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An Introduction to the Law of Corporations: Cases and Materials, Fall 2017

Corporate Benefit doctrine and the awarding of attorney fees

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Although in successful derivative litigation there are no payments to stockholders that doesn't mean that no one gets paid.  In fact, plaintiffs counsel is often paid following settlement or a resolution on the merits.  To be entitled to an award of fees under the "corporate benefit doctrine" plaintiffs counsel must demonstrate that:

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(1) the suit was meritorious when filed; 
(2) the action producing benefit to the corporation was taken by the defendants before a judicial resolution was achieved; and 
(3) the resulting corporate benefit was causally related to the lawsuit.

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The degree to which an action was actually meritorious when filed or that the action actually produced some benefit for the corporation is often debatable.  However, when cases are presented for settlement both plaintiffs and defendants appear in court eager to settle.  Given that we have an adversarial system, when both plaintiff and defendant are ostensibly in agreement there is often little for a judge to do.  Because of the representative nature of derivative litigation, judges are required to approve settlements.  Judicial approval of settlements is intended to reduce the opportunity for collusion between plaintiffs and defendants and ensure that the plaintiff class benefits from the settlement.

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As part of the settlement process, plaintiffs’ counsel receives from the corporation the acknowledgment that the litigation provided a "corporate benefit".  The corporate benefit need not be measurable in strictly economic terms, and as a result, changes in corporate policy or a heightened level of corporate disclosure, if attributable to the filing of a meritorious suit many be sufficient to establish a corporate benefit for purposes of justifying an award of attorney fees to the plaintiff.  

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For their part, defendant directors face real incentives to settle shareholder litigation rather than risk having the issues litigated on the merits.  In a typical settlement, directors admit no wrong-doing and acknowledge that the litigation provided a benefit to the corporation.  They may make some additional disclosures or some governance changes or changes to the terms in a challenged merger agreement.  The defendant directors also receive a "global release" from any further claims related to the underlying facts.  This global release is valuable litigation insurance for directors and often a real incentive to settle litigation, even non-meritorious litigation.

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To the extent payments are required to be made, those payments are usually made by the corporation's insurance company through the corporation’s directors & officers (D&O) insurance policy.  In a settlement, directors typically face no out of pocket expenses or to the extent they do, they are indemnified by the corporation.   However, if litigation reaches a decision on the merits and the directors are found to have violated their duty of loyalty to the corporation, costs associated with litigation or payments in connection with the litigation are neither insurable nor eligible for indemnification by the corporation.  Consequently, directors are often very willing to settle even non-meritorious litigation. 

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Absent an "objector" to the settlement, most settlements face little opposition from the court.  Objectors are shareholders other than the named plaintiff who object to the terms of the settlement.  Some objectors are significant shareholders who may have interests different from those of the class representative.  In any event, prior to judicial approval of the settlement, objectors have an opportunity to state their case why the court should reject all or part of the settlement.  Objectors to settlements are generally rare occurrences.

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At settlement typically the only question for a judge to determine is the size of the fee to be awarded to plaintiffs counsel.  Delaware courts have enumerated several factors to be considered in determining fee allowances for counsel in shareholder litigation.  These factors include:

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(1) the benefits achieved in the action;
(2) the efforts of counsel and the time spent in connection with the case;
(3) the contingent nature of the fee;
(4) the difficulty of the litigation; and 
(5) the standing and ability of counsel involved in the litigation.

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See: United Vanguard Fund, Inc. v TakeCare, Inc. (corporate benefit doctrine), Sugarland Industries v Thomas (awarding attorney fees)