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Corporate Quick Hit: Costly Comma, New York Publication Requirements, Stockholder Activist Tactic, Proxy Access Reform, Employee Benefit Plan, Hewlett Packard May Have Violated Disclosure Rules, Deferred Compensation Tax Rules, Union Membership
October 2006
Authors: Irwin A. Kishner, Daniel A. Etna

Costly Comma

A $1 million (Can.) dispute between a Canadian cable television provider and Canadian telephone company turns on a single comma contained in a 14-page contract. The contract states: "This agreement shall be effective from the date it is made and shall continue in force for a period of five (5) years from the date it is made, and thereafter for successive five (5) year terms, unless and until terminated by one year prior notice in writing by either party." The cable television provider argued that the contract runs for an initial period of five years and automatically renews for another five years, unless the telephone company cancels the contract by timely delivery of notice. But the telephone company argued that they can cancel at any time with one year's notice. Citing the "rules of punctuation," Canada's telecommunications regulator ruled in favor of the telephone company, allowing it to cancel with one year's notice. The regulator concluded that the second comma meant that the part of the sentence describing the one-year notice for cancellation applied to both the original five year term and any subsequent renewal periods. The regulator's decision is under appeal.

Deadlines Under New York Publication Requirements for Limited Liability Entities

The new publication requirements in New York for limited liability companies and limited partnerships ("Limited Liability Entities") that went into effect on June 1, 2006 have created timing difficulties for the opening of bank accounts by these entities. Previously, a bank would open an account for a Limited Liability Entity after seeing evidence of formation, a certificate of good standing, tax identification number and stamped application for qualification (for foreign entities). But with the passing of the September 28 deadline for Limited Liability Entities formed or qualified on June 1 to have completed the publication requirements to avoid suspension of their authority to carry on, conduct or transact business in New York, banks are realizing that a Limited Liability Entity may be suspended for failing to publish. So some banks are now requiring that the entity opening the account provide proof that the publication is in progress. The proof of publication will require some type of receipt/letter from each publication in which the Limited Liability Entity is publishing its notice. Persons forming new Limited Liability Entities should be mindful of the publication requirements and contact the bank where they intend to open accounts prior to forming the new entity in order to minimize any delay in opening accounts.

If you missed the rule, here's a quick summary: Limited liability companies and limited partnerships formed in New York or qualified to do business in New York on or after June 1, 2006 are required—within 120 days of the date of their formation or qualification—to publish certain organizational information once a week for six consecutive weeks in two newspapers of the county in which the office of the Limited Liability Entity is located, with one newspaper being printed weekly and one newspaper being printed daily.

The next important deadline related to the new publication requirements is May 31, 2007. On this date, Limited Liability Entities formed or qualified in New York between January 1, 1999 and May 31, 2006 need to have satisfied the publication requirement in order to avoid suspension. Such Limited Liability Entities will be deemed to be in compliance with the publication requirement if they have filed at least one affidavit of publication at any time prior to June 1, 2006. Limited Liability Entities formed or qualified prior to January 1, 1999 are deemed to have met the requirement even if no publication was done.

Delaware Court Limits Use of Stockholder Activist Tactic

We have seen a marked increase in the use of Section 220 of the Delaware General Corporation Law—which allows stockholders to demand access to a corporation's books and records—by activist stockholders seeking to disrupt or otherwise delay corporate action. The Delaware Chancery Court, however, recently limited stockholders' ability to do so.

In a recent case, a hedge fund bought stock in a corporation following a going-private announcement by the corporation. The hedge fund used Section 220 to demand access to the corporation's books and records to (i) obtain valuation information to help determine whether to seek appraisal rights rather than accept the cash deal price; (ii) investigate potential breaches of fiduciary duty by certain affiliates and directors of the corporation in approving the going-private transaction; and (iii) communicate with other stockholders and to encourage them to seek appraisal.

The court ruled that the corporation did not have to meet the hedge fund's demand. The court ruled that Section 220 is available only for a "proper purpose," which the hedge fund had failed to establish. First, the court ruled that access to nonpublic information will be denied if sufficient information is publicly available. Second, the court dismissed the hedge fund's contention that the information sought should be made available since it would be available in the future through either the appraisal process or discovery if litigation was commenced. Finally, the court found the hedge fund lacked a proper purpose since it first became a stockholder after the alleged misconduct (i.e., approval of the going-private transaction) was announced. As a result, the hedge fund lacked standing to pursue its claim.

Polygon Global Opportunities Master Fund v. West Corp., 2006 Del. Ch. LEXIS 179 (Del. Ch. Ct. Oct. 12, 2006).

Second Circuit Decision Provides Catalyst for Proxy Access Reform

A decision by the United States Court of Appeals for the Second Circuit may make it easier for shareholders of public corporations to nominate insurgent candidates in board of director elections.

At issue in the case was Securities Exchange Act Rule 14a-8(i)(8), known as the "town meeting rule," which regulates shareholder proposals. Under the present system for electing directors, shareholders seeking to nominate insurgent directors must produce and distribute a separate proxy statement—a time-consuming and expensive process. Specifically, the rule provides that if a proposal "relates to an election," the corporation may exclude the shareholder proposal from its own proxy statement.

In this case, shareholders of a public corporation sought to include in the corporation's proxy statement a proposal that would amend the corporation's by-laws to establish a procedure for including shareholder board nominees on the corporate proxy. The corporation tired to prevent them from doing so under the town meeting rule, but the court found that the rule didn't apply because the proposal did not "relate to an election." The court reasoned that although shareholders may be prevented from directly nominating candidates on the corporate proxy, proposals seeking to generally reform the election process may not be excluded under Rule 14a-8(i)(8). This holding runs counter to the SEC's only formal interpretation of the rule in 1976.

Access to corporate proxies is a significant victory for shareholders, and SEC Chairman Cox has announced that the SEC will review and potentially amend Rule 14a-8(i)(8) before year end. Chairman Cox stated that any amendment would seek to clarify Rule 14a-8(i)(8) to enable it to be consistently interpreted and applied. Chairman Cox, however, did not indicate whether any such amendment would be more or less shareholder-friendly. 

American Fed. of State, County & Mun. Employees Pension Plan v. Am. Int'l Group, Inc., 462 F.3d 121 (2d. Cir. Sept. 5,2006).

Fifth Circuit Holds Merger Agreement Indirectly Amends Employee Benefit Plan

The United States Court of Appeals for the Fifth Circuit held that a group of retired employees could enforce a provision ofa merger agreement to which their former employer was a party governing continuation of retiree medical benefitsfollowing the merger. The merger agreement provided that the retired employees' medical program would generally be leftintact following the merger. Subsequent to the merger, the benefits available under the medical plan were significantlyreduced. In anticipation of potential objections from the retired employees, the company surviving the merger filed suitseeking a declaration that the retired employees had no standing to invoke the merger agreement provision to challenge thereduction in benefits since they were not parties to the merger agreement. In support of its request for the declaration, thecompany surviving the merger called the court's attention to the standard "no third party beneficiaries" clause contained inthe merger agreement.

The Fifth Circuit, in affirming a federal district court decision in favor of the retired employees, held that the no third party beneficiaries clause of the merger agreement did not preclude the former employees from enforcing the merger agreement provision on retiree medical benefits. The court reasoned that the provision contained in the merger agreement regarding such benefits constituted an amendment to the underlying retiree medical plan, and that the retired employees could rightly initiate an ERISA claim in their capacity as plan participants.

Halliburton Co. Benefits Comm. v. Graves, 2006 U.S. App. LEXIS 22318 (5th Cir. Aug. 30, 2006).

Hewlett Packard May Have Violated Disclosure Rules

Hewlett Packard's woes over the widely publicized internal investigation into media leaks by one of its directors don't end with the charges against its Chairwoman, Patricia Dunn, and four others for violations of state privacy and fraud laws. HP may also have violated SEC disclosure rules over the departure of a director who resigned because of his opposition to the internal investigation.

Dunn informed the board of the investigation and its results at a May 18, 2006 meeting. One director, Thomas Perkins, voiced his objection to the investigation and the manner in which it was conducted, and resigned on the spot. In response to Perkins' resignation, HP made an Item 5.02(b) disclosure in a Form 8-K filing, which requires disclosure of the fact that the event has occurred and the date of the event, but not the circumstances of the disagreement. But a company may make a 5.02(b) disclosure only if the cause of the director's departure is not related to any disagreement over a matter relating to the company's operations, policies or practices that is known to an executive officer of the company.

According to the SEC, HP should have made an Item 5.02(a) disclosure, which must describe the circumstances representing the disagreement that the registrant believes caused, in whole or in part, the director's resignation. The Item 5.02(a) disclosure is required when "a director has resigned or refuses to stand for re-election to the board of directors since the date of the last annual meeting of shareholders because of a disagreement with the registrant, known to an executive officer of the registrant…on any matter relating to the registrant's operations, policies or practices, or if a director has been removed for cause from the board of directors."

Although HP subsequently filed another Form 8-K describing the nature of Mr. Perkins' departure, HP has nonetheless received a comment letter from the SEC's Division of Corporation Finance with respect to its initial filing, a common initial step taken by the SEC when investigating possible rule violations.

SEC Attacks Stealth Restatements

In 2004, as part of the changes brought about by the enactment of the Sarbanes-Oxley Act, the SEC directed public companies to disclose any changes and/or errors in their financial results under Item 4.02 of Form 8-K. A report from the Governmental Accountability Office, the investigative arm of the United States Congress, found that approximately 17% of public companies restating results between August 2004 and September 2005 waited until subsequent securities filings (e.g., current reports on Forms 10-K or 10-Q) to include the restated financials. These delayed restatements have been called "stealth restatements."

The SEC is currently issuing comment letters to the companies that have filed "stealth restatements," pointing out that restated financial information is often material to investors and may not be immediately recognizable to investors unless a clearly-labeled restatement is timely filed with the SEC.

IRS Provides Additional Transitional Relief Under Deferred Compensation Tax Rules

The IRS has further extended the deadline for complying with the nonqualified deferred compensation rules under Section 409A of the Internal Revenue Code of 1986, as amended, generally until December 31, 2007. As discussed in prior editions of Corporate Quick Hit, Section 409A compliance was scheduled to become effective after December 31, 2006. During the period ending on December 31, 2007, good faith compliance with prior IRS guidance under Section 409A is still required for nonqualified deferred compensation plans (including stock and other equity compensation arrangements). Section 409A imposes significant tax penalties on participants in deferred compensation arrangements, including certain equity compensation arrangements, such as stock appreciation rights and stock options, that do not comply with the requirements of the Section 409A deferred compensation tax rules.

IRS Notice 2006-79.

NLRB Redefines Right to Union Membership for Shift Supervisors

In a case involving the nation's healthcare industry, but entailing broad scale implications for the U.S. workforce generally, the National Labor Relations Board held that workers permanently assigned as shift supervisors should be considered "supervisory staff" under the National Labor Relations Act, thus denying them the right to union representation under federal law. The case had been watched closely by both union leadership and employer advocates. The National Labor Relations Board also held that employees who work supervisory shifts on a rotating basis only may be exempt from supervisory status in some cases, but not others, depending upon the frequency and consistency of their shifts. The decision in this case is likely to be appealed to the U.S. Supreme Court.

Oakwood Healthcare, Inc., 348 NLRB No. 37 (Sept. 29, 2006)

For more information on these issues or other corporate matters, please contact:

Irwin Kishner at 212.592.1435 or email
Daniel Etna at 212.592.1557 or email

Copyright © 2006 Herrick, Feinstein LLP. Corporate Alert is published by Herrick, Feinstein LLP for information purposes only. Nothing contained herein is intended to serve as legal advice or counsel or as an opinion of the firm.