Board Rollover Precludes Demand Futility for New Claims

Apple Inc. v. Superior Court, No. H044133 (D6 Dec. 11, 2017)

This case addresses an interesting question about demand futility in stockholder derivative actions.

The whole point of a derivative action is that the stockholder is standing in the shoes of the company to bring claims that its board of directors refuse to bring. Because—like every other corporate significant decision—whether to bring litigation is the province of the board, in order to have standing to sue derivatively a stockholder needs to prove that there was some reason why the board can’t fairly make that decision in the best interests of the company. That concept is called demand futility. To satisfy it, a plaintiff needs to plead, with specificity, why a majority of the company’s directors have conflicted interest such that they can’t be relied upon to act as a fiduciary in making the decision regarding whether to sue.

None of that is controversial. The issue in this case is when the demand futility standard needs to be satisfied. When Plaintiffs first brought their suit, half of the directors were named as defendants. The trial court found that demand futility was satisfied due to these directors’ personal interests in the litigation. But then the board rolled over and two of the defendant-directors were replaced with other directors who are not parties to the litigation. And then Plaintiffs amended their complaint to add some new claims. So the question is whether demand futility is assessed against the original 4-4 board or the current 6-2 one. 

There’s no California law on the issue. But a Delaware Supreme Court decision says that when a derivative complaint is amended to add claims that weren’t in issue when the case was filed, demand futility on the new claims needs to be assessed based on the composition of the board at the time the amended complaint is filed. Braddock v. Zimmerman, 906 A.2d 776 (Del. 2006). Which makes logical sense. Plus, California courts have been generally willing to adopt the more developed body of law on demand futility from Delaware decisions. And the Court of Appeal does so here.

Writ granted.