Metropolitan News-Enterprise


Friday, February 15, 2008


Page 1


Derivative Suit Barred After Plaintiff Forced to Sell Stock in Merger—S.C.




A shareholder who was forced to sell his stock as a result of a merger lacked standing to continue with his derivative suit brought on behalf of the corporation he no longer held an interest in, the California Supreme Court unanimously ruled yesterday.

Justice Marvin Baxter, writing for the court, said the Fourth District Court of Appeal correctly dismissed Sik-Lin Huang’s appeal from the dismissal of his suit against directors and officers of JNI Corporation.

Huang intervened in the case after the original plaintiff, Richard Grosset, sold his JNI stock and lost standing to maintain the action. Grosset had alleged that JNI—a Delaware corporation that designs, manufactures, and markets hardware and software products that connect computer servers to data storage devices—was the victim of breaches of fiduciary duty, insider trading, gross mismanagement, and other wrongdoing by the defendants.

Special Litigation Committee

A special litigation committee, whose members included retired Fourth District Court of Appeal Justice Howard Wiener, concluded that the steep rise and fall of the company’s stock price, which the plaintiff and intervener attributed to misconduct by the defendants, was the result of market events and that pursuit of the derivative suit would not serve the corporation’s interests.

San Diego Superior Court Judge E. Mac Amos Jr. subsequently rejected challenges to the committee’s independence, and to the adequacy of its investigation and the reasonableness of its conclusions, and dismissed the action with prejudice.

Huang appealed, but not until after JNI and Applied Micro Circuits Corporation reached a merger agreement, whereby Applied Micro Circuits purchased all of JNI’s stock and became its sole shareholder.

In granting the defendants’ motion to dismiss the appeal, the Court of Appeal’s Div. One held that Delaware law was controlling, and that it imposes a requirement that the plaintiff in a derivative action continue to own the stock to the conclusion of the action. The court alternatively held that a similar requirement is imposed by California law.

In seeking review in the high court, Huang argued that California law controls, and that it does not impose a continuous ownership requirement, instead permitting the plaintiff to maintain the action if he or she owned stock in the corporation at the time of the alleged wrongdoing and when the action was filed.

Continuous Ownership Requirement

Baxter, however, concluded that a continuous ownership requirement is imposed by both Delaware and California law and that it was thus unnecessary to resolve the conflict-of-laws issue.

The justice explained that while Delaware law clearly favors the defendants’ position, there have been conflicting Court of Appeal decisions on the issue in California.

Baxter rejected the argument that Corporations Code Sec. 800, which says that a derivative suit may not “be instituted or maintained” unless the plaintiff was a shareholder at the time of the alleged wrongdoing and at the time of filing, permits a plaintiff who subsequently is divested of the stock to continue the suit.

The better rule, the justice said, is that allowing the plaintiff to continue to sue in those circumstances is contrary to the purpose of a derivative action.

Citing decisions in other jurisdictions, Baxter wrote:

“Because a derivative claim does not belong to the stockholder asserting it, standing to maintain such a claim is justified only by the stockholder relationship and the indirect benefits made possible thereby, which furnish the stockholder with an interest and incentive to seek redress for injury to the corporation....Once this relationship ceases to exist, the derivative plaintiff lacks standing because he or she ‘no longer has a financial interest in any recovery pursued for the benefit of the corporation.’”

The case was argued in the Supreme Court by George A. Shohet, of the Law Offices of George A. Shohet in Venice, on behalf of the intervener and by Robert W. Brownlie of the San Diego office of DLA Piper US for the defendants.

Amici supporting the intervener included the Consumer Attorneys of California and Boalt Hall professor Richard M. Buxbaum. The Chamber of Commerce of the United States of America was amicus on behalf of the defendants.

The case is Grosset v. Wenaas, 08 S.O.S. 1045.


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