Pennsylvania Associations Code Update: Ratification of Erroneous Measures

On November 3, 2022, Governor Wolf signed House Bill 2057 into Law 122. The law included numerous amendments to Title 15 of the Pennsylvania Consolidated Statutes, also known as the “Associations Code” (the Title 15 Update).¹ This multi-part series provides a summary of the major changes introduced to Pennsylvania entities by the Title 15 update. Part 1 provided a general summary of the most important changes. Part 2 discussed the annual report requirements. Part 3 covered, among other things, the changes related to the Business Judgment Rule, the forgoing of business opportunities and the choice of forums. This Part 4, the last part, discusses the new legal method for ratifying lawsuits from defective companies. The Title 15 Update went into effect on January 2, 2023,² with certain provisions coming into effect at a later date.³

SUMMARY

The Title 15 Update adds statutory procedures to ratify wrongful acts by Pennsylvania corporations. Ratifications under the Title 15 Update require action by the Board of Directors or other appropriate governing body of the Company. The approval of the Company’s Shareholders is also mandatory where such approval is required under Title 15, an agreement, any relevant document or any other applicable regulation. If the improper act required a filing, the entity must also file a validation application with the Pennsylvania Department of State.⁴

RATIFICATION OF INCORRECT MEASURES; hibernation

The Title 15 Update establishes legal procedures⁵ to correct errors made by companies in their governance in relation to the approval of actions by companies, with retroactive effect for most erroneous actions that occurred before the Title 15 update. The availability of legal procedures does not preclude the use of common law ratification, if any.⁶

In general, under the new law, the ratification of erroneous legal acts requires the consent of the classes of parties that should have originally approved the lawsuit. The quorum and voting requirements for such approvals, both of the governing bodies and of the shareholders, are those in effect on the date the ratifying approval is sought. Those who hold interests allegedly created or issued as a result of an erroneous legal action (indicated interests) are not eligible to elect those alleged interests (which also do not count for quorum purposes) except in certain circumstances where the “ most registered” are involved. (usually listed) corporations. Once validated, such purported interests are deemed to have been issued from the time they are purported to be issued.⁷

If a ratified claim would have required filing with the Pennsylvania Department of State, the company must provide the Pennsylvania Department of State with a statement of validation that must include: (a) the name of the company; (b) the address of the registered office; (c) the action of the failed entity; (d) the date of the improper action; (e) the nature of the authorization failure; (f) a statement that the measure has been ratified in accordance with the Title 15 Update; (g) Information about required filings, including a copy of such filing; and (h) applicable application fees. The Validation Effective Time is either (x) the time all parties necessary to authorize the Action have approved the Action, or (y) the effective time of any required Validation Statement, whichever is later.^8th

If shareholder approval is required, the Company must notify the relevant shareholders, whether or not they are entitled to vote. If the ratification of an erroneous measure does not require shareholder approval, the Company may provide an optional notice to the then shareholders. After receiving the notification, the validation must be challenged within 120 days. A challenge to the validation can only be raised by a shareholder, a successor in title, a party materially and adversely affected by the erroneous act or a member of the company’s governing body.⁹

Finally, the bill separately provides that after the expiration of the earliest of several specific time periods, which depend on the status of the entity and the manner of prior notification or disclosure regarding the claim, defective claims by the entity will be void or voidable for lack of authority. Broadly, the time limits are (a) two years (in the case of an incorporated company that disclosed the defective entity’s claim in a filing with the US Securities and Exchange Commission); (b) six years (in the case of corporate wrongdoing set forth in a public filing with the U.S. Department of State or otherwise disclosed to those whose consent was required, or to stockholders in the case of an over-issuance of shares); and (c) if no other period applies, 21 years after the defective entity’s action. Prior to the expiration of the applicable time limit, a person who is otherwise entitled to assert that an action of a defective entity is void or voidable may bring an action in court to obtain a declaration or other remedy establishing that the action of a defective entity is void or voidable. The Title 15 Update temporarily suspends until January 2, 2024 the implementation of statutory resolution with respect to defective entity claims that arose prior to January 2, 2023, thereby creating a one-year opportunity to challenge those defective entity claims otherwise could be settled by the new provisions.¹⁰

CONCLUSION

The Title 15 Update modernizes Pennsylvania’s Associations Code, most notably the Business Corporation Law, in a number of ways. Where technical deficiencies in authorization would otherwise preclude validation of certain entity actions, the Title 15 Update provides a clear path for ratification without the complications of action cancellation and provides an automatic hold on potential outdated challenges to authorization. While the ratification process discussed above is not the only avenue available for ratifying erroneous measures, it does provide a safe haven for entities wishing to ensure that an erroneous measure is properly remedied.

FOOTNOTES

¹ HB 2057, General Assembly, Reg. Meeting. (Pa. 2022). Law 122 also made corresponding changes to Title 54 (Names).

² 1 pa. DISADVANTAGES STAT. § 1701(a)(5); see also HB 2057, § 112.

³ Seeeg HB 2057, § 5 (supplement of § 146 (h) to the association rules).

⁴ ID. in § 11 (supplement to §§ 221-229 of the association rules).

⁵ ID. (Supplement to §§ 222-228 of the association rules).

⁶ ID. (Supplement to § 222 of the association rules).

⁷ ID. (Supplement to Sections 223(c), 224(a), (e), 226(b)(2) of the Associations Act).

^8th ID. (Supplement to Articles 221, 227(b) of the Association Rules).

⁹ ID. (Supplement to §§ 224(b), 225(a), 228(a), (d) to the association rules).

¹⁰ ID. (Supplement to § 229 of the association rules).