A Few Thoughts on Looser Pays Bylaws

A Few Thoughts on Looser Pays Bylaws

A recent article in the May 19th edition of the Wall Street Journal titled “Loosing a Shareholder Lawsuit Could Soon Become More Expensive” caught our attention.  The article discussed a May 8th decision by the Delaware Supreme Court on ATP Tour, Inc. v. Deuscher Tennis Bund over bylaws that shift the attorneys’ fees and costs to the loosing party. This has recently been referred to as Looser Pays Bylaws.  The May 8th ruling resulted from a dispute between a private company and one of its shareholders, however lawyers believe the ruling would apply to any company incorporated in Delaware.

A number of the articles we reviewed in preparation for the writing of this blog article discussed the potential impact this ruling would have with respects to public companies and class action lawsuits.  The consensus is almost unanoumous that Looser Pays Bylaws will reduce the number of shareholder class action lawsuits. Many of these lawsuits are frivolous and without merit, and end up being settled for less than the cost of successfully defending the lawsuit in court.  Now, with the current ruling by the by the Delaware court, the lead plaintiffs in a class action lawsuit could find themselves on the wrong end of a judgment for legal fees if they fail to win their lawsuits.  This risk alone, will immediately start to reduce the number of class action lawsuits filed against public companies.  The critics of this decision, which are mostly plaintiff’s lawyers who like to file shareholder class action lawsuits that are typically settled with sizable payments for legal fees, claim that this ruling will make it easier for corporate managers to engage in bad conduct, because the threat of a lawsuit by shareholders is greatly reduced.  I disagree.  I think that this ruling makes it so that corporate management knows that if they behave badly, and a shareholder successfully wins a lawsuit, they will end up paying the shareholders legal bills as well as their own.  Therefore if the company management has behaved badly, the shareholder/plaintiff will have a better chance of a recovery that also covers his legal fees.  Here is why we tend to believe that this will be the case.

The majority of our work is with companies that are not among the Fortune 500. Some of these companies have D&O insurance, and some do not.  For those companies that do not have D&O insurance the prospects of paying their own legal fees, damages, and the winning party’s legal fees is a strong deterrent against behaving badly.  For those companies that have D&O insurance, the shareholders and the attorneys representing them understand that they will get paid following a successful lawsuit.  Let me give you a good example of this based upon our own experience.

Our Experience:

A very common issue involving smaller public companies is that some will issue stock as payment for services to consultants or employees.  These shares are issued with a restrictive legend stating that they have not been registered under the Securities Act of 1933.  However, as long as the company maintains its reporting status with the Securities Exchange Commission (SEC) they can typically have the restrictive legend removed after a six (6) month holding period in accordance with Rule 144 of the Securities Act.  Disputes involving requests to have a restrictive legend removed and a company’s refusal to do so are governed by section 8-403 of the Uniform Commercial Code (UCC).

We have had numerous conversations with shareholders of public companies where the company is refusing their request to have the restrictive legend removed, and allow the shareholder to have free trading shares.  The Uniform Commercial Code (UCC) is very clear on this, and it would be highly unusual for a shareholder to loose a lawsuit involving UCC 8-403.  However, the management of companies that engage is such behavior are essentially telling these shareholders that the stock they own is not worth the legal fees to file and win the lawsuit, or they can run up their legal fees and make it cost prohibitive for them to pursue their claims against the company.  In many of the instances we have consulted on, the shareholders have simply walked away, and written off their shares.  However, that is not always the case.

In late 2007, Coral Capital Partners was engaged to provide a variety of services to Sun River Energy.  By April of 2008, we had completed the primary tasks for which we had been engaged, however Sun River Energy was unable to pay us our agreed upon cash fee.  In the summer of 2008, we agreed to accept stock in lue of the cash.  Over the course of 2009 and 2010 we sold a portion of the shares we received, and then asked that the restrictive legend be removed from our remaining certificates so we could sell our remaining shares.  Well, new management had taken over the company is the summer of 2010, and they refused. We were prepared to litigate, as this is a very simple dispute involving Section 8-403 of the Uniform Commercial Code (UCC).  The value of our stock at the time far exceeded the estimated litigation expenses.  A rather simple decision.  Well, Sun River Energy struck first with a frivolous lawsuit that basically included every wild claim they could think of to accuse of having done.  Their goal was simple;  run up our legal fees as much as possible prior to the trial in order to make the lawsuit unprofitable for us.  Sun River Energy backed away from a majority of their claims during the discovery process, admitting there was no basis for them during depositions.  Sun River then dropped all of its claims against us immediately before trial; and as a result they were Dismissed With Prejudice at trial by the judge.  We prevailed at trial, the Judge entered a judgment in our favor against Sun River Energy on October 23, 2014.  Following the ruling, Sun River stipulated to paying a portion of our legal fees, but not all of them.  Fortunately we have very good attorneys, and everyone is being taken care of fairly.

Sun River Energy is a company with a history of litigation against its own shareholders.  The management of Sun River Energy has chosen to litigate against many of its shareholders who simply wanted to sell the shares of Sun River Energy (in the public market) that  they legally owned and were entitled to sell.  By our count, there has been at least seven (7) shareholder lawsuits involving Sun River Energy; the majority of which have involved shareholders were simply looking to have the restrictive legends removed from their certificates, as they were legally entitled to do.  Our discovery indicated that their could have potentially been a significant number of additional lawsuits over this same issue by many other shareholders, had they chosen to engage in the fight against Sun River.  The simple truth of the matter is that many of these shareholders would have litigated if there had been a better chance of having their legal fees covered.

We litigated against Sun River Energy in the Colorado District of the Federal Court system, and we won a clear victory and judgment in our favor.  We have spoken with many of the other shareholders who found themselves in lawsuits with Sun River.  Almost all of these other shareholders cited growing legal fees as a reason for settling lawsuits they strongly believed they could win at trial.  This is a real shame, and a real issue for shareholders with legitimate claims against a company.  We reviewed the other shareholder lawsuits, and we believe that everyone of them would have resulted in a victory similar to ours. While not every management team behaves rationally or with good intentions, the management of Sun River Energy might have behaved differently facing the prospects of several millions of dollars in legal fees for pursing lawsuits it could not win.

Final Thoughts:

The Delaware Supreme Court clearly ruled that the fee shifting provision of the ByLaws was facially valid, as neither the DGCl or any other Delaware statute forbids its enactment.  Additionally, and what we consider to be very important, the court stated that “no principle of common law prohibits directors from enacting fee-shifting bylaws.”  As we read the courts ruling, we believe that fee shifting ByLaws  can be enacted by a company that is incorporated in any state as long as that state does not prohibit them.  We feel that this is very important and has the potential to change shareholder litigation nationwide, not just in Delaware.

We feel that fee shifting provisions of ByLaws are an important part of good corporate governance, and shareholder protection.  We feel that they are a victory for good behavior, and a blow against bad behavior and frivolous litigation.  Ultimately it is better for all of us if more companies adopt these provisions.


If you have any questions about the above blog post, please feel free to visit our web site, www.coralcapital.com and check out we have to offer.  Feel free to contact us if you have any questions.  We can be reached at 404-816-9220 and are always willing to speak with you.

About Coral Capital Partners

Coral Capital Partners is an independent consulting and advisory firm focused on companies and participants in the lower and middle markets. We partner with our clients to provide cost effective solutions to real world issues and situations. Our experienced team brings a diverse set of skills that allows us to service a wide variety of needs.  Our area of services and expertise focuses on bringing services and solutions to our clients that are normally only available to much larger firms.  Coral Capital Partners, Inc.  provides services to Investment Banks,  Private Equity Funds, investors, and both privately held and publicly traded companies, as well as various stakeholders in those organizations.  This has included international public companies with operations on three (3) continents to smaller privately held domestic companies.  Our experience in the areas of corporate advisory, due diligence reviews, and regulatory compliance allows for a cost effective and efficient solution to the issues at hand.  Please feel free to contact our offices to see how we may be of assistance.

Coral Capital Announces Relationship with TechPerts, Inc.

Coral Capital Partners Announces Relationship with TechPerts, Inc.

Coral Capital Partners is proud to announce that it has entered into a collaborative relationship with TechPerts, Inc., a Chicago, Illinois based firm focused on providing technology consultants and expert witnesses to law firms and other parties. This is a significant expansion of our due diligence, acquisition searches, and valuation services.  We believe that the collaborative agreement with TechPerts will allow Coral Capital to expand the services offered to our clients by making the resources of TechPerts available part of the package of services offered.  We believe that our clients and prospective clients will find this of tremendous value and benefit.

TechPerts has provided experts in a wide variety of technical areas, including but not limited to:

  • Telecommunications
  • Computer design and networking
  • Wireless communications
  • Internet implementation and development
  • Product design and development
  • Computer hardware and software
  • Semiconductors
  • Electronics
  • Robotics
  • Biotechnology
  • Other high-tech disciplines

Techperts‘ experts have provided consulting services and expert testimony on matters including:

  • Patent litigation
  • Patent valuations
  • Prior art searches
  • Copyright infringement
  • Theft of trade secrets
  • Contract disputes
  • Intellectual property litigation
  • Pre-litigation investigations

Since its founding in 2007, TechPerts has established itself and demonstrated its ability by building an impressive client list which includes major law firms throughout the United States.

For additional information on how Coral Capital Partners or TechPerts may be of service to you or your firm, please feel free to contact us for additional information.

Trial Brief – Uniform Commerical Code: UCC 8-401

Trial Brief – Uniform Commercial Code:  UCC- 8-401

The Uniform Commercial Code (UCC) was 1st published in 1952.  It is one of a number of uniform acts that are part of efforts to the laws relating to commerce in all 50 states in the US.  The various laws comprising the UCC are state laws.  Article 8 of the UCC deals with Investment Securities.  As a general rule, simple disputes involving securities relating to Article 8 are normally litigated in state courts, which can be far more difficult to research than the federal court system.  Based upon our research, it appears that litigation involving Article 8 of the UCC in the Federal Court system is relatively rare. As result, we have decided to publish the Trial Brief of our litigation against Sun River Energy, Inc. involving a dispute involving Article  8, Section 401 of the UCC.  Hopefully, this provide some useful information to anyone who is involved in a dispute over the removal of a restrictive legend and Article 8, Section 401, UCC 8-401.  It should be noted that we prevailed in our litigation, and were awarded damages against Sun River Energy, Inc., as evidenced by a copy of the Judgement found here: (Sun_River_Energy_Judgment).  Additionally, a pdf copy of this Trial Brief is available here:  (Trial_Brief).




Civil Action No. 1:11-cv-00198-MSK-MEH







Defendants Erik S. Nelson, Steve Stephens, and Coral Capital Partners, Inc., through counsel, M. Gabriel McFarland and Cyd Hunt of Evans & McFarland, LLC, respectfully submit this Trial Brief:
Only two claims remain for trial, Defendants‘ counterclaim against Sun River for violating C.R.S. § 4-8-401 by refusing to remove the restrictive legends from Defendants‘ Sun River stock certificates, and their related request for declaratory judgment.

VIOLATION OF C.R.S. § 4-8-401

When a shareholder is issued a stock certificate displaying a restrictive legend, he must request the issuance of a replacement certificate with the legend removed before he can trade the stock.    See American Securities Transfer, Incorp. v. Pantheon Indus., Inc. 871 F. Supp. 400, 405 (D. Colo. 1994) (“The provisions of [§ 401] apply to the request to reissue the certificate here [without the restrictive legend] as this is a predicate for transfer of the certificate.”   The statutory obligations on the issuing entity are the same, whether the request is to register a stock transfer or to remove a restrictive legend.  See id. at 405; Clancy Systems Intern., Inc. v. Salazar, 177 P.3d 1235, 1238-39 (Colo. 2008) (“The remedy provided by the code for loss resulting from a wrongful restriction on a person’s ability to alienate a security is therefore the same, whether the loss is caused by the issuer’s unreasonable failure to officially acknowledge a transferee’s unrestricted ownership by book entry alone [a transfer], or also by refusing to issue a new, unrestricted certificate in his name.“); Fink v. Atlas Stock Transfer Corp., No. B215103, 2010 WL 4887179, *6 (Cal. App. 2 Dist. Dec. 2, 2010) (n.s.o.p.)  (“[A] request to issue a new certificate is equivalent to a request to register a transfer of the underlying stock. . . .where the stock is restricted, the issuance of a new, clean certificate to the transferor [owner] is normally the essential first step.”).

Section 401 both enumerates the circumstances in which an issuer is duty- bound to register a transfer and specifically imposes liability on the issuer for violating that duty.”  Clancy Systems, 177 P.3d at 1237-38.   In the instance of an improper restrictive legend, the statute imposes liability on the issuer  “for merely acting unreasonably.”   Id. at 1239.

A.   Elements of the claim

An issuer is under a duty to register a transfer of a security if the seven elements of section (a) are met.”  Ajjarapu v. AE Biofuels, Inc., 728 F. Supp. 2d 1154, 1165 (D. Colo. 2010).  The elements of a claim for violation of C.R.S. § 4-8-101(a) are:

1.  “Under the terms of the security the person seeking registration is eligible to have the security registered in its name.”

If the company that issued the securities is a “reporting company” in that it is subject to the reporting requirements of the Securities Exchange Act of 1934, the holder of a restricted certificate is eligible to have the security registered in his or her name— i.e., to have the shares reissued without the restrictive legend—after the passage of six months from issuance of the restricted certificate.  See 17 C.F.R. 230.144(b)(1)(i); Stuckey v. Online Resources Corp., 909 F. Supp. 2d 912, 944 (S.D. Ohio 2012) (expiration of Rule 144 holding period renders owner eligible to request removal of restrictive legend); accord, Sherwood Brands, Inc. v. Levie, No. RDB 03–1544, 2006 WL 827371, *19 (D. Md. March 24, 2006).

2. “The indorsement or instruction is made by the appropriate person or by an agent who has actual authority to act on behalf of the appropriate person.”

“‘Indorsement‘ means a signature that alone or accompanied by other words is made on a security certificate in registered form or on a separate document for the purpose of assigning, transferring, or redeeming the security. . .”  C.R.S. § 4-8- 102(a)(11). The “appropriate person” is the person specified by the security certificate. C.R.S. § 4-8-107(a)(1).

3. “Reasonable assurance is given that the indorsement or instruction is genuine and authorized.”

The issuer of the subject security “may require” assurances that the indorsement is genuine and authorized. C.R.S. § 4-8-402(a).    Because an issuer is liable for wrongful registration of a transfer if an indorsement is improper, the issuer is allowed, but not required, to request reasonable assurances of genuineness and authority.  C.R.S. § 4-8-402, Uniform Commercial Code Comment 1. “Genuine” means free of forgery or counterfeiting. C.R.S. § 4-1-201(a)(18). “Authorization” refers to the indorsing party‘s status as an appropriate person.  See, e.g., Wilbert, Inc. v. Robb, No. 83 C 6428, 1986 WL 2092, *2 (N.D. Ill. Jan. 30, 1986) (order appointing executrix of security owner‘s estate was appropriate assurance that she was authorized indorser).  Upon presentment of indorsements under reasonable assurances, the issuer must register the transfer. Id. at *2 (issuer “has not stated that adverse claims have been asserted as to the ownership of this stock, nor has it given any reason why [requesting party‘s] evidence should not be accepted.“).

Under C.R.S. § 4-8-114(1), “Unless specifically denied in the pleadings, each signature on a security certificate or in a necessary indorsement is admitted.

4. “Any applicable law relating to the collection of taxes has been complied with.”

The requesting stockholder must be in compliance with relevant tax law.

5. “The transfer does not violate any restriction on transfer imposed by the issuer in accordance with section 4-8-204.”

C.R.S. § 4-8-204 provides that, to be effective, a restriction on a certificated security must be conspicuously noted on the certificate.  An issuer cannot rely on an “unnoted restriction” in refusing to register a transfer. See Edina State Bank v. Mr. Steak, Inc., 487 F.2d 640, 644 (10th Cir. 1973) (finding issuer liable for refusal to register transfer based on asserted restriction that did not appear on certificate, court noted duty is on issuer to display restriction, not on owner to inquire).

A typical restriction states that the securities represented by the certificate have not been registered under the Securities Act of 1933 and may not be sold or otherwise disposed of unless they are so registered, or an opinion of counsel is obtained that the proposed disposition is in compliance with a recognized exemption from registration. E.g., Hefter & Carroll v. Abraham, No. 07C4137, 2007 WL 3334349, *1 (N.D. Ill. Nov. 8, 2007). This opinion of counsel is known as a “Rule 144 letter.” E.g., Rice v. Liberty Surplus Ins. Corp., 113 Fed. Appx. 116, 120 (6th Cir. 2004) (“Generally speaking, under SEC Rule 144, restricted stock may not be sold unless the issuing corporation files a letter with the SEC certifying that the shares have been held for more than [the required period] and that the number of shares to be sold does not exceed one percent of the total shares outstanding.”).

6. “A demand that the issuer not register transfer has not become effective under section 4-8-403, or the issuer has complied with section 4-8-403(b) but no legal process or indemnity bond is obtained as provided in section 4-8-403(d).”

C.R.S. § 4-8-403 provides that “an appropriate person to make an indorsement or originate an instruction” may notify the issuer of a demand that a transfer not be registered. An “appropriate person” is the person specified by the security certificate.  C.R.S. § 4-8-107(a)(1).  If such a demand is made, the issuer must promptly communicate any request to register a transfer of the security to the demanding party, and notify both the demanding party and the party requesting registration that the registration will be withheld for a period of time not to exceed thirty days in order for the demanding party to obtain legal process or post a bond to stay the transfer. The purpose of this section of the statute is “to alleviate the problems faced by registered owners of certificated securities who lose or misplace their certificates.”  Id., Uniform Commercial Code Comment 2.  Thus, the owner who has lost his certificate notifies the issuer of the missing security, and the issuer must contact the owner if the original certificate is later presented for registration.  Id.

In contrast, in the case of a demand by anyone who is not the registered owner of the stock but claims an interest in it, “if there has been an effective indorsement1  or instruction, a person who contends that registration of the transfer would be wrongful should not be able to interfere with the registration process merely by sending notice of the assertion to the issuer.   Rather, the adverse claimant must obtain legal process” pursuant to C.R.S. § 4-8-404, i.e., by obtaining an injunction or restraining order against the issuer.    Id., Uniform Commercial Code Comment 1.  “[T]he present version of section 8-404 ensures that the rights of registered owners and the duties of issuers with respect to registration of transfer will be protected against third-party interference in the same fashion as other rights of registered ownership.”  C.R.S. § 4-8-404, Uniform Commercial Code Comment 3.

In the instance of adverse claims to the stocks, the role of the issuer “is one of neutrality between the claimants.”  Bender v. Memory Metals, Inc., 514 A.2d 1109, 1117 (Del. Ch. 1986). “Such a neutral position is consistent with the fiduciary position that the corporation occupies with respect to the presenting shareholder.”  Id.

7. “The transfer is rightful or is to a protected purchaser.”

A transfer is not rightful if it violates the 1933 Securities Act; thus, the transfer agent may require a showing that the transfer does not violate the Act, such as a legal opinion letter to that effect, i.e., a Rule 144 letter.  See Fink, 2010 WL 4887179 at *6; see also Charter Oak Bank & Trust Co. v. Registrar & Transfer Co., 358 A.2d 505, 509 (N.J. Super. 1976) (“Where reasonable grounds exist to believe a proposed transfer might be a ‘wrongful’ transfer under the Securities Act, a transfer agent is justified in refusing to make the requested transfer and requesting further information to show that the transfer can be made in accordance with federal law.“).  Concomitantly, a rightful transfer is one that complies with, or is exempt from, the requirements of Rule 144. Bender, 514 A.2d at 1116.

B.    C.R.S. § 4-8-401(b): “If an issuer is under a duty to register a transfer of a security, the issuer is liable to a person presenting a certificated security2 or an instruction for registration or to the person’s principal for loss resulting from unreasonable delay in registration or failure or refusal to register the transfer.”

The securities issuer is liable for any loss resulting from its refusal or failure to register a requested transfer or for any unreasonable delay in doing so.  Ajjarapu, 728  F. Supp. 2d at 1164; Clancy, 177 P.3d at 1238.  When a transaction is rightful, the issuer‘s refusal to remove a restrictive legend may be unreasonable as a matter of law. See Bender, 514 A.2d at 1116. An issuer who “without reasonable justification” refuses to register a transfer does so “at its own peril.” Loretto Literary & Benevolent Inst. v. Blue Diamond Coal Co., 444 A.2d 256, 261 (Del. Ch. 1982) (?[A] refusal to register a transfer must be based on a legitimate ground supported by some credible evidence.?)

A proper reading of the statute [8-401] is that the right to compel registration and  the  right  to  recover  damages  from  the  delay or  refusal  to  register  are  cumulative remedies.”    Burtman  v.  Technical  Chemicals  and  Products,  Inc.,  724  So.2d  672,  675-76 (Fla.  App.  1999)  (8-401  specifies  both  that  the  issuer  “shall  register”  a  transfer  upon proper  presentation  and  that  the  issuer  is  liable  for  loss  resulting from  refusal  to  do  so).

The stockholder may be awarded both specific performance and damages for diminution of the fair market value of the stock between the date of the refusal to register and the date judgment enters.   See, e.g., Fenoglio v. Augat, Inc., No. Civ.A. 97-10012-PBS, 2000 WL 294882, *1 (D. Mass. March 16, 2000) (awarding specific performance and damages for refusing request to exercise stock options); Steranko v. Inforex, Inc., 362 N.E. 2d 222, 232 (Mass. App. 1977) (stockholder entitled to specific performance of removal of restrictive legends and damages for diminution of value in stock) (applying New York law).

C.    Conclusion

The unreasonable refusal to remove restrictive legends from stock certificates subjects the stock issuer to equitable and legal liability.  The issuer may be ordered to remove the legends, and the stockholder may be awarded the diminution in the value of his stock during the period of the wrongful refusal.

DATED this 16th day of October, 2013.

Respectfully submitted,


By: s/ Cyd Hunt
Cyd Hunt
M. Gabriel McFarland
Evans & McFarland, LLC
910 13th St., #200
Golden, CO 80401
Telephone: 303.279.8300
Facsimile: 303.277.1620
Email: gmcfarland@emlawyers.com



I hereby certify that on October 16, 2013, I electronically filed the foregoing DEFENDANTS’ TRIAL BRIEF with the Clerk of Court using the CM/ECF system, which will send notification of such filing to at least the following via e-mail:

James E. Pennington

s/Cyd Hunt     
Cyd Hunt