March 12, 2005
Director Prenuptials
Posted by Gordon Smith

The second day of the "Economic Globalization and Corporate Governance" was Aussie Day, as Jennifer Hill, Geof Stapledon, and Ian Ramsey took the stage. Three great presentations, but I was particularly intrigued by Jenny Hill's brief discussion of "director prenuptials." Under such agreements, directors commit to leave the board of directors if they find themselves out of step with the other directors. I have never seen such an agreement, so the details of the drafting remain opaque to me, but perhaps they could have avoided some of the recent fireworks at Cablevision.

Jenny said that such agreements are common in the UK. Naturally, we also contemplated the question of their viability in the U.S. Under Delaware law, the power to remove directors is assigned to stockholders: "Any director or the entire board of directors may be removed, with or without cause, by the holders of a majority of the shares then entitled to vote at an election of directors...." (§ 141(k)) But are prenuptial agreements the same as "removals"? They look more like resignations, which are subject only to the following provision of the Delaware Code (§ 141(b)): "Any director may resign at any time upon notice given in writing or by electronic transmission to the corporation." Not much help there. If Delaware law has anything to say about this, it will be found in the cases.

Resolution of this issue would probably revolve around something like the notion of "sterilization of discretion." The sterilization standard is employed often in derivative litigation to examine whether the board of directors is capable of conducting litigation on behalf of the corporation. In this context, the language of "sterlization" dates back to at least McKee v. Rogers, Del.Ch., 156 A. 191 (1931), though the concept goes back even further. While the "sterilization" metaphor is a bit hard to fathom -- is discretion supposed to be infected? -- the idea seems to be that directors cannot put themselves into a position where their discretion in inappropriately constrained.

The prenuptial agreements apparently do not address particular issues, but are designed to enforce a unanimity norm on the board. While this may constrain discretion of directors who find themselves in the minority, I see nothing inherently objectionable about saying that directors must support the majority view.

The more problematic characterization of these agreements begins from the observation that the majority and minority groups are not unknown, but are certainly well known in advance. Prenuptial agreements, therefore, have the fairly obvious purpose of ensuring that minority directors will not dissent. This view of director prenuptial agreements seems much more nefarious, much more like the sterlization of discretion that the Delaware courts abhor.

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