Introduction
Public companies should be cautious when amending their advance notice bylaws, particularly when a proxy contest is anticipated. Amendments to advance notice bylaws that are not adopted on a “clear day” and can be viewed as designed to thwart an approaching proxy contest may be struck down. Recently, certain amendments to the advance notice bylaws of AIM Immunotech Inc. (“AIM”), which were adopted in the wake of a failed proxy contest, were struck down in Delaware Chancery Court in Kellner v. AIM ImmunoTech Inc., C.A. 2023-0879-LWW (Del. Ch. Dec. 28, 2023).

Background
In June 2022, an AIM stockholder submitted a notice to the company to nominate two directors. The stockholder was part of a group that had been trying to influence the management of AIM for more than a year and included one individual previously convicted of securities fraud who had been enjoined from contacting AIM’s business relations after falsely representing he was part of the company. AIM rejected the stockholder’s nomination submission because it failed to disclose arrangements and understandings about the broader group, as required by the company’s advance notice bylaws. The stockholder was unable to amend his submission after it was rejected because the deadline for providing notice for the annual meeting had passed.

In March 2023, AIM’s board of directors began considering amendments to the company’s advance notice bylaws, including in response “to significant activist activity during 2022 in which an activist group . . . engag[ed] in efforts to conceal who was supporting and who was funding the nomination efforts and to conceal the group’s pans for the Company.” With minor changes, AIM’s board of directors adopted the amendments in June 2023 after determining that they were not “unreasonably restrictive” lbut would clarify and improve the procedures and rules for stockholder director nominations and proposals.

On August 3, 2023, the day before AIM’s nomination window closed for its upcoming annual meeting, a stockholder affiliated with the same group involved in the failed June 2022 nomination submitted a letter nominating himself and two others as director candidates for AIM’s annual meeting. On August 23, 2023, AIM’s board of directors rejected the stockholder’s nominations and, in a reply, summarized the nomination’s deficiencies and noncompliance with the company’s amended bylaws, including a failure to disclose all relevant arrangements and understandings among the previously mentioned group. Shortly thereafter, on August 25, 2023, the stockholder filed a complaint against AIM and its directors seeking (i) a declaration that the company’s amended bylaws were invalid, (ii) additionally and alternatively, a declaration that the company’s application of the amended bylaws was unlawful and inequitable and (iii) a declaration that AIM’s board of directors breached their fiduciary duties by adopting the amended bylaws and rejecting the stockholder’s nomination submission.

Holding & Legal Analysis
The court recognized that stockholders have a right to nominate directors, but Delaware law says almost nothing about how stockholders should exercise that right, and as a result most public companies have adopted advance notice bylaws to ensure fair and orderly meetings and elections. While companies have a legitimate interest in amending advance notice bylaws to further the goals of disclosure and order, the court explained that bylaws taken to an extreme can become overly burdensome and unfairly prevent stockholders’ legitimate rights to nominate director candidates. The court went on to explain that while advance notice requirements adopted on a “clear day” are typically upheld, a board’s ability to adopt advance notice bylaws is not unlimited. Advance notice bylaws that “unduly restrict the stockholder franchise or are applied inequitably [ ] will be struck down.”

Advance notice bylaws adopted by boards on a “clear day” are subject to the general business judgment standard of review. However, when advance notice bylaws are adopted at a time when the company faces an actual threat to corporate control, they are subject to enhanced scrutiny. The court noted that the amendments AIM made to its bylaws in June 2023 were not adopted on a “clear day” because of the real potential for a proxy contest in the near-term. In that light, the court applied a Unocal standard of reasonableness, first considering “whether the board faced a threat to an important corporate interest” and second “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 franchise.”

On the first prong, the court found that by amending the bylaws, AIM’s board was responding to manipulative and misleading conduct experienced in 2022 and had a corporate interest in gathering additional information about future nominations.

On the second prong, the court considered whether six specific bylaw amendments were a proportional and reasonable response given the threat. The court’s discussion analyzed the bylaw amendments and suggested that portions of four of those amendments were “vague,” “ambiguous” “overbroad,” “draconian” and “indecipherable,” including requirements regarding (i) arrangements, agreements and understanding (“AAUs”) among a broad scope of parties (where the interplay of the terms “acting in concert”, “Associate”, “Affiliate”, and “immediate family” caused such terms to expand beyond what is reasonable), (ii) AAUs about consulting, investment advice or a previous nomination for a publicly traded company within the last ten years, (iii) an expansive requirement about known supporters providing any sort of support whatsoever, and (iv) a sprawling ownership disclosure requirement including “legal, economic, or financial” interests by associated persons “in any principal competitor.” The court observed that the four problematic bylaw amendments did not allow stockholders “a fair opportunity to nominate candidates” and “seemed designed to thwart an approaching proxy contest, entrench the incumbents, and remove any possibility of a contested election.” For those reasons, the court struck down those four bylaw amendments.

Although the court invalidated portions of the amendments to the advance notice bylaws, it declined the stockholder’s request to invalidate the amended advance notice bylaws in their entirety. As a result, the court found the stockholder’s submission to be deficient with respect to the remaining requirements of the advance notice bylaws and AIM ultimately prevailed. In particular, the stockholder’s submission failed to disclose all relevant arrangements and understandings among the group. The court continued that the “concealment of arrangements . . . undermin[es] the essential disclosure function of advance notice bylaws . . . [and] the board acted reasonably and equitably in [its] rejection” of the nomination submission. Accordingly, the court upheld AIM’s rejection of the stockholder’s nominations.

Takeaway
Public companies should prepare for the possibility of a future proxy contest on a “clear day” when there is no lingering threat from activist investors. To do otherwise invites increased scrutiny of amendments to advance notice bylaws. Further, while advance notice bylaws can support a company’s legitimate interest in maintaining an orderly director nomination process, it is important that advance notice bylaws are sufficiently tailored to ensure they do not unfairly restrict stockholders’ legitimate right to nominate director candidates.

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