Delaware Decision Limits Application of Advance Notice Bylaw to Rule 14a-8 Proposals
March 28, 2008
A recent ruling from the Delaware Chancery Court in JANA Master Fund, Ltd. v. CNET Networks, Inc.1 narrowly construed an advance notice bylaw to apply only to shareholder proposals made pursuant to Rule 14a-8 under the Securities Exchange Act of 1934, and not to proposals submitted pursuant to independently financed proxy solicitations. In light of this decision, companies should review their bylaws to ensure that their advance notice bylaw provisions are clearly drafted to apply to all shareholder proposals.
Background
JANA, an investment fund that owned approximately 11% of CNET’s stock, sought to gain control of CNET’s staggered, eight-member board by:
- replacing the two current directors up for re-election at the annual meeting;
- expanding the size of the board from eight to thirteen members; and
- nominating five individuals to fill the newly created positions.
JANA advised CNET of its intention to solicit proxies in favor of its nominees and proposals.
JANA would have held CNET’s common stock for only eight months at the expected time of CNET’s annual meeting in June 2008. Based on this period of ownership, CNET’s board took the position that JANA failed to comply with the requirement in CNET’s advance notice bylaw that a shareholder seeking to nominate candidates for director election or seeking to transact other corporate business at an annual meeting must have owned $1,000 of CNET’s common stock for at least one year. In response, JANA sought summary judgment regarding the application of the advance notice bylaw, arguing that the bylaw applied only to nominations and proposals made under Rule 14a-8 and not to independently financed proxy solicitations. CNET’s advance notice bylaw stated:
Any stockholder of the Corporation that has been the beneficial owner of at least $1,000 of securities entitled to vote at an annual meeting for at least one year may seek to transact other corporate business at the annual meeting, provided that such business is set forth in a written notice and mailed by certified mail to the Secretary of the Corporation and received no later than 120 calendar days in advance of the date of the Corporation’s proxy statement released to security holders in connection with the previous year’s annual meeting of security holders (or, if no annual meeting was held in the previous year or the date of the annual meeting has been changed by more than 30 calendar days from the date contemplated at the time of the previous year’s proxy statement, a reasonable time before the solicitation is made). Notwithstanding the foregoing, such notice must also comply with any applicable federal securities laws establishing the circumstances under which the Corporation is required to include the proposal in its proxy statement or form of proxy.
Summary of Decision
The Court agreed with JANA’s position and held that the language of the bylaw led to only one reasonable conclusion -- the bylaw applies solely to proposals and nominations that a shareholder desires to be included in CNET’s proxy materials pursuant to Rule 14a-8.2 The Court stated that it reached this decision based on the following:
Permissive Language in Advance Notice Bylaw -- The Court concluded that the phrase “may seek to transact other corporate business” makes sense only in the context of Rule 14a-8 because it is only where shareholders wish to present their proposals in the company’s proxy materials without the cost of soliciting proxies, that “management retains significant power as a gatekeeper.”3 The Court noted that there was no similar requirement for a shareholder to seek management’s approval to place a proposal before his or her fellow shareholders in the form of an independently financed proxy solicitation.
Deadline for Notice References Mailing Date of Proxy Statement --The Court determined that the most reasonable explanation for CNET’s bylaw establishing its deadline for notice by reference to the mailing date of CNET’s proxy materials is that the bylaw is designed to allow management time to include the proposal in its own proxy materials. The Court also was persuaded by the fact that this deadline was similar to the notice requirement established by Rule 14a-8 itself and that it could not find “a single example of a permissible advance notice bylaw that has set the notice required by reference to the release of the company’s proxy statement.”4
Requirement for Notice to Comply with Applicable Federal Securities Laws Requiring Inclusion of Proposal in Proxy Statement -- The Court focused on the final sentence of the bylaw provision, which reads, “[n]otwithstanding the foregoing, such notice must also comply with any applicable federal securities laws establishing the circumstances under which [CNET] is required to include the proposal in its proxy statement or form of proxy.” The Court reasoned that “there is no reason for CNET to have grafted Rule 14a-8’s burdensome requirements onto its Notice Bylaw if that bylaw applied outside the context of Rule 14a-8 proposals”5 and that “[t]he rule’s requirements do not burden those shareholders who seek to fund their own proxy solicitation.”6
Responding to the CNET Decision -- Companies Should Review Their Advance Notice Bylaw
Well-crafted advance notice bylaw provisions continue to be important for companies to ensure an orderly process for receiving notice of upcoming proposals and nominations prior to their annual meeting. These provisions also serve the valuable function of informing shareholders prior to the meeting of any business proposed to be conducted and the board’s recommendation regarding those matters. It is important to note that, although JANA also argued that the bylaw was invalid under Delaware law because it was an unreasonable restriction on shareholder franchise, the Court did not address that argument. As such, the Court did not call into question the validity of advance notice bylaws and stated explicitly that “it has upheld advance notice bylaws in the past.”7 The Court did note, however, that Delaware law includes a “rule of construction in favor of franchise rights.”8
For most companies, the advance notice deadline specified in their bylaws for the 2008 annual meeting has passed and, accordingly, those companies may decide to wait for the decision on appeal before adopting any amendments to their bylaws. Although this decision may be limited to the specific wording of CNET’s advance notice bylaw and may be overturned by the Delaware Supreme Court on appeal, it is advisable for all companies to consider a re examination of their advance notice bylaw provisions. Specifically, companies should:
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exclude any language suggesting a need for management’s approval;
-
state explicitly that the advance notice bylaw applies to all shareholder proposals and nominations;
-
establish the deadline for notice by reference to the annual meeting date, rather than the mailing date of proxy materials; and
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specify the information that will be required in the notice without referencing Rule 14a-8 or the federal securities laws requirements for inclusion of proposals in proxy statements.
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1 Civil Action No. 3447-CC (Del. Ch. Mar. 13, 2008).
2 CNET is appealing the decision to the Delaware Supreme Court.
3 JANA Master Fund, Ltd. v CNET Networks, Inc., at p. 11.
4 Id., at p. 15.
5 Id., at p. 18.
6 Id.
7 Id., at p. 15.
8 Id.
This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Martin Dunn, an O’Melveny partner licensed to practice law in the District of Columbia, and Su Lian Lu, an O’Melveny counsel licensed to practice law in California and New York contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.
Please contact an attorney from the 'Related Professionals' section if you need any assistance with reviewing your bylaws or if you have any questions related to this decision.
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