2005 Amendments to the Delaware General Corporation Law

As appeared in Fall 2005 issue of
The Business Law Report
Volume 11, No. 3

Introduction

Effective August 1, 2005, Delaware amended its General Corporation Law.  As in past years, several of the amendments are technical in nature and serve to clarify the existing Delaware law and to aid practitioners in rendering advice to Delaware corporations.  In addition to "technical" changes, however, the 2005 amendments also address long standing issues under Section 271 of the General Corporation Law with regard to the sale of "all or substantially all" of a corporation’s assets.  The amendments also contain a provision eliminating the requirement that paper stock certificates be made available in all instances and a host of provisions regarding the conversion and domestication of a non-corporate entity to a Delaware corporation.

Sales of Assets

Perhaps the most significant amendment adopted in 2005 was the amendment to Section 271, which requires stockholder approval for the "sale, lease or exchange" of "all or substantially all" of a corporation’s assets.  The 2005 amendment added a new subsection (c) to Section 271 that (a) provides that the assets of wholly owned subsidiaries are considered to be assets of the parent corporation for purposes of making the determination of whether assets proposed to be sold constitute "all or substantially all" of the parent’s assets, and (b) expressly permits a parent corporation to transfer assets to a wholly owned subsidiary, without a vote under Section 271, even if the transferred assets constitute "all or substantially all" of the parent corporation’s assets.[2]

These amendments address directly a set of issues that has long been the subject of debate – namely, whether and how Section 271 applies to asset dispositions by or to subsidiaries arguably constituting "all or substantially all" of the parent corporation’s assets.  This debate came to the fore following the release in July 2004 of the opinion of the Court of Chancery in Hollinger Inc. v. Hollinger International, Inc., 2004 WL 1728003 (Del. Ch., July 29, 2004).  In Hollinger, Vice Chancellor Strine, in dicta, suggested that the better reading of Section 271 was that Section 271 requires a vote to approve an asset sale by a subsidiary that meets the "all or substantially all" test on a consolidated basis, at least where the parent guarantees the subsidiary’s performance of the sale contract and negotiates the sale itself.  The Court recognized that the precise language of Section 271 only requires a vote on covered sales by a corporation of "its" assets, but felt the veil-piercing approval to analyzing dispositions by subsidiaries suggested in Leslie v. Telephonics Office Technologies, Inc., 1993 WL 547188 (Del. Ch., Dec. 30, 1993) was too rigid.

New subsection 271(c) essentially codifies the dicta in Hollinger, at least as to sales by wholly owned subsidiaries.  It does not, however, purport to address the applicability of Section 271 to an asset disposition by a less-than wholly owned subsidiary, and also does not on its face appear to apply to transactions structured as a merger of a subsidiary with a third party.

The second portion of Section 271(c) also brings clarity to the issue of the applicability of Section 271 to "drop-downs" of assets to subsidiaries.  In short, it does not apply to such transactions.  Thus, so long as assets stay within the corporate "family," Section 271 does not require a stockholder vote for asset transfers.  Accordingly, it is now clear that the creation of a holding company structure through the contribution of assets to a subsidiary does not require stockholder approval.  All transfers outside the "family" (or to a non-wholly owned subsidiary), however, will now require analysis under the "all or substantially all" test, regardless whether the assets in question are owned by a parent or a subsidiary.

Director Voting

Section 141(d) was amended in 2005 to give additional flexibility to corporations to permit the certificate of incorporation to confer upon certain directors voting rights different than or in addition to the voting rights of other directors, whether or not those directors are elected by a separate class or series of stock.  Prior to this amendment, there was some uncertainty whether different directors elected by the same class or series of stock could be accorded different voting rights (for example, a requirement that independent directors approve certain transactions or that the approval of individual directors was required for specified board actions), because Section 141(d) spoke of differential voting only in the context of directors elected by separate classes or series of stock.  In contrast, Section 141(a) contains language permitting management authority to be rested in "persons" other than the board of directors.  Amended Section 141(d) harmonizes these provisions.

Stock Certificates

Section 158 was amended to eliminate the requirement that a corporation be required to deliver a paper stock certificate upon request even though its shares are otherwise uncertificated.  It may still honor such a request in its discretion.  While this change is intended to promote the efficient trading of securities in the public markets, it also is applicable to non-public companies.

Holding Company Conversions

A technical amendment was made to Section 251(g)(7) permitting the certificate of incorporation of the subsidiary resulting from a holding company conversion effected pursuant to Section 251(g) to eliminate a staggered board provision or other "nonstandard" director voting provisions that were included in its certificate prior to the conversion.

Conversion of an "Other Entity" to a Delaware Corporation

Prior to the 2005 amendments, Section 265 permitted a limited liability company, general partnership, limited partnership, limited liability partnership and statutory trust of the State of Delaware to "convert" to a Delaware corporation.  An entity formed in another state could not convert to a Delaware corporation unless such entity followed a two step process -- a conversion to another Delaware entity (which is expressly permitted by the LLC Act, LP Act, Partnership Act and Statutory Trust Act) followed by a conversion of the Delaware alternative entity to a Delaware corporation.  This two step process proved to be cumbersome.  Subsection (a) of Section 265 was amended to permit a conversion of an "other entity" to a Delaware corporation.  "Other entity" is defined as a limited liability company, statutory trust, business trust or associate, real estate investment trust, common-law trust or any other unincorporated business including a partnership (whether general or limited) or a foreign corporation.

Section 265 also now permits a corporation not incorporated in the State of Delaware to convert to a Delaware corporation thus permitting a non-Delaware corporation to reincorporate in Delaware via a conversion rather than a merger.

A new subsection (f) of Section 265 makes clear that the property rights and privileges of the converting entity remain vested in the Delaware corporation and that the rights of creditors and all liens on the property of such other entity remain unaffected by the conversion.  Subsection (f) also makes it clear that the conversion does not result in a transfer of the assets and liabilities of the converting entity and provides further that when an "other entity" has been converted to a Delaware corporation, the Delaware corporation shall be deemed to be the same entity as the converting entity.

Finally, new subsection (j) of Section 265 provides that in connection with a conversion, the rights or securities of or interests in the converting other entity may be exchanged for or converted into stock of the Delaware corporation, cash, property or interests in another entity or domestic corporation or may be cancelled.  The foregoing changes to Section 265 serve to clarify the legal effect of a conversion to a Delaware corporation.

Conversion of a Delaware Corporation to an "Other Entity"

Prior to the 2005 amendments, Section 266 only permitted a Delaware corporation to convert to a Delaware other entity.  As a result of recent amendments to the Delaware alternative entity statutes, no other Delaware entity is so limited.  The amendments to Section 266 permit a Delaware corporation to convert to an other entity whether or not the other entity is a Delaware entity or to a corporation not incorporated in Delaware.  Such a conversion must still be approved by a unanimous shareholder vote.

Subsections (c)(5) and (6) of Section 266 conform the section to Section 252 of the General Corporation Law (relating to the merger of a Delaware corporation with and into a non-Delaware corporation).  These subsections require a corporation that converts to another entity or business form organized under laws of a jurisdiction other than Delaware to consent to service of process in Delaware and to the appointment of the Secretary of State as agent.

New subsections (g) and (h) of Section 266 accomplish the same result as new subsection (f) of Section 265.  Finally, new subsection (i) provides that if a corporation seeking to convert has no stock outstanding, no shareholder vote is required for a conversion, as is the case under Section 251(f) with respect to mergers.

Domestication of a "non-United States entity"

The amendments to Section 388 provide that any non-United States entity may domesticate in Delaware.  The key new term is "non-United States entity" as opposed to the old term "Non United States corporation."  The new terminology recognizes that all of the types of non United States business forms may domesticate in Delaware as a Delaware corporation.  Similarly, the revised statute uses the term certificate of corporate domestication rather than "certificate of domestication" in reference to the required filing in recognition of the fact that a non-United States entity may also domesticate as a limited liability company, limited partnership, etc. under the alternative entity statutes.

New subsections (c)(5) and (h) of Section 388 provide that prior to domesticating a non-United States entity must obtain the requisite approval under the laws of the jurisdiction of the domesticating entity and must so certify in the certificate of corporate domestication.  Prior to the 2005 amendments, there was no reference to such a requirement in Section 388.

New subsection (i) of Section 388 provides that for purposes of Delaware law all of the property, rights and privileges of the non-United States entity remain vested in the Delaware corporation, the debts and liabilities remain, no transfer is deemed to occur and the Delaware corporation is deemed to be the same entity as the domestically non-United States entity.

Finally, subsection (k) of Section 388 provides that in connection with a domestication, the rights or securities of or interests in the non-United States entity may be exchanged for or converted into stock of the Delaware corporation, cash, property or interests in another entity or may be cancelled.

Additional amendments were made to Section 389 to conform the terminology of that Section to Section 388.

Transfer or Continuance of a Domestic Corporation

The amendments to subsection (a) of Section 390 conform the terminology of Section 390 to the terminology of Section 388.  The amendments to subsection (b) provide that there are two types of filings under Section 390 -- (i) a certificate of transfer when the Delaware corporation is not to continue its existence in Delaware, and (ii) a certificate of transfer and domestic continuance when the Delaware corporation elects to continue its existence as a Delaware corporation.  The latter certificate has been renamed to make it clear that the corporation is continuing as a domestic corporation.

The amendments to this subsection also provide that the transfer, domestication or continuance of a corporation outside the State of Delaware does not require the Delaware corporation to wind up its affairs and that for as long as the Delaware corporation continues to exist, the continuing Delaware corporation and the resulting entity shall constitute a single entity.

New subsection (f) of Section 390 is intended to make it clear that the property, rights and privileges of the transferring, domesticating or continuing Delaware corporation remain vested in the resulting entity and that such rights and privileges shall not be deemed to be transferred to the resulting entity.

Notes