Chancery Declines to Apply Stockholder Approval Requirement of DGCL § 271 to Agreement to Transfer All Assets in Lieu of Foreclosure
In this decision, the Delaware Court of Chancery reviews the history of requirements to approve transfers of all assets both at common law and under the Delaware General Corporation Law, and concludes that Delaware law does not require majority stockholder approval for an insolvent corporation’s transfer of assets to a secured creditor in lieu of a foreclosure. The Court thus rejected an attempt by the corporation’s founders, who owned a majority of its stock, to invalidate the corporation’s agreement in that regard.
By way of background, the corporation (Stream) was a pre-revenue, development-stage company that had certain promising technology. After eleven years and many rounds of financing, Stream defaulted on $50 million in debt to its secured creditors. It faced either foreclosure or bankruptcy. At the insistence of minority stockholders, Stream expanded its Board to include four outside directors, who ultimately approved Stream’s entry into an Omnibus Agreement to resolve the secured creditors’ claims. The Omnibus Agreement transferred Stream’s assets to a new entity controlled by the secured creditors, provided Stream’s minority investors the right to exchange Stream stock for SeeCubic stock and provided Stream with one million shares in SeeCubic. Despite the relative benefits of this outcome when compared to the alternatives, Stream’s founders, who owned a majority of its stock, challenged the transaction.
The Court first considered and rejected contentions that the outside directors lacked authority to approve the Omnibus Agreement. While the resolution expanding the board and appointing the outside directors was not well-drafted, the Court found it sufficient, particularly against a background of Stream not following corporate formalities. In the alternative, the Court reasoned, the outside directors were likely de facto directors, given that Stream and its majority stockholders held them out to third-parties as being validly appointed.
Second, the Court rejected the argument that the Omnibus Agreement required majority stockholder approval under Section 271 of the DGCL. In a detailed analysis, the Court explained that, even before Section 271 codified the common law on this point, there was a widely-recognized exception for insolvent or failing companies, such that directors could sell or assign corporate assets to satisfy corporate debts. Neither Section 271’s history nor its evolution indicated that Section 271 was meant to govern transfers of assets by a failing corporation. To the contrary, the 1967 enactment of Section 272, which generally permits directors to mortgage or pledge corporate assets without stockholder approval, emphasizes that Section 271 was not meant to apply to transactions like the Omnibus Agreement. Finally, interpreting Section 271 to apply to a creditor’s efforts to levy on its security would undermine both Section 271 (because creditors would require stockholder approval before providing capital) and Section 272 (which specifies no such authorization is generally necessary). Accordingly, the Court granted SeeCubic’s request for a preliminary injunction preventing Stream from taking steps to deprive it of the benefits of the Omnibus Agreement.