Supreme Court Upholds Fee-Shifting Provision in Bylaws

ATP Tour, Inc. v. Deutscher Tennis Bund, Del. Supr., No. 534, 2013 (May 8, 2014).

Momentous Issue Addressed:  The Delaware Supreme Court decided certified questions of law for the District of Delaware regarding whether it was consistent with Delaware law for a bylaw provision to provide for shifting attorneys’ fees to an unsuccessful plaintiff pursuing intra-corporate litigation. Short Answer: Such a bylaw provision is generally enforceable.

Potential Widespread Impact: This opinion may embolden directors to make this fee-shifting provision a common feature of corporate bylaws of Delaware companies. It may also be the “magic bullet” that addresses the scourge of shareholder litigation (as seen from the directors’ viewpoint), to the extent it may discourage “less meritorious” intra-corporate litigation. Conceptually, this opinion should be compared to the Chancery decision on forum-selection bylaw provisions, which the Supreme Court never reviewed because the appeal was voluntarily withdrawn.

Brief Overview: The plaintiff in this case is a Delaware non-stock membership corporation that operates a global professional men’s tennis tour.  Its members include professional tennis players and entities that operate professional tennis tournaments.

The bylaws, to which members agreed to be bound, were allowed to be amended from time to time and include a provision that requires members who unsuccessfully sue the corporation to pay reasonable attorneys’ fees incurred in that litigation.  Several of the members sued the corporation and its board in the United States District Court for the District of Delaware alleging both federal antitrust claims and Delaware fiduciary duty claims.  Upon remand from the United States Court of Appeals for the Third Circuit, the District Court was instructed to address the Delaware state law issues regarding the enforceability of the bylaw provision of the non-stock corporation.  The District Court certified those questions to the Delaware Supreme Court.

The Delaware Supreme Court observed that DGCL Sections 114 and 109(b) provide that the provisions of the DGCL apply to non-stock corporations and all references to the stockholders of a corporation are deemed to apply to members of a non-stock corporation.

Other general principles that have broad application and should be of interest to most corporate and commercial litigators include the following:

  • Bylaws of a corporation are presumed to be valid.  In order to be facially valid, the bylaw must be authorized by the DGCL, be consistent with the Certificate of Incorporation, and must not be otherwise prohibited.  See footnotes 12 to 14.
  • Delaware law allows parties to modify the American Rule by contract to obligate the losing party to pay the attorneys’ fees of the prevailing party.  Corporate bylaws are treated as contracts among shareholders and, therefore, the fee-shifting bylaw is facially valid under Delaware law.  See footnotes 17 through 19.  It is not necessary for the corporate charter to specifically or implicitly authorize such a provision.
  • Whether or not a particular bylaw is enforceable, however, must be based on the facts and circumstances in a particular matter.  For example, the Court referred to several cases where amendments to bylaws were deemed unenforceable based on the principle, well-established in Delaware law, that “inequitable action does not become permissible simply because it is legally possible.”  See footnotes 20 through 27.  For example, when a bylaw amendment changed the date of the annual stockholders’ meeting to a month earlier than the date originally scheduled for the purpose of entrenching the incumbent board and obstructing efforts of dissident stockholders to undertake a proxy contest against management, the Delaware Supreme Court found that bylaw amendment to be unenforceable.  See Schnell v. Chris-Craft Industries, 285 A.2d 437, 439 (Del. 1971).
  • Finally, the Court found that members joining before the bylaw provision was adopted are still subject to its provisions.  The DGCL allows a board to amend or repeal bylaws through its directors and if such an amendment is made, the stockholders will be bound by those bylaw amendments adopted unilaterally by the board.  See footnote 38.

Supplement: Frank Reynolds of Thomson Reuters provides an insightful overview of the case.

Updates: Tom Hals provides an update as of July 7 with a list of companies that have adopted fee-shifting bylaws. Also, Holly Gregory of Sidley Austin provides developments on this topic here. A legislative response by Delaware legislators to this opinion by the Delaware Supreme Court has been tabled until the 2015 session of the Delaware General Assembly.