More Musk-like 'Dexits' pose fresh threat to Delaware's corporation crown

“Delaware is at serious risk of losing its standing as the leading state of incorporation for American companies,” Coinbase’s (COIN) chief legal officer Paul Grewal posted on X earlier this month.

Those recruiting efforts got a boost last year from the world’s richest man, Musk, when Tesla shareholders voted to incorporate in Texas instead of Delaware — a move made in reaction to the ruling against Musk’s pay.

But even that reincorporation is held up in the Chancery Court, in a separate case before the same judge who voided Musk’s compensation. The suit, filed by an investor who challenged the vote, alleged that the reincorporation was designed to shield Musk from Delaware law.

A similar reincorporation scuffle arose between Tripadvisor (TRIP) and two of its shareholders in 2023, before Musk’s attempted Dexits.

In Maffei v. Palkon, shareholders opposed a vote favoring reincorporation in Nevada, alleging the measure would have failed without votes from Gregory Maffei, the company’s then-controlling stockholder.

The conflict came to an end last week when Delaware’s Supreme Court overturned the Chancery Court’s vice chancellor, J. Travis Laster, unanimously holding that the lower court applied the wrong standard to evaluate the board-recommended move.

The high court disagreed with Chancery that the more rigorous “entire fairness” standard should be applied and said the decision was subject to the more lenient “business judgment” rule.

The recent high-profile departures from Delaware are attracting attention from the state’s newly elected governor, Matt Meyer, a business lawyer, who launched a working group to study mounting complaints directed at the court.

“I’m hearing something similar from a number of Delaware companies and attorneys,” Meyer said in an interview with CNBC. “That they feel like they get the same judge every time when they come to Delaware business court, and they don’t feel like they are getting a fair hearing.”

Phil Shawe, CEO and co-founder of the translation service company TransPerfect, is another executive who moved his company from the state and is now telling Governor Meyer that he was treated unfairly by the court.

Shawe spent years there in litigation against his TransPerfect co-founder and co-director.

When the pair became deadlocked over the business’s direction, the court concluded the impasse posed “irreparable harm” to the company. To address the perceived harm, the judge appointed a custodian to run a court-ordered sale.

“They ran an auction and didn’t produce a higher price than what I had already offered [the co-founder] years earlier,” Shawe said, alleging the auction exceeded the court’s authority.

“How the judge came to this conclusion to do this is very suspect, because the business was always growing in revenue, and profit, so there was never a real imminent harm that required a judge to take control of the business.”

Shawe ultimately outbid his challengers and purchased his co-founder’s half of the company, though after spending millions on lawyers and court fees. He has since backed advocacy group Citizens for Judicial Fairness (formerly Citizens for a Pro-Business Delaware) to push the court for more transparency and equity.

“There is something wrong with that system,” Shawe said.

Israeli technology investor Itzik On is another executive moving his companies out of the state and says he is frustrated with the Chancery Court.

“I’m very afraid of the Delaware system going against entrepreneurs. I think it’s a systematic risk against the entire corporate world and the entire startup world,” On said. “You start considering: Why should I invest in the US? Now it’s become risky.”

On, Movado’s sole director, claims the court allowed an investor and shareholder in his now-dissolved healthcare startup, Movado PT Technologies, who was also an executive at a competing healthcare company, to maintain a derivative claim against him.

The Movado shareholder claimed On did not fully inform shareholders about material issues including executive compensation terms and conflicts of interest among executives.

“You can’t have a derivative complaint when a shareholder is a rival,” On said.

He also disagreed with the judge’s invalidation of two shareholder votes ratifying all board actions, including executive compensation, on grounds that the votes were the product of a “fiduciary breach.”

On calls himself a “small player” as an investment manager for 24 US startups. However, he argues that Chancery dealt him a fate similar to Musk’s when the court held there was a fiduciary breach despite two shareholder votes.

“The second you have this [fiduciary breach] tag, you’ve lost,” On said. “Now everyone is at risk for fiduciary breach.”

On and his sister are appealing their case to the Delaware Supreme Court. In the meantime, he said, “All our companies are exiting Delaware.”

Alexis Keenan is a legal reporter for Yahoo Finance. Follow Alexis on X @alexiskweed.