Cottle v. Hilton Hotels Corp.
| Decision Date | 17 April 1986 |
| Docket Number | No. 85 C 4610.,85 C 4610. |
| Citation | 635 F. Supp. 1094 |
| Parties | Robert COTTLE, individually, and in a derivative capacity on behalf of Hilton Hotels Corporation, Plaintiff, v. HILTON HOTELS CORPORATION, a Delaware corporation, and Barron Hilton, as Chairman, President and Chief Executive Officer and as a Director of Hilton Hotels Corporation, William H. Edwards, as President and as a Director, Henri Lewin, as Executive Vice President, E.T. Applegate, as Senior Vice President and Secretary, Maurice J. Scanlon, as Senior Vice President and Treasurer, James E. Garrett, as Vice President, Paul D. Buckley, as Vice President and as General Manager, Willard C. Howard, as Vice President and James E. Bates, Benjamin V. Lambert, Thomas R. Wilcox, Frank G. Wangeman, Sam D. Young, Jr., Gregory R. Dillon, John V. Giovenco, respectively as Directors of Hilton Hotels Corporation, Defendants. |
| Court | U.S. District Court — Northern District of Illinois |
Marshall Patner, Robert A. Holstein, Frederic F. Brace, Jr., Chicago, Ill., for plaintiffs.
Sheldon Karon, Lawrence A. Wojcik, Karon, Morrison & Savikas, Ltd., Chicago, Ill. and E. Norman Veasey, R. Franklin Balotti, Allen M. Terrell, Jr., Gregory V. Varallo, Richards Layton & Finger, Wilmington, Del., for defendant Hilton Hotels Corp.
Phil C. Neal, Ralph T. Russell, Jr., George M. Hoffman, Friedman & Koven, Chicago, Ill., for individual defendants.
Plaintiff Robert Cottle filed this shareholder's derivative suit on behalf of Hilton Hotels Corporation ("Hilton") against nominal defendant Hilton and several officers and directors of Hilton ("the individual defendants") based on allegations that the individual defendants engaged in transactions surrounding the construction and eventual sale of a New Jersey casino and hotel which constituted a breach of fiduciary duty to Hilton and a waste of Hilton's corporate assets. Hilton, joined by the individual defendants, has moved to dismiss Cottle's complaint for failure to comply with the demand requirements of Fed.R. Civ.P. 23.1.1 The defendants also filed a motion for a protective order barring further discovery on both the merits of Cottle's claims and certain jurisdictional issues. After a careful review of the pleadings and memoranda filed on this motion, the Court grants the defendants' motion to dismiss for the reasons elaborated below. The motion for protective order is moot.
Hilton is a major hotel management corporation incorporated in Delaware with its principal place of business in Beverly Hills, California. It operates hotel facilities in many locations across the country. Cottle owns shares of common stock in Hilton and owned them at the time that all transactions relevant to this case took place. The allegations in Cottle's complaint involve the decision of Hilton's board of directors to build a casino and hotel facility in Atlantic City, New Jersey. The attraction to the Atlantic City location was apparently the lucrative legalized gambling business, and the financial success of the hotel-casino project turned largely on approval and licensing by the New Jersey Casino Control Commission ("the Commission"). The individual defendants made public pronouncements projecting financial success while representing that the proposed casino would be licensed without a problem. Cottle alleges that these defendants knew or should have known that the Commission had "stringent licensing requirements."
While the individual defendants predicted that their casino proposal was an offer the Commission could not refuse, they instead encountered serious obstacles in their pursuit of a license. Allegations were made before the Commission that the individual defendants fostered a relationship between Hilton and Sidney Korshak, a Chicago attorney who, according to the complaint, "had been identified by state and federal law enforcement officials and a United States Senate Sub-Committee as a prominent link between organized crime and legitimate business." Complaint ¶ 11. The individual defendants failed to sever this relationship with Korshak even though they were aware that it would jeopardize their chances of successfully obtaining the casino license.
On February 28, 1985, the Commission denied a casino license for Hilton as a result of the Korshak connection. At first, the defendants announced that they would appeal the Commission's ruling, but instead sold the entire project to New York real estate entrepreneur Donald Trump for $320 million. This sale did not result from a competitive bidding process and yielded a purchase price approximately $20 million above Hilton's investment in the project.
Cottle alleges that were it not for the Korshak affiliation and the individual defendants' failure to distance the Hilton Corporation and themselves from Korshak, the Commission would have granted the license. Hilton has been harmed, Cottle further claims, by the loss of expected casino and hotel earnings in the millions of dollars and by the sale of the casino and hotel project at a loss.2 Cottle also alleged that the individual defendants sold the project to Trump "without bidding or otherwise fully exploiting the market" as part of an improperly motivated scheme to stave off an attempted takeover of Hilton and entrench themselves in their current corporate positions.
Except for the cursory assertion that the individual defendants were in part motivated by the desire to retain their positions, the complaint does not contain any allegations regarding any personal benefits which might have accrued to the individual defendants as a result of these transactions. Cottle does not allege that the individual defendants had any sort of financial stake in their association with Korshak or their refusal to sever that association.
Shareholder derivative suits are in a distinct class of federal litigation and are governed by a special procedural rule which states:
In a derivative action brought by one or more shareholders or members to enforce a right of a corporation or of an unincorporated association, the corporation or association having failed to enforce a right which may properly be asserted by it, the complaint shall be verified and shall allege (1) that the plaintiff was a shareholder or member at the time of the transaction of which he complains or that his share or membership thereafter devolved on him by operation of law, and (2) that the action is not a collusive one to confer jurisdiction on a court of the United States which it would not otherwise have. The complaint shall also allege with particularity the efforts, if any, made by the plaintiff to obtain the action he desires from the directors or comparable authority and, if necessary, from the shareholders or members, and the reasons for his failure to obtain the action or for not making the effort. The derivative action may not be maintained if it appears that the plaintiff does not fairly and adequately represent the interests of the shareholders or members similarly situated in enforcing the right of the corporation or association. The action shall not be dismissed or compromised without the approval of the court, and notice of the proposed dismissal or compromise shall be given to shareholders or members in such manner as the court directs.
Fed.R.Civ.P. 23.1. The only aspect of Rule 23.1 relevant to the present motion is the shareholder demand requirement which establishes as a prerequisite to maintaining a shareholder derivative action the plaintiff's demand on the directors of the corporation to take action to correct the asserted wrong. This requirement was intended to encourage the intracorporate resolution of disputes and protect the managerial freedom of those delegated with the responsibility of running the business. Aronson v. Lewis, 473 A.2d 805, 812 (Del.1984). That policy is merely an extension of the business judgment rule, which dictates that judicial interference with corporate decision-making shall be limited to circumstances where the directors are not in a proper position to make sound corporate judgments. Id. Furthermore, there are numerous practical advantages to encouraging the corporation to pursue recourse on its own behalf. See Lewis v. Graves, 701 F.2d 245, 247-48 (2d Cir.1983).
Nevertheless, procedural rules have been developed to provide shareholders with a remedial option to sue derivatively in behalf of the injured corporation even without first complying with the demand requirement. Thus, the requirement will be excused in certain circumstances where it would not be logical to require such a demand. 7A C.A. Wright & A.R. Miller, Federal Practice and Procedure § 1831 (1972). However, where federal subject matter jurisdiction in a derivative suit rests on the parties' diversity of citizenship, courts must refer to the substantive law of the relevant state, which in almost all circumstances will be the state of incorporation of the aggrieved corporation. See Kreindler v. Marx, 85 F.R.D. 612, 615 (N.D.Ill.1979). Moreover, the demand requirement has been described as a substantive right of the corporation and not simply a procedural prerequisite to the derivative action. Haber v. Bell, 465 A.2d 353, 357 (Del.Ch.1983). Thus, the substantive right to a demand on the corporation must be kept conceptually apart from the procedural requirement of Rule 23.1 that the plaintiff shareholder plead with particularity his or her efforts to obtain relief from the corporation or the reasons for not making such an effort. Daily Income Fund, Inc. v. Fox, 464 U.S. 523, 544 & n. 2, 104 S.Ct. 831, 843 & n. 2 (1984) (Stevens, J. concurring).3 Thus, in the present case this Court is faced with the task of evaluating whether Cottle has pleaded with particularity (federal procedural requirement) facts which would constitute grounds for excusing the pre-suit demand requirement under...
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