Drafting a Mandatory Put Provision for Preferred Stock after ThoughtWorks
January 23, 2012
Publication| Corporate Transactions
An exit strategy frequently bargained for by venture and other equity investors is the right to require the corporation to redeem their stock under designated circumstances. Such “mandatory put” provisions are intended to create a contractual right in investors to have their stock redeemed and their investment returned. Since stock is equity, not debt, state corporation law limits the ability of the corporation to redeem its stock if its capital is impaired. This limitation is often incorporated into the terms of the put, which mandates that upon demand by the stockholder or some specified date or event, the corporation “shall redeem [the preferred stock] out of funds legally available therefor.”
Until the recent decision of the Delaware Court of Chancery in SV Investment Partners, LLC v. ThoughtWorks, Inc., 7 A.3d 973 (Del. Ch. 2010), many practitioners believed the phrase “funds legally available therefor” was synonymous with statutory surplus calculated in accordance with applicable law. In ThoughtWorks, however, the Court of Chancery held that the phrase “funds legally available therefor” is not synonymous with “surplus” and instead requires that the corporation have liquid assets that are available for the redemption. The Delaware Supreme Court recently affirmed the Court of Chancery’s opinion, and in so doing, decided it need not address whether the phrase “funds legally available therefor” was synonymous with “surplus,” thus effectively letting the Chancery Court’s holding on that issue stand. Investors should be aware of the interpretation given to the “funds legally available” phrase in the ThoughtWorks decision, and should consider alternatives to that language when drafting mandatory put provisions.