In 2008, Vice Chancellor J. Travis Laster of the Delaware Court of Chancery — one of the many intellectual giants and gifted writers who’ve occupied seats on that bench — published an article in the Delaware Journal of Corporate Law entitled Goodbye to the Contemporaneous Ownership Requirement. The article argued that the contemporaneous ownership rule in shareholder derivative actions, embodied in DGCL Section 327 (“In any derivative suit instituted by a stockholder of a corporation, it shall be averred in the complaint that the plaintiff was a stockholder of the corporation at the time of the transaction of which such stockholder complains or that such stockholder’s stock thereafter devolved upon such stockholder by operation of law”) and likewise in New York’s BCL Section 626 (b), should be abolished as “unnecessary,” “incoherent,” “ill-suited to each of the purposes advanced to support it,” and “arbitrarily mandat[ing] the dismissal of potentially meritorious claims.”
At the risk of vastly over-simplifying VC Laster’s multi-pronged argument, the central point he made is that, as long as the derivative plaintiff is a shareholder upon commencing the action and for its duration, it’s meaningless whether the plaintiff owned shares at the time of the challenged corporate action because the claim belongs to the corporation and is being brought for the benefit of the corporation, not the shareholder.
In one of his subsequent opinions questioning the rule’s wisdom, Bamford v Penfold, L.P., VC Laster dropped an intriguing footnote referring to a “provocative article” published in 2010 by Professor of Law Lawrence Mitchell of The George Washington University entitled Gentleman’s Agreement: The Anti-Semitic Origins of Restrictions on Stockholder Litigation (available here). As the title suggests, Professor Mitchell’s thesis is that the statutory contemporaneous ownership rule and other restrictions on derivative actions including the security requirement for small shareholders, first enacted in New York in 1944 and in Delaware the following year, were promoted by the non-Jewish, corporate defense bar dominated by white-shoe law firms to stymie shareholder suits being brought by predominantly Jewish lawyers. From the footnote:
In 1944, the New York legislature adopted a suite of statutory limitations on derivative actions that included a security-for-expenses requirement and a contemporaneous ownership requirement. Professor Mitchell has argued that the legislation was influenced by the anti-Semitic prejudices of the predominantly non-Jewish defense bar and their reaction to the perceived prevalence with which predominantly Jewish lawyers represented plaintiffs in stockholder derivative actions challenging the corporate establishment. The New York initiative had widespread influence, as “[p]assage of the New York statute inspired a burst of heated attacks on the derivative suit as an abusive and corrupt device from supporters of business interests throughout the country.” Donna I. Dennis, Contrivance and Collusion: The Corporate Origins of Shareholder Derivative Litigation in the United States, 67 Rutgers U. L. Rev. 1479, 1520 (2015). Delaware notably did not adopt a security-for-expenses statute, but it seems likely that the 1945 enactment of Section 327 was spurred by the New York initiative.
Whatever its origins, VC Laster’s advocacy seeking to eliminate the contemporaneous ownership rule has not spurred its repeal by the Delaware legislature, hence Section 327 remains on the books. Which brings me to an interesting opinion handed down last week by Chancellor Kathaleen St. J. McCormick in SDF Funding LLC v Fry in which, after remarking that Section 327’s contemporaneous ownership requirement “is not universally beloved” and referring to VC Laster’s scholarship on the issue, she considered and ultimately rejected the argument of a putative derivative plaintiff who ran afoul of the rule, that he should be afforded “equitable standing” to prosecute the action.