The state of Delaware recently amended the Delaware Statutory Trust Act to adopt a control share acquisition statute (the “Control Share Statute”) as an anti-takeover defense. Beginning on August 1, 2022, the effective date of the Control Share Statute, all closed-end investment companies and business development companies registered under the Investment Company Act of 1940 (the “1940 Act”) that are organized as Delaware statutory trusts and whose shares are listed on a national securities exchange (collectively, “Funds”) will be automatically subject to the provisions of the Control Share Statute.
However a Fund’s board of trustees (“Fund Board”) may at any time eliminate the application of the Control Share Statute to any or all Fund share acquisitions, through adoption of a provision in the Fund’s governing instrument or by Fund Board action alone.
Control Share Statutes Generally
Control share statutes generally provide that a shareholder who acquires beneficial ownership of a company’s shares in excess of a specified percentage of the company’s total outstanding shares has no voting rights with respect to such excess shares. The shareholder cannot vote those shares unless the voting rights are affirmatively approved by other shareholders of the company.
As an anti-takeover device, these statutes can protect the long-term interests of a Fund and its shareholders by limiting the ability of activist investors (sometimes known as dissident investors), who accumulate positions of Fund shares trading at a discount to net asset value, to use their ownership to attempt to force liquidity events (e.g., a tender offer, conversion to an open-end fund or a fund liquidation) that will allow the activists to sell their shares at prices at or near net asset value and thereby quickly capture an arbitrage profit. Liquidity events can impede a Fund’s ability to achieve its investment objective and strategies. As a result, although advantageous to arbitrageurs seeking short-term profits, liquidity events can be disadvantageous for shareholders who invest in the Fund to benefit from the investment objective and strategies being pursued by the Fund.
Activist investor campaigns across the Fund industry have grown more numerous and sophisticated in recent years, leading to greater reliance on anti-takeover defenses and other protective measures available under state law.
Delaware’s Control Share Statute
The vast majority of closed-end funds are organized as Delaware statutory trusts, Maryland business corporations or Massachusetts business trusts. Maryland has a control share statute that applies to corporations organized under their laws. Massachusetts has a control share statute that applies to corporations (but not expressly to business trusts) organized under Massachusetts law. As compared to the corporate statutes adopted by Maryland and Massachusetts, Delaware’s Control Share Statute is more specifically designed to accommodate the unique operational and governance needs of registered investment companies. These benefits could serve to make Delaware statutory trusts a more favorable choice for organizational form for Funds, especially Funds that may become targets of shareholder activists.
Under the Control Share Statute, a Fund shareholder who acquires “control shares” in a “control share acquisition” has no voting rights with respect to those shares on any matters relating to voting, except to the extent approved by the Fund’s other shareholders at a shareholder meeting by the vote of two-thirds of all the votes entitled to be cast (excluding interested shareholders).
A control share acquisition is defined as an acquisition by a shareholder of control shares (“Control Share Acquisition”). Control shares are defined as Fund shares beneficially owned by a shareholder that but for the Control Share Statute would, when aggregated together with all of the shareholder’s other shares, entitle the shareholder to exercise the voting power of shares of the Fund in the election of candidates to serve on the Fund Board within any of the following ranges of voting power (such shares, “Control Shares”):
- 10% or more, but less than 15% percent of all voting power;
- 15% or more, but less than 20% of all voting power;
- 20% or more, but less than 25% percent of all voting power;
- 25% percent or more, but less than 30% of all voting power;
- 30% or more, but less than a majority of all voting power; or
- a majority or more of all voting power.
Accordingly, once a threshold is reached, the shareholder has no voting rights with respect to the shares acquired in excess of that threshold (i.e., Control Shares) until approved by the Fund’s other shareholders. That process would apply again at each enumerated threshold level.
The Control Share Statute is forward looking only and will not retroactively apply to acquisitions of shares prior to August 1, 2022. However, shares purchased prior to August 1, 2022 will be counted together with all of the other shares owned by a shareholder for purposes of determining whether the shareholder has voting power within any of the identified ranges. For example, if a shareholder purchased shares prior to August 1, 2022 resulting in 9% of all voting power, and subsequently purchases an additional 3% of shares after August 1, 2022 resulting in ownership of 12% of all voting power, the additional purchase would constitute a Control Share Acquisition and the shares entitling the shareholder to exercise between 10% and 12% of all voting power would constitute Control Shares.
The shareholder who has made or proposes to make a Control Share Acquisition is permitted, but not required, to request a shareholder meeting for the purpose of considering the voting rights (on all matters relating to voting) to be accorded to the Control Shares (“Voting Rights Proposal”). The request must be accompanied by the delivery of a “statement” to the Fund containing certain specified information about the Control Share Acquisition, and must also include an undertaking by the shareholder to pay the Fund’s expenses to hold the shareholder meeting (except any expenses of opposing the Voting Rights Proposal). If the shareholder does not submit a request for a shareholder meeting, the Voting Rights Proposal may, at the option of the Fund Board, be presented for consideration at a shareholder meeting.
If a shareholder request is received by the Fund, the Fund Board generally must call a special meeting of shareholders to be held within 90 days after the request is received. However, if the anniversary date of the proxy statement for the prior year’s annual shareholder meeting is within 120 days of the date of delivery of the request, then the Fund may elect to present the Voting Rights Proposal at the Fund’s next annual shareholder meeting.
The Control Share Statute imposes an obligation on Fund shareholders to disclose to the Fund any Control Share Acquisitions within 10 days of making such acquisition. A Fund may also request from shareholders any information the Fund Board reasonably believes to be necessary or desirable to determine whether a Control Share Acquisition has occurred, and shareholders are required to provide such information to the Fund within 10 days of receiving the request.
Legal and Regulatory Landscape
State control share acquisition statutes intersect with the voting requirements of Section 18(i) of the 1940 Act, which provides: “[e]xcept as otherwise required by law, every share of stock hereafter issued by a registered management company … shall be a voting stock and have equal voting rights with every other outstanding voting stock” (emphasis added).
In 2010, the staff of the U.S. Securities and Exchange Commission (“SEC”) expressed its view in the “Boulder Letter” that closed-end funds could not use state control share statutes because they were inconsistent with equal voting rights requirement of Section 18(i). However, the SEC staff withdrew the Boulder Letter in May 2020 and stated that it would not recommend enforcement action against a fund under Section 18(i) for opting in to and triggering a control share statute if the decision to do so by the fund’s board was taken consistent with its fiduciary duty to the fund. Since the withdrawal of the Boulder Letter, a number of funds have opted in to their state control share statute or, if their state does not have such a statute, adopted control share provisions in their governing documents.
For certain closed-end funds organized as business trusts in Massachusetts, shareholder activists targeting those funds are pursuing lawsuits challenging the funds’ adoption of control share bylaws. One federal district court recently ruled that such a bylaw provision violated the equal voting rights requirement of Section 18(i), although that decision is currently on appeal.
 Delaware Statutory Trust Act §3881 – §3888. The full text of the Control Share Statute is available here: https://legis.delaware.gov/json/BillDetail/GenerateHtmlDocumentEngrossment?engrossmentId=25234&docTypeId=6.
 Boulder Total Return Fund, SEC’s Division of Investment Management, No-Action Letter (Nov. 15, 2010), available at https://www.sec.gov/divisions/investment/noaction/2010/bouldertotalreturn111510.htm.
 Control Share Acquisition Statutes, Statement of SEC’s Division of Investment Management (May 27, 2020), available at https://www.sec.gov/investment/control-share-acquisition-statutes.
 Saba Cap. CEF Opportunities 1, Ltd. v. Nuveen Floating Rate Income Fund, No. 21-CV-00327 (JPO), 2022 WL 493554 (S.D.N.Y. Feb. 17, 2022); but see Neuberger Berman Real Estate Income Fund v. Lola Brown Trust, 342 F. Supp. Sed 371 (D. Md. 2004) (holding that anti-takeover provisions that restricted an activist investor’s voting power did not violate Section 18(i)).