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By Yin Wilczek
July 24 — Although the status of fee-shifting bylaws remains uncertain, the recent bid by the corporate community and others for litigation reform through corporate bylaws has been relatively successful so far, a panelist said July 24.
The courts generally have upheld such bylaws, observed Kevin LaCroix, an attorney and an executive vice president at insurance broker RT ProExec, and author of the D&O Diary blog.
“We're still early in the evolution, and there is yet more of the story to be told,” LaCroix said. “But for those who are interested in litigation reform, it's an interesting experiment and shows a great deal of potential.”
LaCroix spoke with others at a securities litigation webcast sponsored by insurance consultant Advisen. In other discussions, Advisen unveiled a report finding that securities litigation filings fell sharply in the second quarter of this year, fueled by a sharp decrease in the number of enforcement actions by the Securities and Exchange Commission and other regulators.
LaCroix told the panel that there are three types of bylaws in the recent spotlight: fee shifting, forum selection and mandatory arbitration coupled with class action waivers.
Fee-shifting bylaws provide that unsuccessful shareholder plaintiffs must pay their adversary's legal fees. In May, the Delaware Supreme Court found that fee-shifting bylaws of Delaware non-stock corporations can be valid and enforceable: ATP Tour, Inc. v. Deutscher Tennis Bund.
LaCroix noted that such bylaws contradict the principle embodied in the so-called “American rule,” which provides that each party in a litigation is responsible for its own legal fees. “So this idea that by bylaw, an unsuccessful litigant would bear the adversary's cost, is really radical—it could be transformative of the way shareholder litigation goes forward in our litigious environment,” he said.
The initiative in the Delaware General Assembly to amend the state's General Corporation Law to restrict such bylaws with respect to Delaware stock companies stalled, and probably will not be decided until 2015, LaCroix noted. Due to the uncertain status of such bylaws, only about six publicly traded companies have adopted them, he said.
Meanwhile, forum selection bylaws—generally used to designate a single forum for shareholder litigation—has found widespread acceptance by courts after the Delaware Court of Chancery's approval of such bylaws in Boilermakers Local 154 Retirement Fund v. Chevron Corp. in June 2013, LaCroix noted. So far, about 250 companies have adopted such bylaws, he said.
LaCroix suggested that the bylaws “most on the fringe” are mandatory arbitration provisions that include class action waivers. He noted that though such bylaws might seem to stand little chance of success, there were a series of decisions in which courts—applying Maryland law—upheld the validity of mandatory arbitration provisions of a company called CommonWealth REIT.
Although there remains “a huge question mark” as to whether such bylaws are enforceable, some companies will continue to push the issue, LaCroix predicted. “I think that in the next 12 to 24 months, we'll see” cases where companies with such bylaws try to enforce them, he said. “I think we can probably put a clock on that.”
LaCroix also predicted that some companies will push the SEC on the issue. “We may even see further agitation at the SEC level as well,” he said.
The SEC staff has signaled through the initial public offering process its general disapproval of such bylaws.
The panelists also discussed Advisen's report, “Quarterly D&O Claims Trends: Q2 2014.” According to the report, there were 227 securities and business litigation filings in the second quarter of this year, making it the quarter with the fewest securities filings since the start of the financial crisis.
The filings represented a 26 percent decrease from the first quarter, the report found. It also found that capital regulatory actions—those filed by the SEC and other regulators—saw the biggest drop, at 46 percent. There were 82 new capital regulatory actions in the second quarter, compared to 151 actions in the first.
However, new securities class actions saw a slight rebound, rising from 39 filed in the first quarter to 44 in the second, the report determined.
LaCroix cautioned that the number of filings in the quarter should be taken in perspective. One way of looking at the decrease is that the filings have “returned to equilibrium level” after the spike in their numbers in 2011 driven by the financial crisis, he said.
Paul Rodriguez, senior vice president at Swiss Re Corporate Solutions, also offered an anecdotal reason for the low numbers. It could be that shareholder plaintiffs were holding off on their claims while awaiting the U.S. Supreme Court's decision in Halliburton Co. v. Erica P. John Fund Inc., he suggested.
The high court issued a decision in the case June 23.
Brenda Shelly, managing director of Marsh's Financial and Professional Liability Practice, said that with financial crisis cases on the wane, the next wave of securities litigation could come through enforcement actions focused on individual accountability.
“We may see more activity in areas where not seen before from the SEC,” Shelly said. There “could be more intense focus and more activity in more concentrated areas.”
In the meantime, although securities lawsuits related to cyber breaches and incidents are on the horizon, it remains difficult to predict how big the trend will be, LaCroix said. The SEC has several ongoing investigations in the area, signaling that it is almost certain that there will be an SEC enforcement action ahead, he added.
“All signs are that they're going to make an example of somebody” to ensure companies take cybersecurity and disclosures seriously, LaCroix said. “Once there is that type of regulatory action, there will be follow-on private litigation as well.”
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The Advisen report is available at http://www.advisenltd.com/wp-content/uploads/quarterly-do-claims-trends-q2-2014-7-24.pdf.
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