The Delaware Supreme Court affirms the internal affairs rule

I recently wrote that Delaware Chancellor Lamb had upheld the internal affairs rule. The Supreme Court has now affirmed, in an interesting opinion in Vantagepoint Venture Partners 1996 v. Examen, Inc., (May 5, 2005) (note my earlier misspelling of the appellee).    This opinion raises interesting questions about the constitutional status of the internal affairs rule in particular, and contractual choice of law in general.

My earlier post on Examen noted:

Chancellor Lamb explicitly predicated his decision on the internal affairs rule rather than on the constitutionality of 2115.  . . . Though the chancellor said the result was consistent with California law on choice of law, this is hard to square with 2115. This sort of direct conflict between two laws -- only one voting rule can be applied in a corporate election -- illustrates why we have the internal affairs rule.  But since O’Hara and my reasoning suggests that the California law is not unconstitutional, it seems like these disputes will be settled by races to the courthouse, at least until California gives in.

The Delaware Supreme Court, in affirming the Chancellor, dealt with both the constitutionality and race to the courthouse points.  The court explicitly grounded its decision on commerce clause principles in CTS (footnotes omitted):

[W]e hold Delaware's well-established choice of law rules and the federal constitution mandated that Examen's internal affairs, and in particular, VantagePoint's voting rights, be adjudicated exclusively in accordance with the law of its state of incorporation, in this case, the law of Delaware.

With respect to the race to the courthouse:

VantagePoint submits that, if the California action in these proceedings had been decided first, the California Superior Court would have enjoined the merger until it was factually determined whether section 2115 is applicable. If the statutory prerequisites were found to be factually satisfied, VantagePoint submits that the California Superior Court would have applied the internal affairs law reflected in section 2115, "to the exclusion" of the law of Delaware - the state where Examen is incorporated.

Indeed, this judgment would have bound the Delaware courts under full faith and credit.  The Examen court responded that the California courts, in the wake of CTS, would not follow a California Court of Appeals 1982 decision in Wilson v. Louisiana-Pacific Resources, Inc. that Section 2115 was not unconstitutional in requiring application of California's mandatory cumulative voting provision to a Utah corporation.  Instead, the California courts now would follow the Delaware court’s holding in McDermott favoring the internal affairs rule. The Examen court noted (footnotes omitted):

Two years ago, in State Farm v. Superior Court, a different panel of the California Court of Appeals questioned the validity of the holding in Wilson following the broad acceptance of the internal affairs doctrine over the two decades after Wilson was decided. In State Farm, the court cited with approval the United States Supreme Court decision in CTS Corp. v. Dynamics and our decision in McDermott. In State Farm, the court also quoted at length that portion of our decision in McDermott relating to the constitutional imperatives of the internal affairs doctrine.

So maybe there’s no conflict between California and Delaware on this point, though this would require assuming that California now believes that 2115 is unconstitutional.

I’m skeptical that 2115 is unconstitutional. My thinking has evolved on this point. In Choosing Law By Contract, 18 J. Corp. L. 245, 293-94 (1993), I noted the uncertainty on this point, even after CTS. I proposed a limited constitutional rule compelling enforcement of choice of law contracts including, but not limited to, the contract inherent in choice of the incorporating state (footnotes omitted):

MITE and CTS are best rationalized on the basis that the Court will invalidate regulation of corporate governance if, and only if, it is imposed other than by the state of incorporation. MITE struck down an anti-takeover statute that refused to enforce the parties' contractual choice of law inherent in selecting the state of incorporation. Conversely, CTS upheld an anti-takeover statute that respected the parties' contractual choice of law inherent in selecting the incorporating state, even though the case might have supported invalidation under a broader theory of the Commerce Clause. Thus, the cases make sense in terms of the limited theory suggested in this Article rather than in terms of any broad theories of the Commerce Clause such as the inconsistent-regulation or discrimination theories the Court discussed in CTS . To be sure, the Court has not necessarily constitutionalized contractual choice of law under the Commerce Clause. The Court could, for example, uphold regulation by a non-incorporating state if the firm can avoid excessive burdens by complying with one of two inconsistent laws.  The Court also could insist on its creature-of-state-law analysis and refuse to analogize corporate and non-corporate contracts, even to the point of invalidating a state law selected by a choice-of-law clause outside the corporate governance context. But the Court's future direction is indicated by its enforcement of forum-selection and arbitration clauses.  These cases indicate the Court's sympathy with the general notion of enforcing contractual selection of adjudication rules, and its willingness to mandate enforcement of contracts in state-court cases if it can find the appropriate constitutional grounds.

Since that article, I have expressed doubt about the wisdom of constitutionalizing choice of law in several areas:

–-Choice of law generally: From Politics to Efficiency in Choice of Law, 67 U. Chi. L. Rev. 1151 (2000) (draft); From Efficiency to Politics in Contractual Choice of Law, 37 Ga. L. Rev. 363 (2003) (draft).

--Same sex marriage: A Standard Form Approach to Same-Sex Marriage, 38 Creighton Law Review 309 (2005) (draft); Calling a Truce in the Marriage Wars (with Buckley), 2001 University of Illinois Law Review 561 (draft).

--Electronic commerce: State Regulation of Electronic Commerce (with Kobayashi), 51 Emory L.J. 1 (2002) (draft).

The Examen opinion confronts the US Supreme Court with the need to clarify not only whether the internal affairs rule is constitutionally compelled under the negative commerce clause, but the more general question of enforceability of contractual choice of law, as indicated by the above list of issues.