Delaware Bans ‘Loser-Pays’ Fee-Shifting Bylaws in Corporate Class Actions

By | June 26, 2015

Delaware’s governor has signed into law a ban on companies adopting rules that could force investors who bring and lose certain lawsuits to pay the company’s legal costs, disappointing business groups.

The U.S. Chamber of Commerce had embraced the use of fee-shifting or “loser pays” in corporate bylaws as a way to counter a surge in what it viewed as meritless shareholder class actions challenging merger deals.

However, Delaware lawyers feared fee-shifting would effectively wipe out shareholder litigation and the ability to police corporate boards.

The bill, signed Wednesday by Governor Jack Markell, applies to lawsuits brought under the state’s corporate law, which governs most U.S. publicly traded companies and their relations with investors.

Companies with fee-shifting bylaws would have had grounds to seek to recoup legal defense costs.

Traditionally each party in U.S. litigation pays its own way regardless of the outcome.

Debate over the tactic began in May 2014 when the Delaware Supreme Court ruled in a case involving ATP Tour Inc that fee-shifting provisions were not invalid and might be a permissible way to discourage litigation.

To placate big business, the new law allows companies to adopt rules that require investors to sue in Delaware, a tactic known as forum selection. Supporters argue that corralling lawsuits in Delaware allows the state’s judges to weed out weak cases without fear that investors would file in a court in another state, usually where the company has its operations.

“The business world will be watching carefully to see if that promise holds true,” said Lisa Rickard, president of the U.S. Chamber Institute for Legal Reform, in a statement on Thursday.

Class actions challenging merger deals have become a sore point for business groups. Small investors often file multiple cases over every deal, and while only rare cases result in money for investors, they often generate hundreds of thousands of dollars for the shareholder attorneys.

Reuters detailed how the practice works in a report in February on one of the most frequent individual plaintiffs, TV stock picker Hilary Kramer.

While the new law was the target of an unusually intense lobbying campaign and a rare close vote in the state’s Senate, experts said it may not change much.

For one, only about three dozen mostly small companies adopted fee-shifting tactics since the ATP ruling.

In addition, forum selection has already been validated by Delaware courts, although the law should encourage wider use, said Claudia Allen, a lawyer at Katten Muchin Rosenman in Chicago. She said about 15 percent of S&P 500 companies have adopted forum-selection rules.

Shareholder lawyers said concentrating the class actions in Delaware might improve procedures for handling the cases, but not much else.

“I don’t know that it achieves getting rid of weak cases,” said Juan Monteverde of Faruqi & Faruqi, who specializes in class actions.

Allen said the new law might curtail some weaker cases, but she added that the entrepreneurial plaintiffs lawyers find ways to bring cases.

“When one door closes another one opens,” she said.

Reporting by Tom Hals in Wilmington, Delaware; Editing by Tom Brown

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