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Delaware Supreme Court Holds That Corporate Bylaws May Shift Attorney Fees

June 15, 2014

In May 2014, the Delaware Supreme Court held that fee-shifting provisions in a non-stock corporation’s bylaws can be valid and enforceable under Delaware law.  

In ATP Tour Inc. v. Deutscher Tennis Bund,  No. 534 2013 ( Del. May 8, 2014), a member of the corporation sued the corporation and six of its directors in federal court, alleging antitrust and breach of fiduciary duty claims.  The member lost.  

The corporation sought an award of attorney fees pursuant to its own bylaws, which had been amended in 2006 to state that if any member sued the corporation or any of its members, and the suing member did not substantially achieve the full remedy sought, the suing member must reimburse the defending corporation and members all reasonable attorney fees. 

Because this issue presented a novel question of Delaware law, the federal court certified the issue to the Delaware Supreme Court. 

The Delaware Supreme Court held that fee shifting bylaws are permissible under Delaware law, because:  (a) nothing in Delaware law forbids them; (b) allocating risk among parties in inter-corporate litigation satisfies Delaware’s requirement that bylaws must relate to the corporation’s business, conduct of its affairs, and rights or powers of its stockholders, directors officers or employees; (c) Delaware follows the American Rule where contracting parties may obligate a losing party to pay the prevailing party’s fees; and (d) under Delaware law, corporate bylaws are “contracts among a corporation’s shareholders.” 

The broad stroke:  Because corporate bylaws are contracts, a board of directors may enact bylaws requiring a losing party to pay attorney fees.

The Court proffered some limitations, noting that a specific fee-shifting bylaw could become unenforceable depending on circumstances surrounding its adoption and use, such as where it is adopted or used for an inequitable purpose to obstruct dissident stockholders.  Thus, the Court declined to rule, as a matter of law, that the specific fee-shifting bylaw before it was adopted for a proper purpose or enforceable under the circumstances presented, presumably leaving that issue to be decided by the federal court. 

However, the Delaware Court’s ruling may have only short term effect in Delaware. The ruling so alarmed the Corporation section of the Delaware State Bar that by May 29, 2014, it proposed legislation to quash its application to stock corporations.  The Bar is expected to approve and submit the amendments to the state legislature by August 1, 2014, which typically follows the recommendations of the Bar. 

In California, no steps have yet been taken to legislate away the Delaware Court’s ruling, and California and other jurisdictions frequently accord Delaware opinions significant weight.  Moreover, although ATP Tour Inc. involved a direct action by a member against a non-stock corporation, the questions certified to the Court, and the opinion itself, are broad enough to extend to corporate bylaws enacted by stock corporations as well as derivative shareholder litigation in California and elsewhere. 

The ATP Tour Inc. opinion may be viewed here

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