Corporate lawyers play a host of roles for a corporation, most common of which is problem solver. A common problem we face is remedying the failure of a company client to formally take action. Previously the rules on ratification of defective corporate action were unclear, but in April of 2014, Section 204 of the Delaware General Corporation Law (DGCL) became effective. Section 204 formally codified the steps necessary to ratify a defective corporate action. Section 204 provides a safe harbor procedure for ratifying corporate acts that would otherwise be void or voidable due to a “failure of authorization[1]”.
The following sets forth the analysis necessary to determine whether Section 204 ratification is available and the steps necessary to properly ratify a defective corporate action under Section 204. Despite the fallback option of Section 204, corporate lawyers should attempt to ensure that their company clients maintain corporate formalities in the hopes of avoiding the need for ratification.
Is Section 204 Ratification Necessary or Available?
Section 204 does not represent the exclusive means of ratifying and validating defective corporate acts in Delaware. Other means of ratification and validation remain in effect, including general ratification through a fully informed vote by the board and/or stockholders, as applicable, approving an action that does not legally require board and/or stockholder approval as a prerequisite to effectiveness.
Section 204 ratification is only available (i) if there is a valid board of directors to adopt the ratifying resolutions and, (ii) if stockholder approval is required, all outstanding shares entitled to vote are not shares of putative stock. If Section 204 ratification is not available, then Section 205 of the DGCL provides that the Delaware Chancery Court may either determine the validity of a corporate action or modify the requirements of Section 204 to have the board/stockholders of a company ratify.
Actions and Filings Needed for Section 204 Ratification
Board Resolution
The current board of directors should adopt a resolution stating the following:
- the defective corporate act to be ratified;
- the time of the defective corporate act;
- if such defective act involved the issuance of shares of putative stock, the number and type of shares of putative stock issued and the date or dates upon which such putative shares were purported to have been issued;
- the nature of the failure of authorization in respect of the defective corporate act to be ratified;
- that the board approves the ratification of the defective corporate act; and
- (optional) at any time before the validation effective time, notwithstanding adoption of the resolution by stockholders, the board of directors may abandon the resolution without further action of the stockholders.
The current board of directors must approve the ratification. Additionally, if the certificate of incorporation, bylaws or any agreement in effect as of the time of the defective corporate act would have required a larger number of directors or certain specified directors, such directors would need to approve as well. The exception is if a director was appointed or nominated by the holders of any class or series which are no longer outstanding, or by a stockholder who is no longer a stockholder, approval by such director shall not be required.
Stockholder Consent
If the defective corporate action in question would have required stockholder approval at the time originally taken, the current board of directors must then submit the ratifying resolution to the stockholders, including a notice that the action is a defective corporate action that is void or voidable.
Current stockholders holding both valid and putative stock (subject to the current voting requirements) must approve the ratification. Additionally, stockholders holding both valid and putative stock at the time of the defective corporate action (subject to the voting requirements effective at the time of the defective corporate action) must also approve the ratification. The exception is if identities and addresses cannot be determined from corporate records, or if a class of stock is no longer outstanding, approval by those specific stockholders shall not be required.
Certificate of Validation
If the defective corporate action in question would have required a filing with the Delaware Secretary of State (ex: certificate of amendment), then a certificate of validation must be filed with the Delaware Secretary of State.
Notice to Stockholders
Notice of the Section 204 ratification must be provided to all stockholders who actually or putatively held stock in the corporation at the time of the defective act or at the time of the ratification.
[1] DGCL 204(h)(2): “Failure of Authorization” means the failure to authorize or effect an act or transaction in compliance with the provisions of this title, the certificate of incorporation or bylaws of the corporation or any plan or agreement to which the corporation is a party, if and to the extent such failure would render such act or transaction void or voidable.