Gaines v. Haughton

Decision Date10 July 1981
Docket NumberNos. 79-3336,79-3516,s. 79-3336
Citation645 F.2d 761
PartiesFed. Sec. L. Rep. P 98,000 Ora E. GAINES, Plaintiff-Appellant, v. D. J. HAUGHTON et al., Defendants-Appellees. Lois A. and James FITZPATRICK, Plaintiffs-Appellants, v. D. J. HAUGHTON et al., Defendants-Appellees.
CourtU.S. Court of Appeals — Ninth Circuit

Carlyle W. Hall, Jr., Los Angeles, Cal., for plaintiff-appellant.

Seth M. Hufstedler, Beardsley, Hufstedler & Kemble, Los Angeles, Cal., for defendants-appellees; W. Scott Burke, McCutchen, Doyle, Brown & Enersen, San Francisco, Cal., on brief.

Appeal from the United States District Court for the Central District of California.

Before ELY and FARRIS, Circuit Judges, and SOLOMON, * District Judge.

ELY, Circuit Judge:

Ora E. Gaines, the plaintiff-appellant herein, appeals from an order of dismissal and summary judgment for defendants (Lockheed Aircraft Corporation and a number of former and present directors and

officers of Lockheed) in a shareholder lawsuit alleging both derivative claims of breach of fiduciary duty/waste of corporate assets and class action claims of federal securities violations. Gaines assigns a variety of errors by the District Court and seeks partial summary judgment and/or remand.

FACTS

From as early as 1961 to as late as 1975, Lockheed engaged in the practice of hiring "consultants" and "foreign sales agents" and paying them large fees and commissions in connection with foreign sales of Lockheed aircraft and equipment. Approximately $30-38 million was paid directly to foreign governments and officials during this period. 1 Shortly after the existence of these clandestine, "off the books" questionable payments was revealed by Securities and Exchange Commission (SEC) and United States Senate proceedings 2 in July-August 1975, Gaines an individual Lockheed shareholder commenced his lawsuit in the United States District Court for the Central District of California. 3 Gaines' complaint, filed on February 24, 1976, asserts two derivative causes of action on behalf of the corporation and two class action counts on behalf of the shareholders.

The derivative causes of action based on California law since Lockheed is a California corporation 4 allege that the individual defendants 5 breached their fiduciary Gaines' federal class action claims seek a permanent injunction barring Lockheed from making further improper or undisclosed payments, filing materially false or misleading proxy materials or periodic financial reports, or maintaining any undisclosed accounts. Gaines also seeks a declaration invalidating past elections, removing certain directors, appointing a special master to investigate the payments made, approving new proxy materials, requiring amendment of prior filings, and requiring an accounting of payments made. Gaines does not seek any damages in his § 13(a) or § 14(a) claims.

duty to the corporation and "wasted" corporate assets by authorizing, employing, and affirmatively concealing corrupt business practices (i. e., the practice of paying large "sales commission," "consulting fees," and outright bribes to foreign purchasers, foreign government officials, and their agents) which resulted in "no use or benefit to Lockheed whatsoever" (Complaint, P 43(a), see id. PP 43(c), (e), 44) and tarnished Lockheed's image and goodwill. See id. PP 17, 30. The class action counts based on federal securities law allege that defendants-appellees (hereinafter "appellees") violated the filing and proxy requirements of §§ 13(a) and 14(a) of the Securities Exchange Act of 1934, as amended ("the 1934 Act"), 15 U.S.C. §§ 78m & 78n, by (1) failing to disclose the existence and details of the questionable foreign payments to the shareholders in proxy solicitation materials each year from 1961-74, and (2) by filing materially false and misleading annual and other periodic financial reports on behalf of Lockheed.

The derivative causes of action seek restitution and money damages for "any and all" disbursements and expenditures in connection with the alleged corrupt business practices and improper foreign payments, including interest, attorneys' fees, and punitive damages.

Apart from the commencement of Gaines' lawsuit, the revelation of Lockheed's foreign payments in July-August 1975 precipitated several other events. 6 On February 2, 1976, the Lockheed board of directors appointed a Special Review Committee 7 (SRC), whose investigation was assisted by the New York law firm Shearman & Sterling and the accounting firm Arthur Anderson & Co. and was directed by the SRC's The SRC conducted a fourteen-month investigation, interviewed more than 250 witnesses, and issued a report (dated May 16, 1977) to the Lockheed board, the SEC, and the United States District Court for the District of Columbia on May 26, 1977. The SRC report, which concluded that Lockheed had, with the approval and participation of several senior executives, made $30-38 million in questionable and "off the books" foreign payments, was distributed to all Lockheed shareholders on June 10, 1977. The SRC report contained a "secret" two-volume appendix prepared by Judge Bauman, which the District Court placed under a protective order on June 10, 1977.

counsel, former United States District Judge Arnold Bauman. On April 13, 1976, and in response to an SEC complaint, see SEC v. Lockheed Aircraft Corp., (1975-1976 Transfer Binder) Fed.Sec.L.Rep. P 95,509 (CCH) (D.D.C.1976), Lockheed entered into a consent decree and permanent injunction which enjoined future improper payments, improper accounting methods, and other forms of concealment; required amendment of prior SEC filings; provided for an internal corporate investigation and report procedures to be conducted under SEC supervision; and ordered other remedial actions. On June 23, 1978, Lockheed agreed to a consent order of the Federal Trade Commission containing even more sweeping prohibitions than those contained in the SEC permanent injunction. See In re Lockheed Corp., (1976-79 Transfer Binder) Trade Reg. Rep. (CCH) P 21,454 (FTC Dkt. C-2942, Aug. 17, 1978).

On April 20, 1977, the Lockheed board appointed a Special Litigation Committee 8 (SLC), and delegated to it the full power and authority of the board of directors with respect to the then-pending derivative lawsuit. 9 The SLC, composed of four non-defendant outside directors, retained independent outside counsel 10 and, over a period of ten months, considered the factual and legal merit of Gaines' lawsuit. In its March 14, 1978 report, the SLC detailed the factual background of Gaines' lawsuit, enumerated and analyzed a series of factors it deemed definitive of Lockheed's interest in pursuing the suit, 11 and unanimously concluded

that "sound business judgment as to the interests of Lockheed in light of the circumstances and legal considerations here present leads directly and clearly to the conclusion that the claims asserted in the derivative cases should not be pursued against any of the defendants." Special Litigation Committee Report at 41. Consistent with its decision that the pursuit of the derivative litigation was not in the best interests of the corporation or its shareholders, on March 14, 1978, the SLC directed its counsel to seek dismissal of the derivative claims. Shortly thereafter, Lockheed authorized counsel to seek dismissal of the federal class action claims. These motions were filed in the District Court on April 17, 1978. 12

THE DISTRICT COURT DECISION

Judge Whelan's order of summary judgment for appellees was entered on April 20, 1979. The District Court opinion, which contains findings of fact 13 and conclusions of law, is entitled "Memorandum of Grounds Supporting Decision Granting Summary Judgment" (hereinafter "District Court Memorandum"). Judge Whelan granted summary judgment for appellees on the derivative state law claims because a Special Litigation Committee of disinterested directors, appointed by the full board, had unanimously determined in the exercise of its lawfully delegated 14 independent business judgment that pursuing legal claims against the individual appellees would not be in the best interests of the corporation.

The District Court determined that the decision of the SLC to terminate the derivative lawsuit

was made in good faith after consideration of relevant factors. There was no fraud, collusion, or other conduct of a breach of trust nature on the part of any member of the Committee.

The Committee's business judgment is not grossly unsound. It cannot be concluded that it did not represent the Committee's honest and independent judgment....

The Court may not substitute its judgment for the good faith business judgment of the Committee which is charged with the conduct of the business of the corporation in this matter.

There are no genuine issues of material fact to be tried herein with regard to the Committee's exercise of its business judgment.

District Court Memorandum at 7. Judge Whelan based his holding on this issue on California law. See Findley v. Garrett, 109 Cal.App.2d 166, 174, 240 P.2d 421, 426 (1952). His ruling presaged this Court's decision in Lewis v. Anderson, 615 F.2d 778 (9th Cir. 1979), cert. denied, --- U.S. ---- The District Court also dismissed Gaines' federal securities claims pursuant to Fed.R.Civ.P. 12(b)(6) for failure to state a claim upon which relief can be granted. Because Gaines did not allege in his complaint that he purchased or sold Lockheed stock in reliance on Lockheed's allegedly false and misleading proxy statements and did not allege that he actually granted a proxy based on the allegedly false and misleading proxy solicitation materials, the District Court held that Gaines did not have standing to assert a nonderivative § 14(a) cause of action. "To maintain an (individual, nonderivative) action under Section 14(a), p...

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