Section 225 of the Delaware General Corporation Law (“DGCL”) provides a mechanism through which shareholders, directors or officers of a corporation can challenge the appointment, removal or resignation of any director or officer of a corporation. Proceedings under 8 Del. C. § 225 (“Section 225”) are summary in nature, and typically such actions address whether a particular director is a proper board member or was properly elected or removed. This blog entry will discuss the statutory language of Section 225 itself, along with briefly highlighting recent Delaware case law that has analyzed this statutory right.
Relief Provided by Section 225
Upon a Section 225 application, the Delaware Court of Chancery may determine “the validity of any election, appointment, removal or resignation of any director or officer of any corporation, and the right of any person to hold or continue to hold such office”. 8 Del. C. § 225(a).
Further, in case any such office is claimed by more than one person, the Court “may determine the person entitled thereto; and to that end make such order or decree in any such case as may be just and proper, with power to enforce the production of any books, papers and records of the corporation relating to the issue.” 8 Del. C. § 225(a).
Additionally, pursuant to Section 225(b), the Court of Chancery may determine the result of any vote of the stockholders upon matters other than the election of directors or officers.
Who May Assert a Section 225 Action
“[A]ny stockholder or director, or any officer whose title to office is contested,” may bring forth a Section 225 application to determine the validity of the election, appointment, removal or resignation of any director or officer of any corporation, and the right of any person to hold or continue to hold such office.
Additionally, any stockholder or the corporation itself may petition the Court of Chancery to “determine the result of any vote of stockholders upon matters other than the election of directors or officers.” 8 Del. C. § 225(b).
Removal of Directors Convicted of a Felony or Found in Breach of Duty of Loyalty
A recent amendment enacted in 2009 to Section 225 added subsection (c), which authorizes the Court of Chancery to remove a director who has been convicted of a felony or found by a court to have committed a breach of the duty of loyalty in connection with his or her duties to the corporation. Removal would be appropriate if the Court of Chancery determines that the director did not act in good faith in performing the acts underlying the conviction or judgment, and that the removal of the director is necessary to avoid irreparable harm to the corporation.
Res Judicata Effect: Section 225 Suit Must Include Related Claims
In asserting a Section 225 action, it is imperative that such an action include “related claims,” otherwise such claims may be barred in a subsequent proceeding under the doctrine of res judicata. This was made clear in the 2009 Court of Chancery opinion, Levinhar v. MDG Medical, Inc., No. 4301-VCS (Del. Ch., Nov. 24, 2009). In Levinhar, the penalty imposed by the Court of Chancery for not including related claims in a prior Section 225 lawsuit was to bar those claims in the present suit based upon the doctrine of res judicata.
The Court did specify, however, that as an alternative to including related claims that arise from the same operative facts that form the basis of the Section 225 dispute, a plaintiff may file a contemporaneous companion case, and request the Court to consolidate the companion case with the Section 225 case. See footnotes 47 to 52 and accompanying text.
New Election Ordered as Remedy for Improper Shareholder Meetings
If an election of a board member is deemed improper, the Court of Chancery may order a prompt special meeting for the new election of directors—and the management slate may be ordered to pay for the costs associated with such a meeting. This was the case in Portnoy v. Cryo-Cell International, Inc., No 3142-VCS (Del. Ch. Jan. 15, 2008), wherein the Court of Chancery addressed a challenge to the election of directors under Section 225, based upon claims that the management engaged in inequitable behavior to entrench themselves, both in proxy battles leading up to the annual meeting as well as improprieties during the annual meeting itself.
In Portnoy, management engaged in improprieties at an annual meeting, including a three-hour “lupper” break at 2:00 p.m., which allowed the CEO to lobby for more votes for management, and ultimately allowed such management to prevail by a slim margin. The court found that it was a breach of the CEO’s fiduciary duty to use corporate machinery to coerce and to threaten economic penalties with commercial partners who did not vote in favor of management. In addition to ordering a new special meeting to allow a re-election to occur, the Court also ordered the removal of the new director who was elected at the tainted meeting.
In sum, there are many rights afforded to shareholders, directors, officers and the corporation itself through a Section 225 action, but recent Delaware decisions, such as Levinhar and Portnoy, should be consulted by anyone asserting a Section 225 action, and also by corporations that desire to act within the relevant boundaries imposed by the Delaware General Corporation Law.