Marshall L. Small
Corporate, Financial Institutions + Financial Services, and Securities Enforcement
Recent amendments (the "Delaware Amendments") to the Delaware General Corporation Law (the "DGCL"), which take effect on August 1, 2006, address questions related to voting standards for director elections in a limited fashion. The Delaware Amendments do not require corporations to take any action nor do they dictate a required voting standard.
Summary of Changes
The Delaware Amendments add a new sentence to DGCL Section 141(b) that provides that a director’s resignation is effective (1) when delivered, (2) at a later specified effective date or (3) upon the happening of an event or events (i.e. failure to receive a specified vote), and that a resignation which is conditioned upon the failure to receive a specified vote for reelection may provide that it is irrevocable. Prior to the adoption of this provision, the enforceability of a resignation conditioned on a future event was unclear, particularly if a director asserted that fiduciary duties required the director to refuse to resign. The Delaware Amendments also add a new sentence to DGCL Section 216 that provides: "a bylaw amendment adopted by the stockholders which specifies the votes that shall be necessary for the election of directors may not be repealed or amended by the board of directors." This change is significant because generally a corporation’s bylaws can be amended by the board of directors or the stockholders.
The Impetus for Change
Majority voting for directors has been the focus of significant debate in the corporate governance arena for the last few years. Some stockholders have been demanding that corporations adopt majority voting policies to improve director accountability. Under plurality voting, the current default standard for director elections in Delaware and a substantial majority of states, the candidate receiving the most votes wins, regardless of whether those votes constitute a majority of the votes cast. Thus, in an uncontested election, a candidate could be elected with as little as a single affirmative vote. The benefit of plurality voting is that someone always wins; there cannot be a "failed" election. But, stockholders cannot vote against a candidate, which limits their role in the director selection process.
In response to stockholder demands, many corporations have adopted modified plurality voting policies (also known as director resignation policies), which generally provide that directors are elected by a plurality of the vote, but nominees agree in advance to resign if they receive more "against" than "for" votes. However, to date, the legal effect of these voting policies has been unclear.
Under the DGCL there is no link between a director’s failure to be reelected and the end of such director’s term of office. The DGCL provides that a director’s term of office continues until the election and qualification of his or her successor absent earlier death, removal or resignation. Thus, prior to the adoption of the Delaware Amendments (specifically, the language added to Section 141(b)), corporations had no means of removing a director who did not receive sufficient votes for reelection, regardless of the applicable voting standard.
True Majority Voting Policies
True majority voting policies typically provide a nominee must receive a favorable majority of the votes cast for his or her election. The risk of "failed" elections is the primary concern with a true majority voting policy. Some stockholders continue to demand true majority voting policies despite the risks of "failed" elections. Some stockholders, including Institutional Shareholder Services, have indicated that they believe a true majority voting policy is the gold standard and the best way to achieve unmitigated accountability. Additionally, a number of corporations, including Hewlett Packard, Office Depot and Raytheon, have faced stockholder proposals for true majority voting policies despite the fact that they previously adopted a modified plurality voting policy. However, a carefully tailored modified plurality voting policy may be a better approach if it will satisfy a corporation’s stockholders.
Modified Plurality Voting Policies
Modified plurality voting policies typically provide that directors are elected by a plurality, but that nominees agree in advance to resign if they receive more "against" than "for" votes. Under these policies, typically the remaining directors then determine whether to accept or reject such resignation. Modified plurality voting policies have been adopted by a number of corporations and are supported by the American Bar Association Committee on Corporate Laws (the "CCL"). The CCL recently adopted amendments to the Model Business Corporation Act (the "Model Business Act") that provide an optional modified plurality voting standard for public corporations. Specifically, the amendments to the Model Business Act provide that a public corporation may adopt a bylaw that provides that directors will be elected by a plurality of the votes cast, but that a nominee who receives more "against" than "for" votes will only serve a maximum of 90 days, unless such person is appointed by the board of directors to a longer term. Modified plurality voting policies provide stockholders a more active role in the director election process, while avoiding the risks of "failed" elections. However, they leave some discretion in the hands of the board of directors and nominating committee – the board can reject a resignation (or appoint a nominee who received more "against" than "for" votes under the Model Business Act) – which some stockholders find objectionable.
Adoption of a modified plurality voting policy does not necessarily end the majority voting debate. As discussed above, some stockholders have continued to push for true majority voting policies despite the fact that a corporation already has a modified plurality voting policy. Further, the SEC declined all requests for no-action letters from corporations regarding the exclusion of a stockholder proposal for a true majority voting policy from proxy materials on the ground that they had already substantially implemented such a policy by adopting a modified plurality voting policy.
The debate surrounding majority voting for directors continues. For corporations that decide to implement a voting standard that exceeds the current plurality default rule, we believe a bylaw that provides the corporation’s board of directors some discretion is appropriate, but corporations should examine their stockholder constituency and corporate governance history and determine the best approach given their particular circumstances. Addressing majority voting now provides a corporation’s board of directors and management the opportunity to adopt a bylaw that they believe is most appropriate for the corporation, rather than being forced to adopt a policy drafted by the stockholders, which the board of directors will be powerless to amend or repeal. Additionally, adopting a bylaw dealing with director elections now puts corporations in a better position to deal with stockholder proposals for majority voting, many of which may not leave the board of directors any discretion.
This release focuses on Delaware law. Corporations incorporated in states other than Delaware should address the majority voting issue in a manner that is consistent with the laws of their state of incorporation. California is still considering its legislative approach to majority voting. As discussed above, the CCL recently adopted amendments to the Model Business Act, which provide an optional modified plurality voting standard for public corporations. The amendments to the Model Business Act will likely be implemented in states that follow the Model Business Act.
©1996-2019 Morrison & Foerster LLP. All rights reserved.