Guhan Subramanian, the Joseph Flom Professor of Law & Business at Harvard Law School, faced a skeptical bench and bar at the 29th annual Francis G. Pileggi Distinguished Lecture in Law to assert that Section 203 of Delaware’s General Corporation Law needs to be amended before a hostile bidder successfully challenges its constitutionality. Professor Subramanian was critical of Delaware’s wait and see approach to amending Section 203. He reasoned that because of the drastic decline in the use of poison pills resulting from shareholder activism, removal of the poison pill would leave corporations dependent on Section 203 for a takeover defense, and that corporations may therefore choose to flee Delaware if a constitutional challenge to Section 203 succeeds.
When Section 203 was upheld, back in the late 1980s, federal courts relied on a finding, based on statistical analysis, that the statute afforded a bidder a “meaningful opportunity for success.” However, Professor Subramanian argues this finding was factually incorrect even when made, and that since 1990, no hostile bidder has been able to surmount Section 203’s 85% hurdle, which calls into question whether the decisions upholding it were correct.
Instead of waiting for the shoe to drop and be left with the dilemma to start from scratch, Professor Subramanian proposes that Section 203’s 85% threshold requirement be reduced to 70%. To support his proposal he points to the shift from effective staggered boards to unitary boards. According to Professor Subramanian, Delaware missed its opportunity then to amend its corporate code before activists, such as institutional shareholder services, forced corporations to adopt a unitary board system. He opined that Delaware should not fall into the same trap again and stop the train before it leaves the station, otherwise activists may infect the corporate code with another undesirable change as seen with the unitary board.
Before Professor Subramanian opened the floor to questions from the audience, he asked three questions. (1) Is the constitutionality of Section 203 settled law? (2) If not, should a bidder be advised to challenge its constitutionality the next time it becomes a binding restraint? (3) And if yes, what should Delaware do to avoid this challenge? According to Professor Subramanian, Section 203’s constitutionality is in question and no plausible reason has been given as to why a bidder would not seek to bring it under judicial scrutiny.
In rebuttal, A. Gilchrist Sparks of Morris, Nichols, Arsht & Tunnell LLP, argued that Section 203 would not be declared unconstitutional based on the Supremacy Clause’s clear and convincing evidence standard. Mr. Sparks took issue with the interpretation of data used by Professor Subramanian. Of 1101 bids between 1988 and 2008, 145 were hostile. In approximately 40% of those bids a transaction was ultimately completed, while another 15% resulted in a white knight deal. Mr. Sparks asserted that these statistics are evidence of Section 203’s effectiveness to force the board to get the best deal it can get. Specifically, the hostile-turned-friendly or white knight deals, excluded from Professor Subramanian’s statistics, are likely to be cases where the contestants perceived that the bidder was likely to achieve 85% or more in its tender offer, and where the board accordingly chose to go forward with a sale of the company. Mr. Sparks concluded from this data that Section 203 does not deny a bidder a “meaningful opportunity of success.” Moreover, Mr. Sparks discussed his concern about unpredictability that follows in the legislature when initiating an amendment to the code, such as Professor Subramanian proposes. Lastly, Mr. Sparks argued that the lower 70% threshold would dilute the Section 203’s original intention and, as a matter of public policy, would encourage good corporate form to take on 70% majority ownership. Chancellor Strine added to the debate by suggesting that Professor Subramanian examine EU regimes identical to Section 203 that have been shown to facilitate change of control transactions.
Professor Subramanian took his chance to respond, and closed by saying that he does not argue that Section 203 would be held unconstitutional. Instead, he reasons, in light of the incorrect factual analysis from the previous holdings, the statute’s constitutionality remains an unsettled question of law, and therefore Delaware should act preemptively to avoid any potential repercussions.