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Del. Justices Award Attorney Fees Under Promissory Note Fee-Shifting Provisions

April 3, 2017
P. Clarkson Collins, Jr.
Delaware Business Court Insider

Persuaded by the arguments of the appellant noteholders, the Delaware Supreme Court ruled that two fee-shifting provisions in the promissory notes entitled them to recover attorney fees the noteholders incurred filing suit to secure warrants issuable under the notes. Relying on an exception to the American rule permitting fee-shifting where a contract so provides, the Supreme Court in Washington v. Preferred Communications Systems, No. 436, 2016 (Del. Supr. Feb. 27), ruled that the amended notes unambiguously provided fee-shifting in this case. It rejected the company's argument that under the relevant contractual provisions the warrants did not constitute "any indebtedness" and that the noteholders action to recover them did not amount to a collection action after default. Having found a clear basis in the contract to support its fee award, the Supreme Court declined the opportunity to broaden its ruling and have Delaware address an emerging trend in other states to treat a one-sided fee provision as a mutual fee-shifting provision.

BACKGROUND

Preferred Communications Systems Inc. issued promissory notes in 2006. The company promised investors repayment of principal, interest and warrants. When the notes became due in 2007, the company defaulted. In an offer letter, the company offered the noteholders additional warrants (the extension warrants) if they would forego remedies for default. When in 2013 the company engaged in a transaction triggering its obligation to pay off the notes, the company paid the principal and interest but disputed the noteholders entitlement to the extension warrants. After the noteholders brought suit in the Court of Chancery and moved for summary judgment, the Chancery Court concluded that the company had promised the extension warrants as a component of the noteholders' return and was obligated to provide them. The noteholders then moved for their attorney fees and expenses incurred in the Chancery action. Their motion was based on Section 6.2 of the notes: Should any indebtedness evidenced by this note be collected by action at law, or in bankruptcy, receivership, or other court proceedings, or should this note be placed in the hands of attorneys for collection after default, Maker agrees to pay, upon demand by holder, in addition to principal and interest and other sums, if any, due and payable hereon, court costs and reasonable attorney fees and other reasonable collection charges. Should maker be required to bring any action to enforce its rights under this note, it shall be entitled to an award of its court costs and reasonable attorney fees in such action.

The lower court initially granted the fee motion, finding the first sentence not applicable but relying on the second sentence of Section 6.2 concerning the "maker's" entitlement to fees. On the company's motion for reargument, the court granted it. The lower court acknowledged that the noteholders did not fall under the one-sided fee provision pertaining to the company and again found the first sentence inapplicable to the plaintiffs' fee claims. On appeal, the Supreme Court reversed and found that the first sentence of Section 6.2 supported the plaintiff noteholders fee claims.

DISCUSSION

The Supreme Court accepted the noteholders' argument that the company's failure to issue the extension warrants created a debt which the noteholders collected through a court proceeding. The Supreme Court rejected the company's argument that "any indebtedness" and "collection" as used in Section 6.2 applied only to suits to recover monetary amounts—not warrants.

The court found that the company's failure to issue the extension warrants was a breach which then made it "indebted" to provide the noteholders their extension warrants. The court also found that the term "collection" is not exclusively associated with collecting monetary principal and interest and is broad enough to include an action to enforce the promise to issue the extension warrants. Although the court found the language of Section 6.2 unambiguous, it backstopped its decision by noting that the company drafted the language in question and any ambiguity would be resolved against it.

TAKEAWAY

This Supreme Court decision depends very much on the particular language of the contract and the context of the dispute. One would need to be cautious, for example, in attempting to apply the court's inclusion of warrants as "indebtedness" as precedent for characterizing warrants as indebtedness in other contexts such as bankruptcy, accounting etc. At the same time the opinion provides a cautionary tale for those who rely on common, colloquial meanings for words when they are employed in a context suggesting the parties intended a more expansive use of the terms.

Finally, although several jurisdictions for public policy reasons have interpreted one-sided fee-shifting provisions as conferring a mutual benefit, the court quite appropriately left this issue for another day. The fee-shifting provision here was not one-sided, but afforded potential relief to both the company and the noteholders. Moreover, by broadly interpreting the noteholders' fee recovery rights, the court essentially placed their rights on par with the facially broader fee-shifting rights afforded the company.

Delaware Business Court Insider | March 30, 2017