alerts & publications
Exclusive Forum Bylaws: Further Consideration RecommendedMarch 17, 2014
In the wake of increased stockholder litigation challenging announced M&A transactions, some public companies have adopted forum selection provisions in their bylaws providing that the exclusive jurisdiction over stockholder litigation is the company’s jurisdiction of incorporation. While on its face it would seem to be advisable to adopt such a bylaw, corporate boards should carefully consider the benefits and detriments of adopting such a bylaw at this time.
The last ten years have seen increased stockholder litigation in M&A transactions. Certain stockholder plaintiffs of target companies initiate litigation in multiple jurisdictions to challenge announced transactions, typically suing in the target company’s state of incorporation, as well as the state of its principal place of business and potentially other jurisdictions in which the target company has significant operations or contacts. Such multi-jurisdictional litigation can be expensive and often provides all stockholders with minimal benefits as the remedies typically consist of corrective disclosure and plaintiffs’ lawyers’ legal costs. This has become, in effect, a tax on M&A transactions.
To combat this trend, a number of corporations have amended their bylaws to include an exclusive forum selection clause, which permits a corporation to specify in its bylaws the jurisdiction where intra-corporate disputes must be brought. Typically, such a bylaw provision specifies that the jurisdiction of its incorporation is the sole and exclusive forum for any stockholder derivative action against the company, any action asserting a claim for a breach of fiduciary duties, or any other similar intra-corporate action.
In response, certain stockholder plaintiffs have challenged the validity of these exclusive forum provisions. In Boilermakers Local 154 Retirement Fund v. Chevron Corporation (June 25, 2013) and Iclub Investment Partnership v. FedEx Corporation (June 25, 2013), the Court of Chancery of the State of Delaware upheld, under Delaware law, the validity of exclusive forum provisions in the bylaws of Chevron Corporation and FedEx Corporation, which were each adopted by their respective boards, with both specifying Delaware as the exclusive jurisdiction.
Despite the Chevron and FedEx decisions, corporate boards should exercise caution when considering the adoption of exclusive forum provisions, and carefully weigh the advantages and disadvantages. Many jurisdictions outside Delaware have not yet ruled on the enforceability of exclusive forum provisions. In one instance, in 2011, the U.S. District Court for the Northern District of California applied federal procedural law and invalidated the forum selection clause in Oracle Corporation’s bylaws. In an opposite result, the Commercial Division of the New York Supreme Court in Hemg v. Aspen University (Nov. 4, 2013) dismissed shareholder derivative claims based on a forum selection bylaw. A more recent Delaware Court of Chancery decision, Edgen Group Inc. v. Genoud (Nov. 5, 2013), denied a request for a temporary restraining order that would have prohibited a plaintiff from pursuing litigation in Louisiana in violation of the company’s charter documents. The Delaware court held that a forum selection clause should be first considered in the jurisdiction in which the litigation is filed. The decision was somewhat surprising, given that the whole purpose of a forum selection bylaw is to preclude having to litigate in multiple states.
Of course, the efficacy and defensibility of a forum selection clause can be enhanced by its context. In an initial public offering, a forum selection provision in the company’s charter, adopted with stockholder approval, is likely to be more enforceable than a comparable provision adopted without stockholder approval in the bylaws. In addition, the IPO prospectus will contain disclosure on the forum selection provision, which makes it more difficult for stockholders who bought shares with knowledge of the provision to challenge it after the fact.
With the validity and enforceability of exclusive forum selection bylaws still somewhat in question outside Delaware due to the lack of a U.S. Supreme Court ruling or a U.S. federal statute on point, companies may see increased litigation over such provisions outside their state of incorporation. For Delaware corporations, challenging stockholders might bring actions in courts outside Delaware to attack a forum selection clause that specifies Delaware as the exclusive jurisdiction. A non-Delaware court could view negatively a forum selection clause in favor of Delaware, in particular because such a provision may appear to divest the non-Delaware court of its legal jurisdiction. Thus, by adopting a forum selection bylaw, a company may become the next “test case” to see if a non-Delaware court will invalidate such a bylaw. In effect, by trying to erect a defense against potential future litigation, a company may be creating the reality of actual present litigation.
In addition, companies contemplating unilaterally adopting a forum selection clause should consider the response from proxy advisory services, such as Institutional Shareholder Services Inc. and Glass, Lewis & Co., LLC. To date, proxy advisory services have taken a dim view of forum selection clauses in bylaws, and generally public companies have gained little by taking actions that proxy advisory services disfavor. Forum selection bylaws have also resulted in stockholder proposals seeking the repeal of such provisions.
Companies should also consider whether an acquirer or a target in a public company M&A transaction, from a practical perspective, will bear the costs of multi-jurisdiction litigation that an exclusive forum provision is intended to preclude. Ultimately, the costs of multi-jurisdiction litigation challenging an announced public company M&A transaction, like other pre-closing target expenses, will be borne by the acquirer post-closing. And, multi-jurisdiction litigation, in and of itself, generally does not threaten the closing of an M&A deal. If the acquirer is bearing the cost of multi-jurisdiction litigation for a deal that closes, a Delaware target board could conclude that it may not be advisable, at this time, to adopt a forum selection bylaw until these provisions are uniformly enforceable outside Delaware. In other words, why should a Delaware target incur the risk (and the expense) of possible litigation to defend a forum selection bylaw now, when the cost of multi-jurisdiction litigation is effectively shifted to an acquirer in a future completed deal.
Alternatively, a company could wait to adopt a forum selection bylaw at the time that the company signs a deal to sell itself. By using that approach, instead of joining the issue at the present time, companies could defer the issue to a time when the forum selection bylaw would be most relevant.
This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Paul Scrivano, an O'Melveny partner licensed to practice law in New York and California, Noah Kornblith, an O'Melveny associate licensed to practice law in California, contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.
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