Section 27(a) of the Exchange Act vests federal courts with exclusive jurisdiction over claims arising under that statute. So, what happens when a company adopts a bylaw mandating a state court as the exclusive forum for all derivative claims? As I blogged over on DealLawyers.com last year, a pair of California federal court decisions indicate that such a bylaw provision is enforceable, even though it would effectively preclude a plaintiff from asserting derivative claims under Section 14(a) of the Exchange Act. Recently, however, the 7th Cir. reached a different conclusion.
In Seafarers Pension Plan v. Bradway, (7th Cir.; 1/22), a divided 7th Circuit panel held that an exclusive forum bylaw could not be used to preclude a plaintiff from filing a lawsuit premised on violations of Section 14(a) of the Exchange Act in federal court. Here’s an excerpt from this Shearman blog reviewing the Court’s decision:
The Court began by holding that the Company’s choice-of-forum provision violated Delaware law because it was “inconsistent with the jurisdictional requirements of the Exchange Act.” According to the Court, Section 115 [of the DGCL] was “not intended to authorize a provision that purports to foreclose suit in a federal court based on federal jurisdiction,” which is exactly what application of the Company’s choice-of-forum provision would do. The Court then explained that, while Section 115 expressly authorizes choice-of-law provisions that require shareholders to file derivative suits “in” the state of Delaware, it does not authorize bylaws that restrict such suits to courts “of” the state of Delaware. The Court held that Delaware law “does not authorize application of [the Company’s] forum bylaw to close all courthouse doors to this derivative action.”
Next, the Court held that enforcing the Company’s choice-of-forum provision would violate federal law. “Because the federal Exchange Act gives federal courts exclusive jurisdiction over actions under it, applying the bylaw to this case would mean that plaintiff’s derivative Section 14(a) action may not be heard in any forum.” The Court emphasized that “[b]oth federal [Securities] Acts contain anti-waiver provisions that prevent parties from opting out of the federal laws in favor of state law, no matter how similar or strong the state-law rights and remedies are.”
Over on The Business Law Prof Blog, Ann Lipton finds the Court’s opinion to be a bit of a head scratcher:
This entire discussion, to me, is baffling, because it’s almost an afterthought that the Seventh Circuit concludes the bylaw as applied here violates the anti-waiver provisions of the Exchange Act. Normally, you’d expect that to end the matter; whether Delaware does or doesn’t authorize the bylaw is beside the point, because the Supremacy Clause beats Delaware. Instead, the primary focus of the Seventh Circuit is what Delaware thinks of such bylaws – and whether, amazingly, a Delaware Chancery court thinks they violate the Exchange Act.
– John Jenkins