In 2017, as part of their IPO process, several Delaware corporations revised their certificates of incorporation to include FFPs.
On March 18, 2020, the Delaware Supreme Court reversed the Delaware Court of Chancery’s decision in Sciabacucchi v. Salzberg, 2018 WL 6719718 (Del. Ch. Dec. 19, 2018), which had held that federal forum provisions (FFPs) for claims under the Securities Act of 1933 (’33 Act) are facially invalid and therefore cannot be included in a Delaware company’s charter or bylaws.
The Delaware Supreme Court’s holding that Delaware corporations may add FFPs to their charters and bylaws is a positive development for companies that wish to trade the uncertainty and expense of defending multiple lawsuits in various state and federal court jurisdictions for the steady guidance of a venue with the background and experience necessary to resolve disputes under the ’33 Act.
In 2017, as part of their IPO process, several Delaware corporations revised their certificates of incorporation to include FFPs. Shortly thereafter, a stockholder filed suit, seeking a declaration that the FFPs were facially invalid because the “constitutive documents of a Delaware corporation cannot bind a plaintiff to a particular forum when the claim does not involve rights or relationships that were established by or under Delaware’s corporate law.” The Court of Chancery agreed, holding that Section 102(b)(1) of the Delaware General Corporation Law (DGCL) rendered FFPs “ineffective and invalid.” The lower court reasoned that Section 102, which governs the contents of a certificate of incorporation, provides no authority for “external” matters like FFPs and only permits provisions that address “internal affairs.”
The Supreme Court of Delaware reversed that conclusion, finding in relevant part that:
- FFPs are facially valid under the Delaware statute governing contents of certificate of incorporation; and
- FFPs do not violate policies or laws of Delaware.
The Delaware Supreme Court begins its analysis by acknowledging the broad scope of Section 102(b)(1) of the DGCL. In particular, Section 102(b)(1) authorizes provisions for:
… the management of the business and for the conduct of the affairs of the corporation… [or]… creating, defining, limiting and regulating the powers of the corporation, the directors, and the stockholders, or any class of the stockholders…
Since the drafting and filing of registration statements by a corporation is an important aspect of the company’s business and affairs, the Delaware Supreme Court determined that a bylaw regulating the forum where such matters may be addressed is a provision relevant to the “management of the business.” Thus, the Delaware Supreme Court concluded that FFPs fit squarely within the broad categories of charter provisions that Section 102 allows.
The Court also held that the plaintiff failed to demonstrate, as required in asserting a facial challenge, that FFPs “cannot operate lawfully or equitably under any circumstances;” “do not address proper subject matters” as defined by statute; “and can never operate consistently with law.” In doing so, the Court rejected the argument that FFPs violate Section 115 of the DGCL, which precludes charter provisions that exclude Delaware as a forum for internal corporate claims. The stockholder’s concern was that Delaware corporations could use FFPs to prevent Delaware from having jurisdiction over securities law claims, which is an apparent contradiction of Section 115. As a result, the stockholder argued that Section 115 amended or limited Section 102(b)(1) to exclude FFPs.
The Delaware Supreme Court, however, found that Section 115 was not created to limit or amend Section 102(b)(1). Indeed, Section 102(f), which was drafted during the 2015 amendments that gave rise to Section 115, prohibits fee-shifting against stockholders in connection with “internal corporate claim[s].” According to the Court, the fact that Section 102(f), like Section 115, is limited to “internal corporate claims,” implies that Section 102(b) can address claims other than those that are classified as purely “internal.” Stated differently, Sections 102(f) and 115 created limitations for certain claims that do not include the intra-corporate matters to which FFPs apply.
The Delaware Supreme Court also took issue with the Court of Chancery’s attempt to make Section 102(b)(1)’s scope binary in order to force the conclusion that FFPs are excluded. Indeed, the Vice Chancellor posited that Section 102(b)(1) permits only charter provisions that govern a narrowly defined set of “internal affairs;” therefore, “external” matters, like claims under the ’33 Act, are precluded. In response to that position, the Delaware Supreme Court noted that a board’s misrepresentations in registration statements are among the types of ’33 Act claims that should be considered “internal” because they result from internal corporate conduct—a board’s decision making—and often are brought with fiduciary duty claims. In fact, Section 111 of the DGCL acknowledges that claims related to the buying or selling of stock—similar to the registration claims at issue―fall within the definition of “internal corporate claims.” The Court further noted that “[t]here is a category of matters… situated on a continuum between… ‘internal affairs’ and… ‘external’ claims,” and relying on ATP Tour, Inc. v. Deutscher Tennis Bund, 91 A.3d 554 (Del. 2014), it concluded that Section 102(b)(1) was broad enough to contemplate provisions governing such “intra-corporate” (or “Outer Band”) claims.
Finally, the Court found that there was no basis under either state or federal policy to invalidate the FFPs. The reality is that forum-selection clauses are presumptively valid and enforceable under Delaware law and do not narrow the forum alternatives available under the ’33 Act.
This decision only concluded that FFPs were valid on their face. It did not consider FFPs on an “as applied” basis. Therefore, there may be circumstances where FFPs may be deemed invalid “as applied” because the FFP is viewed as inequitable or gives rise to public policy consideration.
There also is no guarantee that other state courts will adopt the Delaware Supreme Court’s opinion and enforce FFPs in Delaware corporations’ constitutive documents. But, as the Court underscored: (i) FFPs deserve at least the same deference as any contractual choice of forum provision; (ii) FFPs are “procedural” in nature and should be given extraterritorial effect. Moreover, the fact that other states have generally enforced Delaware forum selection provisions in the past is reason enough to be optimistic that they will with respect to FFPs.
The Delaware Supreme Court highlighted that, after Cyan, Inc. v. Beaver County Employees Ret. Fund, 138 S. Ct. 1061 (2018), there was an uptick in the number of state court securities lawsuits. “When parallel state and federal actions are filed” and there is “no procedural mechanism to consolidate or coordinate” them, the costs and inefficiencies balloon—as do the risks of inconsistent rulings.
Against that backdrop, FFPs fit the classic definition of a provision “for the management of the business affairs of the corporation” because they help control the business' expenses, as well as the law that might impact the company’s governance. Allowing a corporation to select a venue for lawsuits under the ’33 Act also serves another purpose under DGCL 102(b)(1), “defining, limiting and regulating the powers of the corporation, the directors and the stockholders.” There are slight variations in how each district or circuit court applies federal securities laws. The ability to pick which jurisdiction would address a dispute provides some certainty as to how that dispute might be resolved.
The fear that plaintiffs’ attorneys were abusing the class-action process in litigation involving nationally traded securities prompted Congress to pass the Private Securities Litigation Reform Act in 1995 (PSLRA). In turn, some members of the plaintiffs’ bar began avoiding the federal forum and instead, sought relief under state securities laws. FFPs would allow companies to ensure that they take advantage of the protections and safeguards in the PSLRA.
FFPs might also create an opportunity for the District of Delaware, the Southern District of New York or some other jurisdiction to become the nationwide authority for ’33 Act issues because matters of significance are concentrated there by the corporation, not the plaintiff.
Given the Court’s decision, Delaware corporations should consider adding FFPs to their charter or bylaws if they are (1) contemplating a securities offering, (2) going public or (3) contemplating a future securities offering.
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