Tuesday, August 25, 2015

Derivative Suit Over Online Gambling Investment Doesn’t Pay Off for Shareholder

By Amanda Maine, J.D.

A panel of the Eighth Circuit Court of Appeals affirmed the decision of the lower court granting summary judgment to a mutual fund that invested in an online gambling company. The panel agreed with the district court that the shareholder who brought the derivative suit failed to show that the special litigation committee that reviewed her demand on the board was not independent or did not act reasonably (Seidl v. American Century Companies, Inc., August 21, 2015, Colloton, S.).

Background. Laura Seidl is a shareholder in a mutual fund called the Ultra Fund, one of 18 funds offered by American Century Mutual Funds, Inc., which is controlled by American Century Companies, Inc., an investment management company. From July 2005 through January 2006, the Ultra Fund purchased nearly 35 million shares totaling $81 million in PartyGaming Plc, a Gibraltar company that facilitated online poker gambling. PartyGaming’s June 2005 IPO prospectus acknowledged uncertainty about the legality of online gambling and noted that investors could lose their investment if U.S. authorities took action.

In July 2006, the Ultra Fund divested itself of all its shares of PartyGaming following increased U.S. government enforcement against illegal internet gambling, resulting in a loss of $16 million. In 2008, Seidl filed suit against American Century Companies, its affiliated entities, and individual defendants asserting several state law claims, but the district court dismissed the action and ruled that her claims must be brought in a derivative action.

Rejected demand. In June 2010, Seidl sent a letter to American Century’s board of directors demanding that it pursue the claims contained in her complaint. In response, the board formed a special litigation committee. In January 2011, the committee issued an 81-page report recommending that the board not pursue Seidl’s claims, which was unanimously adopted by the board. The district court granted summary judgment in favor of American Century in July 2014, finding that the special litigation committee’s business judgment was entitled to deference under Maryland law and that it would not disturb the board’s decision to reject Seidl’s demand. Seidl appealed.

Committee’s independence and good faith. Seidl argued that the special litigation committee’s independence was impugned because its two members received compensation as members of the board of directors. However, the appellate panel pointed out that compensation itself is insufficient to demonstrate that directors are interested. It also rejected her argument that one of the committee members had a social relationship with a defendant director, noting that the record did not show that they were “intimate friends,” but were acquaintances, citing the fact that the two played golf over ten years ago and may have attended a large party hosted by the defendant director. These allegations were insufficient to raise a question of fact as to whether the committee members were incapable of making a decision with only the best interests of the company in mind.

Reasonableness of the investigation. The panel also disagreed with Seidl that American Century had not shown that the special litigation committee conducted a reasonable investigation to support its conclusions. The panel pointed out that the committee, together with independent counsel, reviewed over 4,000 documents, participated in 22 interviews, met approximately every week over the course of four months, and ultimately produced an 81-page report detailing the committee’s investigation procedures and its conclusions. Given the cost of litigation and the weakness of the claims, pursuing Seidl’s claims was not in American Century’s best interests, the committee determined, a finding that was reasonable and a permissible exercise of business judgment given the thoroughness of the investigation, the panel concluded.

In addition, the panel rejected Seidl’s argument that the committee’s investigation was improperly insulated from scrutiny, noting that the board had provided her with all the relevant documents and memoranda and that she had deposed both of the committee members. The panel also denied Seidl’s request that the court unseal part of the deposition of one of the committee members, siding with the district court’s conclusion that it was protected as attorney work product.

The panel accordingly affirmed the judgment of the district court.

The case is No. 14-2796.