Quarterly State Compliance Review

Senate Bill 69, effective Aug. 1, amended the Delaware General Corporation Law. Highlights include the following:

Several sections were amended to provide specific statutory authority for Delaware corporations to use blockchain and distributed ledgers for the creation and maintenance of corporate records. These include Sec. 219, which was amended to state that the “corporation shall prepare the stockholder list” (formerly, “the officer who has charge of the stock ledger shall prepare and make” the list); Sec. 224, which was amended to provide that any records administered by or on behalf of the corporation may be kept on, by means of, or be in the form of “one or more electronic networks or databases (including one or more distributed electronic networks or databases)”; and Sec. 232, which was amended to provide that the term “electronic transmission” includes “the use of, or participation in one or more electronic networks or databases (including one or more distributed electronic networks or databases).” Sec. 228 was amended to remove the requirement that every written consent bear the date of signature of the stockholder or member. This amendment is effective for actions taken by consent having a record date on or after Aug. 1, 2017. Sec. 203, the business combination provision, was amended to clarify when an amendment to the certificate of incorporation opting out becomes effective.

Most of the amendments enacted by Senate Bill 69 involve the sections governing mergers and consolidations. While amendments were made to all of those sections, most are technical, clarifying, or conforming in nature rather than making substantive changes, and most dealt with transactions involving Delaware and non-Delaware entities.

Senate Bill 72 enacted amendments to the Delaware Limited Liability Company Act. The amendments were effective Aug. 1, 2017 and include the following:

Sec. 18-201 was amended to clarify that a certificate of formation substantially complies with the statutory requirements regarding required content if it contains the name of the registered agent and the address of the registered office, even if the certificate does not expressly designate such person as the registered agent or the address as the registered office or the address of the registered agent.

The sections governing mergers and consolidations, domestication, and conversions were amended to clarify that these transactions can be entered into with any incorporated entity and not just a corporation.

Sec. 18-407 was amended to provide that unless the LLC agreement provides otherwise, a member or manager has the power and authority to delegate any or all of the member or manager's rights, powers, and duties to manage and control the business and affairs of the LLC. The section was also amended to state that no other provision of the DLLCA shall be construed to restrict a member or manager's power and authority to delegate any or all of the rights, powers, and duties to manage and control the business and affairs.

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 Arizona, Senate Bill 1272, effective Aug. 9, authorized electronic notice to business entities, suspended certain annual report filing requirements for withdrawing companies, and provided civil liability for making false or misleading filings. In Louisiana, House Bill 310, effective Aug. 1, amended corporation law provisions related to internal voting issues, shareholder meetings, venue, and name reservation and reinstatement for terminated corporations.

In New Hampshire, Senate Bill 42, effective Aug. 27, and Senate Bill 18, effective Aug. 28, amended provisions regarding the reinstatement of corporations and LLCs. In Minnesota, House Bill 13, effective Aug. 1, amended the Nonprofit Corporation Act regarding electronic communications, incorporators, special litigation committees, parent-subsidiary mergers, and conversions. In North Dakota, Senate Bill 2223, effective Aug. 1, amended LLC law provisions relating to sharing of distributions and profits and losses, member voting, charging orders, and distribution of assets in winding up.

In Texas, effective Sept. 1, House Bill 3488 authorized public benefit corporations, Senate Bill 1571 amended the LLC law regarding, among others things, series LLCs, reinstatement, judicial termination, manager vacancies, and examination of records, and Senate Bill 1518 amended corporation law provisions regarding ratification of defective acting, issuance of shares, distributions, director voting, and approval of mergers and conversions.

IN THE STATE COURTS

DE Chancery Court: Delaware Lacks Personal Jurisdiction over Non-Resident in Dispute over a Stockholders' Agreement

In EBP Lifestyle Brands Holdings, Inc. v. Boulbain, C.A. No. 2017-0269, decided Aug. 4, 2017, a Delaware corporation based in California filed suit in Delaware to enforce non-compete and non-solicitation clauses in a stockholders' agreement. The defendant worked and lived in California, and moved to dismiss for lack of personal jurisdiction.

The Delaware Chancery Court granted the motion. The court held that the defendant was not transacting business in Delaware merely because he entered into a stockholders' agreement with a Delaware corporation or because he was an executive in companies whose products reached Delaware. The court also rejected the argument that Delaware should exercise jurisdiction because California does not enforce non-compete clauses. The failure to demonstrate sufficient minimum contacts mandated the conclusion that exercising personal jurisdiction over the defendant would violate due process.

CA Appellate Court: Reverse Veil Piercing Is Available in California

In Curci Investments, LLC v. Baldwin, G052764 (Cal. App. 4th Dist.), decided Aug. 10, 2017, a judgment creditor of the individual defendant filed a motion to add as a judgment debtor a California LLC owned and managed by the individual. The creditor based its motion on the reverse veil piercing doctrine whereby a creditor can satisfy an individual's debt thorough the assets of his or her entity. The trial court, citing a previous California appellate court decision, denied the motion based on its belief that reverse veil piercing is not available in California.

The California Court of Appeal, 4th District, reversed. The court stated that the previous decision relied upon by the trial court was distinguishable from this case. That earlier case involved a corporation while this case involved an LLC. The court pointed out that a creditor does not have the same options against an LLC member as it does against a shareholder. Whereas a creditor can step into the shoes of a shareholder, when the debtor is an LLC member the creditor can only obtain a charging order. In addition, the court in the previous case was concerned about harming innocent shareholders whereas in this case there were no innocent members. Thus, the court remanded to the trial court to determine whether reverse veil piercing was appropriate in this case.

MN Supreme Court Distinguishes Between Direct and Derivative Claims

In re Medtronic, Inc. Shareholder Litigation, A15-0858 (Minn. Supreme Court), decided Aug. 16, 2017, was a class action arising out of an inversion transaction. The plaintiff alleged three types of harm to the shareholder class — injury due to the shareholders being liable for capital gains, injury due to the corporation reimbursing officers and directors for their excise taxes, and injury due to the dilution of their interest. The trial court ruled that the claims were derivative and dismissed the suit. The Court of Appeals held that the reimbursement claim was derivative, but the other claims direct.

The Minnesota Supreme Court first ruled that the appropriate test in Minnesota for distinguishing between direct and derivative claims focuses on who suffered the injury and who is entitled to recovery. Applying that test here the court ruled that the claim based on the reimbursement to certain officers and directors was derivative. It was a claim that corporate assets were wasted and any recovery would go to the corporation. The claim based on shareholders' liability for capital gains was direct as the corporation did not incur such liability and the recovery would go to the shareholders. The dilution claim was also direct as it was alleged that certain rightful incidents of ownership were lost, which was an injury to the shareholders and not the corporation.

NV Supreme Court Rules on Attorney- Client Privilege

In Wynn Resorts, Limited v. Eighth Judicial District Court of Nevada, 133 Nev. Adv. Rep. 52, decided July 27, 2017, a corporation redeemed the shares of certain stockholders. This action was based on an investigative report from a law firm, and the advice of counsel. The corporation then filed suit against the stockholders, and the stockholders counterclaimed. The corporation attached a copy of the report to its complaint and to an SEC filing. The stockholders moved to compel the corporation to produce documents generated by its law firm in advising the board and documents underlying the report. The trial court held that the corporation waived the attorney-client privilege as to the law firm documents by asserting the business judgment rule as a defense and waived the report related documents by attaching the report to its complaint and SEC filings.

The Nevada Supreme Court held that the corporation did not waive the attorney-client privilege by asserting the business judgment rule. Because the business judgment rule precludes a court from reviewing the substantive reasonableness of a board's decisions, an evaluation of the substance of the legal advice received is unnecessary to determine whether the board acted in good faith. However, the corporation did waive the privilege as to the documents underlying the report. By attaching the report to the complaint and SEC filing the corporation placed the information contained in the report at issue.

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

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, 2017, including amendments to Delaware's corporation and LLC laws. It also looks at some recent cases of interest from the courts of Delaware, California, Nevada and Minnesota.

IN THE STATE LEGISLATURES

Delaware Amends Its Corporation and LLC Laws

Senate Bill 69, effective Aug. 1, amended the Delaware General Corporation Law. Highlights include the following:

Several sections were amended to provide specific statutory authority for Delaware corporations to use blockchain and distributed ledgers for the creation and maintenance of corporate records. These include Sec. 219, which was amended to state that the “corporation shall prepare the stockholder list” (formerly, “the officer who has charge of the stock ledger shall prepare and make” the list); Sec. 224, which was amended to provide that any records administered by or on behalf of the corporation may be kept on, by means of, or be in the form of “one or more electronic networks or databases (including one or more distributed electronic networks or databases)”; and Sec. 232, which was amended to provide that the term “electronic transmission” includes “the use of, or participation in one or more electronic networks or databases (including one or more distributed electronic networks or databases).” Sec. 228 was amended to remove the requirement that every written consent bear the date of signature of the stockholder or member. This amendment is effective for actions taken by consent having a record date on or after Aug. 1, 2017. Sec. 203, the business combination provision, was amended to clarify when an amendment to the certificate of incorporation opting out becomes effective.

Most of the amendments enacted by Senate Bill 69 involve the sections governing mergers and consolidations. While amendments were made to all of those sections, most are technical, clarifying, or conforming in nature rather than making substantive changes, and most dealt with transactions involving Delaware and non-Delaware entities.

Senate Bill 72 enacted amendments to the Delaware Limited Liability Company Act. The amendments were effective Aug. 1, 2017 and include the following:

Sec. 18-201 was amended to clarify that a certificate of formation substantially complies with the statutory requirements regarding required content if it contains the name of the registered agent and the address of the registered office, even if the certificate does not expressly designate such person as the registered agent or the address as the registered office or the address of the registered agent.

The sections governing mergers and consolidations, domestication, and conversions were amended to clarify that these transactions can be entered into with any incorporated entity and not just a corporation.

Sec. 18-407 was amended to provide that unless the LLC agreement provides otherwise, a member or manager has the power and authority to delegate any or all of the member or manager's rights, powers, and duties to manage and control the business and affairs of the LLC. The section was also amended to state that no other provision of the DLLCA shall be construed to restrict a member or manager's power and authority to delegate any or all of the rights, powers, and duties to manage and control the business and affairs.

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 Arizona, Senate Bill 1272, effective Aug. 9, authorized electronic notice to business entities, suspended certain annual report filing requirements for withdrawing companies, and provided civil liability for making false or misleading filings. In Louisiana, House Bill 310, effective Aug. 1, amended corporation law provisions related to internal voting issues, shareholder meetings, venue, and name reservation and reinstatement for terminated corporations.

In New Hampshire, Senate Bill 42, effective Aug. 27, and Senate Bill 18, effective Aug. 28, amended provisions regarding the reinstatement of corporations and LLCs. In Minnesota, House Bill 13, effective Aug. 1, amended the Nonprofit Corporation Act regarding electronic communications, incorporators, special litigation committees, parent-subsidiary mergers, and conversions. In North Dakota, Senate Bill 2223, effective Aug. 1, amended LLC law provisions relating to sharing of distributions and profits and losses, member voting, charging orders, and distribution of assets in winding up.

In Texas, effective Sept. 1, House Bill 3488 authorized public benefit corporations, Senate Bill 1571 amended the LLC law regarding, among others things, series LLCs, reinstatement, judicial termination, manager vacancies, and examination of records, and Senate Bill 1518 amended corporation law provisions regarding ratification of defective acting, issuance of shares, distributions, director voting, and approval of mergers and conversions.

IN THE STATE COURTS

DE Chancery Court: Delaware Lacks Personal Jurisdiction over Non-Resident in Dispute over a Stockholders' Agreement

In EBP Lifestyle Brands Holdings, Inc. v. Boulbain, C.A. No. 2017-0269, decided Aug. 4, 2017, a Delaware corporation based in California filed suit in Delaware to enforce non-compete and non-solicitation clauses in a stockholders' agreement. The defendant worked and lived in California, and moved to dismiss for lack of personal jurisdiction.

The Delaware Chancery Court granted the motion. The court held that the defendant was not transacting business in Delaware merely because he entered into a stockholders' agreement with a Delaware corporation or because he was an executive in companies whose products reached Delaware. The court also rejected the argument that Delaware should exercise jurisdiction because California does not enforce non-compete clauses. The failure to demonstrate sufficient minimum contacts mandated the conclusion that exercising personal jurisdiction over the defendant would violate due process.

CA Appellate Court: Reverse Veil Piercing Is Available in California

In Curci Investments, LLC v. Baldwin, G052764 (Cal. App. 4th Dist.), decided Aug. 10, 2017, a judgment creditor of the individual defendant filed a motion to add as a judgment debtor a California LLC owned and managed by the individual. The creditor based its motion on the reverse veil piercing doctrine whereby a creditor can satisfy an individual's debt thorough the assets of his or her entity. The trial court, citing a previous California appellate court decision, denied the motion based on its belief that reverse veil piercing is not available in California.

The California Court of Appeal, 4th District, reversed. The court stated that the previous decision relied upon by the trial court was distinguishable from this case. That earlier case involved a corporation while this case involved an LLC. The court pointed out that a creditor does not have the same options against an LLC member as it does against a shareholder. Whereas a creditor can step into the shoes of a shareholder, when the debtor is an LLC member the creditor can only obtain a charging order. In addition, the court in the previous case was concerned about harming innocent shareholders whereas in this case there were no innocent members. Thus, the court remanded to the trial court to determine whether reverse veil piercing was appropriate in this case.

MN Supreme Court Distinguishes Between Direct and Derivative Claims

In re Medtronic, Inc. Shareholder Litigation, A15-0858 (Minn. Supreme Court), decided Aug. 16, 2017, was a class action arising out of an inversion transaction. The plaintiff alleged three types of harm to the shareholder class — injury due to the shareholders being liable for capital gains, injury due to the corporation reimbursing officers and directors for their excise taxes, and injury due to the dilution of their interest. The trial court ruled that the claims were derivative and dismissed the suit. The Court of Appeals held that the reimbursement claim was derivative, but the other claims direct.

The Minnesota Supreme Court first ruled that the appropriate test in Minnesota for distinguishing between direct and derivative claims focuses on who suffered the injury and who is entitled to recovery. Applying that test here the court ruled that the claim based on the reimbursement to certain officers and directors was derivative. It was a claim that corporate assets were wasted and any recovery would go to the corporation. The claim based on shareholders' liability for capital gains was direct as the corporation did not incur such liability and the recovery would go to the shareholders. The dilution claim was also direct as it was alleged that certain rightful incidents of ownership were lost, which was an injury to the shareholders and not the corporation.

NV Supreme Court Rules on Attorney- Client Privilege

In Wynn Resorts, Limited v. Eighth Judicial District Court of Nevada , 133 Nev. Adv. Rep. 52, decided July 27, 2017, a corporation redeemed the shares of certain stockholders. This action was based on an investigative report from a law firm, and the advice of counsel. The corporation then filed suit against the stockholders, and the stockholders counterclaimed. The corporation attached a copy of the report to its complaint and to an SEC filing. The stockholders moved to compel the corporation to produce documents generated by its law firm in advising the board and documents underlying the report. The trial court held that the corporation waived the attorney-client privilege as to the law firm documents by asserting the business judgment rule as a defense and waived the report related documents by attaching the report to its complaint and SEC filings.

The Nevada Supreme Court held that the corporation did not waive the attorney-client privilege by asserting the business judgment rule. Because the business judgment rule precludes a court from reviewing the substantive reasonableness of a board's decisions, an evaluation of the substance of the legal advice received is unnecessary to determine whether the board acted in good faith. However, the corporation did waive the privilege as to the documents underlying the report. By attaching the report to the complaint and SEC filing the corporation placed the information contained in the report at issue.

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