Delaware Chancery Court Rules Federal Forum Selection Clause in Corporate Charter Unenforceable

Ruling on summary judgment, the Delaware Chancery Court has held that forum selection clauses in three separate companies’ corporate charters requiring that any claims under the Securities Act of 1933 be brought in federal court are “ineffective and invalid.”  Sciabacucchi, et al. v. Salzberg, et al., C.A. No. 2017-0931-JTL (Del. Ch. Dec. 19, 2018).  In doing so, the court noted that the source of the 1933 Act claims was federal law, distinct from any right created under Delaware law, and thus beyond the power of the companies to control through their bylaws in this manner.

The dispute arose in connection with three companies whose certificates of incorporation required that any 1933 Act claims be filed in federal court, essentially barring such claims in otherwise permissible state fora.  The plaintiff bought shares in connection with each companies’ initial public offering, entitling him, inter alia, to sue under Section 11 of the 1933 Act in connection with any material misstatements or omissions in the statements.  Thereafter, the plaintiff filed this declaratory judgment action against the relevant board signatories (along with the three companies as nominal defendants), seeking to establish that the federal forum provisions for 1933 Act claims for each company was invalid.

Vice Chancellor Laster agreed, ruling on summary judgment that the forum provisions were unenforceable.  According to the court, while Delaware law generally permits forum selection bylaws to regulate internal-affairs claims, the underlying rationale in those cases was that the bylaws were merely addressing “internal affairs claims brought by stockholders qua stockholders.”  That Delaware authority, however, stopped well short of allowing regulation of external claims.  Thus, it was already generally understood that bylaws could not dictate forum for a tort or contract claim brought against a company, even if the plaintiff were a stockholder.  Per the court, because federal law created the 1933 Act claim, such a claim was necessarily “external to the corporation.”  An external law such as the 1933 Act, created by a different sovereign, was outside the scope of the company’s internal affairs. Accordingly, the company by-laws simply could not “bind a plaintiff to a particular forum when the claim does not involve rights or relationships that were established by or under Delaware’s corporate law” and the provisions were held invalid.

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Impact for D&O Insurers:  On its own terms, the ruling is likely a disappointment to D&O carriers, who generally prefer federal fora and have now seen one method of securing such fora be rejected in Delaware.  More significantly, however, is the implication of the ruling.  Specifically, should this ruling stand, other federal securities-related issues are likewise likely to be deemed beyond the control of bylaws.  In other words, this is a blow for those who would like to see securities claims subject to arbitration through company bylaws, as the court’s logic would appear to apply in that circumstance as well.