Stroud v. Grace
1992 Del. LEXIS 140, 606 A.2d 75 (1992)
Premium Feature
Subscribe to Lexplug to listen to the Case Podcast.
Rule of Law:
For privately-held corporations not soliciting proxies, the duty of disclosure to shareholders is generally limited to statutory requirements, and boards may condition the release of confidential financial information on reasonable confidentiality agreements. Heightened judicial scrutiny tests (like Unocal or Blasius) do not apply when board control is not threatened and a fully-informed majority of shareholders ratify the challenged actions.
Facts:
- Upon the death of Mrs. W.B. Dixon Stroud in 1985, certain Milliken shares were released from a trust, resulting in the Strouds owning or controlling close to 17% of Milliken's shares.
- Roger Milliken, Chief Executive Officer, proposed a General Option Agreement (GOA) to shareholders, granting the Milliken family and company a right of first refusal on shares offered to unrelated persons, intending to keep the company private and prevent confidential data dissemination; almost 75% of shareholders executed the GOA, but the Strouds did not.
- Milliken's board of directors proposed charter and by-law amendments (the "Amendments"), including Article Eleventh (c) establishing director qualification categories and By-law 3 outlining director nomination procedures, which they recommended to shareholders.
- Article Eleventh (c) required a majority of directors to have "substantial experience" in line positions outside the company, and at least three directors to be beneficial stockholders.
- By-law 3 required shareholders to submit candidate notices well in advance of the annual meeting, specifying qualifications, and empowered the board or presiding officer to determine candidate qualifications up to and including the annual meeting.
- The board unanimously approved the Amendments and adopted a resolution recommending them to shareholders for adoption at the annual meeting scheduled for April 24, 1989.
- On March 14, 1989, Milliken mailed a four-page notice of the annual meeting to its shareholders, which included a copy of Milliken’s current by-laws, the board resolution proposing the Amendments, and Milliken’s current Certificate of Incorporation, and stated that the board would not solicit proxies.
- At the April 24, 1989 annual meeting, where 93% of eligible voters and 97.8% of shares were present, Roger Milliken refused to answer questions or release copies of slides containing confidential financial data, citing a 1987 confidentiality policy, but informed shareholders they could receive such information if they first executed a confidentiality agreement; the Amendments were approved by 78% of the shares entitled to vote.
Procedural Posture:
- Plaintiffs (Strouds) brought individual and derivative claims against Milliken Enterprises, Inc. and its board of directors in the Court of Chancery, alleging breach of fiduciary duties related to recommending charter amendments, inadequate disclosures, and challenging the validity of amendments and a specific by-law (By-law 3).
- The Strouds sued in the Court of Chancery in April 1987 to enjoin an annual meeting scheduled for April 15, 1987, claiming inadequate and misleading notice and proxy materials, and that proposed amendments were intended to entrench the board.
- The Court of Chancery entered a temporary restraining order on April 28, 1987, which was not contested.
- The Milliken board reconvened, withdrew the challenged 1987 charter amendments and by-laws, and proposed new provisions.
- Stroud filed an amended complaint again challenging the new notice, by-laws, and charter amendments.
- Defendants moved for summary judgment, which the Court of Chancery granted in part and denied in part (Stroud v. Milliken Enterprises, Inc., 585 A.2d 1306 (1988)).
- An appeal by Stroud to the Delaware Supreme Court was dismissed as not ripe for adjudication (Stroud v. Milliken Enterprises, Inc., 552 A.2d 476 (1989) ("Stroud I")).
- After the April 24, 1989 annual meeting and vote, the Strouds again filed individual and derivative suits in the Court of Chancery against the defendants, contesting the validity of the notice, the Amendments, and By-law 3, alleging breach of duty of care and loyalty and that the amendments were unfair and entrenched board control.
- The Strouds moved for summary judgment. The Court of Chancery sua sponte granted summary judgment for the defendants on all of Stroud’s claims, except for By-law 3, which it upheld Stroud’s attack on, ruling it unreasonable and unfair (Stroud v. Grace, Del.Ch., C.A. No. 10719, Hartnett, V.C., slip op., 1990 WL 176803 (Nov. 1, 1990) ("Stroud II")).
- In Stroud II, the Vice Chancellor ruled that the board's actions would not be reviewed under the Unocal standard, found the notice for the annual meeting not inadequate or misleading, held Milliken did not have to disclose confidential information without a reasonable confidentiality agreement, and assessed the Amendments and By-law 3 under the Blasius standard, finding the Amendments fair but By-law 3 unreasonable on its face.
Premium Content
Subscribe to Lexplug to view the complete brief
You're viewing a preview with Rule of Law, Facts, and Procedural Posture
Issue:
Does a board of directors of a privately-held corporation that does not solicit proxies owe shareholders a duty of disclosure beyond statutory requirements, and are heightened judicial scrutiny tests applicable when a board's control is not threatened and a fully-informed majority of shareholders ratify the challenged actions?
Opinions:
Majority - MOORE, Justice
No, a board of directors of a privately-held corporation that does not solicit proxies generally does not owe shareholders a duty of disclosure beyond statutory requirements, and heightened judicial scrutiny tests like Unocal and Blasius are not applicable when board control is not threatened and a fully-informed majority of shareholders ratify the challenged actions. The court affirmed that the Unocal standard, which applies to defensive measures taken in response to a threat to corporate control, was inapplicable because Milliken's board was not under such a threat; Roger, Gerrish, and Minot Milliken already controlled over 50% of the company's shares. Furthermore, the board's decision to recommend the amendments was not a defensive action. The court also held that the Blasius "compelling justification" standard, which applies when a board's primary purpose is to interfere with the shareholder franchise, was not warranted because a fully-informed majority of shareholders had ratified the Amendments. This ratification by shareholders, in the absence of fraud, waste, or other inequitable conduct, shifted the burden of proof to the plaintiffs to show the transaction was unfair, which they failed to do. Regarding disclosure, the court clarified that in the absence of proxy solicitations, a board's duty of disclosure for a privately-held corporation does not extend beyond the requirements of 8 Del.C. §§ 222(a) and 242(b)(1). The court reasoned that the underlying concerns driving broader disclosure rules for public companies and proxy solicitations (e.g., shareholders not attending meetings) are not present in this context. The court further ruled that a board can reasonably condition the release of confidential financial information to shareholders upon the execution of a confidentiality agreement, balancing the duty to disclose with the duty to protect corporate assets. Finally, the court found Article Eleventh (c), establishing director qualifications, to be valid under Delaware law, rejecting claims of vagueness. It reversed the trial court's invalidation of By-law 3, holding that a bylaw should not be invalidated based on hypothetical future abuses without a showing of actual inequitable conduct.
Analysis:
This case significantly clarifies the scope of fiduciary duties for directors of privately-held corporations, particularly concerning disclosure and the applicability of heightened scrutiny standards. It reinforces the principle that a fully-informed shareholder vote can ratify board actions, thereby insulating them from challenges under tests designed for conflicted situations or defensive maneuvers. The ruling distinguishes disclosure requirements for private companies not soliciting proxies from those applicable to public companies, emphasizing statutory compliance and the legitimacy of confidentiality agreements for sensitive information. This provides greater certainty for private companies in managing their corporate governance and information sharing.
