January 4, 2012

“Funds Legally Available” for Redemption of Preferred Stock

Below are some interesting thoughts from Vince Pisano of Troutman Sanders:

It is normal in a certificate of designation for preferred stock to provide that dividends and redemptions will be made out of funds legally available therefore. Interestingly, there is not a legal definition of “funds legally available,” despite the Delaware Chancery Court’s decision last year in SV Investment Partners v. ThoughtWorks, in part because of new confusion caused by the opinion of the Supreme Court affirming that decision on November 15, 2011.

The facts are fairly simple. The plaintiffs had purchased preferred stock of ThoughtWorks which entitled them to have their shares redeemed at their request five years from issuance, out of funds legally available therefore. Plaintiff’s position was that “legally available therefore” meant that ThoughtWorks needed to have sufficient surplus (net assets minus net liabilities and the par value of stock), with net assets to be determined, pursuant to the terms of the preferred, at the highest legally permitted value, to make the payments.

ThoughtWorks and Chancellor Laster disagreed and each concluded that funds legally available meant that you actually need to have available funds and that there be no legal restriction on their use. Legal restrictions include the surplus requirement in the Delaware GCL but also include other well known restrictions, including that payments not impair the payors’ ability to continue as a going concern and pay its debts as they become due. Whatever ThoughtWork’s statutory surplus may have been, Laster deferred to the Board’s conclusion that funds were not available to the company to pay the redemption price in any case since it neither had nor could it borrow the necessary funds and each quarter determined what funds were available and would, after payment, permit the company to pay its debts.

Chancellor Laster’s opinion is crystal clear and may even be correct. The Supreme Court, though affirming, just confused the question. They held that since Laster found that payment need not be compelled even if the plaintiff’s position were correct – that funds legally available meant surplus – it did not have to decide whether f plaintiffs were correct. The only problem is that Laster never made that ruling. He simply ruled that plaintiffs’ position was incorrect and looked instead to the “plain meaning” of the words.

If Laster or the Supreme Court had ruled that funds legally available for redemption was equivalent to surplus, judgment would have had to be entered for the plaintiffs since no one disagreed that the company had adequate statutory surplus. If you think I confuse easily, here is one of the concluding lines from the Supreme Court’s opinion: “We find that the record in this case supports the Court of Chancery’s conclusion that SVIP failed to prove that ThoughtWorks had ‘funds legally available’ (i.e.,surplus) to satisfy SVIP’s redemption demand.” This is the same court that on page one of its decision said: “We need not address SVIP’s argument that the court below erred by not equating “funds legally available” with the definition of statutory surplus under the Delaware General Corporation Law.”

One thing I do understand – when drafting terms of preferred stock – we need to stop using a term we only think we know the meaning of, be precise and consider adequate remedies.

“60 Minutes” Tackles Internal Controls

From a member: A few weeks ago, CBS’ “60 Minutes” ran a segment on the prosecution of Wall Street (or lack thereof) as well as the lack of internal controls at firms such as Countrywide and Citi, which raises questions about how auditors could have been giving “clean” unqualified opinions on the internal controls at such institutions and whether investors can rely on such reports as being credible.

Transcript: “iPads in the Boardroom: 20 Issues to Consider”

We have posted the transcript from the recent webcast: “iPads in the Boardroom: 20 Issues to Consider.”

– Broc Romanek