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Y'all Street Law Podcast is your home of everything Texas Business Law!
Brian Elliott: Hello, and welcome to Y'all Street Podcast. I'm Brian Elliott. With me today is my partner, Chuck Krause.
Chuck Krause: Brian, good to be speaking with you. Summer's summer's upon us. The Texas legislature just ended their eighty ninth session. We've all had a couple of weeks to breathe a little bit, and we're now revisiting, a number of the amendments that, that were passed to the Texas Business Corporations Act the implications of that for companies and boards of directors.
Brian Elliott: Yeah, it's good to have a minute to reflect at the close of the session to understand not just the text of the legislation that was passed, but to do some thinking about how it affects our clients and what we should expect for changes coming up. Why don't you lead us into that? Chuck, what are some of the things that came out of this legislative session that we should highlight for our clients?
Chuck Krause: Yeah. I think it's important to start just with the backdrop of there were a lot of big corporate cases that were in the news and being litigated. You also had the launch of the of the Texas Stock Exchange and musings around, you know, making Texas a place that was gonna be business friendly and attracting capital and all of those things. You had the Tornetta Musk decision and appeal and decision on appeal, and then you had all the activity in Delaware around s b twenty one, not only the the substantive changes, which were big, but, you know, the manner in which they came about sort of sidestepping the typical rulemaking process and the legislature kinda taking this issue directly and and dealing with, with board approval of of a conflicted controller transaction as it was described. So I think all of that was in the background as the as the Texas legislature was meeting, considering these bills, and there's a number of really important things that that executives and boards need to consider.
Most of them come out of the first bill, which is, s b 29. We're gonna talk about probably, four different bills, today. S b 29 will be the main one. It is effective immediately because it was, passed by more than two thirds, in in the Texas legislature. The other two the other three bills, twenty four eleven, twenty three thirty seven, and ten fifty seven, have also been approved by the governor, but, they did not have that supermajority, so they become effective September 1.
Brian Elliott: Very good. So taking it taking a look at all these, we're gonna focus on them one at a time. But before we dive into the substance here, give me the sort of the high level big picture. This is major sea change in Texas. This is modernizing the code.
What's your overall take on direction of where we're going with corporate law?
Chuck Krause: Yeah. I think overall, it's modernizing the code. I think any of it is sea change necessarily, but I think they're very important changes that that boards need to really think about thoughtfully. I don't think, for any of them, we're gonna say across the board, slam dunk, you know, this is this is something you must act on now. And I think I think one of the really interesting things, Brian, about the amendments is they introduce this bifurcation, because some of these provisions, particularly in SB 29, they apply automatically to public companies but voluntarily to the same entity.
But if it's not public, they have to opt into it. And I think I think that's an that's an interesting juxtaposition to say you're the same corporate structure. One of you, has reporting obligations to the SEC and your shares trade publicly, and you're subject to a set of rules automatically. But if you're not a public company, this doesn't apply to you automatically, and you need to decide to opt in. Because from a governance perspective, that decision to opt in has to be something that's made with a duty of care and a duty of loyalty.
Just making the decision on some of these things that we'll talk about, like limiting director and officer liability for breach of fiduciary duty and a heightened pleading standard, it's one thing for the rule to apply automatically. It's another for the board to seize the issue and implement that in its own governing documents because that decision itself needs to satisfy some standard. So I think that's where a bit of the the peril might be too strong a word, but that's where you need to be thoughtful about these things. And it's an interesting it's an interesting bifurcation, for the legislature to say some of these things apply automatically if you're public, but some you have to opt into if you're not public.
Brian Elliott: Yeah. And I would say, you know, in addition to that, there even if the the you don't opt in and the laws the regulations don't directly apply, they create a a standard or a guideline. Right? Then aspirational, it may be, but companies need to live up to it. And then it starts to define the fabric of what we call, you know, corporate governance and where a company should be headed as they prepare to become public.
Chuck Krause: I think that's exactly right. And let's let's so let's dig into it a little bit. I think your point, Brian, on this first issue, the statutory business judgment rule hits this issue head on. So what what SB 29 does on this topic is it codifies the business judgment rule. So the business judgment rule, already, you know, is in Texas law as a common law, notion.
What what SB 29 does is it codifies it and increases the pleading standard associated with a claim for breach of fiduciary duty in a pretty significant way. And so you're going to have this situation where, again, this automatically applies to a public company. But if you're not a public company, you have to make the decision to opt in. I think that's not a slam dunk decision, and it's a bit of a perilous decision because what you're what you're effectively doing is shielding you, the board, shielding yourself, and shielding officers from things that might very well be negligent, not in the company's best interest, but don't rise to the level of the pleading standard that's now part of s b 29. And, you know, when the lawsuit when the lawsuit comes or the challenge comes, you're gonna have to defend why it was a good idea to voluntarily why it was in the the company's and the shareholders' interest to opt into that additional protection where a public company doesn't have to explain because it automatically, automatically applies.
Brian Elliott: Yeah. That's a that's an interesting dynamic, and we'll see how that plays out. What are what are some of the considerations if you're a you're in that situation and your board is thinking about it, why might you or might you not want to opt in?
Chuck Krause: Yeah, I think So let's start with the negative. Again, you have to, as a board, make the determination that voluntarily opting into this provision is in the best interest of the corporation, and this includes insulating officers and directors from actions that might be negligent. It could be grossly negligent. They could be dishonest or even unethical, but they don't rise to the level of fraud, intentional misconduct, you know, an act beyond authority or a knowing violation of law. So I think the initial emotional response is maybe, of course, we're gonna opt into this.
But then when you get down to the sort of brass tacks of telling your shareholders why you've done this, it's not necessarily, you know, a clear cut case. There's, you know, there's also regulated industries, you know, the banking industry, for example, where, you know, you have to follow safe and sound banking practices, for example, and you you can you can sense potentially some tension if you voluntarily opt into this, but it's sort of inconsistent with the manner in which you hold yourself out as a company, or or as a regulated industry, you know, as a fiduciary, for example. It might be perceived to be inconsistent. I think I think the other thing that's really interesting about this is it creates it creates different levels, of of, standards that, I think a creative plaintiff's lawyer might infer a negative inference. If you're a private company and you haven't opted into this higher standard, I think, potentially, the argument is, there's a different business judgment, that applies to you, and and you you know, the fact that you didn't opt into this means you're more liable perhaps than you would have otherwise been.
So I think this this bifurcation may may be problematic or at least will be used by plaintiffs to to challenge it.
Brian Elliott: Yeah. Yeah. It's gonna be interesting to see how it plays out. I think the it's obviously we want to protect boards and executives for making the kinds of day to day business decisions and having the freedom to execute their business plan without the burden of passing everything through a granular test that is going to please everybody. We've seen recent shareholder actions that have called into question.
You raised the TornadoMusk decision and things like that. And you're having boards have to double think a plan. Right? And there are good reasons to do it. But at the same time, we want to, Texas and other places, encourage quick moving decision making, innovation, and we don't wanna hamper that too much unnecessary regulation.
In a closely held company, when you've got a handful of shareholders and they all know each other, perhaps it's not that big of an issue. But I see that there's a spectrum or a sliding scale where you know, you bring on more, you know, third party, investors and shareholders and and that that, you know, that base grows. Different considerations will have to come into play.
Chuck Krause: Yeah. I think I think that that's exactly right. You know, other considerations you need to think about beyond just is this in the in the company's best interest is the manner in which you implement it. So the the legislation says that if you're gonna opt in, you need to do so in your governing documents, and that there's two governing documents you can use. You can either amend your certificate of formation, or you can amend your bylaws.
Obviously, an amendment to the certificate of formation is a higher bar because it requires shareholder approval. An amendment to the bylaws, the board can do. However, if if it's only in your bylaws, it's also easier to undo because you don't have to go back to shareholders and ask. So you can imagine situations where you put this in your bylaw, and, you know, you could you could get shareholders leaning, hard, you know, pressuring to to undo that amendment, in the, in the bylaw. So I think you need to be thoughtful not only about do we wanna pursue this, but if we do, how do we wanna pursue it?
Do we wanna do it just as a board through a bylaw amendment, or do we wanna do it through a certificate of formation amendment that we take to shareholders and have shareholders vote on it?
Brian Elliott: Yeah, good considerations. Besides business judgment rule, what else is in SB 29 that we should be aware of?
Chuck Krause: Yeah, there's a bunch of other things. Let me just real quickly kind of run through. I think there's a few other considerations that the board needs to think about. One of them, you know, and these conversations are just starting is how the D and O markets are gonna view this potential change. And I think, you know, I'm counseling boards.
Before you run off to implement this, have a conversation with your D and O insurers about how they would view, you know, expanding the the the discretion that that directors and officers have to to approve things in the heightened pleading standard. It's it's not necessarily, the case that that your d and o premiums are going to go down because of this. On the one hand, sure, you might be more insulated from from litigation, but you can also see a whole range of decisions that that may be less subject to challenge, which may may not be the best thing in in hindsight. Right?
Brian Elliott: Yeah.
Chuck Krause: Other other things that are in s b 29 that are really interesting, Brian. So there's there's, for for public Texas corporations, they can adopt a minimum share ownership percentage for shareholders that wanna institute or maintain a derivative proceeding. So, again, it's this applies only to public companies. They have to opt into it. The threshold can't exceed 3% of the company's outstanding shares, but it's a way for public companies in Texas to raise the bar on shareholders bringing derivative claims.
So that's I think that's a helpful one, and there's there's been lots of activity on this front, not not only in Texas, but but in other jurisdictions, including including Delaware. The other two under SB 29 are an ability for any Texas corporation, public or private, to amend its governing documents to include a waiver of the right to a jury trial regarding internal entity claims. So that's that's important. Obviously, in in the Texas constitution, you have a constitutional right to a trial by jury. You know, companies were already including these waivers in LLC agreements, in in limited partner agreements, and the view was that that that's allowed contractually.
There was a a bit more of a question as to whether that was allowed in a corporation. So in one sense, what they're trying to do is is level the playing field and say, this waiver of of jury trial, it applies to all entity types. I do expect we'll see some sort of challenge to this under the Texas constitution that that this doesn't apply because, of course, it's different in a in a partnership agreement or an LLC agreement where we actually sign on to a contract and agree to be bound by the terms of that contract that include a jury waiver. But in a corporate context, this purports to apply if you continue to hold the shares after the company implements the change. So it's not the same as, you know, entering into the the typical contract where you waive your rights.
This is by virtue of continuing to hold these shares after the company implements it. I'm waiving my rights. Yeah.
Brian Elliott: Well, it's interesting. Right? Because we've talked previously about the difference between Texas and Delaware and what were the changes with the business court here in Texas. And one of the big contrast is that, you know, the Delaware Chancery Courts don't do jury trials. But here in the Texas business course, we would.
But this is seems to be pulling that back a little bit and saying, but you can opt out, and you can include a jury trial waiver in your governing documents.
Chuck Krause: That's exactly right. I think I think, you know, the the Delaware bar looks at this and says, well, there's nothing new here. You know, we haven't had jury trials in in in chancery court ever. So, you're playing catch up in that regard. And I think that's a that's a fair that's a fair criticism.
The other the other thing that SB 29 does is, again, permits both public and private corporations to designate in their governing documents that a Texas court, with jurisdiction over the matter, is the exclusive forum and venue for resolving an internal entity claim. So I think this is sort of codifying what we practitioners thought would eventually be a court ruling on this, that you can designate an exclusive forum. And you see this in other jurisdictions, including Delaware already. I think the the the additional lens here is that we now have the business courts as a as a fledgling forum to resolve those disputes with knowledgeable, judges, you know, together with a potential waiver of a jury trial, you know, a a forum where, a knowledgeable judge in commercial matters could decide, you know, an internal entity claim exclusively.
Brian Elliott: Great. Chuck, thanks for walking us through SB 29. Let's take a look at some of the other new changes that are affecting Texas corporate law this year.
Chuck Krause: Sure. So, Brian, there were there were two other bills that I think we wanna talk about. Again, as we said at the outset, SB 29 was effective immediately. This other legislation, SB ten fifty seven regarding shareholder proposals and s b twenty four eleven, those become effective September 1 rather than immediately, so there's a bit more time to to prepare for those. S b ten fifty seven applies to nationally listed corporations that opt in via a governing document amendment, provide for a minimum ownership threshold of $1,000,000 in market value or 3 percent voting shares for shareholder proposals also require a six month holding period.
So you have to have owned the stock for for at least six months leading up to the shareholder meeting, and you need to solicit at least two thirds of the of the voting power. So you can't just go out and solicit, you know, ten ten of your buddies. You need to you need to engage in a broad solicitation. So this this is designed to put a limit on shareholder proposals, in public companies. And I think, generally, it's consistent with with trends you were seeing, in other jurisdictions and is a good move by by Texas, and it's supportive of the Texas Stock Exchange expansion.
Brian Elliott: Would this would this be similar to s b 29 in where you would need to, opt into these, changes and put it in your governing documents, or is this codified?
Chuck Krause: No. This just you yeah. This you would need to opt into this. Yep.
Brian Elliott: Okay.
Chuck Krause: Yeah. But again, I think, you know, there's there's lots of data. Exxon put out a put out a letter, maybe twenty twenty four annual meeting, and it was talking about the costs and distractions that it its board has to endure with all the shareholder proposals that it receives. And it was, you know, tens of millions of dollars and lots of board time dealing with these these proposals that were coming from, you know, parties that aren't necessarily invested in the long term success of the business. So
Brian Elliott: it seem seems like, you know, reasonable thresholds to to to put on. Has has there been any any reaction? You say this is sort of in lockstep with where other states are already?
Chuck Krause: Yeah. I think this one this one's gonna get less pushback than, you know, the the statutory business judgment rule we were talking about earlier. The the other the other suite of bills, s b twenty four eleven, really had a number of modernizations of the Texas Business Organization's code. So it it did a couple of things. It permissively allows boards to limit the liability of officers similar to the protections already in the statute for directors.
I think that's that's a good potential thing and sort of consistent with freedom of contract. I do think it raises some of the perils we were talking about already with with, codifying the business judgment rule and whether that's necessarily in all cases a good thing, to sorta, you know, lower the standards of of duty for directors and officers. It it allows some streamlining, of amendments made to governing documents. So now boards can approve certain forms of amendments, without a shareholder vote. Restated certificates can omit legacy information without triggering a shareholder approval requirement.
They also made some amendments that we previously talked about, relating to the business courts and their their sort of concurrent jurisdiction. The other thing that that they did that's interesting in in connection with mergers is they clarified that disclosure schedules, so those letters that are delivered, you know, in connection with a merger agreement, but not technically part of the merger agreement, that those are excluded for purposes of you know, being being an actual part of the merger agreement or potentially having to be filed or disclosed publicly. And as as you know from from working on these, you know, there's often there's often sensitive detail in there, detail about claims. There's often, you know, needing redactions to be made or competitively sensitive information that's in those those disclosure schedules. And I think this this does a good job of of really bifurcating look.
What's disclosed between two counterparties, isn't necessarily for consumption by by the entire world. So I think that's a that's a proper, proper amendment.
Brian Elliott: So I think the these set of rule changes, seem to me that they're much more geared to practitioners and and how we interact with our clients and not really, action items for a board to to be taking away. What what's your thought?
Chuck Krause: Yeah. I agree with that, Brian. I think the the much more interesting ones from a from a consideration perspective are are those in s b 29 around the fiduciary duties and the waiver of jury trials and the form selection. This is great. This is
Brian Elliott: a great overview of new rules. These last two, SB twenty four eleven and ten fifty seven, you say, were will be effective automatically in the fall in in September?
Chuck Krause: Yeah. They so they've been passed. They've been signed. They just didn't have the two thirds majority, so they become effective September 1. But SB 29 is effective today.
As we talked about, there's there's some some conversations that need to happen at the boardroom about whether to opt into this or not. And I would say even if even if you decide not to opt into it, I think that decision needs to be documented. It needs to be debated, and it needs to be a thoughtful decision. So, you know, it's time for s p 29 to be on the agenda of every every board public, or at least every private board because it a lot of this applies automatically to public boards. But for for private boards, you know, you need to be considering this, talking to your shareholder base, talking to your D and O insurers, and thinking about the business industry you're in and whether opting into these things is in the best interest of the company.
Brian Elliott: Great. Well, look, Chuck, why don't we take a quick break? When we come back, we'll talk about, you know, the capital flow impact, the business impact, maybe, you know, offer some advice and tips to our clients and listeners on what they should be taking away.
Chuck Krause: Sounds great.
Brian Elliott: Okay. We're back. Chuck, thanks for breaking down the new changes. That's been very helpful. Let's let's switch now to, decision factors and how it's gonna impact clients.
Can you give us some thoughts on where boards should be thinking right now? What kind of decision matrix should they be trying to go through? Or your initial feedback?
Chuck Krause: Yeah, Brian, I think it's exactly the right question. The first thing we did when these laws were passed is we let clients know that it had happened, and there were gonna be things that needed to be discussed. I think what we're doing now is we're getting, you know, getting together with clients. We're getting together with boards. We're we're talking through the specifics of these changes, who they apply to, who they don't, the whole public private dichotomy that we discussed.
And then and then also taking a step back and doing refreshers for boards on, you know, what what is the business judgment rule? What are the fiduciary duties that apply in Delaware, that apply in Texas? What are the trends? What are the recent cases? I think you think about that, together with what industry am I in and, you know, what what kind of pressures are are shareholders in those particular industries placing on companies?
And then just being thoughtful about what we really think is in the company's interest, not only today with the current business, but based on where where the company wants to go and grow, whether we think these things will facilitate that objective or potentially hold us back.
Brian Elliott: Yeah. I mean, it's interesting, right? Because company operates within this environment, this legal landscape. And when that landscape changes, it's incumbent on the company to take into consideration those changes and make appropriate adjustments, right? And where you can get more advantage, we should do it.
What about how you see this playing out over the Texas landscape, the Texas economy? Are these positive changes that will attract new capital build the tax economy? Do you think there's a sense of uncertainty, wait and see, how maybe the constitutionality of some of these rules play out over the next year or two? What are some thoughts there?
Chuck Krause: Yeah. I think I think there was already a, you know, a trend towards redomiciling that that will continue, I think, as we get deeper into 2025 and early twenty twenty six, and you start to see some of the listings occur both on the the the Texas Stock Exchange, but also NYSE Texas that I think just last week announced their, you know, their first one of their first listings. I think all of that is still attracting capital into into Texas. One of the one of the friends of of our firm, I think, said said on CNBC a couple of weeks ago that capital goes where where it's treated best, and I think that will continue to be the case. And I think any any company looking to set up, you know, just given the size of the the Texas economy, you know, you need to be considering whether this is a place to incorporate.
I think a lot of the changes that you saw from the Texas legislature, they are designed and do, in fact, make it a very attractive place to to incorporate and do business. That's for sure. You know? I don't think I don't think they've eliminated the debate entirely, but they've certainly added more more benefit to to Texas as a jurisdiction to consider.
Brian Elliott: Well, it certainly adds layers to the consideration of, you know, not just where to incorporate, but, you know, where to expand business implications of fundraising, how you do the fundraising, you know, whether or not you should should list on a public exchange. The, you know, the the landscape has changed. The considerations are changing. You know, it would be nice to have, you know, a simple checklist to say if if you meet these criteria, then, you know, obviously, you should do one or another. But I think it's a it's a little bit more complicated than that.
Chuck Krause: It's it's much more complicated than that. You can't just ask, you know, your favorite AI program, to make the decision. You know, it it's gonna be nuanced, and you're gonna need to to talk with experienced counsel, who can look around some of these corners with you. And and, ultimately, you know, you don't have to be clairvoyant in your decision, but the process by which you come to your decision needs to be a real and robust one. And I think that's the main takeaway from my perspective is you need to you need to thoughtfully consider these things, and and make the decision grounded in a firm under understanding of the facts of your particular situation.
Brian Elliott: Well, I know that we are going to have a more in-depth conversation about AI and how AI may or may not impact decision making in corporations coming up soon. But I think I agree. I think the takeaway for me, listening to the descriptions of these new changes, reach out to your corporate lawyer and get them on the team. You need to audit your approach to capital and fundraising. You need to audit your approach to shareholder activity and how you manage corporate governance in the changing environment.
I think it's a new landscape. It keeps evolving. And you want to make sure that the future of the business is secure. You understand fully what the contours of the business judgment rule are so that you can make the right decisions in Texas of whether or not to implement such things. Impact of jury waivers, how does that play out?
There's so so many issues, and it takes a team approach to really think through it.
Chuck Krause: Yeah. That's exactly right. And I think the, you know, first step, as you say, is understanding what our current documents say. And then and then with that, moving to, okay. What what items have changed automatically, either because I'm a public company, or this thing automatically applies to me, and what things are in my discretion?
And then, you know, those that are in my discretion, how do I think about them? Those things that have happened automatically, you know, you have an obligation to tell your shareholders about that. So, you know, if you're a reporting company and and the the sort of rules of the game have shifted a bit, you know, you you need to you need to explain to your shareholders what has changed. So, definitely, the the the theme of it is, things have changed. You need to get some some advice about the implications.
Brian Elliott: And, hopefully, they know where to call, and they can talk to one of the great people on the Scale corporate team who can help you
Chuck Krause: happy to help. We're working on getting an email address set up for the podcast. I I believe it's gonna be y'allstreet@scalefirm.com because I'm pretty sure no one else has that email address at the firm. But it's not live yet, but we will endeavor to get it set up. And we'd love to hear feedback from you if you have topics that you want us to to speak about or guests you think we should interview, please send those along, to us.
In the meantime, you can reach either myself or Brian. Our emails are on the Scale website. You can look us up there, and we'd love to hear from you.
Brian Elliott: Thanks everybody for joining us, and, we'll be back soon.