Yucaipa American Alliance Fund II, LP v. Riggio: The Growing Use of Poison Pills to Preclude a Proxy Contest (Sections 112 and 113 of the Delaware General Corporation Law)

Yucaipa tried to argue that the poison pill, by limiting proxy contests and agreements among shareholders, ran contrary to recent changes to the Delaware corporate law.  Specifically, Yucaipa pointed to Sections 112 and 113, the provisions that provide for shareholder access bylaws and proxy contest reimbursement bylaws. 

• Yucaipa argues that unless this court enjoins the Barnes & Noble Rights Plan and lets it form a group with Aletheia wielding nearly 40% of the vote, this court will somehow be undermining recent amendments to the DGCL, which make plain that which had always been understood by most Delaware corporate lawyers, which is that the stockholders of Delaware corporations have the authority to adopt potent bylaws shaping a more competitive election process. Sections 112 and 113 of the DGCL give stockholders the chance to shape their own company-specific approach to issues like proxy access and to require the corporation to reimburse even a losing proxy insurgent for expenses. See 8 Del. C. §§ 112, 113.

In considering the argument, the Chancery Court found nothing in the adoption of these provisions that suggested a conflict with a poison pill that interfered with the right of shareholders to agree upon a common slate of directors and the sharing of expenses.   

• There is no evident clash between these statutes and the Barnes & Noble Rights Plan. For starters, the very premise of a reimbursement bylaw, if adopted, undercuts the idea that a 20% holder needs to club up to fund a proxy contest, as the reimbursement feature would minimize any cost justification. Moreover, the main thrust of thinking around these issues does not involve the odd notion that someone like Yucaipa, who has taken a non-diversified risk and invested hundreds of millions of dollars, needs an incentive to run a proxy contest costing a mere fraction of its investment. Rather, the idea has been to give smaller holders an ability to run proxy contests because of the reality that their small holdings may make it unjustifiable to do so. By setting the trigger at a level of 20%, the Barnes & Noble board allowed a group of say, six 3% holders or nine 2% holders, to join together and pool expenses.

In otherwords, Sections 112 and 113 were not designed to provide all shareholders with greater opportunity to elect directors.  On this point, we agree.  We have criticized these provisions, particularly Section 112, indicating that they were not designed to empower shareholders but to clarify the authority of the board to limit shareholder access.   

The Chancery Court did concede that poison pills with lower thresholds did have the potential for interfering with the franchise:

• it may be that a pill with a double trigger would be in order to limit direct holdings of a stockholder to say, less than 5%, but permit such holders to enter into “agreements, arrangements or understandings” of up to a higher threshold, say 20%. Although this would not address all concerns, see Edelman & Thomas, supra note 156 at 32-33 (noting the concern that a 5% pill can act as an unreasonable inhibition to strategic acquirers and therefore be adverse to the interests of target investors and society more generally), it would diminish the effect of such a pill on the ability of investors to join together and run a proxy contest.

But the point is merely a judicial musing.  Pills with 5% thresholds have been upheld even without the double trigger suggested by the Vice Chancellor.  In truth, in Delaware, poison pills can be used to interfere with the franchise by impeding if not preventing proxy contests.  And if anything, Section 112 is consistent with this. 

Primary materials are posted on the DU Corporate Governance web site.