Significant Fee-Shifting and Forum Selection Amendments Proposed to the DGCL

The Corporation Law Council, a committee of the Delaware State Bar Association that drafts recommendations for amendments to the DGCL on an annual basis, has proposed text of a bill to amend the Delaware General Corporation Law (the “DGCL”) in considerable ways.  The proposal—which is, in large part, a reaction to recent decisions of the Delaware Supreme Court and Delaware Court of Chancery—seeks to limit the impact of fee-shifting provisions that arise in the event of unsuccessful stockholder derivative suits, as well as permit Delaware corporations to include forum selection provisions in their organizational documents with certain limitations.

First, the proposal would amend the DGCL to prohibit stock corporations from including bylaw provisions requiring stockholders who bring an action against the corporation or its directors and officers to pay the defendants’ legal fees and costs in the event the action is unsuccessful.  The proposal arises in response to the Delaware Supreme Court’s May 8, 2014 decision in ATP Tour, Inc. v. Deutscher Tennis Bund, 91 A.3d 554 (Del. 2014) (a summary of which may be found here), in which the Court upheld the facial validity of a non-stock membership corporation’s bylaw shifting attorneys’ fees and other litigation expenses to the non-prevailing member litigants.  The upshot of the Supreme Court’s reasoning in ATP is that the DGCL authorizes corporations to enact any bylaw that is not contrary to law or the corporation’s certificate of incorporation.  The Supreme Court held the ATP bylaw to be facially permissible on this basis, but went on to say that the circumstances surrounding the adoption and deployment of such bylaws are relevant to whether they may be enforced as applied; the as-applied validity of the bylaw in ATP was at issue.

Although ATP is a Delaware non-stock membership corporation, the DGCL’s relevant provisions do not distinguish between stock and member corporations.  Accordingly, while it remains a matter of debate among legal scholars and practitioners alike whether and to what extent the ATP decision applies to stock corporations, several for-profit corporations have taken the Supreme Court’s decision in ATP as a suggestion that they do and enacted fee-shifting bylaws modeled after the bylaw at issue in ATP.

The Council’s proposal would amend § 102 of the DGCL to prohibit such bylaws by adding subsection (f):  “The certificate of incorporation may not contain any provision that would impose liability on a stockholder for the attorneys’ fees or expenses of the corporation or any other party in connection with an intracorporate claim, as defined in § 115 of this title.”  It similarly seeks to amend § 109(b) to include the limitation that a corporation’s “bylaws may not contain any provision that would impose liability on a stockholder for the attorneys’ fees or expenses of the corporation or any other party in connection with an intracorporate claim, as defined in § 115 of this title.”

This proposal has received mixed responses and implicates a number of fairly debatable policy choices.  Supporters of the measure defend it by suggesting that the existence of fee-shifting bylaws will have a chilling—if not preclusive—effect on the willingness of stockholders to bring corporate litigation, which is the primary mechanism by which investors may police fiduciary misconduct by corporate managers.  A recent decision of the Delaware Court of Chancery, Strougo v. Hollander, 2015 WL 1189610, —A.3d — (Del. Ch. Mar. 16, 2015), observed the significance of these policy considerations.  On the other hand, some commentators, as well as concerns representing business interests such as U.S. Chamber of Commerce, have criticized this proposal on a number of grounds.  Opponents cite the proliferation of largely groundless litigation in response to nearly every publicly announced transaction—a recent decision of the Delaware Court of Chancery, In re Ebix, Inc. S’holder Litig., 2014 WL 3696655 (Del. Ch. July 24, 2014), observed that over 90% of mergers involving publicly-traded companies engender litigation—and point to fee-shifting bylaws as an appropriate response designed to deter ultimately value-destroying frivolous litigation.  Others observe that an outright prohibition of fee-shifting bylaws is a disproportionate response, when such bylaws have yet to be commonly employed, have scarcely been litigated and their effect on litigation or the market has yet to be observed in any material way.  It is further argued that, structurally, an outright prohibition flies in the face of the flexibility that is the hallmark of the DGCL, and also stands in contrast to the trust emplaced in the Court of Chancery’s ability to make judgments about when and under what circumstances bylaws may be equitably enforced as applied.

Second, the Council’s proposed legislation addresses corporations’ authority to enact forum selection bylaws which require stockholders asserting “intracorporate claims” to do so exclusively in Delaware’s courts.  Specifically, the proposal submits the addition of the following provision:

§ 115.  Forum selection provisions.  The certificate of incorporation or the bylaws may require, consistent with applicable jurisdictional requirements, that any or all intracorporate claims shall be brought solely and exclusively in any or all of the courts in this State, and no provision of the certificate of incorporation or the bylaws may prohibit bringing such claims in the courts of this State.  “Intracorporate claims” means claims, including claims in the right of the corporation, (i) that are based upon a violation of a duty by a current or former director or officer or stockholder in such capacity, or (ii) as to which this title confers jurisdiction upon the Court of Chancery.

Forum selection bylaws are used with increasing regularity.  Since the Delaware Court of Chancery’s June 25, 2013 decision in Boilermakers Local 154 Ret. Fund v. Chevron Corp., 73 A.3d 934 (Del. Ch. 2013), courts around the country have acknowledged the enforceability of such provisions.  The Council’s proposed provision arises in response to the Court of Chancery’s September 8, 2014 decision in City of Providence v. First Citizens BancShares, Inc., 99 A.3d 229 (Del. Ch. 2014), in which the Court upheld the validity of a Delaware corporation’s bylaw selecting North Carolina as the sole forum for intracorporate litigation.  The proposal would uphold Boilermakers but roll back Providence by permitting a corporation to specify one or more exclusive fora for intracorporate litigation, so long as the Delaware Court of Chancery is among the options.

Supporters of this measure observe that the proposal would bring the DGCL in line with Delaware’s alternative entity statutes—which similarly authorize limited liability companies and limited partnerships to select exclusive fora for dispute resolution provided that the Court of Chancery remains a viable forum for resolution of certain governance disputes, see 6 Del. C. §§ 18-109(d) and 17-109(d)—thereby preventing managers of a Delaware corporation from evading the scrutiny of the Court of Chancery.  Opponents of this proposal characterize it as a solution to a problem that does not exist.  That is, a statute to authorize forum selection bylaws generally, when such bylaws are widely recognized as permissible, is seen as unnecessary.  Meanwhile, precluding such bylaws from selecting a jurisdiction other than Delaware for resolving intracorporate disputes gives the appearance of being a protectionist measure designed to funnel litigation into Delaware.

In short, the proposal’s significant amendments to the DGCL have already sparked a vigorous debate that is not likely to cease in the foreseeable future.  Whether or not the proposal or some variation is ultimately signed into law, the fee-shifting and forum selection issues it seeks to address are likely to see many more challenges in Delaware courts.