Klang v Smith's Food & Drug Centers, Inc.
702 A.2d 150 (Del. 1997)
SFD was trying to be acquired
by Yucaipa. As part of the deal, SFD agreed to repurchase 50% of the
outstanding SFD stock.
That's known as a self-tender
SFD talked to their investment
firm, decided that the repurchase would not result in an impairment of
capital, and went ahead with the
Obviously, buying back all
that stock cost SFD a lot of cash. After the repurchase, the equity of company (assets - liabilities) was only
$346M, which was less than the total par value (number of shares x par value per share) of
Some creditors, led by Klang,
The creditors basically
argued that by buying all of this stock, SFD wasn't retaining enough cash
to pay back the creditors. That's known as an impairment of capital.
Under Delaware law (8
Del.C. §160), a corporation may not
repurchase its shares if it would cause an impairment of capital.
Under Delaware law (8 Del.C. §154),
that occurs when the funds used in the repurchase exceed the amount of
the corporation's surplus.
The surplus is the excess of net assets over the par
value of the stock.
For example, if a company
had 100 shares of stock with a par value of $10, and they had $1500 worth of assets, the most they
could use to repurchase stock would be $1500 - ($10x100) =$500.
SFD agreed that they were
showing a negative net worth on their books, but argued that they have
the right to revalue their assets and liabilities to comply with §160.
Basically, SFD argued that
the par value was jut an
arbitrary number, and that it could and should be changed if a company
needs to repurchase stock.
The Trial Court found for SFD.
The Trial Court noted that
the books of a corporation do not accurately reflect the current assets
and liabilities because of a number of accounting issues (like
appreciation of assets).
The Court found that a
company is free to use business judgment in valuing its assets and liabilities.