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CALIFORNIA CORPORATE & SECURITIES LAW

Valid Reasons May Exist For Reincorporating In Delaware, But This Isn’t One Of Them

I am always interested in the reasons that corporations give when seeking approval to reincorporate from California to Delaware.  One company in a recently filed proxy statement made the following claim (among others):

Enhanced Flexibility to Engage in Stock Repurchase Programs. The Company will have an enhanced ability to make distributions to its shareholders (i.e., dividends, stock repurchases) as Delaware law is more flexible than California law with respect to the payment of dividends. Delaware law generally provides that a corporation may declare and pay dividends out of surplus or, if there is no surplus, out of net profits for the fiscal year in which the dividend is declared and/or for the preceding fiscal year. Surplus is defined as the excess of a corporation’s net assets (i.e., its total assets minus its total liabilities) over the capital associated with issuances of its common stock. Moreover, Delaware law permits a board of directors to reduce its capital (but not below the aggregate par value of the outstanding shares) and transfer such amount to its surplus. In contrast, under California law, a corporation may not make any distribution to its shareholders unless either: (i) the corporation’s retained earnings immediately prior to the proposed distribution equal or exceed the amount of the proposed distribution; or (ii) immediately after giving effect to the distribution, the corporation’s assets (exclusive of goodwill, capitalized research and development expenses and deferred charges) would be at least equal to one and one fourth (1 1/4) times its liabilities (not including deferred taxes, deferred income and other deferred credits). These tests are applied to California corporations on a consolidated basis.

 

I have just two problems with this argument: it is anachronistic and incomplete. Six years ago, California amended its statutory restrictions on distributions to shareholders.  Cal. Stats. 2011, ch. 203 (AB 571 (Hagman)).  See this post from September 2011.  The Corporations Committee of the Business Law Section of the California State Bar sponsored this legislation to, among other things, “remove unnecessarily rigid restrictions on the ability of financial healthy California corporations to make distributions to shareholders”.  Even if California had not loosened its restrictions on dividends, the above description is incomplete as it only includes part of the second alternative.

 

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