Applebaum v. Avaya, Inc.

• Citation: 812 A.2d 880
• Decision Date: 20 November 2002
• Docket Number: No. 375, 2002.,375, 2002.
• Parties: Milton APPLEBAUM, Plaintiff Below, Appellant, v. AVAYA, INC., Jeffrey A. Harris, Franklin A. Thomas Henry B. Schacht, Daniel C. Stanzione, Mark Leslie, Donald K. Peterson, and Patricia F. Russo, Defendants Below, Appellees.
• Court: United States State Supreme Court of Delaware

812 A.2d 880

Milton APPLEBAUM, Plaintiff Below, Appellant, v. AVAYA, INC., Jeffrey A. Harris, Franklin A. Thomas Henry B. Schacht, Daniel C. Stanzione, Mark Leslie, Donald K. Peterson, and Patricia F. Russo, Defendants Below, Appellees.

No. 375, 2002.

Supreme Court of Delaware.

Submitted: September 25, 2002.

Decided: November 20, 2002.

Ronald A. Brown, Jr., Esquire, and Paul A. Fioravanti, Jr. Esquire (argued), of Prickett Jones & Elliott, P.A., Wilmington, Delaware; Of Counsel: Arthur T. Susman, Esquire, of Susman & Watkins, Chicago, Illinois, for Appellants.

Jesse A. Finkelstein, Esquire (argued), Daniel A. Dreisbach, Esquire, Peter B. Ladig, Esquire, Richard P. Rollo, Esquire, Paul D. Brown, Esquire, and Zoe A. Forrester, Esquire, of Richards, Layton, & Finger, Wilmington, Delaware; Of Counsel: Paul J. DiMaio, Esquire, of Avaya, Inc., Basking Ridge, New Jersey, for Appellees.

Before VEASEY, Chief Justice, HOLLAND and STEELE, Justices. VEASEY, Chief Justice.

In this appeal, we affirm the judgment of the Court of Chancery holding that a corporation could validly initiate a reverse stock split and selectively dispose of the fractional interests held by stockholders who no longer hold whole shares. The Vice Chancellor interpreted Section 155 of the Delaware General Corporation Law to permit the corporation, as part of a reverse/forward stock split, to treat its stockholders unequally by cashing out the stockholders who own only fractional interests while opting not to dispose of fractional interests of stockholders who will end up holding whole shares of stock as well as fractional interests. In the latter instance the fractional shares would be reconverted to whole shares in an accompanying forward stock split.

We hold that neither the language of Section 155 nor the principles guiding our interpretation of statutes dictate a prohibition against the disparate treatment of stockholders, for this purpose. We also hold that the corporation may dispose of those fractional interests pursuant to Section 155(1) by aggregating the fractional interests and selling them on behalf of the cashed-out stockholders where this method of disposition has a rational business purpose of saving needless transaction costs.

A further issue we address is whether, as an alternative method of compensation, the corporation may satisfy the "fair price" requirement of Section 155(2) by paying the stockholders an amount based on the average trading price of the corporation's stock. Here, the Vice Chancellor properly held that the trading price of actively-traded stock of a corporation, the stock of which is widely-held, will provide an adequate measure of fair value for the stockholders' fractional interests for purposes of a reverse stock split under Section 155.

Facts

Avaya, Inc. is a Delaware corporation that designs and manages communications networks for business organizations and large non-profit agencies. The enterprise is a descendant of the industry standard-bearer, AT & T. Avaya was established as an independent company in October of 2000 when it was spun off from Lucent Technologies. Lucent itself is a spin-off of AT & T. Because its capital structure is the product of two spin-off transactions, the outstanding stock of Avaya is one of the most widely-held on the New York Stock Exchange. Over 3.3 million common stockholders own fewer than 90 shares of Avaya stock each.

Although a large number of stockholders hold a small stake in the corporation, Avaya incurs heavy expenses to maintain their accounts. Avaya spends almost $4 million per year to print and mail proxy statements and annual reports to each stockholder as well as to pay transfer agents and other miscellaneous fees. Stockholders who own their stock in street names cost Avaya an additional $3.4 million in similar administrative fees.

Since the cost of maintaining a stockholder's account is the same regardless of the number of shares held, Avaya could reduce its administrative burden, and thereby save money for its stockholders, by decreasing its stockholder base. In February of 2001, at the corporation's annual meeting, the Avaya board of directors presented the stockholders with a transaction designed to accomplish this result. The Avaya board asked the stockholders to grant the directors authorization to engage in one of three alternative transactions:

(1) a reverse 1-for-30 stock split followed immediately by a forward 30-for-1 stock split of the Common stock

(2) a reverse 1-for-40 stock split followed immediately by a forward 40-for-1 stock split of the Common stock

(3) a reverse 1-for-50 stock split followed immediately by a forward 50-for-1 stock split of the Common stock.

We refer in this opinion to all three of these alternative transactions as the "Proposed Transaction" or the "Reverse/Forward Split." Regardless of the particular ratio the board chooses, at some future date the Reverse Split will occur at 6:00 p.m., followed by a Forward Split one minute later. Once selected, the effective date of the Split will be posted on Avaya's website.

The transaction will cash out stockholders who own stock below the minimum number ultimately selected by the directors for the Reverse/Forward Split pursuant to those three alternative options. Stockholders who do not hold the minimum number of shares necessary to survive the initial Reverse Split will be cashed out and receive payment for their resulting fractional interests (the "cashed-out stockholders" or "targeted stockholders"). Stockholders who own a sufficient amount of stock to survive the Reverse Split will not have their fractional interests cashed out. Once the Forward Split occurs, their fractional holdings will be converted back into whole shares of stock.

Avaya will compensate the cashed-out stockholders through one of two possible methods. Avaya may combine the fractional interests and sell them as whole shares on the open market. In the alternative, the corporation will pay the stockholders the value of their fractional interests based on the trading price of the stock averaged over a ten-day period preceding the Reverse Split. Stockholders who hold their Avaya stock in street names have been advised to contact their nominees to see that they receive the same consideration as stockholders who have their interests registered in their own names.¹

To illustrate the Proposed Transaction through a hypothetical, assume Stockholder A owns fifteen shares of stock and Stockholder B owns forty-five shares of stock. If Avaya chooses to initiate a Reverse 1-for-30 Stock Split, Stockholder A will possess a fractional interest equivalent to one-half a share of stock. Stockholder B will hold one whole share of Avaya stock and a fractional interest equivalent to one-half a share. Using the provisions of Section 155(1) or (2) of the Delaware General Corporation Law,² Avaya would cash out Stockholder A since he no longer possesses a whole share of stock. Stockholder A would no longer be an Avaya stockholder. Stockholder B will remain a stockholder because Avaya will not cash out the fractional interest held by her. Stockholder B's fractional interest remains attached to a whole share of stock. When Avaya executes the accompanying Forward 30-for-1 Stock Split, Stockholder B's interest in one and one-half shares will be converted into forty-five shares of stock, the same amount that she held prior to the Transaction.

At the annual meeting, Avaya stockholders voted to authorize the board to proceed with any one of the three alternative transactions. Applebaum, a holder of twenty-seven shares of Avaya stock, filed an action in the Court of Chancery to enjoin the Reverse/Forward Split. Under any one of the three alternatives Applebaum would be cashed out because he holds less than thirty shares.

Proceedings in the Court of Chancery

Applebaum asked the Court of Chancery to enjoin the Proposed Transaction, alleging that Avaya's treatment of fractional interests will not comport with the requirements set forward in Title 8, Section 155 of the Delaware Code. Applebaum argued that Section 155 does not permit Avaya to issue fractional shares to some stockholders but not to others in the same transaction. Even if Avaya could issue fractional shares selectively, Applebaum contended that the methods by which Avaya plans to cash-out the smaller stockholders do not comply with subsections (1) and (2) of Section 155.

After considering cross-motions for summary judgment, the Court of Chancery denied Applebaum's request for an injunction and held that the Reverse/Forward Split would comply with Section 155 and dispose of the cashed-out stockholders' interests in a fair and efficient manner.³ Applebaum appeals the final judgment entered for the defendants. We affirm.

Issues on Appeal

Applebaum claims the Court of Chancery erred by: (1) holding that Title 8, Section 155 permits Avaya to issue fractional shares to the surviving stockholders but not issue fractional shares to the cashed-out stockholders; (2) holding that Avaya can combine the fractional interests and sell them on the open market; (3) holding that Avaya can instruct nominees to participate in the Split even if a particular nominee holds a sufficient amount of stock on behalf of all of its beneficial holders to survive the Split; (4) granting summary judgment and holding that the payment of cash for fractional interests based on a ten-day average of the trading price of Avaya stock constitutes "fair value" under Section 155; and (5) holding that the meaning of "fair value" in Sections 155(2) is different from Section 262 and thus failing to value the fractional shares as proportionate interests in a going concern.

Section 155 Does Not Prevent Avaya From Disposing of Fractional Interests Selectively

Applebaum questions the board's authority to treat stockholders differently by disposing of the fractional interests of some stockholders but not others....