BOUCHARD, C.
In December 2012, Dennis Wilson, the founder of lululemon athletica, inc. ("Lululemon" or the "Company") established a trading plan designed to comply with federal securities laws whereby he delegated to a brokerage firm the authority to sell some of his Lululemon shares under certain conditions. On June 5, 2013, Wilson learned that Christine Day intended to resign from her position as the Company's Chief Executive Officer. On June 7, the brokerage firm sold some of Wilson's shares in accordance with the numerical parameters of the trading plan, yielding over $49.5 million in proceeds for Wilson. On June 10, after the stock market closed, the Company publicly announced Day's intention to resign. The next day, Lululemon's stock price fell more than 17 percent.
The remarkable timing of Wilson's June 7 stock sale received immediate attention in the financial media and quickly became the subject of litigation. In August 2013, two stockholders filed an action in the United States District Court for the Southern District of New York (the "NY Action") asserting various derivative claims, including that Wilson breached his fiduciary duties as a director of the Company under Brophy v. Cities Service Co.
In July 2015, after obtaining books and records from the Company under 8 Del. C. § 220, two other stockholders of the Company filed this action asserting two derivative claims: a Brophy claim against Wilson similar to the one that had been dismissed in the NY Action, and a breach of fiduciary duty claim against the members of the Company's board as of the date of the June 7 stock sale for failing to investigate and take any action against Wilson relating to that sale.
Defendants moved to dismiss both of these claims, arguing that they are precluded by the district court's ruling in the NY Action. New York law governs this question. For the reasons explained below, I conclude that the claims asserted here are barred based on principles of both issue and claim preclusion.
Unless noted otherwise, the facts recited in this memorandum opinion are based on the allegations of the Verified Stockholder Derivative Complaint (the "Complaint"), the exhibits attached thereto, and facts of which the Court may take judicial notice.
Nominal defendant Lululemon is a Delaware corporation headquartered in Vancouver, Canada, that manufactures and markets high-end, yoga-inspired athletic wear. It operates hundreds of stores in multiple countries.
Plaintiffs Laborers' District Council Construction Industry Pension Fund and Hallandale Beach Police Officers and Firefighters' Personnel Retirement Fund are alleged to have been Lululemon stockholders at all relevant times.
The Complaint names eleven individuals as defendants. Each was a Lululemon director on June 7, 2013, the date of the sale of Lululemon shares owned by Wilson that is challenged in this action, and during the ensuing weeks when it is alleged that the Company's board should have investigated the circumstances of that sale and taken action against Wilson. Eight of these eleven individuals were members of the Company's board of directors when the Complaint was filed: Robert Bensoussan, Michael Casey, RoAnn Costin, William Glenn, Martha A.M. Morfitt, Rhoda M. Pitcher, Thomas G. Stemberg,
Three of the defendants were no longer directors of Lululemon when the Complaint was filed: Dennis J. Wilson, Christine Day, and Jerry Stritzke. Wilson founded Lululemon in 1998. He served in various officer positions between 1998 and 2012, and resigned as a director in February 2015. Day was Lululemon's Chief Executive Officer before her resignation became effective in December 2013, and a director from June 2008 to December 2013. Stritzke was a director from June 2012 to September 2013.
On December 10, 2012, Wilson informed the Company that he planned to sell a portion of his stake in Lululemon through a trading plan designed to comply with Rule 10b5-1 of the Securities Exchange Act of 1934. Rule 10b5-1 "permits insiders to implement written, pre-arranged stock trading plans when they are not in possession of material non-public information."
Wilson's 10b5-1 plan (the "Trading Plan") authorized Merrill Lynch, Pierce, Fenner & Smith Incorporated to sell up to 5.7 million shares of Wilson's Lululemon stock in two groups.
In the representations and warranties section of the Trading Plan, Wilson promised not to disclose any material nonpublic information to any Merrill Lynch employee or otherwise "exercise any influence over how, when or whether to effect sales of Shares" while the plan was in effect.
When the Trading Plan was established, Wilson owned approximately 30% of the Company's outstanding shares. During the dates listed below in January, May, and June of 2013, each of which fell within the trading windows of the Trading Plan, Merrill Lynch sold 2.3 million shares of Wilson's Lululemon stock for total proceeds of $184,408,558.
The nature and timing of these trades track the mechanics of Wilson's Trading Plan. In January, when the Company's stock traded below $81.25, Merrill Lynch exhausted Wilson's "group one" share allotment by selling 300,000 shares at then-prevailing market prices. Merrill Lynch thus could not sell any more shares under the Trading Plan until Lululemon's stock price reached $81.25 per share, which did not occur until May 2013.
According to the Complaint, several setbacks depressed Lululemon's stock price between January and May. On January 14, 2013, the Company reported a downward revision of its guidance for the holiday shopping season. Two months later, in mid-March, Lululemon announced a recall of black Luon yoga pants—one of the Company's most popular items—due to unacceptable levels of sheerness. The Company's stock price declined to $63.32 in early April. Prices rebounded after the Company announced certain organizational changes, including the termination of its Chief Product Officer. On May 10, Lululemon stock reached a new all-time intraday high of $81.30 per share. That day, Merrill Lynch re-initiated sales of Wilson's stock after its value reached the $81.25 per-share threshold for the "group two" allotment in the Trading Plan. Merrill Lynch sold the full monthly allotment of 1 million shares available under the Trading Plan in May at prices above $81.25 per share.
On June 3, 2013, the Company announced that it would begin restocking its stores with the previously recalled black Luon yoga pants. After this announcement, Lululemon's stock price appreciated three percent. On June 4, Merrill Lynch sold 392,455 of Wilson's shares, at prices ranging from approximately $81.30 to $81.84 per share.
On June 5, 2013, Wilson and Day discussed their respective long-term strategic visions for the Company and came to an apparent impasse that led Day to send Wilson an email later that night, stating that she intended to resign as CEO and that she would like to announce her forthcoming resignation the following week.
On June 7, before the public announcement of Day's intent to resign, Merrill Lynch sold 607,545 of Wilson's shares—the remainder of his 1 million share allotment for June 2013—at an average price of $81.50 per share. The June 7 trade is at the heart of plaintiffs' claims in the Complaint.
The size and timing of the June 7 trade generated media interest. According to an internal Lululemon email, representatives for Wilson told a reporter for the Wall Street Journal that the June 2013 trades were made under the Trading Plan and that Wilson "had no influence on trades conducted by Merrill Lynch pursuant to either of these plans."
Some internal Company emails produced to plaintiffs in response to their books and records demands discussed the propriety of the June trades. A June 13 email notification sent to Lululemon's regional managers states that Wilson's recent 10b5-1 sales were "in alignment with the SEC guidelines for these types of stock sales."
assisted with the drafting of the Form 4 for that transaction.
In 2013, several lawsuits were filed concerning, among other things, Wilson's trading activity and the Company's public disclosures about the subject.
On June 2, 2013, a class action was filed in the United States District Court for the Southern District of New York in which the plaintiffs challenged certain public disclosures Lululemon had made about the quality of its products and the nature of its response to then-existing quality-control issues as materially false and misleading under the federal securities laws.
On August 12 and 23, 2013, two Lululemon stockholders not involved in this action (the "NY plaintiffs") filed derivative complaints in the United States District Court for the Southern District of New York. The actions were consolidated (as defined above, the "NY Action") and an amended complaint was filed on January 17, 2014. It named as defendants the same eleven individuals who are defendants in this action and two additional executive officers of Lululemon: John E. Currie and Sheree Waterson. The amended complaint contained seven claims. One of the claims asserted against Wilson was a Brophy claim for breach of fiduciary duty for allegedly selling shares while in the possession of non-public information concerning Day's imminent announcement of her resignation as CEO.
In March 2014, the Delaware plaintiffs sought to intervene in the NY Action for the purpose of asking the district court to grant a limited stay of that action pending the resolution of actions they each had commenced under 8 Del. C. § 220 to obtain books and records from the Company or, alternatively, to make any dismissal of the Brophy claim in the NY Action without prejudice.
On April 9, 2014, the district court issued an opinion granting defendants' motion to dismiss the amended complaint "because plaintiffs have failed to adequately allege particularized facts showing demand on lululemon's Board of Directors was excused."
In May and October 2013, the two plaintiffs in this action commenced separate actions against Lululemon in the Court of Chancery seeking various corporate books and records under 8 Del. C. § 220, including documents relating to the Trading Plan, and Wilson's January, May, and June 2013 stock sales. On April 2, 2014, after trial had been held before Vice Chancellor Parsons in one of the actions, the Court largely denied plaintiffs' requests.
Vice Chancellor Parsons first found that the circumstances surrounding the January 10-14, May 10-21, and June 4 trades did not provide a credible basis to infer that Wilson had engaged in wrongful conduct.
After the Court's ruling, Lululemon produced certain documents to plaintiffs on April 16, 2014, but withheld others based on attorney-client privilege. On June 11, 2014, the separate Section 220 cases were consolidated. Shortly thereafter, plaintiffs filed a motion seeking the production of the remaining responsive documents. In a memorandum opinion issued April 30, 2015,
On July 15, 2015, plaintiffs filed the Complaint, alleging that Wilson's June 7 trading activity was suspicious because (1) it represented the largest volume of shares Merrill Lynch sold in a single day under the Trading Plan, and (2) it occurred one trading day before the Company released market-moving information concerning Day's resignation as CEO of the Company that Wilson knew about before Merrill Lynch made the June 7 trade. The Complaint contains two claims. In Count I, plaintiffs assert that the individual defendants breached their fiduciary duties of loyalty and good faith by failing to investigate Wilson's trading activity. In Count II, plaintiffs assert a Brophy claim against Wilson for breaching his fiduciary duties by using material non-public information to execute or influence stock sales for his personal financial gain.
On August 18, 2015, defendants moved to dismiss the Complaint under Court of Chancery Rules 23.1 and 12(b)(6). After the completion of briefing, the Court heard oral argument on March 15, 2016.
All defendants moved to dismiss the Complaint on two grounds: (1) that the Court's finding in the NY Action that demand was not excused precludes re-litigation of the issue in this action under principles of issue and claim preclusion, and (2) that even if re-litigation of the issue were not barred, plaintiffs have failed under Court of Chancery Rule 23.1 to allege particularized facts to show that it would be futile to make a demand on the Company's board to initiate litigation. In addition, Wilson separately moved to dismiss the Brophy claim under Court of Chancery Rule 12(b)(6) for failure to state a claim for relief. Because the entire Complaint will be dismissed on preclusion grounds, I do not reach the other issues.
"In considering a motion to dismiss under Chancery Court Rule 23.1 for failure to make a presuit demand, as is true in the case of a motion to dismiss under Court of Chancery Rule 12(b)(6), the Court confines its attention to the face of the complaint."
Defendants argue that the Complaint is barred under principles of issue and claim preclusion based on the decision in the NY Action. "[T]he United States Supreme Court has held that a state court is required to give a federal judgment the same force and effect as it would be given under the preclusion law of the state in which the federal court is sitting."
Issue preclusion (or collateral estoppel) is an equitable doctrine that "applies to prohibit re-litigation of factual issues previously adjudicated."
Plaintiffs do not dispute that privity exists here,
Plaintiffs allege that the Demand Board disregarded a number of red flags concerning Wilson's June 7 stock sales that "pointed to Wilson having access to and potentially using material non-public information for his own personal financial gain."
Specifically, the NY plaintiffs argued that demand was excused because Lululemon's outside directors "failed to take any punitive action toward Wilson after learning of his June 2013 trading, and that this failure shows both domination and control by Wilson and a substantial likelihood of liability for these Director Defendants" so as to cast reasonable doubt on their independence.
The district court, which referred to the eight members of the Demand Board as the "Director Defendants,"
Later in its opinion, the district court confirmed that its conclusion that the NY plaintiffs had failed to adequately allege that any of the Director Defendants were not independent was not just based on a theory of domination and control by Wilson, but also was based on the their failure "to plead particularized allegations giving rise to a substantial likelihood of liability as to any of the Director Defendants arising out of Wilson's June 2013 trading."
Plaintiffs here do not confront the express language of the district court's decision rejecting the NY plaintiffs' challenges to the Demand Board's independence. Instead, they argue that issue preclusion should not apply because the "allegations" in the NY Action are not identical to the allegations in this action. Plaintiffs assert that the NY plaintiffs "devoted over
Accepting for the sake of argument plaintiffs' characterization of the amended complaint in the NY Action, the fact that it contained additional allegations concerning other claims is irrelevant. All that is relevant is whether the district court necessarily decided the same demand futility issue presented here, which it did for the reasons explained above. The fact that the amended complaint may have contained fewer factual details concerning the theory of demand futility presented here, moreover, misconceives the test for issue preclusion.
A leading New York commercial litigation treatise states that claims "grounded on the same gravamen of the wrong upon which the action is brought" preclude "the plaintiff from raising the prior cause of action in the guise of a new legal theory or claim."
As explained above, the district court determined that demand was not futile by looking at the same underlying conduct that forms the basis of plaintiffs' attack on the independence of the Demand Board here: the failure to do anything to investigate Wilson's June 7 stock sales when the outside directors allegedly knew that Wilson had engaged in insider trading. As the district court framed the issue, "[p]laintiffs primarily rely on the argument that Wilson allegedly engaged in insider trading prior to Day's resignation announcement on June 10, 2013, that the Director Defendants knew it at that time or very shortly thereafter, and by doing nothing, demonstrated their lack of independence."
It is of no moment that the breach of fiduciary duty claim plaintiffs assert here (Count I) is different from the one that was asserted in the NY Action. The Brophy claim (Count II) plaintiffs assert in this action is the substantively the same as the one asserted in the NY Action. More significantly, plaintiffs have advanced the same theory of demand futility with respect to both of their claims in this action, i.e., that the members of the Demand Board are not independent because they face a substantial likelihood of liability. As discussed above, the district court rejected that argument and thus decided the same issue that governs the plaintiffs' only theory for challenging the Demand Board's independence in this case.
Finally, I agree with defendants that the Brautigam and Bader decisions on which plaintiffs rely are inapposite. Brautigam held that the challenged conduct was not the same in two cases challenging Goldman Sachs's inclusion of troubled loans in subprime residential mortgage-backed securities. The two cases concerned different collateralized debt obligations involving "factually distinct circumstances which affected the analysis regarding whether demand was excused."
Here, unlike in Brautigam, the same gravamen of wrongdoing underlies the demand futility issue decided in the NY Action and this case, namely the failure to do anything to investigate Wilson's June 2013 stock sales despite the suspicious circumstances surrounding those sales. And, unlike in Bader, both the present case and the NY Action assert the same theory challenging the independence of all members of the Demand Board, namely that they face a substantial likelihood of liability for taking no action when they allegedly knew that Wilson had engaged in insider trading.
Because defendants have established that the identical issue of demand futility raised here was necessarily decided in the NY Action and would be decisive here, the burden shifts to the plaintiffs to demonstrate that they did not have a full and fair opportunity to litigate in the NY Action.
Under New York law, analysis of whether a plaintiff had a full and fair opportunity to litigate in a previous action "cannot be reduced to a formula," but rather requires consideration of "the realities of the prior litigation, including the context and other circumstances which may have had the practical effect of discouraging or deterring a party from fully litigating the determination which is now asserted against him."
The other reality bearing on the prior litigation is that it is well-established under New York law (as plaintiffs concede) that privity exists between different stockholders of a corporation in derivative actions for purposes of preclusion:
Faced with this reality, plaintiffs argue that the NY Action should not have preclusive effect on the theory that the NY plaintiffs were not adequate representatives of the Lululemon stockholders.
Section 42 of the Restatement (Second) of Judgments, on which the NY plaintiffs rely and which New York courts have followed in considering adequacy of representation,
Generally, "[r]epresentatives have been found inadequate when their interests are directly opposed to the interests of the person being represented, which in this case is" the Company.
Here, plaintiffs base their inadequacy argument on three factual contentions: (1) the NY plaintiffs' failure to utilize 8 Del. C. § 220 to seek books and records from Lululemon before filing suit, (2) their opposition to the Delaware plaintiffs' efforts to intervene in the NY Action, and (3) their copying of approximately 100 paragraphs of allegations from a securities class action challenging Lululemon's public disclosures when they amended their complaint in the NY Action. Each of these contentions is, unfortunately, reflective of undesirable practices that pervade representative litigation as lawyers for stockholders jockey for control of a case in an effort to secure a payday for themselves, assuming they ultimately can confer a benefit upon the stockholders or the corporation.
Plaintiffs' third contention concerning the copying of allegations from another pleading, if true, reflects poorly on how counsel for the NY plaintiffs litigated their case. But no explanation has been provided as to how the copying of any of these allegations substantively impacted their litigation of the demand futility issues so as to call into question the legitimacy of district court's determination of that issue or the defendants' reliance on that determination.
Plaintiffs' first and second contentions go hand-in-hand. Despite repeated admonitions of this Court to inspect a corporation's books and records before launching derivative claims,
In the Pyott case, the Delaware Supreme Court rejected a "`fast-filer' irrebuttable presumption of inadequacy" for "derivative plaintiffs who file their complaints without seeking books and records, very shortly after the announcement of a `corporate trauma.'"
The NY plaintiffs were represented by six different law firms. No contention has been made that their counsel are not experienced in corporate litigation, even if they did commit plagiarism. Nor have plaintiffs identified any striking differences between the factual allegations that form the basis of the relevant claims asserted in either action. The Brophy claims in both actions are virtually identical, as the Delaware plaintiffs admitted to the district court,
For the reasons explained above, I conclude that the district court decided the same demand futility issue that is decisive here, and that the plaintiffs were adequately represented and had a full and fair opportunity to litigate that issue in the NY Action. Thus, plaintiffs are barred from re-litigating the issue of demand futility in this action under the doctrine of issue preclusion. I consider next whether plaintiffs' claims also are barred under the doctrine of claim preclusion.
Under New York law, a party seeking to invoke claim preclusion (or res judicata) based on the dismissal of a prior action must demonstrate that "(1) the previous action involved an adjudication on the merits; (2) the previous action involved the plaintiffs or those in privity with them; (3) the claims asserted in the subsequent action were, or could have been, raised in the prior action."
"Under New York law, the dismissal of a derivative action for failure to plead demand futility is a final judgment on the merits for purposes of res judicata."
Focusing on one sentence in the district court's opinion, plaintiffs argue that the NY Action was dismissed without prejudice and thus may not be granted preclusive effect here. The operative sentence, emphasized below, appears in the following paragraph of the conclusion of the district court's opinion:
In my view, plaintiffs' interpretation misconstrues the plain meaning of this sentence in the context in which it appears.
The first sentence of the quoted paragraph reflects the district court's conclusion that plaintiffs lack standing to assert the derivative claims because they failed to plead facts sufficient to call into question the disinterestedness and independence of the Company's board. In other words, the NY plaintiffs failed to show that demand on the board was excused and, thus, the board retained the prerogative to determine in the first instance whether it would be in the Company's best interests to pursue the derivative claims.
This reading is consistent with how courts in Delaware and New York have construed similar statements in New York decisions dismissing claims for failure to establish demand futility. In Bammann, for example, Vice Chancellor Glasscock considered the effect of a New York state court decision dismissing a complaint for failure to plead demand futility where the dismissal was "without prejudice for the Plaintiff to replead, if they are so advised, with respect to making a demand subsequent to this day."
The third requirement of claim preclusion under New York law requires that "the claims asserted in the subsequent action were, or could have been, raised in the prior action."
Plaintiffs argue that the same subject matter requirement of claim preclusion has not been satisfied because the NY plaintiffs "could not have brought the claims asserted in this case because at the time, the necessary facts were not known or knowable absent a successful Section 220 investigation."
As a factual matter, plaintiffs are incorrect to suggest that the NY plaintiffs were unaware of or did not have the opportunity to utilize the referenced the Wall Street Journal article to advance their claims. That article was published seven months before the amended complaint at issue in the NY Action was filed on January 17, 2014, the article is specifically discussed in that complaint,
As a legal matter, it cannot legitimately be disputed that the claims at issue here arose out of the same transaction that forms the basis of the claims asserted in the NY Action. Both actions take specific aim at Wilson's June 7 trade. Indeed, both actions assert a Brophy claim against Wilson based on his inside knowledge of Day's imminent announcement of her resignation as CEO and, as discussed previously, they both implicate the same issue of demand futility relevant to that claim. Although the Complaint here asserts an additional claim for breach of fiduciary duty on the theory that the board improperly failed to investigate Wilson's trading activity, that claim essentially repackages in the form of a claim the NY plaintiffs' theory for challenging the outside directors' independence for demand futility purposes. Plaintiffs have offered no logical reason why that claim could not have been asserted in the NY Action, and I can conceive of none. Thus, in my opinion, the same subject matter requirement of claim preclusion has been satisfied here.
For the reasons explained above, the three requirements of claim preclusion under New York law have been satisfied, and plaintiffs have failed to demonstrate that the NY plaintiffs were not adequate representatives of the Lululemon stockholders. Accordingly, and as an alternative to dismissing the Complaint under the doctrine of issue preclusion, the Complaint is dismissed under the doctrine of claim preclusion.
For the foregoing reasons, the Complaint is dismissed in its entirety.