Confusion and Unpredictability in Shareholder Derivative Litigation: The Delaware Courts\u27 Response to Recent Corporate Scandals

The Delaware courts responded to the recent wave of corporate scandals, exemplified by Enron and WorldCom, by changing their approach to shareholder derivative litigation. This Article analyzes the Delaware courts\u27 response to these scandals and concludes that the courts have created doctrinal confusion and introduced unpredictability into derivative litigation. This Article also analyzes the future negative consequences for shareholders, corporations, directors, investors, and other litigants. Finally, this Article proposes improvements for derivative litigation that may alleviate the confusion and unpredictability created by the Delaware courts\u27 response to the recent scandals

Shareholder Derivative Litigation’s Historical and Normative Foundations

Scholars and judges often say that the United States imported the shareholder derivative action from England, but that is not entirely accurate. What the United States imported from the English Court of Chancery was the necessary parties rule and its exceptions. During the 1800s, U.S. courts recognized an exception to the necessary parties rule that permitted representative lawsuits, but the contours of these actions differed from such actions in England. Today, these lawsuits would be classified as class actions and shareholder derivative actions in the United States. The shared history of these two forms of representative litigation has long been overlooked, but it reveals the early normative justifications for shareholder litigation. For the United States’ first 150 years, similar to class actions, shareholders were permitted to bring lawsuits on behalf of themselves and all other shareholders in certain circumstances. That formulation did not change until the late 1940s, when courts began to regularly describe such lawsuits as being brought on behalf of the corporation. This Article will explore the reasons for this shift in the nature of shareholder derivative litigation as well as the changes in the limitations on when shareholders can bring such actions. It will conclude by suggesting the implications that the historical and normative foundations of shareholder derivative litigation may have on the modern corporate law debates

Imitation or Improvement? The Evolution of Shareholder Derivative Litigation in the United States, United Kingdom, Canada, and Australia

Shareholder derivative litigation is a target of constant criticism within the United States (U.S.). Many scholars advocate for its abolition and others propose strict limitations on its use. If shareholder derivative litigation were universally disfavored, one would expect countries to be abandoning such litigation through legislative enactments or judicial rulings. Instead, many countries are expanding shareholder derivative litigation. This Article compares the shareholder derivative action as developed in the U.S. with such actions in the United Kingdom, Canada, and Australia. The U.S. has the most recognized and frequent uses of shareholder derivative actions, whereas such actions are rare in the United Kingdom. Yet, the U.S., a former English colony, originally imported the shareholder derivative device and other aspects of its legal system from England. This Article compares the very different paths that shareholder derivative litigation has taken in these two countries. It specifically examines the significance of the United Kingdom’s recent transition to a statutorily-authorized shareholder derivative action that resembles such statutes in many U.S. states. Similar to the U.S., Canada and Australia were once English colonies and their legal systems are also rooted in English legal traditions. Canada and Australia are also now authorizing shareholder derivative actions through adoption of laws comparable to those of many U.S. states. This Article considers the reasons prompting such changes and their potential ramifications. While critics of shareholder derivative litigation in the U.S. appear to have been largely ignored, other countries are adopting statutes that resemble those of many U.S. states. Scholars, courts, and legislatures in the U.S. must focus on reforming the perceived deficiencies of shareholder derivative actions to influence the future contours of such litigation globally

A Better Approach for Balancing Authority and Accountability in Shareholder Derivative Litigation

Corporations present an interesting illustration of the authority versus accountability dilemma. Shareholders elect the directors of the corporation and the law vests those directors with almost unlimited authority to manage the corporation. Yet, shareholders have few effective means for holding directors accountable for their decisions other than through shareholder derivative litigation. In such litigation, the business judgment rule serves as the mechanism by which courts attempt to balance directors\u27 authority to make decisions for the corporation against shareholders\u27 right to hold directors accountable for those decisions. As this Article discusses, numerous theories exist as to the proper formulation of the business judgment rule. At the core, such theories reflect differing perspectives on the proper balancing of authority and accountability in corporations. A broad and diverse literature examines the authority versus accountability dilemmas presented in other areas of law, yet corporate scholars have not examined the insights this literature offers for corporate law. This Article fills that void by examining this literature and applying it to the corporate context. It then analyzes the current balancing of authority and accountability in shareholder derivative litigation as well as scholars\u27 proposals to shift that balance. After rejecting such proposals, the Article concludes by proffering a better approach for resolving the authority versus accountability dilemma in shareholder derivative litigation

A Better Approach for Balancing Authority and Accountability in Shareholder Derivative Litigation

This is the published version

Shareholders in the Jury Box: A Populist Check Against Corporate Mismanagement

The recent subprime mortgage disaster exposed corporate officers and directors who mismanaged their corporations, failed to exercise proper oversight, and acted in their self-interest. Two previous waves of corporate scandals in this decade revealed similar misconduct. After the initial scandals, Congress and the Securities and Exchange Commission attempted to prevent the next crisis in corporate governance through legislative and regulatory actions such as the Sarbanes-Oxley Act of 2002. Those attempts failed. Shareholder derivative litigation has also failed because judges accord corporate executives great deference and thus rarely impose liability for breaches of fiduciary duties. To prevent the next crisis in corporate governance, the answer is not to enact more laws but to change the enforcer of the current laws. That enforcer already exists - the civil jury. Most states, however, deny any right to jury trial for shareholder derivative litigation. In these states, shareholders largely fail in their attempts to hold corporate executives liable for breaching their fiduciary duties. Extending a jury trial right to all states would reinvigorate shareholder derivative litigation and offer a populist check against corporate executives’ misconduct. This simple change would coerce corporate executives to properly oversee their companies and fulfill their fiduciary duties because they would know that their misconduct would be adjudicated by a jury of average Americans - similar to their shareholders. Empowering the civil jury would also help restore shareholders’ trust in corporate management, which could rebuild confidence in the stock markets

Jury Trial Disparities Between Class Actions and Shareholder Derivative Actions in State Courts

Class actions and shareholder derivative lawsuits are both forms of representative litigation that historically had to be brought in the equity courts to be decided by a judge, rather than in the common-law courts to be decided by a jury. In 1938, the federal courts merged law and equity by passing the Federal Rules of Civil Procedure, which allowed both legal and equitable claims to be heard within the same civil action. After law and equity merged, the Supreme Court interpreted the Seventh Amendment’s preservation of the right to jury trial as including not just actions recognized at common law, but also actions requiring resolution of legal rights. Thus, class and shareholder derivative actions brought in federal courts possess a right to jury trial for any legal claims. Like the federal courts, almost all states have now merged law and equity. However, because the Seventh Amendment does not apply to the states, the right to jury trial in class and shareholder derivative actions varies among states. While a few states appear to deny any right to jury trial in both actions based on their historically equitable nature, some states now likely permit jury trials in both actions. The remaining states appear to recognize a jury trial right in class actions, but not in derivative actions. Unfortunately, most states have not clearly decided the right to jury trial for such actions. This Article surveys the states’ treatment of the right to jury trial in these two forms of representative litigation. It argues that no basis exists for state courts to treat derivative actions differently from class actions as to the right to jury trial, and advocates that states should grant the right to jury trial to both actions