The Current State of Fee-Shifting Provisions
March 17, 2015
On March 6, 2015, the Council of the Corporation Law Section of the Delaware State Bar Association (the “Council”) released proposed legislation that would amend the Delaware General Corporation Law (the “DGCL”) to invalidate fee-shifting provisions in the certificate of incorporation or bylaws of a stock corporation. Specifically, the legislation would add new Section 102(f), which would provide that a 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 new Section 115 (discussed below). A similar restriction on fee-shifting provisions would be added to Section 109(b) of the DGCL, which deals with the provisions that may be set forth in the bylaws. The proposed legislation would amend Section 114 of the DGCL to provide expressly that such restrictions do not apply to nonstock corporations. In addition, the commentary to the proposed legislation states that the amendments to Sections 102 and 109 are not intended to prevent the application of fee-shifting provisions pursuant to a stockholders’ agreement or other writing signed by the stockholder against whom the provision is to be enforced.
The legislation would also add to the DGCL new Section 115, which would confirm that the certificate of incorporation and bylaws of the corporation may specify that “intracorporate claims” (i.e., claims, including those brought in the right of the corporation, that are based upon a violation of a duty by a current or former director, officer or stockholder in such capacity, or as to which the DGCL confers jurisdiction upon the Court of Chancery) must be brought only in the Delaware courts, including the federal court. New Section 115 would not address the validity of provisions of the certificate of incorporation or bylaws that select a forum other than the Delaware courts as an additional forum in which intracorporate claims may be brought, but it would invalidate any provision selecting the courts outside of Delaware, or any arbitral forum, if it would preclude litigation of the claims in the Delaware courts. The commentary to the proposed legislation states that the addition of Section 115 is not intended to prevent the application of a provision selecting a forum other than the Delaware courts pursuant to a stockholders’ agreement or other writing signed by the stockholder against whom the provision is to be enforced.
If enacted, the amendments would become effective on August 1, 2015. A copy of the proposed legislation is attached here.
Case Law Developments
Strougo v. Hollander: Delaware Court of Chancery Addresses Application of Fee-Shifting Bylaws to Former Stockholders
In Strougo v. Hollander, C.A. No. 9770-CB (Del. Ch. Mar. 16, 2015), the first opinion of the Delaware Court of Chancery to address the validity of a fee-shifting bylaw since the Delaware Supreme Court’s opinion in ATP Tour, Inc. v. Deutscher Tennis Bund, 91 A.3d 554 (Del. 2014), the Court held that a corporation’s fee-shifting bylaw adopted after the consummation of a 10,000-to-1 reverse stock split did not apply to the stockholders whose entire interest was cashed out in the split. Although noting the “serious policy questions implicated by fee-shifting bylaws in general,” the Court based its holding on the timing of the bylaw’s adoption. The Court held that the bylaw did not apply to the stockholders whose entire interest had been cashed out in the split, because Section 109 of the DGCL does not authorize a bylaw that “regulates the rights or powers of former stockholders who were no longer stockholders when the bylaw was adopted.” The Court clarified, however, that its conclusion does not mean that a stockholder whose interest in the corporation is eliminated ceases to be subject to the corporation’s bylaws. Instead, the Court held that, “[i]n determining the bylaw provisions that should apply to a lawsuit initiated by a former stockholder challenging the terms of a cash-out transaction, . . . the governing bylaws are those in effect when the former stockholder’s interest as a stockholder was eliminated.” After that date, a stockholder ceases to be a party to the “corporate contract” and accordingly ceases to be bound by subsequent amendments to that contract. A copy of the opinion is attached here.