Thursday, January 29, 2015

Savings Statute Cannot Rescue Claim of Improper Demand Refusal

[This story previously appeared in Securities Regulation Daily.]

By Amy Leisinger, J.D.

The Delaware District Court has dismissed an action against certain investment advisers, funds, and a number of directors alleging, among other things, breaches of fiduciary duty, negligence, and waste. According to the court, the Delaware savings statute’s exceptions to the applicable statute of limitations for procedural matters could not save an untimely claim challenging demand refusal. In any case, the court continued, the plaintiffs failed to show that the demand investigation was unreasonable or that the board’s refusal of the demand was made in bad faith (Hartsel v. The Vanguard Group, Inc., January 26, 2015, Robinson, S.).

Background. Two investors filed claims against the funds in which they invested, as well their investment advisers (including The Vanguard Group, Inc.) and the directors of those entities, alleging that the defendants purchased shares of illegal internet gambling businesses for the funds in violation of their fiduciary duties. In 2009, the court dismissed the plaintiffs’ initial action alleging RICO and other derivative and class claims, finding that the complaint failed to establish causation and refusing to exercise supplemental jurisdiction over the other claims. The Second Circuit affirmed, and the U.S. Supreme Court denied certiorari.

In 2010, the plaintiffs brought a second action in the Delaware Court of Chancery alleging claims based on the same conduct, as well as demand futility. The court found the claims without merit and additionally determined that the plaintiffs failed to articulate sufficient evidence of a lack independence or a substantial likelihood of liability so as to excuse demand.

On July 25, 2012, the plaintiffs made a demand on the board, which appointed a committee in October to review the demand. On June 24, 2013, plaintiffs filed another action, given the impending end of the limitations period, alleging that the board and the committee purposefully postponed a decision to cause the claims to become time-barred. The committee and the board thereafter determined to reject the demand.

Savings statute. In opposing dismissal of the action as time-barred, the plaintiffs argued that their claims are protected by Delaware’s savings statute, which “provides exceptions to the applicable statute of limitations in certain instances where the plaintiff has filed a timely lawsuit, but is procedurally barred from obtaining a resolution on the merits.” According to the plaintiffs, the dismissal of the previous case for failure to make a demand involved dismissal on a “matter of form” protected by the statute.

The court rejected this argument, noting that, in the earlier action, the Court of Chancery found that the plaintiffs failed to plead demand excusal, which involved a substantive determination instead of the procedural issues addressed in the savings statute’s exceptions. “Having chosen to argue demand futility on the facts, plaintiffs cannot now characterize the analysis of such a decision as a ‘matter of form’ in order to proceed,” and the savings statute cannot protect the action from being dismissed as time-barred, the court concluded.

Demand refusal. The court also noted that, even if the action could be deemed timely, the plaintiffs have offered no facts to support a finding that the board failed to carry out its fiduciary duties or to conduct a reasonable investigation so as to demonstrate improper demand refusal. Noting that the business judgment rule protects managerial and board decisions in the absence of evidence of violations of duty, the court declined “to find that the mere passage of time, without more, is sufficient indicia of bad faith.”

The case is No. 13-1128-SLR.

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