Court of Chancery Resolves Statutory Ambiguity in Favor of Boards Seeking to Increase a Corporation’s Number of Authorized Shares
Recent legislation in Delaware has eased the path of boards of directors who want to increase the number of a corporation’s authorized shares. In Salama, the Court of Chancery concluded that the General Assembly’s most recent effort in this area, made in 2023, has yielded an ambiguous statute. Salama v. Simon, No. 2024-1124-JTL, 2024 WL 4906737 (Del. Ch. Nov. 27, 2024). The court then resolved that ambiguity in favor of boards and against stockholders opposing share increases.
Legislative and case background
At issue in Salama were recent amendments to Section 242 of the DGCL. Section 242 governs charter amendments generally. The 2023 legislation addresses amendments to increase (or decrease) the number of a corporation’s authorized shares in particular. The court in Salama addressed two issues related to share increase proposals: (1) whether stockholders are entitled to a class vote, as opposed to all classes of stock voting together, and (2) whether the voting standard is a majority of voting power or a majority of votes cast.
Before the 2023 amendment, class voting was required, but corporations could opt out of that requirement by amending their charters to eliminate class voting (under specified procedures). The mechanism for opting out was (and continues to be) set forth in the final provision of Section 242(b). Many corporations have taken advantage of that opt-out provision. Tilray Brands, Inc., the corporation in Salama, did so in 2018.
The 2023 amendment addressed both class voting and the voting standard. Under subsection (d) of the amended statute, (1) class voting is no longer required in many circumstances, and (2) the more lenient majority-of-the-votes-cast formulation applies to all votes.
The 2023 amendment also contains what are effectively two carve-outs from these pro-corporate provisions. First, class voting is still required for any corporation that has not taken advantage of the pre-amendment opportunity — set forth in Section 242(b) — to opt out of class voting by means of a charter amendment. Corporations that have not done so are still required to use class voting for share increases — although the standard used in class voting is now the majority-of-the-votes-cast. Second, and more sweepingly, corporations are not subject to any of the changes effected in subsection (d) if their charters “expressly require[]” otherwise.
The second provision was at issue in Salama. Tilray, as noted, had in 2018 adopted a charter amendment opting out of class voting under the pre-2023 statutory scheme. Somewhat ironically, the plaintiff argued that Tilray’s 2018 charter amendment — which was intended to ease share increases by eliminating class voting requirements — blocked application of the 2023 statutory amendment — which was intended to ease share increases by lowering the voting standard. The plaintiff argued that Tilray’s 2018 charter amendment was the kind of “express[ ] require[ment]” that takes a company out of the more lenient procedures the legislature embraced through subsection (d) in 2023. Irony aside, however, the plaintiff’s argument had solid support in the text of Tilray’s 2018 charter amendment. The charter amendment referred to the more demanding voting standard — “the affirmative vote of the holders of a majority of the voting power” — as opposed to the more lenient majority-of-the-votes-cast standard the legislature adopted in 2023.
The Salama decision: textual and extrinsic evidence
The court thus had to decide whether Tilray’s 2018 charter amendment constituted an “express[] require[ment]” barring application of the more lenient provisions of the 2023 legislation. On this issue, the court determined that the statute was ambiguous. Both parties had presented reasonable interpretations. The company reasonably interpreted the statutory term “expressly required” to mean something more than simply a reference to a different voting standard. The plaintiff reasonably interpreted “expressly required” as being satisfied by any affirmative reference to a different voting standard. Under the plaintiff’s interpretation, “express” simply means not implied.
Although the court held that both interpretations were reasonable, it did not suggest that the two were of equal merit. The court’s analysis suggests that the plaintiff’s interpretation was the better one. The court rejected the company’s attack on the plaintiff’s interpretation, holding that it was not persuasive and explaining at length why this was so. By contrast, the court repeatedly characterized the plaintiff’s attack on the company’s interpretation as “strong.”
The relative strength of the two arguments, however, did not decide the issue. Because both interpretations were reasonable, the court concluded that the statute was ambiguous, and moved to examining extrinsic evidence. In doing so, the court appeared to start with a clean slate. In weighing the extrinsic evidence, that is, the court appeared to leave behind the relative merits of the competing textual interpretations.
The extrinsic evidence weighed in the company’s favor. Timing was an important factor. The court read Tilray’s charter provision, adopted in 2018, as an effort to opt out of class voting, not to enshrine the more demanding majority-of-the-voting-power voting standard. The language of the company’s 2018 charter amendment underscored the timing point. It tracked the opt-out provision of pre-amendment subsection 242(b). The court noted that different timing could have led to a different result. A post-2023 charter amendment that referred to the more demanding voting standard would much more likely be read as a deliberate attempt to avoid the looser voting standard embraced by the 2023 legislation (and set forth in subsection 242(d)).
Legislative history also favored the company’s interpretation. The 2023 amendment was proposed by the Council of Corporate Law Section of the Delaware State Bar Association, which provided a synopsis of the legislation. Under Delaware law, such synopses are appropriate indicia of legislative intent. In the synopsis, the Council stated that a “general recitation in the certificate of incorporation of the vote generally required under subsection (b) without a specific reference to the amendments specified in subsection (d) is not sufficient.” The court initially reasoned that this language was “not directly on point.” Notably, the court had earlier rejected a similar argument by the company — that “expressly require[s]” contemplates a specific textual reference in the charter to subsection (d). Nevertheless, the court ultimately concluded that the “concept” embedded in the synopsis supported the interpretation that the “expressly require[s]” standard is not satisfied by a charter amendment that appears designed to track the pre-2023 class vote opt-out provision of subsection 242(b).
Salama and policies applicable to share increase amendments
The court finally considered statutory policy, as evidenced by “practitioner memoranda describing the 2023 Amendments.” These memoranda made clear that the Council’s objective was to make it easier for corporations to increase the number of authorized shares, and that the previously applicable majority-of-the-voting-power standard interfered with this:
The memoranda discuss how public corporations with large numbers of retail investors had encountered difficulties securing approval for increases under the Majority-of-the-Outstanding Standard. The memoranda explained that due to rational apathy, retail investors are less likely to return proxy cards and vote. . . . The memoranda regard facilitating a corporation’s ability to increase its authorized shares as a public policy goal because of the many possible uses of the additional shares.
The court noted that a different public policy might at first appear to cut in the plaintiff’s favor — namely, the pro-stockholder franchise policy, which is embodied in “the interpretive canon that a court should interpret an ambiguous provision in favor of voting rights.” But the court observed “a problem with applying that canon here.” Two groups of stockholders had voting rights at stake — those who wanted to increase the number of authorized shares and those who did not want to (or simply did not vote). On the record before the court, no basis appeared for “choosing between the two sets of stockholders.” The pro-franchise policy was therefore a wash.
Because the other extrinsic factors weighed in favor of the company’s interpretation, the court granted summary judgment to the company. In the procedural posture in which the case had arisen, that meant that the company was free to proceed with its vote and was not required to correct proxy materials that described the voting standard as majority-of-the-votes-cast.
Corporation and litigation takeaways
The primary takeaways for corporate practitioners are the following — all assuming that a corporation wants to make a charter amendment increasing the number of authorized shares as easy to pass as the law allows:
- A company that has not already adopted a charter amendment eliminating class voting for share increases pursuant to the requirements of subsection 242(b) — the pre-2023 subsection — should do so as soon as it can.
- A company that has already adopted a charter amendment opting out of class voting for share increases will continue to enjoy the benefit of that amendment under the 2023 legislation. This is the case even if the charter amendment refers to a majority-of-the-outstanding-shares voting standard, so long as the amendment tracks the language of the opt-out provision of pre-2023 subsection 242(b). Nevertheless, eliminating from a charter amendment any reference to the higher, majority-of-the-outstanding-shares voting standard is probably well worth the effort.
- Going forward, a company drafting or amending a charter provision governing an increase in the number of authorized shares should (a) include a provision opting out of class voting, and (b) avoid any reference to voting standards.
The decision also has some intriguing nuggets for litigators:
- Binary analysis. The binary nature of the court’s analysis is striking. As noted, the court analyzed textual and extrinsic evidence in two very distinct steps, and the relative merits of the parties’ competing textual interpretations appeared to drop away once the court reached the extrinsic evidence. That may have implications for briefing and evidentiary presentations in cases involving either contract interpretation or statutory interpretation.
- Market practice. The court considered as extrinsic evidence both (a) law firm publications, and (b) public-company SEC filings describing voting standards applicable to charter amendments to increase shares. But at the same time, the court expressed skepticism about the litigants’ reliance on those materials. The court referred in belittling terms to market practice evidence as “something all the rage of late,” and to “the current insistence in some quarters on the primacy of market practice.” The court then cited its own pronouncement in a blockbuster decision from earlier in 2024 that “market practice is not the law.” Palm Beach Firefighters’ Pension Fund v. Moelis & Co., 311 A.3d 809, 878 (Del. Ch. 2024). The court went on to contrast situations in which market practice is “both well-established and clear” from those in which it “falls short of that standard,” and in which “the noise drowns out any signal.” The court’s comments do not appear to be intended to discourage litigants from using market practice evidence altogether, but they do suggest that some care is needed, and that market practice that is less than uniform may not show much more than ambiguity.
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.
