On May 8, 2014, in an opinion that could significantly limit  shareholder litigation involving Delaware corporations, the  Supreme Court of Delaware (Court) held that a fee-shifting bylaw  requiring unsuccessful member plaintiffs to bear the fees, costs  and expenses of intra-corporate litigation is not prohibited by  Delaware law and may be enforceable.1

The case, ATP Tour, Inc. v. Deutscher Tennis Bund, involved the  Court’s response to four certified questions stemming from a feeshifting bylaw adopted by the board of ATP Tour, Inc., a Delaware  non-stock membership corporation that operates a global  professional men’s tennis tour. While the ATP Tour case involved  a non-stock membership corporation, the Court’s reliance on  the Delaware General Corporation Law (DGCL) in support of its  conclusion suggests that the decision would apply equally to  Delaware stock corporations and their stockholders. The Court  observed in a footnote that the DGCL applies equally to nonstock corporations2  and stated in broad terms that “[n]either the  DGCL nor any other Delaware statute forbids the enactment of  fee-shifting bylaws.”3

In support of its conclusion, the Court began with the  established principles that corporate bylaws generally are  presumed to be valid under Delaware law and that bylaws  are contracts among a corporation’s shareholders. Such  bylaws therefore fall within the contractual exception to the  “American Rule” that otherwise generally requires parties to  litigation to pay their own attorneys’ fees.4

The Court articulated three requirements for such a bylaw  to be “facially valid”: (1) it must be authorized by the DGCL,  (2) it must be consistent with the corporation’s certificate of  incorporation, 5  and (3) its enactment must not be otherwise  prohibited. 6  The Court concluded that fee-shifting bylaws satisfy  these requirements and are permissible under Delaware law.  The Court noted, however, that even if a bylaw satisfies these  requirements, it will not be enforced if adopted or used for an  inequitable purpose.

As an example, the Court cited, among other precedents, its prior  decision in Schnell v. Chris-Craft Industries, in which it had set  aside a board-adopted bylaw amendment that accelerated the  date of an annual stockholder meeting to occur a month earlier  than the originally scheduled date, where the board adopting  such bylaw had the improper purpose of perpetuating itself in  office and obstructing dissident stockholders’ legitimate rights to  undertake a proxy contest.7

Because the Court did not address the merits of the specific  bylaw at issue in the ATP Tour case, it is hard to know whether  ATP Tour’s enactment of its fee-shifting bylaw would be deemed  to be for a proper purpose. The Court clarified that deterring  litigation is not invariably an improper purpose.

Corporate boards that wish to implement fee-shifting bylaws  should consult with counsel and consider enacting such provisions  well in advance of any specific litigation, to minimize the  likelihood that a court would impute an improper purpose, such as  obstructing a specific, potentially valid shareholder claim.

The Court in ATP Tour also answered three related certified  questions. In response to these questions, the Court concluded  that an otherwise valid and enforceable fee-shifting bylaw (1)  would at least be valid as applied to the case where a plaintiff  obtains no relief at all against the corporation in the litigation,  (2) is unenforceable if adopted for an improper purpose, but, as  noted above, deterring litigation is not invariably an improper  purpose, and (3) applies not only to members who join the  corporation after adoption of the bylaw, but also to members  who join the corporation before the bylaw’s adoption.

Although it remains to be seen whether Delaware courts will  uphold other fee-shifting provisions, including those in the  bylaws of stock corporations, the potential impact of this opinion  could be significant if directors make such a provision a common  feature of Delaware corporations’ bylaws and such provisions  continue to be upheld.

Such fee-shifting bylaws could be an effective tool in  discouraging frivolous claims, and a significant deterrent to  shareholder litigation generally. In addition, it should be noted  that the ATP Tour opinion follows closely on the heels of the  Delaware Chancery Court’s 2013 ruling in Boilermakers Local  154 Retirement Fund v. Chevron Corp., et al., which upheld  the facial validity of forum selection bylaws of Delaware  corporations.8  The combined effect of these cases may enable  and embolden corporate boards to adopt other new contractual  bylaw provisions that could further deter and meaningfully  alter the landscape of shareholder litigation involving Delaware  corporations.