A blended approach to reducing the costs of shareholder litigation.

• Author: Afshar, Valian A.

Multiforum litigation and federal securities law class actions impose heavy costs on corporations and their shareholders without producing proportionate benefits. Both are largely the result of the agency problem between shareholders and their attorneys, driven more by the attorneys' interests in generating fees than by the interests of their clients. In response to each of these problems, commentators have recommended a number of solutions. Chief among them are forum selection and mandatory arbitration provisions in a corporation's charter or bylaws. This Note recommends that corporations unilaterally adopt both forum selection and mandatory arbitration bylaws to address shareholder lawsuits under state corporate and federal securities law, respectively. This Note also explains why each solution is particularly appropriate for its class of shareholder claims.

Table of Contents INTRODUCTION I. MULTIFORUM LITIGATION AND FEDERAL SECURITIES LAW CLASS ACTIONS ARE COSTLY FOR CORPORATIONS AND THEIR SHAREHOLDERS A. Multiforum Litigation Does Not Produce Benefits Proportionate to Its Costs for Corporations and Their Shareholders B. Federal Securities Law Class Actions Do Not Produce Benefit: Proportionate to Their Costs for Corporations and Their Shareholders II. FORUM SELECTION AND MANDATORY ARBITRATION PROVISIONS ARE ENFORCEABLE UNDER DELAWARE CORPORATE LAW A. Enforceability of Forum Selection Provisions Under Delaware Law B. Enforceability of Mandatory Arbitration Provisions Under Delaware Law III. CORPORATIONS SHOULD UNILATERALLY ADOPT FORUM SELECTION BYLAWS FOR ALL STATE CORPORATE LAW CLAIMS AND MANDATORY ARBITRATION BYLAWS FOR ALL FEDERAL SECURITIES LAW CLAIMS A. Corporations Should Adopt Forum Selection Provisions for All State Corporate Law Claims B. Corporations Should Adopt Mandatory Arbitration Provisions for All Federal Securities Law Claims C. Corporations' Boards of Directors Should Unilaterally Adopt Forum Selection and Mandatory Arbitration Bylaws CONCLUSION INTRODUCTION

Shareholders have three rights with respect to the management of a corporation: the right to sell their shares, the right to vote their shares, and the right to sue both the corporation and its managers and directors. (1) The last right has proven increasingly problematic for U.S. corporations and their shareholders. In 2012, 96% of public-company acquisitions valued over $500 million resulted in a shareholder lawsuit. (2) By contrast, shareholders challenged only 53% of similar deals in 2007. (3) This startling shift in shareholder litigation raises the question: Are the vast majority of corporate deals actually illegal, or is something else driving this trend?

The right to sue has traditionally been viewed as a response to the agency problem of corporations, (4) and it is intended to serve both a deterrent and compensatory role for shareholders. The deterrent aspect of shareholder litigation seeks to minimize agency costs and better align the interests of a corporation's managers and directors with those of shareholders by punishing managers and directors when they "misbehave." (5) The compensatory aspect aims to mitigate agency costs by reimbursing shareholders for damages

caused by poor management. (6) Over time, however, these two goals of shareholder litigation have deteriorated, and a new agency problem has arisen: the interests of many shareholder-plaintiffs' counsel now supersede those of their shareholder clients. (7) As a result, much of shareholder litigation today merely transfers wealth from corporations and their insurance companies to the plaintiffs' bar, with few benefits accruing to the shareholders themselves. (8)

Private shareholder claims can arise under one of two distinct bodies of law: state corporate law or federal securities law. Each state has its own corporation law that controls the mechanics of the companies incorporated within that state. The most influential is the Delaware General Corporation Law ("DGCL"). Delaware is generally viewed as having the most well-developed and advanced state corporate legal system, and the majority of U.S. corporations are Delaware corporations. (9) Because of the widespread influence of the DGCL, this Note focuses only on Delaware law and the federal laws that preempt it.

The term "federal securities law" describes a series of statutes adopted by the federal government regarding corporate securities and the regulations promulgated pursuant to those statutes. Publicly traded corporations and the securities they issue must comply with these statutes, the most important of which are the Securities Act of 1933 (the "Securities Act") and the Securities Exchange Act of 1934 (the "Exchange Act"). (10) In addition to granting various private rights of action to shareholders of public corporations, these statutes are also independently enforced by (1) the U.S. Securities and Exchange Commission (the "SEC"), a federal agency that can bring civil charges against individuals and corporations for violations of federal securities law; and (2) the U.S. Department of Justice (the "DOJ"), a federal department that can bring criminal charges against individual and corporate violators of federal law. (11) The corporations discussed in this Note are assumed to be publicly traded Delaware corporations, and as such they fall under both the DGCL and the federal securities laws.

Commentators have identified countless flaws in the U.S. shareholder litigation system, (12) but many of these flaws fall beyond the scope of this Note. Instead, this Note focuses on two specific aspects of shareholder litigation that are especially deleterious for corporations and their investors: multiforum litigation and federal securities law class actions. Multiforum litigation occurs when multiple shareholders file identical claims against a corporation in various jurisdictions. (13) In addition to forcing the corporation to defend the duplicative claims simultaneously, multiforum litigation can potentially result in conflicting court judgments, creating a no-win situation for the defendant-corporation. Federal securities law class actions are private shareholder claims under federal securities law, and they are brought against a corporation or its managers and directors as a class rather than as individuals. (14) Private shareholder litigation under federal securities law has failed to meet its deterrent and compensatory goals, resulting in burdensome costs to corporations and their shareholders. The greatest beneficiaries of these federal securities law class actions are the shareholder-plaintiffs' counsel, who receive hefty attorneys' fees from the corporations and their insurance companies. (15)

The research on these issues is well developed. Many commentators have explored the driving forces underlying these phenomena, performed empirical studies to describe their impact on corporations and their shareholders, and recommended solutions to mitigate the harm. (16) Some have argued that corporations should adopt provisions in their corporate governance documents requiring that shareholder claims be brought in a single jurisdiction. (17) Others have contended that corporations are best off if shareholder claims are arbitrated rather than litigated. (18) And still others have argued for preserving the status quo. (19)

Many of the commentators' previous positions on multiforum litigation and federal securities law class actions are either too broad or too narrow. The overly broad positions argue that all shareholder claims should be subject to a single solution, without distinguishing between the state corporate law and federal securities law claims and tailoring more appropriate solutions for each. (20) By contrast, the overly narrow positions only provide recommendations for shareholder claims under either state corporate law or federal securities law, ignoring the other class of shareholder claims. (21) This Note takes a unique approach: it contends that different solutions should be adopted for state corporate law and federal securities law claims, and it explains what makes each solution either proper or improper for each claim.

This Note argues that corporations can maximize shareholder value by unilaterally adopting both forum selection and mandatory shareholder arbitration bylaw provisions to control shareholder lawsuits under state corporate and federal securities law, respectively. (22) Part I describes the current state of shareholder litigation, including the costs associated with multiforum litigation and federal securities law class actions. Part II demonstrates that, despite their controversial nature, forum selection and mandatory arbitration provisions should be--and are likely to be--enforceable in a Delaware corporation's charter or bylaws. Finally, Part III argues that, in order to maximize long-term shareholder value, corporations' boards of directors should unilaterally enact forum selection bylaws to ensure that all state corporate law claims are litigated only in the Delaware Court of Chancery and mandatory arbitration bylaws to compel the arbitration of all shareholder claims brought under the federal securities laws.

1. MULTIFORUM LITIGATION AND FEDERAL SECURITIES LAW CLASS ACTIONS ARE COSTLY FOR CORPORATIONS AND THEIR SHAREHOLDERS

   While all litigation imposes costs on the parties involved, shareholder litigation can take two especially problematic forms: multiforum litigation and federal securities law class actions. Section I.A describes the multiforum litigation phenomenon, explaining its negative impacts on corporations and their shareholders. Section I.B provides a similar analysis of securities class actions. Both Sections explain why corporations and their shareholders are the ultimate losers in these actions, and how the plaintiffs' attorneys, the driving forces behind these suits, are the ultimate winners.

   1. Multiforum Litigation Does Not Produce Benefits...