By Anne Sherry, J.D.
Stockholders who voted against a charter amendment breached a stockholders agreement that bound them to follow the board’s recommendation. Each side had a reasonable interpretation of the contractual provision, so the court looked at extrinsic evidence showing that the defendants knew they were bound to vote with the board. The court deemed the shares voted in favor of the amendment and declared the amendment to have been approved, subject to the plaintiff completing a stock split (Texas Pacific Land Corporation v. Horizon Kinetics LLC, December 1, 2023, Laster, J.).
Conversion and stock issuance issues. The plaintiff corporation used to be a land trust. In 2019, as one result of a proxy contest involving some of the defendants, the trust agreed to form a committee to explore converting into a corporation. The trust also negotiated a stockholders agreement with the investors who wanted representation on the board.
The stockholders agreement required the stockholder signatories to vote all shares in accordance with the board’s recommendations. Two exceptions applied: if the proposal up for a vote related to an “Extraordinary Transaction” or related to governance, environmental or social matters. An exception to the latter exception said that stockholders must follow the board recommendation if the proposal relates “to any corporate governance terms that would have the effect of changing any of the corporate governance terms set forth in the plan of conversion recommended by the Conversion Exploration Committee of the Trust on January 21, 2020.”
In 2021 the trust converted into the corporation, but the corporate charter fixed the total number of authorized shares at the number that had already been issued. Accordingly, the company had no authorized but unissued shares available, which limited its executive compensation options and its M&A opportunities. In the fall of 2022, the board approved a proposed charter amendment to increase the authorized number of shares and recommended a vote in favor, without disclosing that two directors—each affiliated with one of the defendant investors—opposed the proposal.
The defendants voted against the amendment, and it failed. The company sued them for breach of the stockholders agreement.
Agreement is ambiguous. The stockholders agreement disclaimed contra proferentem, a fairly standard and enforceable agreement that ambiguities not be construed against the drafter. However, it went even further by stating, “any controversy over interpretations of this Agreement will be decided without regard to events of drafting or preparation.” The company argued that this provision is unenforceable, but the chancery court disagreed. Parties regularly agree to limit what a court will consider, and Delaware in particular respects contracts. The parties could have a variety of rational reasons for agreeing to the no-drafting-history clause. Furthermore, the clause does not bar the court from considering all extrinsic evidence, just drafting history.
By itself, the voting commitment contained in the stockholders agreement obligated the investor defendants to vote in favor of the proposal. The court’s decision therefore turned on the exceptions to the voting commitment. On whether the proposal, motivated in large part to facilitate M&A transactions, “related to” one of the enumerated types of transactions, both sides advanced reasonable readings of the contract. The court could not determine as a matter of clear meaning whether the transaction exception applied, so the provision was ambiguous.
Similarly, the exception for “governance, environmental or social matters” was ambiguous. ESG has no settled meaning, making it difficult to use in contract interpretation. Beyond “core” issues like reclassifying the board or drilling on company land, the concept of ESG becomes ambiguous: some governance professionals might agree that increasing a corporation’s authorized shares is a governance issue, but others might not. And as for the exception to this ESG exception, which restores the voting commitment for certain enumerated governance terms, some of those terms are core ESG issues while others are not. “The fact that the parties included the Conversion Plan Exclusion suggests that otherwise, the reference to ‘governance’ could sweep broadly.”
Finding the contract ambiguous, the court looked to extrinsic evidence. Neither side’s expert gave sufficiently persuasive testimony, so the court looked at the parties’ acts and conduct prior to the onset of the controversy. Prior to the litigation, both dissenting directors acknowledged that they were bound to vote in favor of the proposal. This evidence was persuasive, and the defendants did not offer any evidence that was more persuasive. Accordingly, the court held that the investor group breached the voting commitment.
As a remedy, the court exercised its equitable authority to “treat as done that which in good conscience ought to be done.” The investor group should have voted in favor of the proposal, and if it had done so, the proposal would have passed. Accordingly, the court declared the proposal to have passed. This relief is conditioned on the company’s completing a stock split that it repeatedly relied on throughout the litigation.
The case is No. 2022-1066-JTL.