(Reuters) - Vice-Chancellor Travis Laster of Delaware Chancery Court ruled Wednesday that corporations cannot compel shareholders to litigate IPO fraud claims in federal court via forum selection clauses in their corporate charters. The vice-chancellor invalidated provisions in the corporate charters of three companies that went public in 2017 – Blue Apron, Roku and Stitch Fix – that required shareholders to bring Securities Act suits in federal court.
“Under existing Delaware authority, a Delaware corporation does not have the power to adopt in its charter or bylaws a forum-selection provision that governs external claims,” the vice-chancellor wrote. “The federal forum provisions purport to regulate the forum in which parties external to the corporation (purchasers of securities) can sue under a body of law external to the corporate contract (the 1933 Act). They cannot accomplish that feat, rendering the provisions ineffective.”
But the implications of Vice-Chancellor Laster’s decision extend well beyond the particular forum selection clauses he addressed in the ruling. If the Delaware Supreme Court affirms the vice-chancellor’s ruling, the decision will squelch a burgeoning movement to allow corporations to force shareholders to arbitrate their securities fraud claims. Under Vice-Chancellor Laster’s reasoning, corporations simply cannot regulate federal securities litigation via their charters or bylaws. Even if Delaware corporations attempt to insert mandatory arbitration provisions in contracts with shareholders, those provisions are unenforceable.
Until now, the mandatory shareholder arbitration movement has focused on the Securities and Exchange Commission, which has signaled some weakening of its decades-long resistance to such proposals. But Vice-Chancellor Laster’s ruling, said Tulane law professor Ann Lipton, show that Delaware law has always been the lurking obstacle for corporations trying to curtail securities fraud litigation. “This ruling says you can’t govern litigation rights of federal securities claims via charters and bylaws of Delaware corporations,” said Lipton, whose work is cited frequently in Vice-Chancellor Laster’s decision.
I’ve previously told you why mandatory shareholder arbitration opponents considered the Blue Apron and Roku forum selection case a critical harbinger of the ultimate fate of corporate clauses attempting to force shareholders into arbitration of federal securities claims. In a nutshell, the theory espoused by critics of mandatory arbitration provisions in corporate bylaws and charters – and advanced by shareholder lawyers at Block & Leviton as grounds for invalidating the Securities Act forum selection clauses in the Blue Apron case – is that federal securities claims are outside the scope of Delaware corporate contracts with shareholders, which can only encompass state law governance issues.
But I’ve also told you why Wilson Sonsini Goodrich & Rosati (representing Roku and Stitch Fix) and Wilmer Cutler Pickering Hale & Dorr (for Blue Apron) argued that Securities Act claims actually fall within the scope of Delaware charters and bylaws because they address corporations’ internal affairs and derive directly from investors’ decision to buy shares in initial public offerings.
In Monday’s decision, Vice-Chancellor Laster drew a bright line between shareholders’ claims brought under Delaware law and federal securities claims. Corporations can adopt forum selection provisions to regulate the former category, he said, but not the latter. “A Delaware corporation cannot use its charter or bylaws to regulate the forum in which parties bring external claims, such as federal securities law claims,” the vice-chancellor wrote. “The state cannot assert authority over other types of claims based on the corporate contract, because the claims do not arise out of internal corporate relationships, and the fact of incorporation is not a sufficient nexus to support applying the chartering state’s law to external claims.”
Obviously, Vice-Chancellor Laster’s reasoning will be tested at the Delaware Supreme Court, but the judge quite cogently explained why his ruling is firmly grounded in precedent from then-Chancellor Leo Strine in 2013’s Boilermakers Local 154 Retirement Fund v. Chevron (73 A.3d 934), which validated forum selection clauses requiring shareholders to litigate breach-of-duty claims in Delaware Chancery Court. In that ruling, Strine emphasized that the forum selection clauses were restricted to internal affairs litigation arising from “the corporation’s business, the conduct of its affairs, and the rights of its stockholders (qua stockholders).” Vice-Chancellor Laster said federal securities claims fall outside Strine’s definition of internal affairs litigation – and Strine, as you doubtless know, is now the chief justice of the Delaware Supreme Court.
Assuming Chief Justice Strine and his Supreme Court colleagues agree with Vice-Chancellor Laster, Delaware corporations will not be able to effect mandatory shareholder litigation of federal securities claims through corporate charters or bylaws, regardless of what the Securities and Exchange Commission has to say about the issue. Tulane’s Lipton said the only options for corporations that want to impose arbitration on their shareholders will be to incorporate in a different state or to attempt to adopt mandatory arbitration directly through a registration statement.
I’m sure some enterprising corporation will someday venture down one of these routes. But for now, mandatory shareholder arbitration seems to be in big trouble in Delaware.
Block & Leviton’s Joel Fleming said in an email statement that his clients are pleased with the decision. “Forum-selection clauses are a procedural mechanism but they have a significant impact on investors’ ability to protect their substantive rights,” he said. “This is a good day for investors in Delaware corporations.”
Defense lawyer William Chandler of Wilson Sonsini declined to comment on the ruling.