It's no secret that the judges of Delaware Chancery Court don't much like the forum fights that have become an inevitable blight on shareholder derivative and M&A litigation. In those cases, unlike federal securities fraud class actions, there's no formal mechanism for picking lead counsel. So, as Vice Chancellor Travis Laster wrote Monday in a monumental and must-read ruling in the Allergan derivative litigation, shareholder firms -- or, as Laster calls them, "rational economic actors" -- have a powerful incentive to stake a claim to a promising derivative case by rushing to court with a bare-bones complaint. And given the low cost of bringing a suit without conducting any independent investigation, there's every reason for plaintiffs' firms to file outside of Delaware, hoping for a piece of the lead counsel action wherever the case proceeds.

Laster offered a cynical but well-informed take on the shareholder securities bar (forgive the long quote; it's worth it). "Motivated by first-to-file pressure, plaintiffs' firms rationally eschew conducting investigations and making books and records demands, fearing that any delay would enable competitors to gain control of the litigation and freeze-out the diligent lawyer. No role, no result, no fee," he wrote. "For fast-filing lawyers, the resulting action has the dynamics of a lottery ticket. In most cases, the fast-filing plaintiff will not have pled a derivative claim that can overcome (a defense motion to dismiss). But in the rare case, fate may bless the fast-filer with something implicating the board, or a court might be offended by the magnitude of the corporate trauma and allow the derivative action to proceed.... A fast-filer can readily build a portfolio of cases in the hope that one will hit."

Targeted corporations have to expend time and money on lawyers as judges and plaintiffs' lawyers figure out who's in charge of derivative litigation, but the real victims of hurry-up filings, Laster explained, are the shareholders. Few of those scantily investigated derivative suits can meet the high bar for establishing a breach of duty by directors, so most of them end up being dismissed. That's no big deal for plaintiffs' firms that regard every case as just one line item in a portfolio, Laster suggested. And it's actually a boon for defendants, who would just as soon move to dismiss a case with skimpy allegations. But shareholders suffer when their lawyers don't investigate.

Laster has no illusions about who drives derivative litigation -- he's convinced that it's lawyers, not shareholders. So even though he concluded that Allergan shareholders in a parallel derivative lawsuit in federal court in Santa Ana, California, "did not adequately represent" the corporation, he was really taking a jab at the plaintiffs' lawyers who litigated that case. Laster ruled that their inadequate investigation of the Allergan board should not preclude the Delaware suit on collateral estoppel grounds.

The facts of the dueling Allergan derivative suits are complicated, and inadequate representation wasn't Laster's only reason for finding no collateral estoppel, so stick with me. In 2010, you may recall, Allergan pleaded guilty and agreed to pay $600 million in civil and criminal fines for off-label marketing of Botox as a therapeutic treatment. A rash of derivative filings followed the announcement of the government settlement. The firms Chimicles & Tikellis and Barrack, Rodos & Bacine ended up in charge in Delaware, in a case overseen by Laster. Parallel California suits were consolidated before U.S. District Judge David Carter, with Robbins Geller Rudman & Dowd, Robbins Umeda and The Weiser Law Firm as lead counsel.

Allergan defense lawyers from Irell & Manella moved to stay the California litigation so Delaware could decide the case. The California judge, who had ordered quick briefing on motions to dismiss by the board (represented by Gibson, Dunn & Crutcher), denied the motion to stay. Soon thereafter he dismissed the case, finding that shareholders hadn't satisfied the prerequisite for derivative litigation of proving the futility of demanding that the board take action on its own. In January Carter ended the California litigation, dismissing the shareholder suit with prejudice.

Allergan and its board then moved to dismiss the Delaware suit on collateral estoppel grounds, asserting that under a California federal court ruling called LeBoyer v. Greenspan, when one court finds demand futility in a derivative suit, that holding applies in parallel derivative actions since derivative suits are all filed for the same nominal plaintiff, the corporation itself. Collateral estoppel seemed like a simple question in the Delaware derivative case, since, according to the defendants, the Delaware Supreme Court has held that Delaware judges should be guided by prevailing precedent on collateral estoppel in the jurisdiction that issued the cited ruling. In the Allergan defendants' reasoning, Delaware said to look to California and California said collateral estoppel applies, so the Delaware case had to be dismissed.

Not according to Laster, however. He found, first of all, that under the internal affairs doctrine Delaware collateral estoppel precedent, and not California, applies. "To my mind, whether a stockholder in a Delaware corporation can sue derivatively after another stockholder attempted to plead demand futility should not be governed by potentially different rules across twelve federal circuits, fifty states, and the District of Columbia, Puerto Rico, and other territories," he wrote. "Applying different rules in different courts would disrupt the internal affairs of corporations."

And under Delaware precedent, the vice chancellor said, a shareholder whose derivative suit has been dismissed has not actually sued on behalf of the corporation, since the shareholder hasn't been determined to stand in the shoes of the corporation. So the dismissal of a shareholder suit in another jurisdiction cannot preclude a Delaware shareholder derivative action because the plaintiffs in the two cases are not (to use a technical term) "in privity."

"Indeed, where a court grants a (dismissal) motion, the fact that the suing stockholder lacks authority to sue in the name of the corporation and assert corporate claims should be clear," Laster wrote. "This fact in turn exposes the inequity of defendants subsequently arguing for preclusive effect. Having first argued in their (dismissal) motion that the stockholder plaintiff lacks authority to assert claims derivatively on behalf of the corporation -- and having prevailed on that point -- the same defendants next argue that the stockholder nevertheless had authority to assert the claims on behalf of the corporation sufficient to bind all other stockholders. Judicial estoppel should bar such a reversal of position."

I'm betting that Laster's collateral estoppel analysis is going to turn out to be very controversial, since it seems to guarantee shareholders a second chance at derivative litigation. Under the vice chancellor's reasoning, if plaintiffs lose a dismissal motion in any other forum, they can try again in Delaware Chancery Court, where the previous dismissal doesn't preclude claims.

But lest you think Laster's decision will be hailed by shareholder lawyers, the vice chancellor went on to analyze a second reason for denying collateral estoppel: the inadequacy of the California plaintiffs as representatives of Allergan shareholders because they rushed to file.

In the Delaware litigation, Laster explained, yet another plaintiffs' firm (Shepherd, Finkelman, Miller & Shah) had entered the action with a suit demanding to see the Allergan board's books and records. Though the other Delaware plaintiffs' firms -- and the Allergan defendants -- initially opposed Shepherd, Finkelman's intervention, the three plaintiffs' firms ended up as co-counsel, and the information they obtained through the books and records suit permitted their amended complaint to withstand the defense motion to dismiss.

To Laster, the strength of the Delaware complaint, thanks to the books and records suit, underlined why shareholders should investigate before filing derivative actions. "Because a plaintiff must plead a connection to the board, only the extremely rare complaint will be able to establish the necessary linkage without referring to internal corporate documents," he wrote. "To obtain the necessary documents, the Delaware courts have long exhorted potential derivative plaintiffs to (bring books and records litigation) to investigate their claims and obtain corporate books and records before filing derivative litigation." Otherwise, he said, their cases are much likelier to be tossed. "Put simply, fast-filing generates dismissals," Laster wrote.

Allergan eventually gave the California plaintiffs the same books and records information they were forced to produce to the Delaware firms, but Laster said that as a matter of Delaware court policy, his objective is to discourage rushed filings, so he deemed the California plaintiffs inadequate for obtaining the records only as a result of the Delaware action. "In my view, a court in a plenary derivative action such as this one has discretion to address a rush to the courthouse by determining that the plaintiff in the original derivative action did not provide adequate representation for the corporation and declining on that basis to give preclusive effect to a ... dismissal of the fast-filer's complaint," he wrote. "In this case, to give preclusive effect to the California judgment would favor the lawyers who filed hastily, penalize the diligent counsel who used (books and records litigation), and confer a case-dispositive advantage on the defendants at the potential expense of the corporation."

That's a strong hint to the shareholder bar about what kind of derivative complaints Laster expects. Will plaintiffs firms heed the warning?

I left messages with lawyers at the three California firms Laster criticized, but none called me back. Wayne Smith of Gibson, Dunn declined to comment on behalf of the Allergan defendants.

(Reporting by Alison Frankel)

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