Delaware Court of Chancery Upholds Board-adopted By-law Selecting Foreign Jurisdiction as Exclusive Forum | Practical Law

Delaware Court of Chancery Upholds Board-adopted By-law Selecting Foreign Jurisdiction as Exclusive Forum | Practical Law

In City of Providence v. First Citizens Bancshares, Inc., the Delaware Court of Chancery extended its holding in Chevron to uphold as facially valid a Delaware corporation's forum selection clause that selected a foreign jurisdiction as the exclusive forum for intra-entity claims.

Delaware Court of Chancery Upholds Board-adopted By-law Selecting Foreign Jurisdiction as Exclusive Forum

by Practical Law Corporate & Securities
Published on 10 Sep 2014 • Delaware, Oregon, USA
In City of Providence v. First Citizens Bancshares, Inc., the Delaware Court of Chancery extended its holding in Chevron to uphold as facially valid a Delaware corporation's forum selection clause that selected a foreign jurisdiction as the exclusive forum for intra-entity claims.
On September 8, 2014, the Delaware Court of Chancery expanded the core ruling of its 2013 Chevron decision, upholding as facially valid a Delaware corporation's forum selection clause that selected a foreign jurisdiction as the exclusive forum for intra-entity claims against the corporation and its directors (City of Providence v. First Citizens Bancshares, Inc., C.A. No. 9795-CB, (Del. Ch. Sept. 8, 2014)). In so doing, the Court also held that adoption by the board of the by-law on the same day that the board approved a merger agreement for the corporation was not grounds to find the by-law’s adoption unreasonable.

Background

The case revolved around a merger agreement between First Citizens Bancshares, Inc., a Delaware corporation headquartered in North Carolina (FC North), and First Citizens Bancorporation, Inc., a South Carolina corporation (FC South). Both FC North and FC South are controlled by certain named defendants, while the plaintiff, City of Providence, owned common stock in FC North. On the same day that it announced it had approved the merger agreement to acquire FC South, FC North's board adopted a forum selection by-law selecting North Carolina as the exclusive forum for intra-corporate disputes.
Following the announcement of the proposed merger, Providence filed a complaint against FC North and its board:
  • Alleging that the forum selection by-law was facially invalid as a matter of Delaware law or public policy, and that its adoption was ultra vires and a breach of fiduciary duty.
  • Seeking a declaratory judgment that the forum selection by-law is invalid, or alternatively, that the Court of Chancery may exercise jurisdiction over the any action arising out of or relating to the proposed merger.
The defendants filed motions to dismiss both claims.

Outcome

The Court of Chancery granted the defendants' motions to dismiss, finding that under Chevron the by-law was facially valid and that its adoption was not a breach of the board's fiduciary duties.

By-law Selecting Foreign Court Facially Valid

The Court described the forum selection by-law as almost identical to those upheld in Boilermakers Local 154 Retirement Fund v. Chevron Corporation, 73 A.3d 934 (Del. Ch. 2013) (see Legal Update, Delaware Court of Chancery Upholds Boards' Unilaterally Adopted Forum Selection By-laws). In particular, the by-law selected an exclusive forum for lawsuits brought against the corporation or its directors, officers or employees that assert:
  • Any derivative claims.
  • Claims for breach of fiduciary duty.
  • Claims arising under the DGCL.
  • Claims governed by the internal affairs doctrine.
The FC North by-law differed in two respects from the Chevron by-laws by:
  • Selecting North Carolina as the exclusive forum, instead of Delaware.
  • Including a provision that the forum selection by-law will only apply to the extent permitted by law.
These two differences presented the Court of Chancery with an issue of first impression as to whether the board of a Delaware corporation may select a foreign court as the exclusive forum for intra-corporate disputes. Applying Delaware law to determine the validity of the by-law, the Court found that the same reasoning of Chevron validates the FC North by-law. In Chevron, the selection of Delaware was found reasonable because the applicable claims would be decided by the courts that have the authoritative final say on the interpretation of the governing law. As the First Citizens court explained, nowhere in Chevron did the Court hold that the only reasonable forum for that interpretation could be Delaware. The First Citizens court added that North Carolina was also a reasonable choice because FC North was headquartered and conducted the majority of its operations there.
The First Citizens court also rejected Providence's argument that making North Carolina the exclusive forum would:
  • Strip the Court of Chancery of the exclusive jurisdiction granted to it under the DGCL to hear certain matters pertaining to that statute. The Court of Chancery had previously held that its exclusive jurisdiction applied only as among the Delaware courts and not as against all other courts (especially because a more expansive reading of the DGCL would conflict with the Supremacy Clause of the United States Constitution and federal diversity jurisdiction) (IMO Daniel Kloiber Dynasty Trust, , at *13 (Del. Ch. Aug. 6, 2014)).
  • Deny Providence its substantive right to assert in the Court of Chancery certain claims arising under the DGCL. The Court noted that FC North's by-law contained a carve-out for any claims that may be asserted only in the Court of Chancery and that the claims currently at issue may be, and have been, asserted in non-Delaware forums.

Adoption of By-law not a Breach of Fiduciary Duty

The Court held that Providence did not rebut application of the business judgment standard to the board's adoption of the forum selection by-law or that the board's selection of North Carolina as the exclusive forum was irrational. Providence had attempted to argue that board selected North Carolina as the exclusive forum because it thought it would receive better treatment there than in Delaware's Court of Chancery. The Court rejected this argument as conclusory and added that the choice of forum did not insulate the board's actions from review. The review would instead simply take place in a North Carolina court instead the Delaware Court of Chancery, and no argument was made that would question the integrity of the North Carolina state and federal courts.

By-law Valid As-applied

The Court held that it was not unreasonable or unjust to enforce FC North's forum selection by-law as applied. In attempting to argue against the equity of enforcing the by-law, Providence contended that:
  • As a matter of public policy, Delaware has an interest in resolving issues raised under Delaware law.
  • The simultaneous adoption of the forum selection by-law and announcement of the merger should render enforcement of the by-law unreasonable.
  • Enforcement of the by-law is unjust because it cannot be repealed without the vote of the FC North's controlling stockholders.
The Court noted that there is no overarching public policy prohibiting a board from requiring intra-corporate claims to be brought in a foreign jurisdiction. Of particular significance to the Court was the distinction between the DGCL, which does not reflect a preference as to whether a board may require intra-corporate disputes to be brought in a foreign jurisdiction, and the Limited Liability Company Act, which contains provisions specifically prohibiting a Delaware LLC from mandating a foreign court as the exclusive forum for intra-entity disputes. The absence of that prohibition in the DGCL suggests a statutory willingness to allow corporate disputes to be heard in a foreign jurisdiction.
The Court rejected the second argument as well, finding that the by-law dictates only where a claim may be brought and not whether it may be brought. Therefore, any claims challenging the board's approval of the proposed merger as a self-interested transaction would still be subject to judicial review, but in North Carolina rather than in Delaware. The Court also held that Providence, as a stockholder, should have held the reasonable expectation that the board may adopt a forum selection by-law designating a foreign court as the exclusive forum for intra-corporate disputes. The timing alone of the by-law's adoption does not affect its validity or reasonableness.
Finally, the Court rejected Providence's third claim that the by-law is unjust because the minority stockholders could not repeal it without the support of the controlling stockholder. The Court refused to interpret the DGCL or Chevron to require that board-adopted forum selection by-laws may only be upheld if the stockholders could realistically repeal it. To do so could open the door to challenges to all board-adopted by-laws of corporations with controlling stockholders.

Practical Implications

The First Citizens decision extends the holding in Chevron to confirm that board-adopted forum selection by-laws may select a state other than Delaware as the exclusive forum for intra-corporate disputes. This may not only make adopting a forum selection by-law more attractive to more corporations, but may also insulate the Chevron decision from criticism in courts that have yet to decide whether to respect that decision. In this regard, the Court noted that interests of judicial comity supported its decision to allow a non-Delaware exclusive-forum by-law.
First Citizens also affirms that the timing of the adoption of the forum selection by-law is not a disqualifying factor for the "as applied" test in Delaware. Notably, this issue remains open in some courts, as evidenced by the recent decision in Roberts v. TriQuint Semiconductor, Inc., where an Oregon court refused to enforce a by-law selecting Delaware as the exclusive forum because the board adopted it on a "cloudy day" (the same day as the announcement of a merger) (No. 1402-02441 (Cir. Ct. Or. Aug. 14, 2014)). Most state courts that have had opportunities to address Chevron have upheld forum selection by-laws without distinguishing between by-law amendments adopted on "clear" versus "cloudy" days. However, as long as corporations remain vulnerable to a suit brought outside Delaware in a court that has yet to opine on the issue, the best practice remains to adopt these by-laws on a day when no personal motivation can be inferred.