Eric B. Porter

In Kellner v. AIM ImmunoTech, 2024 WL 3370273 (Del., Jul. 11, 2024), the Supreme Court on July 11 addressed a long-simmering dispute between a rotating cast of activist stockholders seeking to assume control of the publicly traded biopharmaceutical company AIM ImmunoTech Inc. (AIM) and the members of AIM’s existing board. Blaming AIM’s management for downturns in the company’s value, the activists made two prior attempts to nominate a slate of new directors to AIM’s board. These attempts were each rejected for failure to comply with AIM’s existing bylaws.

Delaware General Corporation Law – Enhanced Scrutiny: When the activists initiated a third attempt to nominate their preferred slate, the existing board responded by passing a series of new and amended bylaws imposing onerous advance-notice requirements. These bylaws required the activist stockholders to satisfy a lengthy and detailed set of procedural and substantive preconditions to get their nominees on the ballot for the next stockholder vote. The board rejected the activists’ nominations for failing to comply with these new bylaws, and the activists sued.

In its decision, the court made clear that advance notice bylaws are a legitimate exercise of board power and an important tool to “assist the board’s information-gathering and disclosure functions, allowing boards of directors to knowledgeably make recommendations about nominees and ensuring that stockholders cast well-informed votes” (internal quotation marks omitted). But the court also recognized that such bylaws “can be misused to thwart stockholder choice and entrench the existing board of directors.” As a result, “bylaws must, as a matter of equity, be reasonable in their application and not unfairly interfere with stockholder voting” (internal quotation marks omitted).

Enhanced Legal Scrutiny & Balance: To strike this balance, the court reaffirmed the two-part “enhanced scrutiny” test first applied in Coster v. UIP, 300 A.3d 656 (Del. 2023). Under this test, a court assessing whether a board acted properly in accordance with its fiduciary duties in enacting or amending advance notice bylaws during a proxy contest (and therefore, the validity of such advance notice bylaw provisions) must first assess whether the board acted in response to a “threat ‘to an important corporate interest or to the achievement of a significant corporate benefit.’ The threat must be real and not pretextual, and the board’s motivations must be proper and not selfish or disloyal.” Actions taken for the primary purpose of precluding challenges to the existing board’s control are “selfish or disloyal” and are therefore prohibited.

A court must next determine “whether the board’s response to the threat was reasonable in relation to the threat posed and was not preclusive or coercive to the stockholder[’s]” right to vote.

Applying this two-part test, the court accepted the Delaware Court of Chancery’s prior conclusion that the board had amended its bylaws specifically to thwart activist stockholders’ efforts and maintain control of AIM. The court, therefore, held that the amended bylaws failed the first prong of the “enhanced scrutiny” test and were, therefore, invalid.

Boards of Delaware corporations considering any change to existing bylaws in the face of a hostile takeover bid or otherwise dealing with activist stockholders should carefully study the Kellner decision to ensure that their actions are lawful and valid when assessed under the higher two-pronged enhanced scrutiny standard of review rather than a simple analysis under the traditional business judgment rule. New bylaws or amendments issued in such circumstances should further legitimate corporate interests separate and apart from the mere preservation or entrenchment of the existing board and should be narrowly tailored to the issue or threat being addressed.