The professorial bear hug: the ESB proposal as a conscious effort to make the Delaware courts confront the basic "just say no" question.

• Author: Strine, Jr., Leo E.
• Position: Effective Staggered Boards

As one of the ten Delaware judges to whom the central policy argument of The Powerful Antitakeover Force of Staggered Boards: Theory, Evidence, and Policy (1) is directed, I am constrained to reply to the excellent, thought-provoking article by Professors Bebchuk, Coates, and Subramanian in a more oblique fashion than the other commentators. For obvious reasons, I will not enter into the normative debate regarding the desirability of hostile takeovers or whether state corporation law should facilitate or impede the ability of acquirors to make, and stockholders to accept, structurally noncoercive, all-shares tender offers. Nor will I comment on the reliability of the empirical evidence that the authors present.

Instead, this brief Response will highlight the basic policy choice that the authors ask the Delaware courts to enshrine in the common law of corporations. The question the authors ask us to decide affirmatively is fundamental: Can control of the corporation be sold over the objections of a disinterested board that believes in good faith that the sale is inadvisable? That is, at bottom, the authors want to force the hand of the Delaware courts to decide, once and for all, that impartial and well-intentioned directors do not have the fiduciary authority to "just say no" for an indefinite--even perpetual--period to a noncoercive tender offer made to their company's shareholders.

Although staggered boards are critical to their proposal, the authors prescribe a judicial cure for a quite different toxin: the poison pill. (2) Thus, the authors have continued a longstanding debate, but in

a particularly valuable way, by forcing the contestants to grapple with empirical facts about the real-world effects of the combined defense of a poison pill and an "Effective Staggered Board" (ESB).

The authors went about their task cleverly. By framing their policy proposal precisely, they have attempted to block off the principal doctrinal route the courts have used to sidestep the fundamental Just Say No issue. Relatedly, their proposal illustrates how bluntly the traditional fiduciary duty tool operates as a substitute for a clear legislative--or judicial--answer to this question of corporate authority. Essentially, the authors seek a clear ruling about the proper allocation of power between stockholders and directors in responding to tender offers, and have made it more difficult for the courts to avoid giving an answer. Although "muddling through" has benefits that arguably exceed those that could be achieved by a bright-line rule, nonetheless, the authors have exposed some of the more obvious logical vulnerabilities that now exist in a common law of takeover defense that has, to date, not forthrightly confronted the bottom-line Just Say No question.

My discussion of these issues breaks out as follows. Part I of this Response, a hypothetical, demonstrates how the authors have purposefully (and craftily) limited the scope of their ESB proposal. In particular, the hypothetical shows how the authors' proposal rests on the premise that a board's decision to block a tender offer with a poison pill involves an exercise of fiduciary power that is categorically different from a board's determination about the corporation's proper business strategy. Typically, independent directors do not breach their fiduciary duty when they take action that is well-motivated and well-informed. The authors' proposal, however, asks the courts to hold that a corporate board does not possess any equitable authority to impede the procession of a tender offer, once the directors have had the chance to develop another better alternative and inform the stockholders about their view that the offer is inadequate, and after they have channeled the initial stockholder referendum on the offer into the director election process.

Part II traces how the Delaware courts have dealt with the extent of directorial authority to use a poison pill to deprive stockholders of an opportunity to sell their shares in a tender offer. From the invention of the poison pill, Delaware's common law of corporations has displayed a studied ambivalence on this issue, recognizing the need for heightened scrutiny when boards use pills, but hesitating to override the judgment of independent directors to block acquisition offers. Indeed, the courts have deployed in tandem two doctrinal concepts to escape the ultimate Just Say No question. The first concept--"substantive coercion"--is the notion that directors may legitimately use defensive measures (to some as-yet-undefined extent) to protect stockholders from making an erroneous decision to sell their shares for too low a price in a tender offer. The second concept--what I call the "proxy out"--is the idea that the poison pill is not a preclusive or unreasonable response to the threat of substantive coercion, so long as the stockholders are able to elect a new board that can dismantle the pill. When used together, the substantive coercion and proxy out concepts reduced poison pill litigation and funneled takeover fights into the director election process.

Part III shows how the authors' ESB proposal is intentionally designed to disable the doctrinal tools Delaware courts have employed to bypass the Just Say No question. By framing their proposal as they have, the authors make it more difficult for the courts to hold that the threat of substantive coercion justifies continued use of the poison pill, or to rely upon the availability of a proxy contest as an answer to the pill's preclusive effect. Having thrown a roadblock in front of this escape route, the authors challenge the Delaware courts to live up to the original promise of Moran v. Household International, Inc., (3) by setting clear equitable limits on the power of a staggered board to use a pill to block a fully funded, premium, all-shares tender offer after a pill to block a fully funded, premium, all-shares tender offer after shareholders have expressed their desire to receive such an offer in a director election.

Finally, in Part IV, I conclude by emphasizing the pressure the authors have exerted on the Delaware judiciary to articulate more specifically the core, foundational purpose of our corporation law, and to reconcile its doctrinal techniques with that purpose. Because the Delaware General Assembly has not provided our judiciary with clear guidance in this area of corporate law, the undertaking that the authors demand from our courts is inescapably, and uncomfortably, legislative in nature. Due to the authors' skill and diligent research, however, it might be one that cannot ultimately be avoided.

I.

To clarify the discussion that follows, I first pose the authors' central question a bit more comprehensively: When the stockholders of a corporation with an ESB (4) have expressed their desire to receive a fully funded, all-shares tender offer (5) in a fair, noncoercive board election (6) that was preceded by an adequate opportunity for the incumbent board to develop a better strategy and make their case to the target stockholders, does a well-motivated and well-informed majority of independent, incumbent directors who believe that the offer is inadequate have the power to block that tender offer by continuing to deploy a poison pill?

This single question summarizes the policy choice that the authors would have the Delaware judiciary make when they call for it to adopt their "basic approach," which they summarize thusly:

Courts should not allow managers to continue blocking a takeover bid after they lose one election conducted over an acquisition offer. Note that without an ESB, no court intervention is necessary in order to achieve this outcome. If managers of a non-ESB target are defeated in one election, the bidder will gain control of the board and will be able to redeem the pill and consummate the bid. However, with an ESB, in the absence of a court order to redeem the pill, incumbents will be able to retain independence even after losing one election over one third of the directors. Under our proposal, after the loss of one election that is effectively a referendum on the offer, incumbents should be required to redeem the pill and allow the bidder (whose offer has received shareholder support) to proceed with its bid. (7) Simply put, the authors' proposal raises--once again--the as-yet-unsettled issue of whether there is a limit to the authority of a board, acting in good faith, to just say no to a noncoercive acquisition offer for the sole reason that the board believes that remaining independent is a better strategy. Their proposal does this by highlighting the centrality to this debate of the basic question of power allocation. That is, who has the primary authority regarding the acceptance of tender offers? The stockholders to whom such offers are directed, or the directors of their companies? (8)

A hypothetical shows why the authors' proposal poses this power allocation issue starkly, and why the traditional lexicon of fiduciary duty can only be deployed awkwardly to answer the fundamental Just Say No question.

Suppose that Stars and Stripes Corporation has traditionally been in two steadily profitable business lines. Recently, the CEO of the corporation announced his intention to have the company enter into a new business line, which is quite risky and would demand large capital investments in order to pay off. For the near term, the investments to enter into that new endeavor are likely to exceed the company's net profits and would require substantial borrowing, resulting in a decision to eliminate dividends. As part of the new strategy, the board has also decided to reposition the public image of the company by renaming its operating subsidiary (until now known publicly as Stars and Stripes) as Global Integration Systems--and making that new moniker the company's face to the public. Assume that the board has the power to approve all these...