Oklahoma Takes a Stand a Stand in the Battle Over Derivative Fee-Shifting

Back in May we discussed ATP Tour, Inc. v. Deutscher Tennis Bund a seminal Delaware Supreme Court case that upheld a non-stock corporation’s “loser pays” fee-shifting bylaw.  ATP Tour held that where a Delaware corporation adopts a fee-shifting bylaw, it can recover its fees and costs from any shareholder that brings a derivative lawsuit and loses.  Many commentators have suggested the case would effectively kill derivative actions in Delaware and indeed, since the time of that decision, the Delaware Corporation Law Council has proposed amendments to the Delaware General Corporation Law that would limit its applicability to only non-stock corporations.

Last week the Oklahoma State Legislature went a step further than ATP Tour and amended the Oklahoma General Corporation Act to specifically require fee-shifting for all derivative lawsuits brought in the state, whether against an Oklahoma corporation or not.  Unlike the fee provision in ATP Tour, however, the law also affords derivative plaintiffs the right to recover their fees and costs should they win final judgment.

The difference is likely substantial.  For while the law will potentially chill unmeritorious derivative actions, also known as “strike suits,” it could also provide an incentive for derivative plaintiffs with strong claims.  Where shareholders use the “tools at hand”—including books and records inspection requests—to carefully vet their claims before filing, the promise of a fee recovery could encourage shareholder plaintiffs to bring claims they otherwise might not.

Consider:  in the typical derivative lawsuit, the shareholder plaintiff stands to gain nothing tangible if he or she wins.  Because he or she is suing on behalf of the corporation, any recovery will inure to the corporation itself.   Thus, under the old regime, even if a derivative lawsuit was successful, the plaintiff would receive, at most, any resulting increase in the value of his or her company stock.  Under the new statute, that same plaintiff could stand to receive the not-insubstantial costs of his or her efforts.

Santa Clara Superior Court Says Post-Closing Damages Claims Are Derivative, Not Direct

Last Friday, Judge Kleinberg of the California Superior Court, County of Santa Clara, dismissed two shareholder class actions against the former directors of Actel Corporation and Applied Signal Technology, Inc. for breach of fiduciary duties arising out of the sales of Actel and Applied Signal to third-party buyers. In doing so, Judge Kleinberg stated that, under California law, damages claims brought by shareholders of California corporations against directors for breach of fiduciary duties in connection with the approval of a merger are derivative, not direct. Thus, because a plaintiff in a shareholder’s derivative suit must maintain continuous stock ownership throughout the pendency of the litigation, and the plaintiffs ceased to be stockholders of Actel and Applied Signal by reason of a merger, Judge Kleinberg held that they lacked standing to continue the litigation.

In holding that post-merger claims against directors of California acquired corporations are derivative, Judge Kleinberg relied on the pre-Tooley rationale (which is no longer controlling in Delaware and has been questioned in California) that a harm suffered equally by all shareholders in proportion to their pro rata ownership of the company is a derivative harm. Judge Kleinberg rejected the plaintiffs’ argument that Delaware’s Tooley standard for determining whether a claim was direct or derivative was adopted by the California Court of Appeal in Bader v. Andersen, 179 Cal. App. 4th 775 (2009). According to Judge Kleinberg, in stating that California and Delaware law were “not inconsistent,” the Bader court was merely observing that the results of applying California versus Delaware law in that case were not inconsistent; it was not saying that California and Delaware law are the same on the direct versus derivative issue.

Judge Kleinberg’s holding is a victory for the defense bar, as it means that merger litigation involving California incorporated targets will be susceptible to dismissal by demurrer or summary judgment following the preliminary injunction stage.