Senate Bill 218: California Proposal to Remedy Faulty Corporate Acts

September 8, 2022 – Since its enactment in 2014, Section 204 of the Delaware General Corporate Law (DGCL) has provided direct mechanisms for a corporation’s board of directors and shareholders to ratify corporate deeds defective. Other states, including California, are aiming to adopt similar provisions.

On August 17, 2022, the California Legislature presented Governor Newsom with Senate Bill 218 (SB 218), which would ratify or validate corporate acts that do not comply, or allegedly do not comply, with California General Corporation Law (Corporations Code) or the articles of incorporation, by-laws, plan or agreement of the corporation to which the corporation is a party in effect at the time of such defective act of the corporation. California State Senate. Senate Bill 218, introduced January 13, 2021.

Once the defective corporate act has been duly ratified, the corporate act is considered valid retroactively from the date the corporate act was allegedly taken. The company is then required to keep all records related to the ratification and validation.

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Importance of SB 218 for California companies

Unlike its Delaware counterpart, the Corporations Code currently does not provide corporations with a means to retroactively correct defective corporate acts, even for unintentional corporate acts. As such, certain corporate acts taken by California corporations, such as the excessive issuance of stock, are considered void and invalid by California courts. Failure to retroactively correct these errors can result in serious legal and financial consequences for a company and its shareholders.

For example, if a California corporation issues shares of its stock in excess of what is permitted for issuance under the corporation’s incorporation documents, the shares are considered invalid. Any shareholder to whom the unauthorized shares were issued would have no valid votes in the company as they are not considered a beneficial owner of the shares of the company.

The Ratification Mechanisms of a Defective Corporate Deed under SB 218

SB 218 provides clear mechanisms for how a California corporation’s board of directors and shareholders, if any, can ratify corporate acts otherwise deemed voidable or voidable. The company must first obtain the approval of the board of directors.

With the exception of a ratification relating to the election of the first directors of the company, the board of directors must adopt resolutions which specify:

(1) Each corporate act to be ratified;

(2) The date on which the corporate document was allegedly taken;

(3) In the event that the corporate deed involves the purported issue of shares, the number and type of shares and the date or dates on which such shares are purported to have been issued;

(4) The nature of the nonconformity or alleged nonconformity of the corporate act; and

(5) A declaration approving the ratification of the corporate act.

If the ratification relates to the election of the initial directors, a majority of the current directors of the company must approve the ratification by passing resolutions which specify the name of the initial directors, the date on which these directors were elected in their capacity and a statement that the ratification is approved.

Once the company has obtained board approval, the company must give prompt notice of the ratification to each shareholder, whether or not shareholder approval is required for ratification.

If, at the time of consummation of the defective corporate act, the company would have been required to deposit an instrument with the Secretary of State (or if ratification would render a previously deposited instrument materially inaccurate or incomplete), the company must file a certificate of ratification to implement or amend the instrument in question providing the name and company file number, the date and title of any existing instrument being amended, and a statement declaring the effect of the ratification on the validity of the instrument and the society’s approval of the ratification, together with a copy of the instrument and of the resolutions passed approving the ratification.

Key Differences Between SB 218 and DGCL Section 204

The main differences between SB 218 and DGCL Section 204 can be summarized into three main categories: 1) notice to shareholders, 2) challenges to ratification, and 3) pending legal proceedings.

Notice of Ratification to Shareholders

In accordance with article 204(g) of the DGCL, the notice of ratification must be given without delay to the shareholders or within sixty days following the adoption by the board of directors of the resolutions approving the ratification of the corporate deed. defective. In addition, if shareholder approval is required, the corporation must give shareholders notice of the meeting of shareholders at least twenty days prior to such meeting. SB 218, on the other hand, only provides that notice to shareholders must be given promptly.

Ratification Petition

Deadline for contesting ratification

Article 204(g) of the DGCL provides that any petition contesting the ratification of a defective corporate act must be filed one hundred and twenty days after the latest between the effective time of the validation of the corporate act by the court and the time of notification of ratification. SB 218 extends this period to one hundred and eighty days after notification of ratification.

Appropriate place to seek ratification

While Delaware prescribes the proper venue as the Court of Chancery, the California legislature seeks to weave a wide web of potential counties in which a petitioner can challenge the ratification of a flawed corporate statute.

Under SB 218, an authorized person may file a petition in the county where the company’s principal office is located. In the event the company’s principal office is located outside of California, the petitioner may file in the county with the company’s agent for service of process is located.

In either case, the superior court has jurisdiction in equity to determine the validity of any social act and to declare the effective date of such social act.

Ongoing legal proceedings

Unlike Section 204 of the DGCL, SB 218 contemplates the possibility that a corporation may become a party to ongoing legal proceedings in which the validity of a corporate document is a central issue in the proceedings. The California legislature is proposing to require the corporation to notify the judge or arbitrator of the pending proceeding at least ten court days before passing any resolution that would ratify a defective corporate act or filing a petition regarding a corporate act ratified.

The legislator also provides that a petitioner has ten days to seek permission to modify a petition in order to identify any pending legal proceedings of which he is aware (including any easily identifiable information, such as a file number, the names of the parties and the date of introduction of the action) and whose validation of the social act would lead to the total or partial rejection of the action.

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The opinions expressed are those of the author. They do not reflect the views of Reuters News, which is committed to integrity, independence and non-partisanship by principles of trust. Westlaw Today is owned by Thomson Reuters and operates independently from Reuters News.

Norman D. Briggs