Voting Commitments Matter and Will Be Enforced: Delaware Supreme Court Affirms Chancery Decision Holding Activist Stockholders to Their Bargain
When companies settle proxy contests with activist stockholders, the activists generally give up stockholder-level influence in exchange for board-level influence. In a typical agreement in this setting, activists gain board seats in exchange for a commitment to vote their shares with the board’s recommendation on proposals put to stockholders. Activists also agree to standstill periods in which they refrain from taking actions opposed to the board, and from increasing their holdings above a specified cap.
Although such agreements have been used to resolve hundreds of proxy contests, the Court of Chancery had not considered one until Texas Pacific Land Corp. v. Horizon Kinetics LLC. In a December 1, 2023 post-trial decision, Vice Chancellor Laster enforced a voting commitment against two activist stockholders that together held 22% of the company’s common stock, and held that a contested stockholder vote consequently passed. 2023 WL 8297050. On February 26, 2024, after an expedited appeal, the Delaware Supreme Court affirmed. Horizon Kinetics LLC v. Texas Pacific Land Corp., No. 478, 2023 (Del. 2024).
Together, the two rulings provide certainty that companies may enforce voting agreements against stockholders. Even in the case of ambiguous voting provisions, Delaware’s policy in favor of the stockholder franchise does not in itself block enforcement.
Background and Holdings
Texas Pacific has an unusual history. Its predecessor, Texas Pacific Land Trust, was formed in the late nineteenth century as a land trust for the benefit of the bondholders of the bankrupt Texas and Pacific Railway Company. Beneficial interests in the Trust became publicly tradable in the 1920s, but the Trust was, as a legal matter, incapable of new interests. In another archaic arrangement, the Trust was governed by three trustees who served for life.
After one trustee resigned in 2019, activist stockholders (technically, holders of Trust certificates) launched a proxy contest over the empty seat and pressed to convert the Trust into a Delaware corporation. Litigation ensued and was resolved through a series of steps culminating in both the conversion of the Trust into a corporation and a 2020 stockholders’ agreement in which the activists obtained board seats in exchange for a voting agreement and standstill provisions. The voting agreement was structured as a broad commitment to vote with the board’s recommendations, subject to exceptions for proposals related to (1) “an Extraordinary Transaction” and (2) “governance, environmental or social matters.”
Texas Pacific began life as a corporation in 2021. Upon incorporation, Texas Pacific had, for the first time, authorized but unissued shares of preferred stock. But the board had no authority to issue common stock. The board accordingly put a share authorization proposal on the ballot for the company’s 2022 annual meeting. If passed, the proposal would effectively double the number of authorized shares, something that had not been possible during the lifetime of the Trust. The board explained in its proxy that additional shares of common stock would give Texas Pacific flexibility. Among other things, the company could use shares to fund employee incentive compensation plans, raise capital, implement takeover defenses, and fund acquisitions for stock. The company also explained that it had no present intention to make any such stock-based acquisition.
The activists voted against the proposal, and their votes were outcome-determinative. In November 2022, Texas Pacific commenced an action under Section 225 of the Delaware General Corporation Law, alleging that the activists had violated their voting commitment. The company later added a claim for breach of the standstill provision. As is typical in actions under Section 225, proceedings were expedited, and the case was tried in April 2023.
In its post-trial decision, the Court of Chancery analyzed in detail the parties’ competing interpretations of two exceptions to the voting commitment. The court concluded that both sides had advanced reasonable interpretations—but not dispositive ones. With respect to the “Extraordinary Transaction” exception, the term “related to” appeared broad, but the activists could not identify any particular transaction in play at the time of the proposal. As to “governance, environmental or social matters,” the activists interpreted “governance” to encompass director elections, which was unworkable.
Because it found both exceptions ambiguous, the Court of Chancery turned to extrinsic evidence. At this stage, the court adopted the framework the Supreme Court used in interpreting an ambiguous voting agreement in Salamone v. Gorman, 106 A.3d 354 (Del. 2014). The company in Salamone argued that the agreement at issue provided for per capita rather than per share voting—an interpretation that would have deviated from the normal one-share-one-vote rule and disenfranchised the majority stockholder. The Supreme Court adopted two presumptions for construing ambiguous voting provisions in that context: (1) in contracts of adhesion, including corporate charters, contra proferentum applies, which means the company cannot prevail, and (2) in contracts between equally sophisticated parties, the company must show by clear and convincing evidence that its interpretation of the breaching provision is the correct one.
The Court of Chancery applied the second presumption in Texas Pacific without discussing whether Salamone’s framework applies in a case that lacks Salamone’s unusual features—a purported per capita voting regime that disenfranchises a majority stockholder. Applying Salamone, the Court of Chancery held that Texas Pacific had met its burden of proving by clear and convincing evidence that the activists had broadly agreed to vote with the board’s recommendations. The burden then shifted to the activists to show by a preponderance of the evidence that one of the exceptions applied.
The activists could not meet that burden. Expert testimony on the meaning of contract terms was “interesting” but not “sufficiently persuasive to carry the day.” On the other hand, Texas Pacific showed that the principals of both activist funds had acknowledged, in private communications with friends or family members, that they were bound to vote with the board on share authorization proposals. That evidence was dispositive. “Before the litigation began, [both principals] acknowledged that they were bound to vote in favor of a proposal to increase the number of authorized shares.”
The case had a final wrinkle. In connection with a failed affirmative defense, the court considered evidence that the activists had solicited votes in opposition to the share authorization proposal. By doing so, the court held, the activists had
violated the Standstill in multiple ways and over a prolonged period of time. Not only that, but they sought to conceal their conduct by avoiding a document trail. At trial, their witnesses did not come clean about their breaches but rather offered less than credible testimony on several points.
The Court of Chancery then declared that the activists’ votes had been cast in favor of the share authorization proposal, and that the proposal had passed. The Supreme Court affirmed in a one-page order.
Takeaways
- Stockholder commitments to vote with a board’s recommendation are enforceable notwithstanding Delaware’s pro-stockholder franchise policy. Nevertheless, that policy, and in particular the presumptions recognized in Salamone, may play a role in the interpretation of ambiguous voting provisions. Even outside the unusual fact pattern of Salamone, companies enforcing stockholders’ agreements may bear the burden of proving by clear and convincing evidence that their interpretation of the provision is the correct one.
- Although Section 225 proceedings are limited rather than plenary, parties seeking to enforce a voting commitment in a stockholders’ agreement should consider including any other claim for breach of the agreement that can be connected in some way to the challenged vote. Standstill breaches in particular are often difficult to remedy after the passage of time; money damages cannot undo an activist’s solicitation of stockholders in opposition to the board or management. Including a claim for any applicable standstill breach in a Section 225 action may have strategic litigation value in ways not necessarily foreseeable at the time of filing.
Sidley represented Texas Pacific in both the Court of Chancery and the Supreme Court. Yolanda Garcia, Alex Kaplan, Charlotte Newell, Liz Austin, and Robin Wechkin led Sidley’s litigation team. Kai Liekefett and George Vlahakos represented the company in related activism defense and corporate matters. A. Thompson Bayliss of Abrams & Bayliss was co-counsel.
This post is as of the posting date stated above. Sidley Austin LLP assumes no duty to update this post or post about any subsequent developments having a bearing on this post.
