, the red flags were not as egregious or indisputable. In addition, here, the board continuously monitored the red flags and the Chinese decision, appealed the findings and penalties, and publicly maintained that the corporation's practices were legal.

New Jersey Supreme Court Clarifies Judicial Expulsion of LLC Member

IE Test, LLC v.Carroll, A-63, Sept. Term 2014, 075842, decided Aug. 2, 2016, involved an LLC with three members. The defendant member wanted the LLC to compensate him for past losses. The other two members refused. The LLC filed an action seeking judicial expulsion of the defendant member. The trial court ruled in favor of the LLC, expelling the defendant member pursuant to a provision of the New Jersey LLC Act authorizing judicial expulsion where the member's conduct relating to the LLC's business makes it not reasonably practicable to carry on business with the member as a member. The appellate court affirmed.

The New Jersey Supreme Court reversed. The court noted that the legislature did not intend that disagreements among members that bore no nexus to the LLC's business should justify expulsion. Nor should a finding that it is more difficult to operate the business with the member than without. Instead, the court listed several factors a court should take into account, including the nature of the member's conduct relating to the business, whether management decisions could still be made, and whether the LLC was financially feasible. Applying the factors to this case, the court found that business decisions could be made based on the LLC Act's majority vote default rule, that the defendant member's conduct did not affect the LLC's business, and that the LLC was successful.

Sandra Feldman is a publications and research attorney for CT Corporation and a member of this newsletter's Board of Editors.