DELAWARE SUPREME COURT GENERALLY APPROVES FEE-SHIFTING BYLAWS

In responding to a certified question of law from the District Court for the District of Delaware, the Delaware Supreme Court recently held that “fee-shifting provisions in a non-stock corporation’s bylaws can be valid and enforceable under Delaware law.” Although the opinion specifically addressed a non-stock corporation, the court’s analysis seems equally applicable to traditional stock corporations.

The Deutscher Tennis Bund and Qatar Tennis Federation (collectively, the “Federations”) are members in ATP Tour, Inc. (“ATP”), a Delaware non-stock corporation that operates the professional men’s tennis tour. ATP has a bylaw provision, which was added in 2006 after the Federations were already members in ATP, that requires any member to reimburse ATP or a fellow member for fees, costs, and expenses that ATP or a fellow member incurs in defending an intra-corporate dispute that a member initiates, asserts, joins, or offers substantial assistance to if the member does not obtain a judgment that “substantially achieves” the full remedy sought. In 2007, ATP downgraded an annual tennis tournament played in Hamburg, Germany from its highest tier of tournaments to its second highest tier of tournaments, and the Federations sued ATP and six of its directors in the District Court for the District of Delaware (the “District Court”) asserting federal antitrust and state law breach of fiduciary duty claims.

The District Court granted judgment as a matter of law on the breach of fiduciary duty claims, and a jury found in ATP’s favor on the antitrust claims. ATP then moved to recover its costs under Federal Rule of Civil Procedure 54 and the fee-shifting bylaw provision. The District Court denied the motion concluding that federal law preempted the enforcement of fee-shifting provisions in antitrust cases. The Third Circuit reversed, holding that the District Court should have initially determined whether the fee-shifting bylaw was enforceable under Delaware law before reaching the preemption issue. The District Court then certified that question to the Delaware Supreme Court.

The en banc Delaware Supreme Court found the bylaw in question was facially valid because neither the Delaware General Corporation Law (the “DGCL”) nor any other Delaware statute prohibits the use of fee-shifting bylaws and because the bylaw was consistent with ATP’s certificate of incorporation as the certificate, although silent on the issue, could allow a fee-shifting bylaw implicitly through silence. The Court’s analysis was grounded in the principle that bylaws are “contracts among a corporation’s shareholders.” The issue of whether the specific bylaw is enforceable, however, could not be answered because the Court was unable to determine from the incomplete factual record before it if the bylaw was “adopted or used for an inequitable purpose” based on the circumstances of how the bylaw was adopted by ATP’s directors. Therefore, the District Court must now determine whether the bylaw is enforceable. The Delaware Supreme Court, however, cautioned that a desire to deter litigation is not necessarily an inequitable purpose because fee-shifting provisions inherently deter litigation. Finally, the Court noted the fact that the bylaw was adopted after the Federations were already members in ATP did not render it unenforceable because ATP’s certificate of incorporation, as authorized by the DGCL, allowed for directors to adopt, amend, or repeal bylaws.

Even though this specific case arose in the context of a non-stock corporation, it appears that the Court’s analysis would also apply to traditional stock corporations. The Court relied upon the DGCL, common law involving stock corporations, and the principle that bylaws are contracts between shareholders in holding that fee-shifting bylaws are facially valid and permissible under the DGCL. Accordingly, it may not be long before Delaware courts consider the same issue in the context of other corporate entities.