On July 11, 2024, the Delaware Supreme Court issued its opinion in Kellner v. AIM ImmunoTech Inc., a closely watched case involving challenges to advance notice bylaws. Although the Court concluded that most of the challenged bylaws were facially valid, those bylaws were unenforceable because they were adopted for the inequitable purpose of thwarting an activist stockholder’s board nominees. Kellner provides a victory for corporations by recognizing that bylaws may not be invalidated because of hypothetical inequitable applications, an approach that the Court of Chancery had endorsed. At the same time, Kellner will be seen as helpful for activist investors, who will likely rely on the opinion in future challenges to advance notice bylaws adopted in anticipation of a proxy contest. 

The Supreme Court’s Opinion

Kellner arose from an activist campaign by a group of stockholders who sought to elect new directors to the board of AIM ImmunoTech Inc. AIM’s board of directors rejected the group’s initial nomination notices, finding that the group had concealed the involvement of two convicted white collar criminals. Anticipating another proxy contest, AIM’s board adopted new advance notice bylaws. The activist group again sought to nominate board candidates, and the board rejected the nomination notices for failing to comply with the new bylaws.

After an expedited trial, the Court of Chancery found that four of AIM’s advance notice bylaws were facially invalid. The Court held, however, that the board equitably applied other advance notice bylaws to reject the nomination notices. Both parties appealed. 

In the Delaware Supreme Court, Hunton Andrews Kurth LLP represented the US Chamber of Commerce in filing an amicus curiae brief. The Chamber’s amicus brief argued that advance notice bylaws play a critical role in corporate governance, that the trial court should have limited its analysis to how the bylaw was applied to the nomination instead of whether it was facially valid, and that the trial court’s facial validity test would invite more litigation challenging hypothetical applications of other corporations’ advance notice bylaws.

The Delaware Supreme Court’s opinion clarified the distinction between facial and as-applied challenges to advance notice bylaws, holding that the Court of Chancery erred in its facial validity analysis. The Supreme Court recognized that advance notice bylaws “permit orderly meetings and election contests,” “provide fair warning to the corporation” and “assist the board’s information-gathering and disclosure functions,” and that such bylaws are facially invalid only if they are “contrary to law or the certificate of incorporation” or do not “address[] a proper subject matter.” Hypothetical misuses of bylaws play no role in the analysis. Rather, to succeed in a facial challenge to the validity of a bylaw, a stockholder plaintiff “must demonstrate that the bylaw cannot operate lawfully under any set of circumstances.” 

Applying this test, the Supreme Court found that three of the four bylaws invalidated by the Court of Chancery were facially valid. The Court affirmed the invalidity, however, of a fourth bylaw—a 1,099-word provision with 13 subsections aimed at disclosure of ownership interests in AIM and “any principal competitor”—which the trial court had described as “indecipherable.” The Supreme Court held that “[a]n unintelligible bylaw is invalid under any circumstances.”

The Supreme Court then turned to the as-applied challenge to the adoption of the bylaws. Applying enhanced scrutiny because the bylaws were adopted “during a proxy contest,” the Court held that the remaining advance notice bylaws were unenforceable because they were adopted for the primary purpose of “interfer[ing] with the dissident’s nomination notice, reject[ing] his nominees, and maintain[ing] control.” The Supreme Court credited the trial court’s findings that the bylaws “functioned as a ‘tripwire’ rather than an information-gathering tool,” “imposed ambiguous requirements across a lengthy term,” “sought only marginally useful information” and “impede[d] the stockholder franchise while exceeding any reasonable approach to ensuring thorough disclosure.” 

Specifically, the Court took issue with AIM’s “AAU” (agreements, arrangements and understandings) provision, holding that the bylaw improperly required the stockholder “to take steps to gather information about agreements and understandings between any members of [a] potentially limitless class of third parties and individuals unknown to the nominator.” For similar reasons, the Court found AIM’s “consulting/nomination” provision to be unreasonable because it imposed “ambiguous” requirements and a 10-year reporting period, which extended both to “AAUs involving the nominee” and “also among the vague categories of [stockholder associated persons] and the nominee.” Finally, the Court found unreasonable a “known supporter” provision, intended to unearth other persons acting in support of the nomination, because it required the stockholder to “not only respond based on personal knowledge, but also an ill-defined daisy chain of persons.”

Despite the Supreme Court’s conclusion that the bylaws were unenforceable, the dissident ultimately did not prevail in the proxy contest. Instead, the Court noted the Court of Chancery’s findings that the dissident and his nominees engaged in “deceptive conduct” by “submitting false and misleading responses” to some of the board’s requests, and determined that “no further action is warranted” in light of that conduct.

Takeaways

Corporations will benefit from Kellner’s facial validity analysis, which clarified that courts may not invalidate bylaws based solely on hypothetical abuses. Kellner thus provides a defense to strike suits challenging advance notice bylaws, which have flooded the Court of Chancery following the trial court’s opinion. That said, the Supreme Court did not fully close the door to problematic facial challenges. Despite reciting an objective, bright-line rule that facial invalidity relates to compliance with law and bylaws, the Supreme Court invalidated a bylaw that it viewed as “unintelligible.” That holding may invite additional facial validity challenges that the Court otherwise foreclosed. 

The Supreme Court’s holding that the bylaws were unenforceable is a win for activist stockholders seeking to challenge advance notice bylaws. Of note, the Supreme Court reached this conclusion even though the proxy contest at issue was mounted by a group of activist stockholders that had previously provided false and misleading information to the board, and allegedly included white collar criminals. Although the Court acknowledged that boards may enact advance notice bylaws in response to “a threat to an important corporate interest,” activist stockholders will likely argue that enhanced scrutiny applies any time a proxy contest is on the horizon. And because the standard of review is critical to stockholder litigation in Delaware, the circumstances and context in which boards adopt or amend advance notice bylaws may prove dispositive. Accordingly, Delaware corporations should continue to anticipate stockholder challenges to advance notice bylaws, particularly if they anticipate activist activity. Delaware corporations should also consider periodically reviewing and updating their advance notice bylaws during quiet periods, or “clear days” in the Court’s parlance.