Applying A Legal Bandaid To Defective Acts: Delaware Law Creates New Procedures To Ratify Defective Corporate Acts

On June 30, 2013, the State of Delaware amended the Delaware General Corporations Law (the "DGCL") to include two new sections, Section 204 and Section 205 (together, the "Ratification Provisions"). Set to take effect on April 1, 2014, the Ratification Provisions provide Delaware companies with two alternative processes to remedy defective corporate acts that may have previously been deemed void or voidable: by the company itself (under Section 204) or by the Delaware Court of Chancery (under Section 205). Upon the ratification or the validation by either the company or the court, the defective corporate act will be deemed retroactively effective and valid as of the time the defective corporate act was taken.

What is a "defective corporate act"?

The new law defines a "defective corporate act" as:

An overissue; An election or appointment of directors that is void or voidable due to a failure of authorization; or Any act or transaction taken by a company that is otherwise void or voidable due to a company's failure to obtain proper authorization. How have companies handle defective corporate acts in the past?

In the past, acts recognized as "voidable" could be ratified by companies on a later date. However, acts which were categorized as "void", such as the issuance of stock in excess of the amount of shares authorized by a company's organizational documents, were deemed invalid by Delaware courts. As such, companies had no remedial devices to fix such "void" corporate acts, even if the corporation's failure to properly authorize the act was unintended or completely innocent.

Why are the Ratification Provisions valuable to Delaware companies?

Early stage and smaller-sized companies frequently need to conduct a "clean up" of their corporate records before received funding, being acquired, or engaging in another corporate transaction. The "clean up" process usually involves the adoption of resolutions by the company's board of directors or shareholders to ratify past acts. Even larger and more established companies commonly ratify their actions in order to, among other things, ensure compliance with corporate governance laws and to perfect their capital structure.

As an example, prior to the addition of the Ratification Provisions to the DGCL, if a company issued unauthorized shares of its stock to investors, that stock issuance would be considered "putative stock" and deemed invalid. In turn, such stockholders' votes would consequently be...