A recent Delaware Supreme Court decision has a potentially chilling effect on corporate litigation.
The Case
In a recent unanimous decision, the Delaware Supreme Court, sitting en banc, held that fee-shifting provisions in a non-stock corporation’s bylaws are facially valid under Delaware Law. The case arose when Delaware’s Federal District Court certified a question to the Delaware Supreme Court: can a private company amend its bylaws to adopt a provision that makes the loser in any shareholder litigation pay the other side’s fees? The Delaware Supreme Court answered “yes.” The Court found that fee-shifting bylaws do not violate Delaware law. Since corporate bylaws are just contracts among shareholders, contracting parties can agree to modify Delaware’s default rule that litigants pay their own attorney’s fees by requiring an unsuccessful litigant to reimburse the other’s fees.
It is important to note that just because a bylaw is facially valid, that does not mean that it is also enforceable. Delaware courts have found bylaws unenforceable because they were adopted or used for an inequitable purpose. The Court noted, however, that the intent to deter litigation is not necessarily an improper purpose.
This holding is in line with the Delaware Supreme Court’s trend to uphold companies’ efforts to use bylaw provisions to protect themselves from the burdens and costs of shareholder litigation. A year ago, the Delaware Chancery Court upheld forum selection clauses in corporate bylaws. This allowed companies to protect themselves from the burdens of multi-forum litigation.
Effects on Future Litigation
This decision may have a great effect on the current large trend of frivolous merger litigation. If a private company can, and does adopt a bylaw provision that would make a losing litigant pay, it could put a serious dent in merger litigation. Such a provision would deter plaintiffs from bringing a lawsuit for fear that they may have to bear the burden of all litigation costs.
Many firms have commented on the expected effect of the Court’s decision. Wilson Sonsini Goodrich & Rosati noted that “many boards of directors of private and public Delaware corporations should seriously consider adopting fee-shifting bylaws of their own.” Sullivan & Cromwell LLP warned that “it is unclear what reaction the adoption of such a bylaw would draw from investors and proxy advisory firms, who generally react negatively to the unilateral adoption by a board of bylaws they view as limiting shareholder rights.” Paul Weiss commented that although the court’s holding dealt with non-stock corporations, “the holding may be read to apply to all Delaware corporations.”
The effects of these provisions, if adopted, would be drastic. What remains to be seen is whether corporations will choose to adopt such provisions.
The case is ATP Tour, Inc. v. Deutscher Tennis Bund, C.A. No. 07-178 (GMS).