Lacos Land Co. v. Arden Group, Inc.

OPINION BY: ALLEN Chancellor.

This action constitutes a multi-pronged attack upon a proposed recapitalization of defendant Arden Group, Inc., authorized by a vote of Arden's shareholders at their June 10, 1986 annual meeting. The recapitalization, if effectuated, will create a new Class B Common Stock possessing ten votes per share and entitled, as a class, to elect seventy-five percent of the members of Arden's board of directors. This new stock is, pursuant to the terms of a presently pending exchange offer, available on a share-for-share basis to all holders of Arden's Class A Common Stock. It is, however, acknowledged by defendants that the new Class B Common Stock has been deliberately fashioned to be attractive mainly to defendant Briskin -- Arden's principal shareholder and chief executive officer. Thus, the recapitalization is not itself a device to raise capital but rather is a technique to transfer stockholder control of the enterprise to Mr. Briskin.

Plaintiff is an Arden stockholder owning approximately 4.5% of Arden's Class A Common Stock; an additional stockholder owning approximately 4.6% of that stock has moved to intervene in this action as a plaintiff. Defendants are the members of Arden's board of directors. Pending is an application to preliminarily enjoin the issuance of Class B Common Stock which was originally scheduled to occur on July 18, 1986, but which has been voluntarily delayed by defendants.

The legal theories proffered to support the relief now sought fall into three categories. First, plaintiff claims that the June 10, 1986 shareholder vote approving the charter amendment that authorized the new Class B stock was fatally defective by reason of material misrepresentations and omissions in the Company's proxy statement. Second, it claims that the pending exchange offer constitutes an impermissible entrenchment scheme designed principally to thwart all possible changes in corporate control not personally agreeable to Mr. Briskin and to perpetuate him in office. Third, in a series of technical corporation law arguments plaintiff asserts that the charter amendments authorizing the issuance of the supervoting stock are inconsistent with certain provisions of the Delaware General Corporation Law and were not adopted by a supermajority vote as purportedly required by Arden's restated certificate of incorporation.

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The new supervoting common stock whose issuance is sought to be enjoined will differ from Arden's other authorized class of common stock, Class A Common Stock, most importantly, in its enhanced voting power, its diminished dividend rights and in restrictions upon its transfer.

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Class B shares may be transferred only to a Permitted Transferee, but under certain circumstances may be converted on a share-for-share basis into Class A stock. A transfer of Class B to a person other than a Permitted Transferee at a time when conversion to Class A would be permitted would convert the transferred stock into Class A stock. Generally, Class B stock may, at the option of the holder, be converted to Class A stock on a share-for-share basis at the earlier of (i) the third anniversary of its issuance or (ii) the death of the holder.

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The creation of a dual common stock structure with one class exercising effective control of the company is, of course, not a novel idea, although it is one that, thanks to its potential as an anti-takeover device, has recently emerged from the reaches of the corporation law chorus to strut its moment upon center stage where corporate drama is acted out. n4 In this instance, the notion of employing this dual common stock structure apparently originated with defendant Briskin.

Mr. Briskin became Arden chief executive officer in 1976 at a time when the Company was apparently in a desperate condition. Its stock was then trading between $1 and $2 per share. Briskin's stewardship has apparently been active and effective. While Arden has paid no dividends since 1970, during Briskin's tenure Arden's stock price has risen steadily; currently Arden common stock is publicly trading at around $25 per share, a price somewhat higher than the range of prices at which its stock traded in the weeks prior to the announcement of the plan that is the subject matter of this litigation.

In instigating the dual common stock voting structure, Mr. Briskin was apparently not responding to any specific threat to existing policies or practices of Arden posed by a specific takeover threat. Rather, he apparently was motivated to protect his power to control Arden's business future. Such a motivation, while it may be suspect -- since it may reflect not a desire to protect business policies and capabilities for the benefit of the corporation and its shareholders but rather a wish simply to retain the benefits of office -- does not itself constitute a wrong.

In this instance, Briskin initially took his idea to the board of directors at its November 22, 1985 meeting. The Board established a three member committee of non-officer directors to consider the matter. Prior to the committee's first meeting, its chairman sent the other two committee members the proxy statement of another company that had adopted a dual class common stock structure, together with materials on other companies that had adopted supervoting plans and some materials relating to a report written by Professor Fischel on "Organized Exchanges and the Regulation of Dual Class Common Stock". The special committee retained neither independent counsel nor an independent financial advisor. At its first meeting, held on April 7, 1986, the chairman of this group distributed to the committee a draft report that he had previously prepared which gave approval to a supervoting stock plan. The committee reviewed this draft and suggested changes. The chairman noted the suggested changes and prepared a final three page report which was signed four days later at the committee's second, and final, meeting.

The committee's report was presented to the board at its April 22 meeting at which time the board approved the supervoting stock plan.

At that meeting the board fixed the date of the Company's annual meeting for June 10, 1986. Management of the Company prepared a proxy statement describing the proposed charter amendments authorizing the new supervoting Class B Common Stock, describing the Exchange Offer by which it was proposed that such new stock be distributed and setting out the background of, and the reasons for, this proposal.

At the June 10 annual meeting the Arden stockholders approved the proposed certificate amendments. Of 2,303,170 shares outstanding, 1,463,155 voted in favor (64%) and 325,004 (14%) voted to reject the proposal. Of the affirmative votes, 427,347 were voted by Briskin or his family and 388,493 were voted by a trustee as directed by Arden's management. As to the preferred stock, 74.4% of the 136,359 shares outstanding voted in favor of the proposal, more than half of which were voted by a trustee as directed by Arden's management.

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Our corporation law provides great flexibility to shareholders in creating the capital structure of their firm. Differing classes of stock with differing voting rights are permissible under our law, 8 Del.C. § 151(a); Topkis v. Delaware Hardware Co.; restriction on transfers are possible, 8 Del.C. § 202, and charter provisions requiring the filling of certain directorates by a class of stock are, if otherwise properly adopted, valid. Lehrman v. Cohen. Thus, each of the significant characteristics of the Class B Common Stock is in principle a valid power or limitation of common stock. The primary inquiry therefore is whether the Arden shareholders have effectively exercised their will to amend the Company's restated certificate of incorporation so as to authorize the implementation of the dual class common stock structure. The charge is that they have not done so -- despite the report of the judge of elections that the proposed amendments carried -- in part because the proxy statement upon which the vote was solicited was materially misleading and in part because the entire plan to put in place the Class B stock constitutes a breach of duty on the part of a dominated board.

For the reasons that follow I conclude that plaintiff has demonstrated a reasonable probability that on final hearing it will be demonstrated that the June 10, 1986 vote of the Arden shareholders has been fundamentally and fatally flawed and that, therefore, the amendments to Arden's restated certificate of incorporation purportedly authorized by that vote are voidable. In summary, the basis for this conclusion is two-fold. First, I conclude provisionally on the basis of the record now available, that the June 10 vote was inappropriately affected by an explicit threat of Mr. Briskin that unless the proposed amendments were approved, he would use his power (and not simply his power qua shareholder) to block transactions that may be in the best interests of the Company, if those transactions would dilute his ownership interest in Arden. I use the word threat because such a position entails, in my opinion, the potential for a breach of Mr. Briskin's duty, as the principal officer of Arden and as a member of its board of directors, to exercise corporate power unselfishly, with a view to fostering the interests of the corporation and all of its shareholders. . . .

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Judging from what is stated in the proxy materials, Arden's board in recommending the charter amendments and Arden's shareholders in approving them were both placed, inappropriately, in a position that made it significantly less likely than it might otherwise have been that approval of the plan to effectively transfer all shareholder power to Mr. Briskin would have been given.

To a shareholder who wondered why his board of directors was recommending a plan expected to place all effective shareholder power in a single shareholder, the proxy statement gives a clear answer: Mr. Briskin is demanding it; it's not such a big deal anyway since, as a practical matter, he has great power already; and if he doesn't get these amendments, he may exercise his power to thwart corporate transactions that may be in the Company's best interests. Thus, in order for the board to be "permitted to consider" . . . certain transactions that might threaten to reduce Mr. Briskin's control, the board approved the proposal. This story is disclosed more or less straight forwardly in the proxy solicitation materials.

As to Mr. Briskin's position, the proxy statement states (emphasis added throughout):

"Purpose and Effects of the Proposal

1. Purpose. Mr. Briskin, the Company's largest single stockholder who beneficially owns in the aggregate approximately 21.1% of the outstanding Common Stock, has informed the Company of his concern that certain transactions which could be determined by the Board of Directors to be in the best interests of all of the stockholders, such as the issuance of additional voting securities in connection with financings or mergers or acquisitions by the Company, might make the Company vulnerable to an unsolicited or hostile takeover attempt or to an attempt at "greenmail," and that he would not give his support to any such transactions for which his approval might be required unless steps were taken to secure his voting position in the Company."

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Thus, Arden shareholders were unmistakably told that should they fail to approve the proposed amendments, Mr. Briskin "would not give his support to any transaction [that might make the Company vulnerable to an unsolicited or hostile takeover attempt] for which his approval might be required . . .". Using the term in the vague way which we ordinarily do, a vote in such circumstances as these could be said to be "coerced". But that label itself supplies no basis to conclude that the legal effect of the vote is impaired in any way. As stated in Katz v. Oak Industries, Inc.:

". . . For purposes of legal analysis, the term "coercion" itself -- covering a multitude of situations -- is not very meaningful. For the word to have much meaning for purposes of legal analysis, it is necessary in each case that a normative judgment be attached to the concept ("inappropriately coercive" or "wrongfully coercive", etc.). But, it is then readily seen that what is legally relevant is not the conclusory term "coercion" itself but rather the norm that leads to the adverb modifying it."

The determination of whether it was inappropriate for Mr. Briskin to structure the choice of Arden's shareholders (and its directors), as was done here, requires, first, a determination of which of his hats -- shareholder, officer or director -- Mr. Briskin was wearing when he stated his position concerning the possible withholding of his "support" for future transactions unless steps were taken "to secure his voting position". If he spoke only as a shareholder, and should have been so understood, an evaluation of the propriety of his position might be markedly different) than if the "support" referred to could be or should be interpreted as involving the exercise of his power as either an officer or director of Arden.

On this point defendants' position at oral argument confirms that which the proxy language itself indicates -- that, in taking this position, Mr. Briskin did not limit, and could not be understood to have limited, himself to exercising only stockholder power. Defendants have emphasized that Briskin's "practical" power derives in part from his notable success as a chief executive officer; his history of success, I was reminded, creates influence and his position confers power to initiate board consideration of important matters. Moreover, the proxy statement made clear that the approval that Briskin threatened to withhold included approval of transactions that did not require a vote of stockholders. . . . Accordingly, the conclusion seems inescapable that, in announcing an intent to withhold support for corporate action that might entail, for instance, the issuance of stock, even if that act might be in the best interests of the corporation, unless "steps were taken to preserve his voting position", Mr. Briskin could not be understood to have been acting only as a shareholder.

As a director and as an officer, of course, Mr. Briskin has a duty to act with complete loyalty to the interests of the corporation and its shareholders. His position as stated to the shareholders in the Company proxy statement seems inconsistent with that obligation. In form at least, the statement by a director and officer that he will not give his support to a corporate transaction unless steps are taken to confer a personal power or benefit, suggests an evident disregard of duty. However, the nature of the quid pro quo sought by Mr. Briskin in this case is at least consistent with a benign or selfless motive. The Class B stock he sought to have the board recommend and the stockholders approve would transfer complete control of the enterprise to him for an indefinite period, but it is a control that may not be transferred generally n5 and so it is unlikely that Mr. Briskin was motivated to gain access to a control premium for his stock by insisting on a device of this kind as a price of his supporting certain types of future action.

Two alternative motivations suggest themselves. Mr. Briskin may have been motivated, as plaintiff warmly contends is the fact, by a selfish desire to protect his salary and the perquisites of his office from the threat to them that a hostile takeover of Arden would represent. The issuance of the Class B stock, in the totality of the circumstances present, will assuredly place Mr. Briskin in a position (1) to protect his tenure for as long as he wants to do so and (2) to negotiate and assure stockholder acceptance of the full terms of any change in control, including employment contracts or severance agreements.

On the other hand, Briskin may have been motivated selflessly to put in place the most powerful of anti-takeover devices so that he could be assured the opportunity to reject (for all the shareholders) any offer for Arden that he -- who presumably knows more about the Company than anyone else -- regards as less than optimum achievable value. Accordingly, while I regard the form of the Briskin position ("I, as fiduciary will not support . . . unless a personal benefit is conferred") as superficially shocking, I recognize that Mr. Briskin's position as stated in the proxy statement is logically consistent with and may indeed in fact be driven by a benevolent motivation.

Mr. Briskin's motivation in fact, however, need not be determined in order to conclude that the stockholder vote of June 10, 1986 was fatally flawed by the implied (indeed, the expressed) threats that unless the proposed amendments were authorized, he would oppose transactions "which could be determined by the Board of Directors to be in the best interests of all of the stockholders". As a corporate fiduciary, Mr. Briskin has no right to take such a position, even if benevolently motivated in doing so. Shareholders who respect Mr. Briskin's ability and performance -- and who are legally entitled to his undivided loyalty -- were inappropriately placed in a position in which they were told that if they refused to vote affirmatively, Mr. Briskin would not support future possible transactions that might be beneficial to the corporation. A vote of shareholders under such circumstances cannot, in the face of a timely challenge by one of the corporation's shareholders, be said, in my opinion, to satisfy the mandate of Section 242(b) of our corporation law requiring shareholder consent to charter amendments.

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For the foregoing reasons, plaintiff's motion shall be granted. Plaintiff shall submit a form of implementing order on notice.