Some Questions Boards Might Want To Ask When Considering Fee-Shifting Bylaws

1.  Is a fee-shifting bylaw facially valid under applicable law?  The Delaware Supreme Court has held that a fee-shifting bylaw adopted by a Delaware non-stock corporation is facially valid.  ATP Tour, Inc. v. Deutscher Tennis Bund, 2014 Del. LEXIS 209 (Del. May 8, 2014).  This decision does not bind courts in other states and they may reach different conclusions based on local law.  It also must be remembered that the Delaware Supreme Court’s opinion addressed a bylaw adopted by a non-stock corporation. Thus, it can’t be said that the Delaware Supreme Court has directly addressed the question of validity in the case of a stock corporation.

2.  Why is the Board adopting a fee-shifting bylaw?  In ATP Tour, the Delaware Supreme Court made it clear that legally permissible bylaws adopted for an improper purpose are unenforceable in equity. The intent to deter litigation, however, is not invariably an improper purpose.  Fee-shifting provisions, by their nature, deter litigation.  Because fee-shifting provisions are not per se invalid (at least for Delaware corporations), an intent to deter litigation would not necessarily render the bylaw unenforceable in equity.

3.  What is the scope of the bylaw?  In ATP Tour, the bylaw applied to suits by a current or prior member or owner (or anyone acting on their behalf) against the corporation or any member or owner.  Only a few publicly traded companies have disclosed the adoption of a fee-shifting bylaw.  In those examples, the bylaw extends to suits against the corporation and/or any director, officer, employee or affiliate.   Because the bylaw considered by the Delaware Supreme Court in ATP Tour did not expressly extend to directors, officers, employees, it’s views on the validity of a bylaw covering suits against employees is not known.  Under DGCL § 109 “bylaws must “relat[e] to the business of the corporation, the conduct of its affairs, and its rights or powers or the rights or powers of its stockholders, directors, officers or employees.”  The court reasoned the a fee-shifting bylaw, as a contract among corporate shareholders, fell within the contractual exception to the “American Rule” that parties to a lawsuit pay their own legal fees and costs.  However, do bylaws constitute a contract between the stockholders and the corporation’s employees?  The Delaware Supreme Court also made it clear in ATP Tour that it was not addressing the application of a fee-shifting bylaw.  The ATP Tour bylaw is not limited to suits by a member or owner involving matters related to the corporation.

4.  What will the company’s stockholders think about the bylaw? Although fee-shifting bylaws will eliminate the tax of meritless lawsuits that is borne by all stockholders, some stockholders will likely oppose the adoption of fee-shifting bylaws.  For example, the Council of Institutional Investors (aka CII), an association of corporate, union, and public employee benefit plans, foundations, and endowments, has written: “In our view, and the view of many other corporate governance experts, the proliferation of so-called “fee-shifting bylaws” that could result from the ATP Tour decision would reduce, rather than protect and enhance, a corporation’s accountability to shareowners.”  However misguided this view may be, companies should consider stockholder reaction.

 

 

Topics:  ATP Tours, Bylaws, Corporate Counsel, Fee-Shifting Statutes

Published In: Business Organization Updates, Civil Procedure Updates, General Business Updates, Securities Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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