Fannie Mae (FNMA) and Freddie Mac (FMCC): Hindes and Jacobs Rests On One Paragraph of Delaware Law
Disclaimer: Author is Long Fannie Mae Preferred and Freddie Mac Preferred.
Federal National Mortgage Assctn Fnni Me (OTCMKTS:FNMA) and Federal Home Loan Mortgage Corp (OTCMKTS:FMCC) investors are intimately familiar with all the angles that could end the nightmare known as the 3rd amendment, aka Net Worth Sweep, and return value flowing to their shares. While most attention has been focused towards Fairholme v U.S in the Federal Court of Claims, and the Perry Appeal, some of the cases that have been flying under the radar offer interesting prospects for investors. A case that has flown under the radar is taking place in the United States District Court for the District of Delaware, challenging the “Net Worth Sweep.” under state corporate law.
Brief Summary of the Delaware Case
On March 16th, the plantiffs, Hindes and Jacobs, filled their amended complaint to Judge Sleet. Plantiffs Hindes and Jacobs are being represented by Myron T. Steele. Myron T. Steele was the former Chief Justice of the Delaware Supreme Court, presumably an expert on Delaware law. The main gist of the complaint is that the Net Worth Sweep is payable in perpetuity and that there will be no remaining assets from which dividends can be paid on other classes of stock, representing a massive expropriation of value.
Fannie Mae’s bylaws designate Delaware General Corporation Law controls for the purpose of corporate governance practices, while Freddie Mac designated Virginia Stock Corporation Act. The Housing and Economic Recovery Act of 2008, HERA, left in place the federal charters and did not alter provisions of their bylaws and specifically states that Delaware and Virginia law apply for corporate governance purposes. Delaware law and Virginia law, respectively apply to the Senior Preferred Stock issued by Fannie Mae & Freddie Mac. The Net Worth Sweep violates Delaware (Fannie Mae) and Virginia (Freddie Mac) law because a “preferred stock can not be given a cumulative right equal to all the net worth of a corporation in perpetuity”.
Cited is Section 151(c) of the Delaware General Corporation Law which provides:
Steele’s explanation of DGCL 151 and how it applies
Myron T. Steele added the bolded portions to highlight that the “dividend” is not paid at a “rate” because the Treasury’s participation in earnings growth is unlimited, absolute and perpetual. He notes that while preferred stockholders may have priority over common stockholders, such dividends are necessary limited as a preference and do not appreciate in an absolute and unlimited manner. Furthermore he notes that dividends on the Senior Preferred are not “payable in preference to, or in… relation to, the dividends payable on any other classes of any other series of stock.” but rather payable to the absolute and permanent exclusion of dividends payable on other classes of stock because after payment there are no “remaining assets of the Company available for dividends.”
If Steele is right, then the conservator, whom steps into the shoes of shareholders and the company, cannot enact a “Net Worth Sweep” because it is not permissible by Delaware nor Virginia and there is no federal corporate law applicable to this complaint.
Current Briefing Schedule
So… Where are we with this case? The case was first filed in August of 2015 and has been moving a bit slowly but here are the key dates ahead for filings:
- FHFA and Treasury opening briefs and motion dismiss due April 17th, 2017
- Plantiffs response due June 16th, 2017
- Defendants response to Plantiffs July 17th, 2017
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