For several years, lawyers have been pointing to what they see as an emerging weakness in Delaware's dominance of U.S. corporate law: litigation. They argue that as Delaware's judges have become less generous in awarding fees to plaintiffs' lawyers, the state has lost market share in corporate litigation to federal courts and courts of other states. That's viewed as bad news for Delaware corporations because it subjects them to more litigation uncertainty and thus will force them to pay more to settle cases. But the implications for Delaware at large have been more difficult to discern.
Three academics attempt to do just that in "Delaware's Balancing Act," released on www.ssrn.com in September. The three -- John Armour, a finance professor at Oxford University; Bernard Black of Northwestern University School of Law and Kellogg School of Management; and Brian Cheffins, a Cambridge University law professor -- offer proof that litigation is indeed moving away from Delaware and suggest several causes for the shift. But they are unsure of its significance and what should be done about it.
The first citation in the paper is Theodore Mirvis, a partner at Wachtell, Lipton, Rosen & Katz who was one of the first lawyers to vocalize Delaware's litigation problem.
"I'm a litigator," the academics quote Mirvis as saying, "and there's only one rule in litigation. Three things matter: location, location, location."
Increasingly, that location has not been Delaware, even though about 60% of all U.S. public companies are incorporated there. Until 2000, its courts had a dominant market share in corporate litigation involving Delaware companies. But in a survey of 729 judicial decisions in such cases over the past 15 years, Armour, Black and Cheffins found that the proportion of Delaware cases fell from more than 80% in 1995 to 65% in 2002 and 21% in 2008. Delaware lost out to both federal and state courts.
The authors largely reject Mirvis' claim that plaintiffs' lawyers are shunning Delaware because they think they'll do better elsewhere. Instead, the authors identify two primary reasons for the trend. First, Delaware has moved away from granting control of a case alleging shareholder harm -- and the lion's share of the fees -- to the attorney that files it first. Instead of encouraging a race to the courthouse, Delaware judges have emphasized the value of having a shareholder with a significant stake direct the course of litigation. Participants in what Delaware Vice Chancellor Leo E. Strine Jr. once called "the filing Olympics" have headed elsewhere.
The authors also argue that the Private Securities Litigation Reform Act has helped spread litigation to more venues. Congress passed the PSLRA in 1995 and the Securities Litigation Uniform Standards Act in 1998 in an effort to eliminate frivolous shareholder litigation under federal securities laws. Plaintiffs' lawyers responded by filing class action and derivate suits in state courts. (Derivate suits are brought by a shareholder on behalf of the corporation.) Because Delaware makes it harder for plaintiffs to get expedited discovery than other states do, Armour, Black and Cheffins say, plaintiffs started moving to other states after Congress passed SLUSA.
If the trend is clear, effective responses are not. Mirvis has suggested that Delaware corporations amend their bylaws or charters to make Delaware the exclusive forum for fiduciary duty claims, a proposal endorsed in an opinion earlier this year by Vice Chancellor J. Travis Laster, but courts in other states may refuse to enforce such clauses. Delaware judges could try to make their law friendlier to plaintiffs' lawyers or more aggressively assert control over corporate cases involving Delaware corporations, but such efforts "could badly tarnish the judiciary's hard-earned image as even-handed arbiters of corporate law," the authors write.
Furthermore, Delaware judges may not want to reverse a trend that shifts a significant percentage of nuisance litigation to other courts, since such cases consume time and are far more likely to settle well before trial than result in significant advances in case law.
For Delaware, the most significant negative effect of the trend is some loss of control over its jurisprudence as judges in other jurisdictions issue opinions in cases involving Delaware law. But Delaware judges are free to ignore such decisions, and the perception that those decisions are often inferior to what a Delawarean would produce could actually strengthen Delaware's brand as the capital of American corporate law.
In Mirvis' words, which the authors quote, "Trying to argue Delaware fiduciary duty cases outside of Delaware is like taking secret recipes from Galatoire's [a New Orleans restaurant] and giving them to a Jack-In-The-Box short order cook. It doesn't always work so well."
If that's the case, the First State should be fine.
David Marcus is senior writer at Corporate Control Alert.