Delaware Hammers The Last Nail Into the Coffin of Fee-Shifting Bylaws

EdBattsPostImageDelaware Governor Jack Markell has signed into law Senate Bill No. 75, which prohibits fee-shifting (or “loser pays”) bylaws for stock corporations.  Much to the chagrin of the US Chamber of Commerce, the legislation sped through the Delaware legislature on its way to killing the purported opening created when the Delaware Supreme Court permitted fee-shifting for non-stock corporations in ATP Tour, Inc. v. Deutscher Tennis Bund, 91 A.3d 554 (Del. 2014).

Of note:

•  The ban does not apply to non-stock corporations, although the intellectual reasoning for not extending it to non-stock corporations is unclear – it is convenient, however, that by carving out non-stock corporations, the Delaware legislature and executive are not put in the position of having to overturn the holding of ATP which thus continues to permit fee-shifting for non-stock corporations.

• The ban is precisely that – an outright ban. Despite a few lonely cries from a couple of Delaware practitioners, there does not appear to be any impetus to explore more pragmatic compromise positions, such as limiting loser pays liability at a reasonable pre-set amount (perhaps US$250,000 or US$500,000 or the like).

• The ban is to be accompanied by a ban on adopting exclusive forum bylaws that put exclusivity in a state other than Delaware – hence, a Delaware corporation may only centralize its litigation in Delaware, but not elsewhere.

• There has been no outwardly observable chatter regarding the inherent and glaring contradiction in this situation: why many a Delaware jurist will often emphasize the sacrosanct nature of contract on one hand, but conversely, plaintiff lawyers could not rely on the private markets (as opposed to government regulation) to regulate risks arising from filing lawsuits. Presumably an insurance market, or pooling of risks by plaintiffs in broader collaborative groupings, could have mitigated the worst fears propagated by the plaintiffs’ bar.

Markell is a Democrat in a solidly Democratic state where in addition to the governor, both US senators and the sole congressman are from the same political party. He was re-elected by a wide margin in his bid for a second term in 2012 and is not up for re-election until 2016. The Delaware Trial Lawyers Association is an active donor to candidates of both political parties. The appearance ultimately given by the ban, whether actual in fact or not, is of a seedy political bow to the Delaware plaintiffs’ bar.

In fact, the ban works in concert with the heightened importance of exclusive forum provisions to further give the appearance that Delaware is principally interested in centralizing litigation, and thus cases, in…well… Delaware. While naming an exclusive forum outside of Delaware may seem odd for a Delaware corporation to contemplate, particularly given that the applicable judge in that jurisdiction would then have to interpret Delaware law rather than the law of his or her own state, it nonetheless seems within the bounds of reasonableness as a contractual right of negotiation between stockholders.

Exclusive forum provisions will serve to centralize litigation in Delaware because, regardless of Delaware’s ups and downs, most corporations are loath to continue the costly and burdensome multi-ring circus created by multi -jurisdiction derivative suits. And the plaintiffs’ bar shall not have nearly as much deterrence in filing suits in Delaware as if fee-shifting, or some compromise attempt thereof, had survived the political throes of Wilmington.

Will corporations now flee Delaware for other states that may permit fee-shifting? Hardly. In the face of numerous other advantages, such as an efficient judiciary, a long and otherwise well-reasoned body of law and, on a practical level, a Secretary of State that is commercially focused on customer service, Delaware’s self-motivated position at the pinnacle of American corporate law is not materially imperiled. Other states, such as Nevada (self-purported pro-founder provisions – but a judiciary that is, well, diverse and not dedicated to corporate law, to put it gently) and North Dakota (the North Dakota Publicly Traded Corporations Act of 2007 has been met as a tree falling in a forest where no one is listening), have failed miserably in any attempt to dislodge Delaware – not in the least because to do so in any realistic way would require massive upfront investment that none have elected to make to date. Simply tinkering with a few code provisions in corporate statutes is insufficient to match the totality of Delaware’s advantages.

However, the remote chance of material harm to corporations using Delaware as the incorporation location of choice should not take away from the potential grave reputational harm that may arise from this brazen ban.  The judiciary – led no less than by Chief Justice Leo E. Strine, a feisty jurist of generally impeccable reasoning – appeared indignant that practitioners would presume stock corporations should benefit from the same fee-shifting provisions afforded in the ATP case to a non-stock corporation. But why wouldn’t such a leap of reasoning be made? It is an entirely logical step.

The legislature, hurriedly and in a knee-jerk manner, introduced legislation to ban the rules immediately after the ATP ruling was handed down in May 2014. Was the perceived harm of fee shifting so great and immediate that a more deliberative approach could not have been taken?

The governor, an affable and wily political creature, evidently recognized that an immediate ban out of cycle with the normal adjustments for Delaware code would appear abnormal at the least. He imposed some decorum via a cooling-off period until the normal cycle of corporate law amendments, which are usually adopted and implemented in time for August of each year. But merely allowing for additional time does not make up for the failure to have pursued a middle-ground solution.

In sum, Delaware refused to take the opportunity to encourage and devise a compromise position or invite serious academic analysis of alternative provisions. It did no more than ramrod through an outright ban.

The result is that Delaware has jeopardized its intellectual high ground. It may well be able to weather any shockwaves emanating from the ban, sheltered by its preeminent position in American corporate law, but the collective approach of its three branches of government remains unfortunate nonetheless. The long-term direct and indirect effects of this action remain to be determined.