In an important development affirming the use of federal forum provisions (FFP) to avoid duplicative parallel state court securities lawsuits, a New York state court judge has granted the securities suit defendants’ motion to dismiss based on the FFP in the corporate defendant’s charter. The ruling appears to be the first in New York – indeed, the first outside of California – to enforce an FFP. The New York court’s enforcement of the FFP is a significant step in companies’ efforts to try to avoid the duplicative litigation problems caused by the U.S. Supreme Court’s March 2018 decision in Cyan. A copy of the August 31, 2021 opinion of the New York state court in the Casa Systems case can be found here.
In March 2018, the United States Supreme Court held in Cyan, Inc. v. Beaver County Employees Retirement Fund that state courts retain concurrent jurisdiction for liability actions under the Securities Act of 1933. Following Cyan, there was a proliferation of state court securities suits, often parallel to and duplicative of federal court lawsuits based on the same essential allegations. There are no procedures to consolidate these parallel state court and federal court lawsuits. As a result, companies conducting IPOs and follow-on securities offerings face the possibility of having to fight a multi-front war in the event of securities litigation relating to their securities offerings.
In response to these concerns, a number of companies adopted charter provisions specifying that ’33 Act liability actions against the company must be brought in federal court.
In March 2020, the Delaware Supreme Court held in Sciabacucchi v. Salzburg that federal forum provisions are facially valid under Delaware law. Even after the Sciabacucchi decision, the question remained whether the courts of other states would find FFP to be valid and enforceable.
In separate rulings during the second half of 2020, three different California courts held that FFP in the charters of three state court securities lawsuit defendants were valid and enforceable. First, in September 2020, a California court in the Restoration Robotics case held an FFP to be valid and enforceable and granted the motion of the defendants to dismiss the state court action. Second, as discussed here, in November 2020, a California Court in the Uber case also held an FFP in the company’s corporate charter to be valid and enforceable and granted the defendants’ motion to dismiss. In December 2020, as discussed here, a California state court judge held the FFP in Dropbox’s corporate bylaws to be valid and enforceable and dismissed the state court action.
(Although little noted, there was actually a fourth California ruling in December 2020; days after the Dropbox ruling, the same judge who granted the motion to dismiss in Dropbox separately granted the motion to dismiss in the separate securities class action lawsuit against Sonim Technologies, Inc. Her order in the Sonim Technologies was entered in reliance upon and incorporated by reference her prior opinion in the Dropbox case.)
The California Courts’ decisions enforcing the FFPs were significant, but even after those rulings the question remained whether the courts of other jurisdictions would similarly enforce FFPs. It is against this backdrop that the New York court ruled on the motion to dismiss in the Casa Systems case.
The New York State Court Ruling in the Casa Systems Case
Casa Systems, which is organized under the laws of Delaware and has its sole U.S. office in Massachusetts, is a broadband service provider. The company completed an IPO in December 2017. The company’s share price declined in August 2018 after the company announced disappointing financial results. Securities class action litigation followed – the company was sued in separate lawsuits in New York state court and in Massachusetts state court. (The New York court noted that the Massachusetts action was subsequently dismissed, for reasons not specified in the New York court’s opinion.) The defendant in the action, which alleged violations of Sections 11 and 15 of the Securities Act of 1933, included the company; certain of its directors and officers; the company’s offering underwriters.
The defendants moved to dismiss the New York state court action on a number of grounds, including specifically on the ground that the company’s corporate charter contains an FFP. The defendants argued that the Delaware Supreme Court’s decision in Sciabacucchi applies; that the FFP in the company’s charter is valid and effective; and that the court should enforce the FFP and dismiss the plaintiff’s New York action.
In an August 31, 2021 opinion, New York (New York County) Supreme Court Judge Margaret Chan granted the defendants’ motion to dismiss, agreeing with the defendants that the FFP in the company’s charter is valid and enforceable. In granting the motion, Judge Chan rejected all of the arguments on which the plaintiff sought to rely in seeking to avoid enforcement of the FFP, including the contention that the defendants had not timely raised the argument that the FFP required dismissal of the action.
Of particular interest, though Judge Chan held that, because the company is a Delaware corporation, the internal affairs doctrine applied and the Sciabacucchi decision controlled the issue of the FFP’s enforcement. Interestingly, Judge Chan held further that even if New York law applied, principles of New York law would require the enforcement of the forum selection clause, unless such enforcement would be unreasonable and unjust or the clause was the result of fraud or overreaching. Judge Chan concluded that the enforcement of the clause would not be unreasonable or unjust. Judge Chan also rejected the plaintiffs’ argument that the FFP was not enforceable as to the underwriter defendants and that the FFP’s enforcement would violate the Commerce Clause and the Supremacy Clause of the U.S. Constitution.
As the Sciabacucchi court itself noted, one of the “most difficult” questions in light of the Delaware Supreme Court’s decision in the case that FFP are valid and enforceable was whether the validity of FFPs “will be respected and enforced by our sister states.” The earlier decisions by the California courts had established something of a consensus that at least in California, FFPs would indeed be enforced. But the question still remained whether the courts of other jurisdictions would similarly enforce the FFP. Judge Chan’s decision that the FFP is enforceable represents the first indication that FFP will be enforced in New York as well. Though her opinion, as a trial court ruling, does not represent a precedential decision, does indicate that New York courts as well as California courts will enforce FFP.
The confirmation that New York courts will enforce FFPs is significant because the vast majority of the state court securities class action lawsuits filed in the wake of the Cyan decision were filed in either California or New York. If FFP are enforceable in both of these jurisdictions, plaintiffs’ ability to maintain many of the state court securities suits that have up to now have been filed will be significantly undermined.
Though the court’s ruling in the Casa Systems case is important, there are still unanswered questions. For example, we still don’t know whether the courts in other jurisdictions will enforce FFPs. We also don’t know how the issue of the validity of FFPs will play out for companies that are incorporated under the laws of jurisdictions other than Delaware. Though many public companies are Delaware corporations, many are not. For example, REITs are typically incorporated under the law of Maryland. Many high tech companies are incorporated in Nevada, and financial companies are often incorporated under the laws of New York. And then there are the many non-U.S. companies with shares listed on U.S. exchanges.
While the various court rulings holding that FFP are valid and enforceable are helpful in addressing the problems that the Cyan decision created, because of the number of unanswered questions (such as those noted in the preceding paragraph) still militate in favor of a legislative solution. Calls for reform (such as the one recently published by the U.S. Chamber of Commerce’s Institute for Legal Reform, discussed here) remain relevant and indeed urgent.
One final note. It is only part of the backdrop to Judge Chan’s decision, but it is still worth noting the extent to which the Casa Systems reflect the problems that the Cyan decision created. That is, after the company’s share price decline, the company was hit with separate state court lawsuits in Massachusetts and in New York. There is no mechanism to consolidate lawsuits pending in separate state court systems, and so Casa System was forced to incur the burden and expense of defending against duplicative parallel lawsuits. This ridiculous situation underscores the need for legislative reform to address the Cyan problems.
Special thanks to a loyal reader for sending me a copy of the Casa Systems decision.