Delaware Chancery Court Cautions Against Reading Between the By-Lines
In a significant decision for public companies facing activism, the Delaware Court of Chancery last week held that a board may not reject a director nomination notice based on disclosure requirements that are not explicitly spelled out in the corporation’s advance notice bylaws. In ATG Capital Opportunities Fund LP v. Lane et al., Vice Chancellor Lori Will found that Empery Digital, Inc. had improperly rejected the nomination notice of an activist investor, ATG Capital Opportunities Fund LP, notwithstanding the Empery board’s well-founded concerns that ATG Capital did not disclose it was acting in concert with another investor and had taken a large short position in Bitcoin ETFs to hedge its position in Empery. The Court concluded that the rejection was not based upon the plain language of Empery’s advance notice bylaws and therefore represented inappropriate interference with the stockholder franchise.
This litigation came after ATG Capital took a significant stake in Empery and nominated a slate of nine director candidates to the board. The Empery board considered the notice and determined that it was deficient both because ATG Capital did not disclose (i) that another investor was acting as a “participant” in ATG Capital’s solicitation and (ii) its short position in Bitcoin ETFs, and because the nominee questionnaires contained certain omissions and inaccuracies. Following receipt of a rejection notice, ATG Capital sued Empery to compel the company to allow the dissident nominees to stand for election.
Vice Chancellor Will held that the Court “cannot . . . enforce a requirement that a bylaw does not contain,” noting that the company’s advance notice bylaws did not require disclosure of any agreements, arrangements, or understandings among investors in connection with the proposal (as is common in many advance notice bylaws), nor did they require disclosure of a Schedule 13(d) group. The bylaws only required disclosure of any other “participant” in the solicitation, but “participant” was defined narrowly. Similarly, the Court found that neither the advance notice bylaws nor the questionnaires for director nominees required disclosure of any commodity hedges, cryptocurrency hedges, or positions in unrelated ETFs. Notably, Vice Chancellor Will also stated that she would not rule on whether omitting disclosure of coordination with another investor or the short position in Bitcoin ETFs was necessarily misleading pursuant to Rule 14a-9 of the proxy rules (which was incorporated by reference in Empery’s advance notice bylaws) because Empery did not preserve that argument by including it in the rejection notice.
This decision is the latest in a line of Delaware cases that attempt to strike a delicate balance between protecting the shareholder franchise and permitting boards to enforce advance notice bylaws, with important implications for public companies. First, the decision underscores the continuing importance of thoughtful, deliberate bylaw drafting. Courts will closely scrutinize the plain language of the advance notice bylaws and will not infer disclosure obligations if a board later concludes that certain information would have been material. Bylaws should be appropriately drafted to require disclosure that boards will need to evaluate nominations and comply with proxy requirements in connection with a proxy contest. On the other hand, companies must also ensure that their advance notice bylaws are not so burdensome, indeterminate, or unreasonable as to inequitably obstruct a shareholder’s right to nominate.
Second, the decision highlights the importance of a thorough, disciplined process when a board is presented with a nomination notice. Boards should engage experienced counsel and conduct a careful evaluation, in the context of the existing bylaw and nominee questionnaire language, before deciding whether to invalidate the nomination notice. The legal, reputational, and strategic consequences of rejecting the nomination notice can be significant. If the company is sued and loses the ensuing litigation, that may ultimately strengthen the dissident’s position in a proxy fight. In addition, while many institutional investors recognize the propriety of advance notice bylaws and reasonable restrictions designed to ensure stockholders can vote on full information, actions by boards that they perceive as obstructing the shareholder franchise may raise broader governance concerns, and also may be viewed as a sign that the company is not confident it will prevail at the ballot box.
Delaware remains amenable to advance notice bylaws that are clear, reasonable, and appropriately enforced, but companies should not assume that judges will rubber stamp rejections of nomination notices. Boards would be well-served to review their advance notice provisions on a clear day and ensure that the required disclosures align with best practices and evolving activist strategies.
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