As discussed in a previous client alert (here), The Boeing Company (Boeing) has faced shareholder litigation arising from the fatal crashes of two 737 MAX airplanes. In one such derivative suit filed under Section 14(a) of the Securities Exchange Act of 1934 (the Exchange Act), a shareholder alleged that false and misleading proxy statements failed to properly disclose the risks associated with the 737 MAX, which harmed Boeing by enabling the reelection of directors who tolerated poor oversight of safety, regulatory and risk management as well as preventing the bifurcation of the CEO and chairman positions.

In a recent split decision, the Seventh Circuit revived this derivative suit in federal district court, holding that a bylaw designating the Delaware Court of Chancery as the “sole and exclusive forum” for derivative claims was unenforceable with respect to a federal claim filed under Section 14(a).[1] As we have previously written (here), at least one other federal court has reached the contrary conclusion, holding that a similar forum-selection provision was enforceable as to derivative Section 14(a) claims. Judge Easterbrook wrote a dissenting opinion, and commentators have speculated that Boeing may now seek en banc review by the full Seventh Circuit panel.

The Majority’s Rationale

The majority opinion articulated two bases for holding that the forum selection provision was unenforceable.

First, the court held that enforcing the bylaw provision would mean that the action could not proceed in its only proper forum, which would violate the Delaware Chancery Corporate Law (DGCL). This is because Section 27(a) of the Exchange Act provides federal courts with exclusive jurisdiction over Section 14(a) claims, compliance with which is non-waivable under Section 29(a) of the Exchange Act. DGCL Section 115 authorizes forum selection bylaws only if they are “consistent with applicable jurisdictional requirements.”[2] The majority pointed to the legislative history of Section 115, which notes that it was not the legislature’s intent “to authorize a provision that purports to foreclose suit in a federal court based on federal jurisdiction, nor is Section 115 intended to limit or expand the jurisdiction of the Court of Chancery or the Superior Court.” The majority held that “[b]y eliminating federal jurisdiction over the [plaintiff’s] exclusively federal derivative claims, Boeing’s forum bylaw forecloses suit in a federal court based on federal jurisdiction,” which is “exactly what Section 115 was ‘not intended to authorize.’”

While defendants countered that DGCL Section 109(b) broadly permits any bylaw related to the corporation’s business or affairs, including the forum selection provision at issue, the majority found this argument unpersuasive. For one, “more specific statutory provisions, like Section 115 for bylaws with forum-selection clauses, ordinarily take precedence over more general provisions like Section 109.” Additionally, Section 109 contains the limiting phrase “not inconsistent with law,” meaning that a corporation’s bylaws cannot avoid the non-waiver provision of the Exchange Act.

Second, the majority interpreted the text of DGCL Section 115 as always contemplating Delaware federal courts as a permissible forum under any forum selection provision in a company’s bylaws. The court emphasized the choice of preposition in the phrase “courts in this State,” which includes federal courts located in Delaware — in contrast to the phrase “courts ‘of’ that State.”

Taking all that into consideration, the majority opinion rested on the principle that “Delaware is not inclined to enable corporations to close the courthouse doors entirely on derivative actions asserting federal claims subject to exclusive federal jurisdiction.”

The Dissent

In his dissenting opinion, Judge Easterbrook proposed an alternative solution to “the puzzle at this intersection of state corporation law, federal securities law, and federal jurisdiction and venue rules,” which the majority characterized as a “novel proposal to send this dispute to state court in Delaware.”

First, Judge Easterbrook disagreed with the majority’s conclusion that enforcing the forum selection bylaw would preclude a shareholder from ever bringing a Section 14(a) claim against Boeing. To the contrary, a shareholder retained the right to bring a direct Section 14(a) claim in federal court. Boeing’s forum selection bylaw applied only to derivative litigation, brought on behalf of the corporation, and therefore did not deprive the shareholder of this direct right. [3]

Second, Judge Easterbrook disagreed that federal courts hold exclusive jurisdiction over derivative Section 14(a) claims at all stages of litigation. As he explained, it is state law that determines the first two steps of the inquiry into whether a shareholder can bring a derivative claim on behalf of the company; namely, “when demand is required and when investors can step into a corporation’s shoes.” Further, “the third step – in which a corporation, author of the proxy materials, sues its own directors – also rests on state law.” Though Section 14(a) admittedly “plays a role” in the shareholder’s theory that Boeing directors violated their duty of care, it “does not create the claim.”

Third, Judge Easterbrook also disagreed with the majority’s interpretation of DGCL Section 115 as always contemplating that Delaware federal courts are a permissible forum under any valid forum selection bylaw. He noted that the majority failed to acknowledge that Section 115 states that a permissible bylaw may provide that derivative claims “shall be brought solely and exclusively in any or all of the courts in this State” (emphasis added). By definition, “any or all” may or may not include federal courts.

Based on this analysis, Judge Easterbrook concluded that, at least as to the first two steps of the inquiry into whether the plaintiff can bring a derivative Section 14(a) claim on behalf of the company, the Delaware Court of Chancery has jurisdiction over the plaintiff’s claim, and therefore enforcement of the forum-selection provision would not deprive the plaintiff of any forum in which to bring its claim — thus it was permissible under Delaware law and public policy.

Notably, Judge Easterbrook acknowledged that the defendants had not advanced his position that the Delaware Court of Chancery can entertain a derivative Section 14(a) claim. What the defendants argued instead, and what the district court below and other courts have held, was that “Delaware law offered a sufficient substitute that would allow the [plaintiff] to vindicate its substantive rights under the Exchange Act.” Yet, Judge Easterbrook did not consider the court to be “bound by litigants’ beliefs about the meaning of a jurisdictional provision such as [Section] 27(a).”

Conclusion

This is another in a spate of recent decisions considering the enforceability of forum selection provisions in companies’ charters and bylaws (as discussed here, for example). As the majority opinion acknowledged, Delaware corporation law grants “considerable leeway in writing bylaws, including bylaws with choice-of-forum provisions.” The divided ruling and ongoing commentary suggest that there will be continuing litigation on the parameters of and the potential limits on such clauses.