LASTER, Vice Chancellor.
In January 2012, Hecla Mining Company ("Hecla" or the "Company") issued a press release lowering its projections for silver production, and the United States Mine Safety and Health Administration ("MSHA") issued a press release noting
The Souths have invoked the legal theory first recognized by Chancellor Allen in In re Caremark International Inc. Derivative Litigation, 698 A.2d 959 (Del.Ch. 1996). As developed in subsequent cases and endorsed by the Delaware Supreme Court in Stone ex rel. AmSouth Bancorporation v. Ritter, 911 A.2d 362 (Del.2006), directors can be held liable under this theory for knowingly causing or consciously permitting the corporation to violate positive law, or for failing utterly to attempt to establish a reporting system or other oversight mechanism to monitor the corporation's legal compliance. Because a plaintiff asserting a Caremark claim must plead facts sufficient to establish board involvement in conscious wrongdoing, our Supreme Court has admonished stockholders repeatedly to use Section 220 of the General Corporation Law, 8 Del. C. § 220, to obtain books and records and investigate their claims before filing suit.
The Souths did not heed this advice, and the defendants moved to dismiss their cursory complaint pursuant to Rule 23.1 for failure to make demand or adequately plead demand futility. The motion is granted, and the complaint is dismissed "with prejudice and without leave to amend as to the named plaintiff." King v. VeriFone Hldgs., Inc., 12 A.3d 1140, 1151 (Del.2011); cf. Ch. Ct. R. 15(aaa).
As discussed below, uncertainty exists about the degree to which a with-prejudice dismissal of one stockholder's lawsuit could have preclusive effect on the litigation efforts of other stockholders. There is a
The facts are drawn from the plaintiffs' verified stockholder derivative complaint and the documents it incorporates by reference.
Hecla is a Delaware corporation headquartered in Coeur d'Alene, Idaho. Its shares trade publicly on the New York Stock Exchange under the symbol "HL." Hecla engages in the discovery, acquisition, development, production, and marketing of precious and base metals such as silver, gold, lead, and zinc. The Company owns and operates two mines: the Greens Creek mine located on Admiralty Island, Alaska, and the Lucky Friday mine located in the Coeur d'Alene Mining District in northern Idaho. In 2010, production from the Greens Creek mine contributed $313.3 million in revenue, representing 75% of Hecla's consolidated sales; production from the Lucky Friday mine contributed $105.5 million in revenue, representing 25% of Hecla's consolidated sales.
Hecla's board of directors (the "Board") has seven members. One is the Company's CEO. The others are non-management directors whose status as independent outsiders is not meaningfully challenged. Each has impressive experience and qualifications beneficial to a mining company and inconsistent with the complaint's premise of uncaring directors who consciously disregarded their duties.
In addition to the qualifications and roles described above, the four outside directors with the most mining industry experience (directors Bowles, Rogers, Stanley, and Taylor) serve on the Board's Health, Safety, Environment & Technical Committee (the "Safety Committee"). Id. ¶¶ 12, 21. According to its charter, the responsibilities of the Safety Committee include (i) reviewing health, safety and environmental policies; (ii) discussing annually with management the scope and plans for conducting audits of the Company's performance in health and safety; (iii) reviewing and discussing with management any material noncompliance with health or safety laws and management's response to such noncompliance; and (iv) receiving and reviewing updates from management regarding the Company's health and safety performance. Id. The Safety Committee's existence and mandate are likewise inconsistent with the complaint's central premise of intentionally indolent directors.
During 2011, Hecla experienced a series of incidents at the Lucky Friday mine. On April 15, a rock fall occurred more than a mile below the surface where two Hecla employees were working. Id. ¶ 30. MSHA conducted an investigation and issued a report on November 17 (the "MSHA Report"). The complaint cites liberally to and quotes from the MSHA Report, thereby incorporating it by reference.
The first, unnumbered page of the MSHA Report bears the heading "Overview" and summarizes MSHA's findings. It states:
The body of the MSHA Report amplifies the "Overview" with a "Root Cause Analysis" that identifies both management's shortcomings and the corrective action taken.
MSHA Report at 6-7. The complaint relies heavily on the MSHA Report's references to "management," a term the Report uses to refer to the "principal operating officials" for the Lucky Friday mine: Phil Baker, CEO; John Jordan, Vice-President; and Scott Hogamier, Safety Coordinator. Id. at 1. The complaint does not articulate how director action or conscious inaction led to the injuries suffered in the April 2011 rock fall.
In a sad coincidence, a second accident occurred on November 17, 2011, the same day the MSHA Report issued. Hecla was constructing a new internal shaft, known as the # 4 Shaft, to provide deeper access at the Lucky Friday mine. Compl. ¶ 33. According to Hecla's press release,
Id. One of the contractors later died from his injuries. Id. ¶ 34.
Hecla immediately stopped mining operations to focus on emergency response and to facilitate an MSHA investigation. Id.
MSHA Program Policy Manual, Volume 1, Interpretation and Guidelines on Enforcement of the 1977 Act, 103(j) Mine Accident and Rescue, Recovery and Preservation of Evidence (May 16, 1996), http://www.msha. gov/regs/complian/ppm/PMVOL1B.HTM (last visited September 25, 2012). The complaint does not allege any connection between the accident at the # 4 Shaft and the earlier April 2011 incident. The complaint does not articulate how director action or conscious inaction led to the injuries suffered at the # 4 Shaft.
On December 14, 2011, a rock burst at the Lucky Friday mine injured seven miners. A rock burst is "a sudden and violent failure of overstressed rock resulting in the instantaneous release of large amounts of accumulated energy." 30 C.F.R. § 57.2. "This violent release of energy has been observed on a scale ranging from the expulsion of small rock fragments to the collapse of the excavation. Rockbursts are often observed to follow enlargement of the cavity by blasting and appear to be more frequent in rocks which are hard and brittle." J.P. Bardet, Finite Element Analysis of Rockburst as Surface Instability, 8 Computers & Geotechnics 177, 177-78 (1989).
Ernest A. Hodgson, What is a Rockburst?, 38 J. Royal Astronomical Soc'y Can. 1, 2 (1944).
On December 15, 2011, Hecla issued a press release explaining that "[t]he incident occurred at 5900 feet below the surface. Seven people were transported to local hospitals and treated for non-life-threatening injuries. No mine blasting had taken place anywhere in the mine for the previous 24 hours; therefore, the rock burst [was] unrelated to mining activities." Compl. ¶ 35. The complaint does not allege any connection between the rock burst, the November 2011 accident at the # 4 Shaft, or the April 2011 incident. Although the complaint alleges that "[t]his shareholder derivative action arises from the harm done to Hecla by the Board when their conscious disregard of their fiduciary duties resulted in the December 14, 2011 rock burst," id. ¶ 5, that statement is scientifically impossible and literally untrue. The complaint does not otherwise allege how director action or conscious inaction led to the injuries suffered in the December 2011 rock burst.
Hecla closed the Lucky Friday mine after the rock burst. On December 21, 2011, Hecla announced that it would construct a 750-foot bypass shaft in lieu of
On January 11, 2012, Hecla issued a press release announcing that MSHA had ordered the Company to close the Silver Shaft, the primary access to the Lucky Friday mine, pending removal of sand and concrete material that had built up over a number of years. Hecla expected compliance to take at least through the end of 2012 and to delay completion of the bypass shaft. Hecla lowered its estimated silver production for 2012 to 7 million ounces. The complaint does not allege any connection between the closure of the Silver Shaft, the December 2011 rock burst, the November 2011 accident at the # 4 Shaft, or the April 2011 incident. The complaint does not articulate how director action or conscious inaction led to the buildup of sand and concrete.
On January 25, 2012, MSHA issued a press release describing the results of inspections conducted by MSHA in December 2011. Compl. ¶ 38. The press release noted that MSHA had issued 59 citations and 15 orders to Hecla in connection with the December 2011 rock burst. Id. According to the press release,
Id. The MSHA release stated that the agency would "continue to use all the enforcement tools at [MSHA's] disposal to combat non-compliance." Id.
The January 2012 press releases by Hecla and MSHA started a race to the courthouse. On February 1, a week after the MSHA press release, the first of two securities class actions was filed in the United States District Court for the District of Idaho. The complaints allege violations of Rule 10b-5, 17 C.F.R. § 240.10b-5, and contend that Hecla's disclosures about its safety procedures were materially misleading.
Seven stockholder derivative actions followed. On February 23, 2012, a stockholder derivative action captioned Cygan v. Crumley, No. CV-2012-1506, was filed in Idaho state court. On February 29, two stockholder derivative actions, captioned Hesley v. Baker, No. 2:12-cv-97, and Moss v. Baker, No. 2:12-cv-98, were filed in Idaho federal court. On March 1, Steven and Linda South filed their derivative action in this Court. On March 9, two more derivative actions were filed, one in Idaho state court captioned Murguia v. Crumley,
Like this case, the other six derivative actions assert Caremark claims in an effort to hold the Hecla directors liable for any losses suffered by Hecla. Like the Souths, none of the other derivative plaintiffs used Section 220 before filing suit. Hecla has represented, however, that two different stockholders did serve Section 220 demands rather than filing suit. Hecla produced documents in response to the first request on May 1 and is currently in the process of addressing the second demand.
Facing seven competing derivative lawsuits in three different jurisdictions, the defendants sought to distill from the chaos some degree of procedural order. The three stockholder derivative actions in Idaho federal court were consolidated and stayed pending resolution of motions to dismiss in the federal securities actions. A motion to consolidate the three derivative actions in Idaho state court was filed and remained pending at the time of oral argument in this case. Here, the defendants moved to dismiss pursuant to Rule 23.1.
After reviewing the Souths' complaint and considering the Rule 23.1 briefing, I questioned whether the plaintiffs and their counsel had represented the corporation adequately when rushing to file suit. Recent decisions by this Court have suggested a presumption that when a stockholder hastily files a Caremark claim after the public announcement of a corporate trauma, in an effort to shift the still-developing losses to the corporation's fiduciaries, but without first conducting a meaningful investigation, the plaintiff has not adequately represented the corporation.
When a corporation suffers harm, the board of directors is the institutional actor legally empowered under Delaware law to determine what, if any, remedial action the corporation should take, including pursuing litigation against the individuals involved. See 8 Del. C. § 141(a). "A cardinal precept of the General Corporation Law of the State of Delaware is that directors, rather than shareholders, manage the business and affairs of the corporation." Aronson v. Lewis, 473 A.2d 805, 811 (Del.1984). "Directors of Delaware corporations derive their managerial decision making power, which encompasses decisions whether to initiate, or refrain from entering, litigation, from 8 Del. C. § 141(a)." Zapata Corp. v. Maldonado, 430 A.2d 779, 782 (Del.1981) (footnote omitted). Section 141(a) vests statutory authority in the board of directors to determine what action the corporation will take with its litigation assets, just as with other corporate assets. See id.
In a derivative suit, a stockholder seeks to displace the board's authority. Aronson, 473 A.2d at 811; see also Desimone v. Barrows, 924 A.2d 908, 914 (Del. Ch.2007) (noting that the issue for a Rule 23.1 motion is "whether the ... board should be divested of its authority to address [the underlying] misconduct"). To do so, the complaint must allege with particularity
The plaintiffs concede that they "have not made any demand on the Board." Compl. ¶ 45. Consequently, they must meet Court of Chancery Rule 23.1's heightened pleading standard, which requires that a complaint allege "with particularity... reasons for the plaintiff's failure to obtain the action or for not making the effort." Ch. Ct. R. 23.1. Demand is futile when "the particularized factual allegations of a derivative stockholder complaint create a reasonable doubt that, as of the time the complaint is filed, the board of directors could have properly exercised its independent and disinterested business judgment in responding to a demand." Rales, 634 A.2d at 934. The plaintiffs do not allege that any particular director in office at the time of the filing of the complaint made a specific decision challenged in the complaint, so the more specialized two-part Aronson test does not apply. Compare Aronson, 473 A.2d at 814 (articulating two-part test where board composition did not change) with Rales, 634 A.2d at 933-34 (explaining that "[c]onsistent with the context and rationale of the Aronson decision, a court should not apply the Aronson test for demand futility where the board that would be considering the demand did not make a business decision which is being challenged in the derivative suit.").
As noted, the complaint attempts to plead a Caremark claim arising out of the unfortunate series of incidents at the Lucky Friday mine. A Caremark claim contends that the directors set in motion or "allowed a situation to develop and continue which exposed the corporation to enormous legal liability and that in doing so they violated a duty to be active monitors of corporate performance." Caremark, 698 A.2d at 967. "A stockholder cannot displace the board's authority [over the corporation's claims] simply by describing the calamity and alleging that it occurred on the directors' watch." Allergan, 46 A.3d at 340. "`[M]ost of the decisions that a corporation, acting through its human agents, makes are, of course, not the subject of director attention.'" Stone, 911 A.2d at 372 (quoting Caremark, 698 A.2d at 968). "[O]rdinary business decisions that are made by officers and employees deeper in the interior of the organization can ... vitally affect the welfare of the corporation and its ability to achieve its various strategic and financial goals." Caremark, 698 A.2d at 968. "[D]irectors' good faith exercise of oversight responsibility may not invariably prevent employees from violating criminal laws, or from causing the corporation to incur significant financial liability, or both...." Stone, 911 A.2d at 373.
To plead demand futility, a stockholder plaintiff must plead facts establishing a sufficient connection between the corporate trauma and the board such that at least half of the directors face "a substantial likelihood of personal liability." Desimone, 924 A.2d at 914. Without a connection to the board, a corporate trauma will not lead to director liability. Without a substantial threat of director liability, a court has no reason to doubt the board's ability to address the corporate trauma and evaluate a related demand.
A plaintiff can plead the necessary connection by alleging with particularity actual director involvement in a decision or series of decisions that violated positive law. "[I]mposition of liability requires a showing that the directors knew they were not discharging their fiduciary
A plaintiff who cannot point to facts supporting such a decision can plead that the board consciously failed to act after learning about evidence of illegality — the proverbial "red flag." A plaintiff might plead, for example, that the directors
David B. Shaev Profit Sharing Account v. Armstrong, 2006 WL 391931, at *5 (Del. Ch. Feb. 13, 2006) (footnote omitted). A board that fails to act in the face of such information makes a conscious decision, and the decision not to act is just as much of a decision as a decision to act. See Aronson, 473 A.2d at 813 (equating "a conscious decision to refrain from acting" with a decision to act); accord Hubbard v. Hollywood Park Realty Enters., Inc., 1991 WL 3151, at *10 (Del.Ch. Jan. 14, 1991).
If there is no evidence of direct board action or conscious inaction, then the plaintiff might seek to plead "that a board of directors is dominated or controlled by key members of management, who the rest of the board unknowingly allowed to engage in self-dealing transactions." Shaev, 2006 WL 391931, at *5 n. 11. Typically, however, the plaintiff must fall back to the final means of connecting the directors to illegality: the board's obligation to adopt internal information and reporting systems that are "reasonably designed to provide to senior management and to the board itself timely, accurate information sufficient to allow management and the board, each within its scope, to reach informed judgments concerning both the corporation's compliance with law and its business performance."
A plaintiff seeking to establish liability under this final route faces a pleading burden that "is quite high." Id. at 971.
Id. "Concretely, this latter allegation might take the form of facts that show the company entirely lacked an audit committee or other important supervisory structures, or that a formally constituted audit committee failed to meet." Shaev, 2006 WL 391931, at *5 (footnote omitted); see Guttman v. Huang, 823 A.2d 492, 507 (Del. Ch.2003) ("[T]he kind of fact pleading that is critical to a Caremark claim [includes]... contentions that the company lacked an audit committee, that the company had an audit committee that met only sporadically and devoted patently inadequate time to its work, or that the audit committee had clear notice of serious accounting irregularities and simply chose to ignore them or, even worse, to encourage their continuation.").
The Souths' complaint does not cite any statute, regulation, or other provision of positive law that the Board allegedly decided consciously to violate, nor facts from which such a decision could be inferred. The plaintiffs might have looked for evidence of such a decision by using Section 220 to obtain minutes and related materials from Board and Safety Committee meetings. Instead, the complaint relies on the November 2011 MSHA Report and January 2012 MSHA press release. Neither supports a reasonable inference that the Board consciously decided to violate positive law.
In the Overview section, the MSHA Report states that the April 2011 accident occurred because management "did not have policies and procedures that provided for safe mining of split stopes in a multi-vein deposit," "failed to design, install, and maintain a support system to control the ground in places where miners worked and traveled," and "failed to ensure that appropriate supervisors or other designated persons examined or tested the ground conditions where the fall occurred." The MSHA Report does not equate "management" with the Board. The MSHA Report uses the term to refer to the "principal operating officials" for the Lucky Friday mine: Phil Baker, CEO; John Jordan, Vice-President; and Scott Hogamier, Safety Coordinator. Id. at 1. Under Stone, Guttman, and Caremark, it is not reasonable to infer that the Board acted in bad faith based on references to "management," particularly when the MSHA Report focuses on nuts-and-bolts operational issues.
Nor does the MSHA Report support a reasonable inference of conscious Board action or intentional inaction. Using language of omission, not commission, the MSHA Report notes that policies on certain safety issues were not in place. It would be too great a leap to infer that the directors engaged in affirmative wrongdoing or consciously abdicated their duties from the non-existence of the policies.
The MSHA press release also does not support a reasonable inference of conscious Board action or intentional inaction. The press release describes the results of inspections conducted by MSHA in December 2011. Compl. ¶ 38. It notes that MSHA had issued 59 citations and 15 orders to Hecla in connection with the December 2011 rock burst. Id. Each of the illustrative violations references a day-to-day operational issue in the Lucky Friday mine. None suggest a Board-level decision.
In their central argument, the plaintiffs contend that the unfortunate incidents at
Although the complaint asserts that the directors knew of and ignored the 2011 safety incidents, the complaint nowhere alleges anything that the directors were told about the incidents, what the Board's response was, or even that the incidents were connected in any way. See In re Dow Chem. Co. Deriv. Litig., 2010 WL 66769, at *13 (Del.Ch. Jan. 11, 2010) (declining to draw inference that prior, unrelated misconduct supported inference that board should have been on notice of potential wrongdoing); In re Citigroup, Inc. S'holder Deriv. Litig., 964 A.2d 106, 129 (Del.Ch.2009) (rejecting the contention that "alleged, prior, unrelated wrongdoing would make directors `sensitive to similar circumstances'"). Here again, the Souths might have used Section 220 to investigate what the directors knew and did, evaluate their theories of liability, and make an informed decision about whether or not to sue.
Rather than making particularized allegations about red flags and director knowledge, the plaintiffs argued that the members of the Safety Committee must have known about and consciously ignored the problems at the Lucky Strike mine because they were charged with overseeing safety. As numerous Delaware decisions make clear, an allegation that the underlying cause of a corporate trauma falls within the delegated authority of a board committee does not support an inference that the directors on that committee knew of and consciously disregarded the problem for purposes of Rule 23.1.
In their briefs and at oral argument, plaintiffs' counsel cited In re Massey Energy Co. Derivative & Class Action Litigation, 2011 WL 2176479 (Del.Ch. May 31,
Ultimately, plaintiffs' counsel was forced to retreat during oral argument to a more reductionist position: knowledge can be inferred because three safety incidents occurred within one year. Tr. 28-29. Like any simplistic bright-line rule, a three-incidents-in-a-year test would be easy to administer. And concededly the number three has a lot going for it. Three Graces. Three Fates. Three wishes from the djinni in Aladdin's lamp. It's the number of licks it takes to get to the center of a Tootsie Pop, and for fans of Schoolhouse Rock, it will always be a magic number. But three mining accidents in a year does not support a reasonable inference of board involvement, much less bad faith, conscious wrongdoing, or knowing indifference on the part of a board of directors, particularly where the incidents appear unrelated. In a large corporation engaged in a dangerous business, three incidents could readily happen in a single year because of decisions made and actions taken sufficiently deep in the organization for the board not to have been involved.
Finally, the Souths' complaint does not contain allegations from which a court could infer "a sustained or systematic failure of the board to exercise oversight — such as an utter failure to attempt to assure a reasonable information and reporting system exists." Caremark, 698 A.2d at 971. The complaint instead pleads affirmatively that the Board established a Safety Committee and charged the committee with (i) reviewing health, safety and environmental policies; (ii) discussing annually with management the scope and plans for conducting audits of the Company's performance in health and safety; (iii) reviewing and discussing with management any material noncompliance with health or safety laws and management's response to such noncompliance; and (iv) receiving and reviewing updates from management regarding the Company's health and safety performance. Compl. ¶ 21. The members of the Safety Committee were the four outside directors with the most mining industry experience (directors Bowles, Rogers, Stanley, and Taylor). These pled facts do not support an inference of an "utter failure to attempt to assure a reasonable information and reporting system exists," but rather the opposite: an evident effort to establish a reasonable system. Caremark, 698 A.2d at 971; see Ash v. McCall, 2000 WL 1370341, at *15 n. 57 (Del.Ch. Sept. 15, 2000) ("the existence of an audit committee... is some evidence that a monitoring and compliance system was in place"). The complaint thus "refutes the assertion that the directors" utterly failed to attempt to fulfill their oversight obligations. Stone, 911 A.2d at 372.
The plaintiffs' brief in opposition to the Rule 23.1 motion further recognizes that the Board did not utterly fail to monitor and address Hecla's safety concerns. According to the plaintiffs,
Opp'n. Br. at 4. Directors who try to "get this balance right," id., are protected by the business judgment rule, even if they fall short in the attempt. See Massey Energy, 2011 WL 2176479, at *20-21.
Because the complaint lacks particularized facts supporting a reasonable inference that a majority of the Board faces a substantial risk of liability, the Souths have not pled demand futility and their lawsuit is subject to dismissal under Rule 23.1. In King II, the Delaware Supreme Court suggested three options available to a trial court when confronted with a hastily filed derivative complaint that failed to pass muster under Rule 23.1 "One possible remedy for a prematurely-filed derivative action might be for the plenary court to deny the plaintiff `lead plaintiff' status in such circumstances." 12 A.3d at 1151. That potential remedy is not available here, because only the Souths have sued in this Court. Likewise, no one has sought to stay or dismiss this case in favor of a competing action in a different forum where the stockholder plaintiff acted diligently.
The Supreme Court next suggested that "[a]nother (although more drastic) remedy for a derivative complaint brought prematurely and without prior investigation of facts that would excuse a pre-suit demand, would be for the plenary court to dismiss the derivative complaint with prejudice and without leave to amend as to the named plaintiff." Id. This is the consequence contemplated by Court of Chancery Rule 15(aaa), which provides that
In light of Rule 15(aaa), the Souths were on notice that dismissal with prejudice as to the named plaintiff would be the likely consequence if the Rule 23.1 motion were granted.
The King II Court suggested that "[a] third possible remedy would be for the plenary court to grant leave to amend one time, conditioned on the plaintiff paying the defendants' attorneys' fees incurred on the initial motion to dismiss." 12 A.3d at 1151-52. Rule 15(aaa) implements this alternative by contemplating that a plaintiff may obtain leave to amend "for good cause shown" if the Court finds that "dismissal with prejudice would not be just under all the circumstances."
Opp'n. Br. at 17. Wholly missing was any explanation as to why the Souths did not use Section 220 before filing suit, as the Delaware Supreme Court has recommended repeatedly.
If the passage of time and the operation of the contemporaneous ownership requirement made it unlikely that another plaintiff would be available, then a single opportunity to amend with fee shifting to the defendants for the initial motion to dismiss could be warranted. If a statute of limitations bar loomed, permitting a new representative plaintiff and different counsel to intervene might be appropriate. In this situation, however, dismissal of the complaint with prejudice as to the Souths is a fitting consequence that does not seem likely to work any prejudice on the corporation. There are at least two stockholders who served Section 220 demands on Hecla and who appear to be proceeding (at least to date) in accordance with the best interests of the corporation and the recommendations of the Delaware Supreme Court. Dismissing the current complaint with prejudice as to the Souths comports with the expectations set by Rule 15(aaa) and "freshen[s] the litigation environment so other plaintiffs whose lawyers ... conducted a pre-suit investigation might feel that they could now lead the case." King I, 994 A.2d at 355.
As noted, good faith disagreements exist over the extent to which a dismissal with prejudice as to the named plaintiff could have preclusive effect on the efforts of other stockholders to bring suit, including those stockholders who have attempted to use Section 220. After considering the Souths' pleading, it concerned me that if a different stockholder carefully investigated the events at the Lucky Friday mine, uncovered a meritorious claim, and wished to pursue it, the potential combination of a broad preclusion rule together with all-too-predicable results of the Souths' litigation strategy could bar the diligent stockholder from suing. The Delaware Supreme Court's decision in King II reflects similar concern about bright-line rules that could prevent the fair and meaningful consideration of derivative claims. The King II decision rejected as "overbroad" a rule "that would automatically bar a stockholder-plaintiff from bringing a Section 220 action solely because that plaintiff previously filed a plenary derivative suit." 12 A.3d at 1151. As discussed above, the Supreme Court instead suggested three non-preclusive remedies for the plenary court to consider. See id. at 1151-52. The first two remedies appear designed to give a different plaintiff the opportunity to pursue the derivative claims. See id. at 1151 (suggesting the plenary court either deny "lead plaintiff" status to the stockholder who failed to use Section 220, thereby allowing a different plaintiff to control the case, or "dismiss the derivative complaint with prejudice and without leave to amend as to the named plaintiff," implying that a different plaintiff should be able to
In a representative action, a trial court has an independent and continuing duty to scrutinize the representative plaintiff to see if she is providing adequate representation and, if not, to take appropriate action. See In re Revlon, Inc. S'holders Litig., 990 A.2d 940, 955 (Del.Ch. 2010). Faced with the Souths' failure to use Section 220 and other indicia of a conflict-driven filing decision, I requested briefing and heard argument regarding the adequacy of the plaintiffs' representation.
"[A] derivative plaintiff serves in a fiduciary capacity as representative of persons whose interests are in plaintiff's hands and the redress of whose injuries is dependent upon her diligence, wisdom and integrity." In re Fuqua Indus., Inc. S'holder Litig., 752 A.2d 126, 129 (Del.Ch.1999). A plaintiff seeking to maintain derivative claims must show that she can meet her ongoing fiduciary obligations, including by satisfying the adequacy requirements implicit in Court of Chancery Rule 23.1. Youngman v. Tahmoush, 457 A.2d 376, 379 (Del.Ch.1983); Katz v. Plant Indus., Inc., 1981 WL 15148, *1 (Del.Ch. Oct. 27, 1981). The requirement of adequate representation flows from the Due Process Clause of the United States Constitution and the protection it affords the non-parties on whose behalf the representative plaintiff purports to litigate. See Phillips Petroleum Co. v. Shutts, 472 U.S. 797, 811-12, 105 S.Ct. 2965, 86 L.Ed.2d 628 (1985); Hansberry v. Lee, 311 U.S. 32, 42-43, 61 S.Ct. 115, 85 L.Ed. 22 (1940); MCA, Inc. v. Matsushita Elec. Indus. Co., 785 A.2d 625, 635-36 (Del.2001); Prezant v. De Angelis, 636 A.2d 915, 923 (Del. 1994). A judgment only can bind those non-parties if the named plaintiff has provided adequate representation "at all times." Shutts, 472 U.S. at 812, 105 S.Ct. 2965; see MCA, 785 A.2d at 635; Prezant, 636 A.2d at 923-24.
"[A]nalysis of adequacy requirements is generally the same under Rules 23 and 23.1 as cases decided under Rule 23(a)(4), i.e., the adequacy requirement of Rule 23, may be used in analyzing the adequacy requirements of Rule 23.1." Fuqua, 752 A.2d at 129 n. 2; see Youngman, 457 A.2d at 379. There is, however, one critical difference. In a class action, the plaintiff bears the burden of proving
"`Just what measure of representation is adequate is a question of fact that depends on each peculiar set of circumstances.'" Revlon, 990 A.2d at 955 (quoting Guerine v. J & W Inv., Inc., 544 F.2d 863, 864 (5th Cir.1977)). "[A] court [must] consider any extrinsic factors which might indicate that a representative might disregard the interests of" those she seeks to represent. Emerald P'rs, 564 A.2d at 674.
Delaware decisions on the question of adequacy of a derivative plaintiff "are markedly fact-specific." Donald J. Wolfe, Jr. & Michael A. Pittenger, Corporate and Commercial Practice in the Delaware Court of Chancery § 9.02[b][1], at 9-31 to -32 (2012). Relevant factors include:
Id. § 9.02[b][1], at 9-23 (footnotes omitted). The list "is not exhaustive." Bakerman, 2006 WL 3927242, at *11.
"[I]t is frequently a combination of factors which leads a court to conclude that the plaintiff does not fulfill the requirements of 23.1...." Katz, 1981 WL 15148, at *2; see Alden, 2006 WL 456786, at *8 ("A combination of these factors often forms the basis of a dismissal of a plaintiff as inadequate...."). Nevertheless, a strong showing as to one factor is sufficient if that factor "involve[s] some conflict of interest between the derivative plaintiff and the class." Fuqua, 752 A.2d at 130; accord Bakerman, 2006 WL 3927242, at *11; Alden, 2006 WL 456786, at *8.
Recent Court of Chancery decisions have suggested an evidentiary presumption that a plaintiff who files a Caremark claim hastily and without using Section 220 or otherwise conducting a meaningful investigation has acted disloyally to the corporation and served instead the interests of the law firm who filed suit. See Allergan, 46 A.3d at 335-36; Baca, 2010 WL 2219715, at *5; King I, 994 A.2d at 364 n. 34. Evidentiary presumptions have two signature attributes: they are mandatory and rebuttable. A presumption is mandatory in the sense that if certain basic facts are established, the presumption requires the decision-maker to infer the existence of the presumed fact. A presumption is rebuttable in the sense that if the party opposing the presumption introduces sufficient evidence contrary to the presumed fact, then the decision-maker is permitted to find contrary to the presumed fact. See
When a stockholder rushes to file a Caremark claim without first conducting an adequate investigation to determine whether or not there is a connection between the corporate trauma and director action or conscious inaction, the stockholder acts contrary to the interests of the corporation but consistent with the interests of the plaintiffs' firm that files the suit. This recurring scenario supports a presumption that the plaintiff has acted disloyally and is not an adequate fiduciary for the corporation. See Allergan, 46 A.3d at 335-36; Baca, 2010 WL 2219715, at *5; King I, 994 A.2d at 364 n. 34.
The resulting presumption recognizes that when a plaintiff asserts a Caremark claim, the plaintiff must plead a connection between the underlying corporate trauma and the board. This requirement differentiates a Caremark claim from other types of derivative actions in which a plaintiff challenges a specific and identifiable board decision. In such a case, a plaintiff may well be able to plead particularized allegations without using Section 220 that are sufficient to survive a Rule 23.1 motion to dismiss, for example by pleading that a majority of the directors were not independent and disinterested (as when directors vote on their own compensation)
The resulting presumption also recognizes that there usually will not be any need to rush when filing a Caremark claim. The claim typically seeks to obtain damages from directors for underlying harms and related litigation. When a corporation first announces a trauma, the underlying harms often still will be developing. Related regulatory proceedings and regulatory actions rarely will be resolved. This Court routinely stays Caremark claims that seek to shift losses from the
A plaintiff who hurries to file a Caremark claim after the announcement of a corporate trauma behaves contrary to the interests of the corporation but consistent with the desires of the filing law firm to gain control of (or a role in) the litigation. The natural and logical inference from this recurring scenario is that the plaintiff is serving the interests of the law firm, rather than those of the corporation on whose behalf the plaintiff ostensibly seeks to litigate.
Under Delaware Rule of Evidence 301, the party opposing the presumption can (i) undermine it by producing evidence that calls into question the requisite facts giving rise to the presumption or (ii) rebut it by producing evidence directly contrary to the presumptive inference. See D.R.E. 301. A plaintiff could call into question the requisite facts giving rise to the inference of disloyalty by showing that the plaintiff did not file hastily and conducted a meaningful and thorough investigation. To be adequate, the investigation would have to address not only the merits of the corporation's claim, but also the connection between the trauma and the board, the critical issue on which a Rule 23.1 motion to dismiss the Caremark claim will turn. Alternatively, the plaintiff could rebut the inference itself by persuading the Court that filing the Caremark claim in that form and at that time, based on the investigation conducted, served the best interests of the corporation. The latter approach requires showing not only that the filing did not harm the corporation, but rather that acting speedily benefited the corporation and not just the plaintiffs' law firm. Because the presumption shifts to the plaintiff not only the burden of production but also the burden of persuasion, the representative plaintiff therefore must establish the adequacy of the filing decision.
The circumstances surrounding the filing of this case gave rise to a presumption of disloyalty. In response, the plaintiffs failed to produce any evidence, much less persuasive evidence, to rebut either the requisite facts giving rise to the presumption or the resulting inference. To the contrary, the plaintiffs' counsel confirmed that he filed when he did because of the pressures described in the Allergan decision and the fear that plaintiffs who moved more quickly in Idaho might gain control of the suit. Tr. 44.
First, the plaintiffs filed hastily. Hecla issued the press release announcing lower estimated silver production for 2012 on January 11, 2012. MSHA issued its press release about the safety citations at the Lucky Friday mine on January 25. On February 1, the first of two securities class actions was filed. On March 1, the Souths filed this action, in which they
Next, the plaintiffs asserted Caremark claims. The complaint seeks to recover damages that the Company suffered and will suffer as a result of (i) the Lucky Friday mine closure, (ii) the decline in Hecla's stock price, and (iii) the federal securities litigation. In other words, the plaintiffs hurried to file a tag-along indemnification action grounded primarily on still-developing harms from the Lucky Friday closure and the far-from-resolved federal securities actions. The decline in Hecla's stock price is not even a derivative injury, and its inclusion evidences the lack of care with which the plaintiffs approached their lawsuit.
Critically, there was no reason to rush that would further the interests of the corporation. Pending the resolution of a motion to dismiss, the federal securities complaints were subject to the automatic stay imposed by the Private Securities Litigation Reform Act. See 15 U.S.C. § 78u-4(b)(3)(B). Those cases were not going forward, and at the time of argument, no briefing schedule had yet been established. Nor did the underlying harms — the accidents at the Lucky Friday mine — call for haste. During 2011, as those unfortunate incidents were occurring, no stockholder plaintiff filed suit. It was only the public announcement of the lowered projection for silver production and the filing of the federal securities complaints that spurred the Souths and other derivative plaintiffs into action.
Finally, and just as importantly, a deliberate and thorough pre-suit investigation, rather than haste, was required to further the interests of the corporation. Caremark claims are difficult to plead and harder to prove. Equally important, because the claims are premised on corporate liability, pursuing a Caremark claim during the pendency of the underlying litigation or governmental investigation may well compromise the corporation's position on the merits, thereby causing or exacerbating precisely the harm that the Caremark plaintiff ostensibly seeks to remedy. A well-motivated derivative plaintiff, genuinely concerned about the corporation's best interests, will consider these factors and act carefully, not precipitously.
Here, plaintiffs' counsel admittedly did not make use of Section 220. Nor did the complaint suggest "a period of deep reflection on the publicly available documents and the law." King I, 994 A.2d at 364 n. 34. The complaint's allegations appeared drawn entirely from public filings and press releases. The complaint lacked any factual allegations regarding internal board deliberations, director decision-making, or knowledge or involvement of the Hecla directors in the accidents at the Lucky Friday mine or the MSHA-mandated closure of the Silver Shaft to address accumulated debris. The link between these events and the directors is not self-evident, and the complaint in this case did not suggest a meaningful investigation by the plaintiffs or their counsel into whether there was a connection between the incidents and action or conscious inaction by the Board.
The plaintiffs failed to respond to the presumption by introducing persuasive evidence that either (i) undercuts the presumption's requisites or (ii) counters the inference of disloyalty. In their briefs and at oral argument, the plaintiffs did not
The obvious problem with this response is the lack of any entity-beneficial reason for filing. When pressed, plaintiffs' counsel recognized that he just as easily could have served as counsel, advanced all of the allegations in the complaint, and sued in Delaware after using Section 220. Tr. 46-48. Critically, had the Souths used Section 220 before filing, then they could have evaluated meaningfully whether it made sense to attempt to displace the Board's statutory authority to address the fallout from the Lucky Friday mining incidents. If the books and records showed that the Board was not disabled, then the Souths and their counsel, considering the matter as self-appointed fiduciaries for the corporation, could have declined to sue. If the books and records suggested culpability on the part of the directors, then the Souths and their counsel would have been positioned optimally to file a complaint capable of surviving motion practice and yielding benefits for the corporation. From the entity's standpoint, conducting additional investigation and using Section 220 offered potential upside without downside. As self-appointed fiduciaries for the corporation, the Souths should have acted in the corporation's best interests.
Ultimately, plaintiffs' counsel candidly (and commendably) conceded that he filed quickly because of the pressures described in the Allergan decision. Tr. 44. Rather than acting in the best interests of the corporation, the Souths filed hastily because doing so served the interests of their attorneys. In my view, these circumstances support an inference of disloyalty and a finding of inadequacy. Consequently, the dismissal of the Souths' complaint should not have preclusive effect on the litigation efforts of more diligent stockholders, thereby fulfilling the Delaware Supreme Court's expectation that the dismissal only would be "with prejudice and without leave to amend as to the named plaintiff." King II, 12 A.3d at 1151 (emphasis added).
The action is dismissed with prejudice as to the named plaintiffs. Costs are awarded to the defendants.
W. Coast Mgmt. & Capital, LLC v. Carrier Access Corp., 914 A.2d 636, 643 n. 22 (Del.Ch. 2006). Courts that have given preclusive effect to earlier Rule 23.1 dismissals have not embraced this distinction. See, e.g., Sonus Networks, 499 F.3d at 62-63 (giving issue preclusive effect where facts were not alleged in original complaint but original plaintiff could have obtained the information); Arduini ex rel. Int'l Game Tech. v. Hart, 2012 WL 893874, at *3 (D.Nev. Mar. 14, 2012) (noting that "Plaintiff's arguments that he has allegations specific to the demand futility issue that are different from the allegations brought up in [the underlying proceeding do not] preclude our use of issue preclusion"); In re Bed Bath & Beyond Deriv. Litig., 2007 WL 4165389, at *6 (D.N.J. Nov. 19, 2007) (applying preclusive effect to different claims regarding different time periods); LeBoyer v. Greenspan, 2007 WL 4287646, at *2 (C.D.Cal. June 13, 2007) (applying preclusive effect to all possible claims relating to restatement, whether or not previously pled).
