Justin M. Forcier, an associate in the Delaware office of Eckert Seamans, prepared this overview.
A recent Delaware Court of Chancery ruling clarified that only parties or counsel have standing to seek legal fees as an award for a successful result in certain cases. Judy v. Preferred Communication Sys., Inc., C.A. No. 4662-VCL (Del. Ch. Sept. 19, 2016)
Background: Preferred Spectrum Investments, LLC (“PSI”) sought the recovery of attorneys’ fees and expenses totaling $20 million from Preferred Communication Systems, Inc. (the “Company”) for the funding of Michael Judy’s (“Judy”) litigation against the Company. After a long and tortuous history that resulted in several federal prison sentences, PSI approached the Company in an attempt to transfer control to PSI from its current management. When that offer was refused, PSI sought to initiate a lawsuit to obtain a court-ordered meeting of the stockholders where PSI would seek to replace the Company’s leadership and take over control. However, PSI was not a stockholder of the Company. Therefore, PSI used Judy as the plaintiff. No formal agreement between PSI and Judy regarding litigation funding was ever formed. Yet, PSI was funding the litigation. The court entered its final decision on the merits in March 2013, which was upheld by the Delaware Supreme Court that following May. Two-and-a-half years later, PSI moved through Judy to reopen the case and intervene so it could file a fee application. In its application, PSI sought approximately $20 million, which is based on the value of the Company’s licenses, or alternatively, $4,958,056.43, representing expenses PSI claims to have incurred.
A prior decision in this case highlighted on these pages, related to the right of an attorney to retain a file of a client who has not paid
Analysis: The court began its analysis by stating the well-known maxim that, generally, parties are responsible for paying their own legal fees unless a contractual or statutory right, or other exception, otherwise exists. One such example is the common benefit doctrine, which dictates that those who have benefited from litigation should share in the expense.
To prevail under the common benefit doctrine, a party must show: (1) the action was meritoriously filed; (2) an ascertainable group received a substantial benefit; and (3) a causal connection existed between the litigation and the benefit. Importantly, since the common benefit doctrine is rooted in the court’s power to do equity, the court can deny the application of the doctrine even when a litigant has satisfied all of the elements.
First, the court determined that PSI lacked standing to assert such a claim for fees. PSI was not a plaintiff nor its counsel. Instead, PSI was a gratuitous financier that funded the litigation without any formal agreement with Judy. And Delaware law is clear: “only a litigant or its counsel has standing to seek a fee award.”
Second, PSI lacked standing to seek a fee award under the common benefit doctrine because the litigation it funded was part of an effort to take over the Company. Here, the primary goal was the advancement of PSI’s personal interests in obtaining control of the Company. This objective is at odds with the purpose of the common benefit doctrine, because the primary purpose for the litigation was self-serving. Therefore, any benefit bestowed upon the Company and its shareholders is purely incidental.
As a secondary argument, PSI claimed that it was entitled to recover the fees and expenses it spent under the doctrine of quantum meruit. A claim of quantum meruit, as the court explained, is quasi-contract claim that allows a party to recover the value of its services if: (1) the party performed the services with the expectation of payment; and (2) the recipient should have known that payment was expected.
First, the court found that PSI could not satisfy the first element—that the services were performed with the expectation of payment. PSI failed to document any repayment scheme with Judy. Instead, PSI simply paid the fees and costs without first protecting itself by entering into a contract.
Second, neither PSI nor any of its stockholders had any reason to believe that PSI was expected to pay for the litigation. On several occasions PSI represented to the Company’s shareholders that the litigation it was pursuing through Judy would be “free of cost to [them].” Therefore, the Company and its investors could not realistically be considered to have known that payment was actually expected.