Multi-forum Litigation: Delaware Court of Chancery Upholds Board-Approved Forum Selection Bylaws

About the Authors:

Stephen B. Brauerman is a director at Bayard P.A. in Wilmington, Delaware, specializing in corporate and intellectual property litigation. The views expressed herein are the author’s own, and do not necessarily represent the views of Bayard P.A. or its clients.

The problem of multi-forum litigation, wherein shareholders simultaneously challenge a single transaction (or other corporate action) in many courts throughout the country, has garnered lots of attention from the judiciary, scholars, and the popular press. Overwhelmingly, critics recognize the costs, inefficiencies, and conflicts between competing plaintiffs' lawyers that fuel the problem, as they jostle for position to the detriment of their clients, the target company's other shareholders, and the corporation itself - which often foots the entire bill for these suits. One potential solution the Delaware Court of Chancery recently confronted is the enactment of so-called "forum selection bylaws." Chancellor Strine's June 25, 2013, decision in Boilermakers Local 154 Retirement Fund, et al., v. Chevron Corp., et al., C.A. No. 7220-CS (Chevron) and IClub Investment Partnership v. FedEx Corp., et al., C.A. No. 7238-CS (FedEx) upheld the facial and contractual validity of board adopted forum selection bylaws.

Forum selection bylaws resolve the multi-forum litigation problem by limiting the jurisdiction (and sometimes the specific courts within said jurisdiction) in which plaintiffs may initiate certain types of lawsuits involving the subject company. The bylaw at issue in Chevron, which is substantially similar to the FedEx bylaw, provides:

Unless the Corporation consents in writing to the selection of an alternative forum, the sole and exclusive forum for (i) any derivative action or proceeding brought on behalf of the Corporation, (ii) any action asserting a claim of breach of a fiduciary duty owed by any director, officer or other employee of the Corporation to the Corporation or the Corporation's stockholders, (iii) any action asserting a claim arising pursuant to any provision of the Delaware General Corporation Law, or (iv) any action asserting a claim governed by the internal affairs doctrine shall be a state or federal court located within the state of Delaware, in all cases subject to the court's having personal jurisdiction over the indispensable parties named as defendants. Any person or entity purchasing or otherwise acquiring an interest in shares of capital stock of the Corporation shall be deemed to have notice of and consented to the provisions of this [bylaw].

Notably, the bylaw contains three key provisions: (1) an identification of the specific types of suits covered by the bylaw, (2) a designated forum, and (3) a "fiduciary out" allowing the corporation to waive the application of the forum selection bylaw in appropriate cases.

Chevron and FedEx were two of a dozen cases filed by clients of the same law firms challenging the validity of board-approved forum selection bylaws. Interestingly, and perhaps indicative of the overwhelming cost of shareholder litigation, 10 of these companies chose to repeal their forum selection bylaws rather than bear the costs of defending them. Chevron's and FedEx's efforts, however, paid off, because the Court of Chancery upheld their forum selection bylaws against plaintiffs' facial and contractual challenges.

Although plaintiffs raised a number of challenges to the forum selection bylaws, including complaints about the process by which they were adopted, the Court of Chancery agreed to resolve the predicate validity questions on defendants' motions for judgment on the pleadings. This procedural ruling effectively prohibited plaintiffs from obtaining any discovery, so the court could first address the purely legal facial validity and enforceability of the forum selection bylaws. The Court of Chancery reasoned that a decision regarding facial validity might moot the remainder of the lawsuit (if, for example, the court were to invalidate the bylaws), and would promptly resolve the doubt plaintiffs' lawsuits had created for the numerous Delaware corporations with forum selection bylaws in place.

The court considered two of plaintiffs' challenges to the forum selection bylaws. First, the court addressed plaintiffs' argument that the bylaws were statutorily invalid because they exceed the scope of the Chevron and FedEx boards' authority under the General Corporation Law of the State of Delaware (the DGCL). Second, the court considered whether the bylaws were contractually unenforceable because they were adopted by the Chevron and FedEx boards, rather than by each affected stockholder. The court found that the board-adopted forum selection bylaws were facially valid and contractually enforceable.

Facial Validity

Section 109(b) of the DGCL provides that the bylaws of a Delaware corporation "may contain any provision, not inconsistent with law or with the certificate of incorporation, relating 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." Holding that the forum selection bylaws govern disputes relating to the "internal affairs" of Delaware corporations, and are limited to narrow categories of specifically identified cases (i.e., derivative actions, breach of fiduciary duty actions, claims arising under the DGCL, and any claim governed by the internal affairs doctrine), the court found them well within the authority conferred by Section 109(b).

The court rejected plaintiffs' "cramped" view of the proper subject matter of bylaws, which, plaintiffs argued, traditionally govern stockholder meetings, the board of directors and its committees, and officerships. Notwithstanding the traditional scope of bylaws, the court emphasized that forum selection bylaws are "process-oriented" because they regulate where stockholders can bring their claims and have no bearing on whether the stockholder may bring suit or what kind of remedy the stockholder might recover through such suit. Judged by this standard, forum selection bylaws comport with the traditional scope of corporate bylaws. Even if forum selection bylaws were not traditional, Delaware law does not prohibit novelty simply because it is new. As the court explained, "[O]ur corporate law is not static. It must grow in response to, indeed in anticipation of, evolving concepts and needs. Merely because the General Corporation Law is silent as to a specific matter does not mean that it is prohibited."

Since the forum selection bylaws at issue in Chevron and FedEx are limited in scope and regulate only the internal affairs of the corporation and the rights of stockholders in their capacities as stockholders, the court found that plaintiffs did not carry their high burden of proving statutory invalidity.

Contractual Enforceability

Plaintiffs' second facial challenge arose from the fact that the Chevron and FedEx boards adopted the forum selection bylaws themselves, without stockholder approval. Because each of the disparate shareholders of these companies did not personally agree to be bound by the forum selection bylaws, plaintiffs argued, the bylaws were unenforceable. The court rejected this argument as a vestige of the now-disfavored "vested rights" doctrine, which holds that boards cannot modify bylaws in a manner that diminishes or divests pre-existing stockholder rights without their consent. The Chevron and FedEx bylaws, and their articles of incorporation, which, together with the DGCL, form the contract that governs the relationship between stockholders, directors, and Delaware corporations, expressly give notice that the bylaws are subject to board amendment without stockholder approval. This notice makes it impossible for shareholders to have a vested right in bylaws that could be violated by subsequent amendment.

When stockholders invest in Chevron and FedEx, the court held, they agree to a contractual framework that grants the boards the unilateral right to amend or adopt bylaws. Shareholders cannot then complain when the board exercises this right to adopt a forum selection bylaw. This is especially true, the court noted, when stockholders have the universal right to appeal any bylaw adopted by the board by a majority vote; and can always remove or replace directors who adopt unpopular bylaws. Moreover, just because forum selection bylaws are contractually enforceable in the abstract does not mean that they are indiscriminately enforced. Such bylaws would still have to survive the principles enumerated by the United States Supreme Court in The Bremen v. Zapata Off-Shore Co., which holds that forum selection clauses are valid, so long as they are "unaffected by fraud, undue influence, or overwhelming bargaining power"; otherwise, enforcement of the clause would be unreasonable. Since stockholders consent to be bound by bylaws that are valid under the DGCL, through their investment in Delaware corporations, valid forum selection bylaws are contractually enforceable - even if adopted without shareholder consent.

Conclusion

Applying a straightforward and uncontroversial analytical framework, the Court of Chancery upheld both the facial validity and contractual enforceability of forum selection bylaws. The impact of this opinion, which almost certainly will face an appeal to the Delaware Supreme Court, is yet to be felt. Questions exist about how courts in other jurisdictions will react when faced with motions to dismiss in favor of board-adopted forum selection bylaws, as they are not bound by the opinion. Enterprising judges may, as Chancellor Strine readily acknowledged, avoid the impact of forum selection bylaws, through The Bremen analysis or "as-applied" challenges that would render enforcement unreasonable in unique factual circumstances. Enterprising corporations eager to avoid expensive class actions may try to use this decision to justify mandatory arbitration bylaws adopted without shareholder consent. (Since the Chancellor upheld the forum selection bylaws in part on the grounds that they do not regulate whether and to what extent suits can be brought; and instead, focused on where suits can be brought, judicial approval of board adopted mandatory arbitration bylaws seems unlikely; though at least one other state recently has embraced them.) For now, however, critics of the multi-jurisdictional litigation problem have at least one more option to combat the problem, as Delaware now recognizes the validity of board-adopted forum selection bylaws.

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