Arbitration of Investors' Claims against Issuers: An Idea Whose Time Has Come?

I INTRODUCTION Arbitration of investors' claims against issuers is "an idea whose time has come" for over twenty years, ever since the U.S. Supreme Court, in Shearson/American Express, Inc. v. McMahon (1) and Rodriguez de Quijas v. Shearson/American Express, Inc., (2) overturned long-standing precedent and held that arbitration provisions contained in brokerage customers' agreements were enforceable with respect to federal securities claims. After these decisions, as arbitration before the self-regulatory organization (SRO) forums became the customary method of resolving disputes between individual investors and brokerage firms, some academics and practitioners suggested the use of mandatory arbitration to resolve investors' claims against publicly traded issuers. Proposals were floated to include in an issuer's governance documents a provision that would require arbitration of investors' claims against the issuer. (3) A second round of proposals was advanced in the post-PSLRA (Private Securities Litigation Reform Act of 1995) deregulatory climate. (4) All proponents emphasized the traditional benefits of arbitration, namely, a faster, less expensive, and more flexible process in which arbitrators possessing expertise in the subject matter resolve the parties' dispute. Many also advocated for arbitration as an antidote to perceived abuses of federal securities class actions. (5) To date, however, publicly traded domestic issuers and their counsel have not seriously pursued these proposals, probably because of several legal obstacles to implementation. First, there is doubt about the legality and enforceability under state corporate law of an arbitration provision contained in an issuer's governance documents. (6) Second, there is also doubt whether an issuer's governance documents are commercial contracts within the meaning of Federal Arbitration Act (FAA) [section] 2. (7) Third, the Securities and Exchange Commission (SEC) has never repudiated its staff position that an arbitration provision in a publicly traded issuer's governance documents would violate the anti-waiver provisions of the Securities Act of 1933 (8) and the Securities Exchange Act of 1934. (9) Recently, however, these legal obstacles may be eroding. First, while there continues to be uncertainty about the legality and enforceability of arbitration provisions contained in corporate governance documents, a recent Delaware Chancery Court opinion suggests that certificates of incorporation of publicly traded Delaware corporations could include arbitration clauses that would bind shareholders at least with respect to state fiduciary duty claims. (10) Second, it is possible that even if Delaware courts held such arbitration provisions unenforceable, other courts could conclude that they were enforceable under the FAA, which would preempt the state law. (11) Third, the SEC may find it difficult to maintain its opposition to arbitration provisions in governance documents in light of the fact that a number of foreign private issuers whose securities are traded in the United States have such provisions in their governance documents. (12) Apart from these legal obstacles, publicly traded issuers may not have previously perceived significant advantages to arbitration. Indeed, with respect to high-stakes "bet-the-company" disputes, such as securities class actions, litigation may be preferable. (13) First, the very narrow grounds for judicial review of arbitration awards may make the risk of an aberrational award unacceptably high. (14) Second, specifically with respect to federal securities claims, because the PSLRA imposes significant obstacles on plaintiffs, it was hard to see how relocating securities class actions from a court to a more flexible, less law-oriented arbitration forum would provide any advantages to corporate defendants. Finally, issuers could expect that adoption of an arbitration provision would expose them to criticism from investor advocates and negative publicity. …