Special Litigation Committee Defense Example Cases
A number of states (or federal courts applying the law of other states) have recognized a special litigation committee defense.
This defense arises out of the interplay between the business judgment rule and the requirement in a stockholder's derivative action that the plaintiff must have made a demand on the board of directors to have the corporation pursue the action. (See Corp. Code, 800, subd. (b)(2).)
Thus, it has been held that, once a duly appointed committee of disinterested directors reasonably determines that it is not in the best interests of the corporation to pursue the claims asserted in the derivative action, that decision is protected by the business judgment rule.
The trial court must determine, as a matter of fact, whether the committee members were disinterested and whether they conducted an adequate investigation.
If it answers yes to both questions, however, it must dismiss the derivative action.
Roberts v. Alabama Power Co. (Ala. 1981) 404 So.2d 629, 631-636;
Hirsch v. Jones Intercable, Inc. (Colo. 1999) 984 P.2d 629, 636-638;
De Moya v. Fernandez (Fla. Dist. Ct. App. 1990) 559 So.2d 644, 645-646;
Millsap v. American Family Corp. (1993) 208 Ga. App. 230 430 S.E.2d 385;
Allied Ready Mix Co v. Allen (Ky. Ct. App. 1998) 994 S.W.2d 4, 8-10;
Auerbach v. Bennett (1979) 47 N.Y.2d 619, 630-631 419 N.Y.S.2d 920, 393 N.E.2d 994, 1000;
Miller v. Bargaheiser (1990) 70 Ohio App.3d 702, 705-708 591 N.E.2d 1339, 1341-1343;
Cuker v. Mikalauskas (1997) 547 Pa. 600, 611-614 692 A.2d 1042, 1048-1049.)
A minority of states have recognized a modified version of the special litigation committee defense.
These states require the trial court to scrutinize the committee's decision independently; they vary as to the precise degree of scrutiny required.
Joy v. North (2d Cir. 1982) 692 F.2d 880, 887-891 applying Connecticut law; trial court is to weigh likely recovery, discounted by the probability of liability, against the costs to the corporation of continuing the action, cert. den. sub nom. Citytrust v. Joy (1983) 460 U.S. 1051 103 S. Ct. 1498, 75 L. Ed. 2d 930;
Zapata Corp. v. Maldonado (Del. 1981) 430 A.2d 779, 787-789 22 A.L.R.4th 1190 trial court is to apply its own "independent business judgment";
Houle v. Low (1990) 407 Mass. 810, 814-826 556 N.E.2d 51, 53-60 trial court must determine whether committee's decision was "reasonable and principled";
In re PSE & G Shareholder Lit. (1998) 315 N.J. Super. 323, 335-336 718 A.2d 254, 261 trial court must determine whether committee's decision was "reasonable and principled";
Alford v. Shaw (1987) 320 N.C. 465, 468-474 358 S.E.2d 323, 325-328 trial court must consider totality of circumstances, including committee's report, in deciding whether directors' action was "just and reasonable";
Lewis v. Boyd (Tenn. Ct. App. 1992) 838 S.W.2d 215, 222-226 trial court must determine whether committee's decision was "reasonable and principled".)
Iowa recognizes the defense but holds that, if the board has a majority of interested directors, it cannot make a valid delegation to a special litigation committee.
In that event, the trial court may appoint a " 'special panel,' " which may determine whether the derivative action is in the best interest of the corporation. (Miller v. Register and Tribune Syndicate, Inc. (Iowa 1983) 336 N.W.2d 709, 718.)
As far as we are aware, there is no court which has refused to recognize the defense at all.
A considerable number of states have codified the special litigation committee defense. (Alaska Stat. 10.06.435, subd. (f) independent scrutiny standard;
Ariz. Rev. Stat. Ann. 10-3634;
Conn. Gen. Stat. Ann. 33-724;
Fla. Stat. Ann. 607.07401, subd. (3);
Ga. Code Ann. 14-2-744, 14-3-744;
Idaho Code 30-1-744;
Me. Rev. Stat. Ann. tit. 13-A, 632;
Minn. Stat. Ann. 302A.241;
Drilling v. Berman (Minn. Ct. App. 1999) 589 N.W.2d 503, 506-507 construing Minn. Stat. 302A.241;
Miss. Code Ann. 79-4-7.44;
Mont. Code Ann., 35-1-545, 35-2-1304;
Neb. Rev. Stat. Ann. 21-2074;
N.H. Rev. Stat. 293-A:7.44;
N.C. Gen. Stat. 55-7-44;
Tex. Bus. Corp. Act Ann., art. 5.14, subds. F, H;
Va. Code Ann., 13.1-672.4;
Wis. Stat. Ann. 180.0744, 181.0744.
Of these, all but the Alaska and Minnesota statutes are based on section 7.44 of the American Bar Association's 1984 Model Business Corporations Act, which adopts the original, unmodified version of the defense.