Seth Barrett Tillman has posted Void or Voidable? -- Curing Defects in Stock Issuances Under Delaware Law on BEPress. Here is the abstract:
It is not unusual for practitioners reviewing a Delaware corporation's stock records to find omissions or procedural defects raising questions as to the valid authorization of some of the outstanding stock, and not infrequently, these defects occurred some time ago, and the stock in question may have changed hands multiple times since issuance.
Confronted with such irregularities, most corporate lawyers' first instinct would be to attempt to correct the defect through board and, if necessary, stockholder, ratification of the defective issuance, with the intent of putting the parties in the positions they thought they were in prior to discovering the irregularity. However, Delaware courts have not always viewed defects in stock issuances as being curable by ratification. In a number of leading cases, the Delaware Supreme Court has treated the statutory formalities for the issuance of stock as substantive prerequisites to the validity of the stock being issued, and has determined that failure to comply with such formalities renders the stock in question void. A finding that stock is void means that defects in it cannot be cured, whether by ratification or otherwise. Thus, practitioners finding defects in stock issuances are put in the uncomfortable position of having to make a judgment whether the defect is one that renders the stock void, in which case ratification is not an option, or voidable, in which case ratification is an option. Unfortunately, the decisions issued by the Delaware courts have not afforded certainty in this critical area. Indeed, a recent decision of the Court of Chancery acknowledges that although Delaware law is replete with cases discussing the void-voidable distinction, the law as to when and whether a defective stock issuance can be cured is not as clear as it could be.
This article analyzes the reasons for this lack of clarity, and proposes some solutions which would benefit buyers and sellers of corporate stock. We begin by examining the legal requirements applicable to stock issuances. Next, we discuss the foundation of the doctrinal distinction between void and voidable stock. We then discuss the cases where courts have found stock to have not been issued in accordance with these legal requirements, and whether such finding has resulted in the stock being found void or voidable. We also consider the purposes, principles and policies of certain provisions of Article 8 of the Uniform Commercial Code, designed to validate, in most circumstances, certain defects in stock in the hands of innocent purchasers for value. Interestingly, these provisions of the UCC have not been frequently discussed in the court cases that have considered whether stock is void or voidable, and the cases that have discussed them refer to them as setting forth an equitable rather than a legal principle -- which is ultimately not helpful to corporate lawyers who opine on legal, not equitable, matters.
In conclusion, we suggest that the policy underlying Article 8 of the Uniform Commercial Code to validate stock in the hands of innocent purchasers for value, notwithstanding technical defects in its issuance, should be recognized as a principle of law, not solely as a principle of equity, and should be applied by the Delaware courts as such. As a result, technical defects relating to statutory formalities should not lead to a finding of void stock, but at worst to voidable stock. Cure or ratification should be permitted except in cases where the issuance violates the directors' duty of loyalty or otherwise would be inequitable.
