Grosset v. Wenaas

• Decision Date: 14 February 2008
• Docket Number: No. S139285.,S139285.
• Citation: 42 Cal.4th 1100,72 Cal.Rptr.3d 129,175 P.3d 1184
• Court: California Supreme Court
• Parties: Richard GROSSET, Plaintiff, v. Eric P. WENAAS et al. Defendants and Respondents; Sik-Lin Huang, Intervener and Appellant.

72 Cal.Rptr.3d 129

42 Cal.4th 1100

175 P.3d 1184

Richard GROSSET, Plaintiff, v. Eric P. WENAAS et al. Defendants and Respondents Sik-Lin Huang, Intervener and Appellant.

No. S139285.

Supreme Court of California.

February 14, 2008.

Kreindler & Kreindler, Gretchen M. Nelson, Los Angeles; Federman & Sherwood, William B. Federman, Stuart W. Emmons; Law Offices of George A. Shohet and George A. Shohet for Intervener and Appellant.

Steven G. Ingram for Consumer Attorneys of California as Amicus Curiae on behalf of Intervener and Appellant.

Richard M. Buxbaum as Amicus Curiae on behalf of Intervener and Appellant.

Gray Cary Ware & Freidenrich, DLA Piper Rudnick Gray Cary US, DLA Piper US, Robert W. Brownlie, Paul A. Reynolds, San Diego, Kathryn E. Karcher and Stanley J. Panikowski for Defendants and Respondents.

National Chamber Litigation Center, Robin S. Conrad, Amar D. Sarwal; Morrison & Foerster, Beth S. Brinkman, Seth M. Galanter, Jordan Eth, Judson E. Lobdell and Christopher A. Patz, San Francisco, for Chamber of Commerce of the United States of America as Amicus Curiae on behalf of Defendants and Respondents.

BAXTER, J.

Richard Grosset originally filed this shareholder's derivative action on behalf of JNI Corporation (JNI) against certain of its directors and officers. The complaint sought redress solely for injuries sustained by JNI as a result of the defendants' alleged wrongdoing. No recovery was sought for any direct or individual harm to JNI stockholders.

After Grosset lost standing to litigate this matter, the trial court permitted Sik-Lin Huang, another JNI shareholder, to intervene and prosecute the action. Thereafter, around the time the trial court granted a motion to dismiss the derivative complaint, JNI merged with another corporation. As part of the merger, Huang was required to sell his JNI stock to a corporation that became the new sole stockholder of JNI. We granted review to consider the effect of the corporate merger on Huang's standing to pursue the appeal of the adverse trial court judgment.

We hold, as a matter of California law, that Huang lacks standing to continue litigating this derivative action because he no longer owns stock in JNI as a result of the merger. Accordingly, we affirm the Court of Appeal's dismissal of the appeal.

FACTUAL AND PROCEDURAL BACKGROUND¹

JNI was incorporated in Delaware and at all relevant times was based in San Diego. JNI designs, manufactures, and markets hardware and software products that connect computer servers to data storage devices to form "storage area networks."

In late 2000 and early 2001, JNI's stock price rose steeply and then fell precipitously. In April 2001, six securities fraud class actions were filed in federal court against JNI and its officers and directors. The district court consolidated these actions and appointed David Osher and others as lead plaintiffs. (See Osher v. JNI Corp. (S.D.Cal.2004) 308 F.Supp.2d 1168, 1176.) In that action, the district court granted JNI's three successive motions to dismiss, finding the Osher plaintiffs did not allege sufficient facts establishing that defendants knowingly or recklessly made false or misleading statements. (Id. at p. 1197.) Although the Ninth Circuit Court of Appeals recently concluded the last dismissal was properly ordered, it vacated the judgment in part because the district court did not sufficiently explain its denial of leave to amend. (Osher v. JNI Corp. (9th Cir. May 12, 2006) 183 Fed.Appx. 604, Fed. Sec. L.Rep. 93,852 [nonpub. opn.].)

Meanwhile, in September 2001, former plaintiff Richard Grosset initiated the instant derivative action on behalf of JNI against nine JNI directors and officers. When Grosset subsequently sold his JNI stock, the trial court permitted Sik-Lin Huang, a JNI stockholder, to intervene and continue this litigation.

Huang's complaint in intervention alleges causes of action against defendants for breach of fiduciary duty, waste of corporate assets, gross mismanagement of JNI, and insider trading in connection with a secondary offering by JNI. Recovery is sought solely on behalf of JNI, in the form of compensation for the corporate damages caused by defendants' conduct, statutory damages, and an award of costs and disbursements, including reasonable attorney and expert fees.

In September 2002, JNI's board of directors (the Board) created a special litigation committee (the SLC) to investigate the allegations in the derivative complaint and to determine whether Huang's derivative action would further JNI's best interests. JNI appointed the Honorable Howard Wiener (retired) and Admiral Leon "Bud" Edney (retired) to the Board and to serve as the members of the SLC. Justice Wiener and Admiral Edney had no prior relationships with JNI or any of the defendants, and no prior business dealings with JNI, and owned no JNI stock. They retained separate counsel to assist the SLC in its investigation.

To fulfill its mission, the SLC reviewed the allegations and causes of action in the derivative complaint, including the public statements challenged in the federal securities class action. The SLC researched the applicable law and conducted over 60 hours of interviews with JNI employees, auditors, and attorneys knowledgeable about the relevant events. Thousands of pages of documents were reviewed, including JNI's press releases in 2000 and 2001, internal corporate documents, public offering documents, Securities and Exchange Commission filings, analyst reports, industry reports, and historical stock information for JNI and its competitors. The SLC also heard presentations from each side in this matter, and reviewed materials provided by Huang's attorneys in support of the derivative claims.

Based on its investigation, the SLC issued a 64-page report concluding the derivative claims lacked merit and would likely not be successful. The SLC determined, inter alia, that the steep rise and fall of JNI's stock price was caused by a confluence of events in the marketplace, and not by a contrived scheme of false and misleading statements on the part of the directors and management to promote JNI's stock solely for personal profit. Thus, pursuing the derivative action would not be in JNI's best interests.

Armed with its report, the SLC filed a motion to dismiss the derivative complaint. After conducting discovery with court leave, Huang filed an opposition that disputed the independence, adequacy, and reasonableness of the SLC's membership, investigation, and conclusions. Ultimately, the trial court rejected Huang's challenges to the SLC and its report and dismissed the derivative complaint with prejudice.

Before Huang filed his appeal of the judgment in defendants' favor, the stockholders of JNI voted to approve a merger. Pursuant to the merger, a wholly owned subsidiary of Applied Micro Circuits Corporation (AMCC) merged with and into JNI, and JNI continued as the surviving company. Upon the merger's consummation, AMCC purchased all outstanding shares of JNI stock, and JNI became a wholly owned subsidiary of AMCC. Defendants subsequently moved to dismiss Huang's appeal on the ground he had no standing to pursue the litigation after selling his JNI stock in the merger.

The Court of Appeal heard defendants' motion to dismiss in conjunction with the appeal. Upon finding that Huang lacked standing to continue the action, the court dismissed the appeal without addressing its merits.

We granted Huang's petition for review.

DISCUSSION

As indicated, Huang lost his JNI stock as a result of a merger transaction. The central issue is whether Huang's loss of status as a JNI stockholder deprived him of standing to pursue this derivative action on JNI's behalf.

The Court of Appeal determined that the law of the state of incorporation governs this issue, because the requirements for standing implicate the internal affairs of a corporation.² JNI was incorporated in Delaware, where the law indisputably requires a plaintiff who brings an action on behalf of a corporation to maintain continuous stock ownership in the corporation throughout the action's pendency. Applying Delaware law, the court concluded that Huang's loss of his JNI stock as part of the merger resulted in his loss of standing to maintain the appeal of this action. The court proceeded to find, in the alternative, that because California law imposes a continuous ownership requirement that parallels Delaware law, Huang lacks standing in any event.

Huang disputes this reasoning. He claims that California does not have a continuous stock ownership requirement, and that a former shareholder may maintain a derivative action in this state so long as the individual satisfies section 800 of the California Corporations Code³ by owning stock in the corporation at the time of the alleged wrongdoing and at the time the action was filed.⁴ Huang argues that, given this material conflict between California law and Delaware law, the former should apply because California has a stronger interest than Delaware in regulating the matter. In particular, he notes, JNI is headquartered in California, the defendant officers and directors reside in this state, and all of the acts and transactions forming the basis of the derivative claims occurred here. Claiming he satisfies California's standing requirements, Huang urges reversal of the Court of Appeal judgment.

As both parties recognize, this case potentially raises a conflict of laws issue. If we find, however, that the Court of Appeal correctly determined both Delaware and California require a plaintiff to maintain continuous stock ownership throughout the litigation of a derivative action, then there is no material conflict and we must uphold the dismissal of Huang's appeal. (See Washington Mutual Bank v. Superior Court (2001) 24 Cal.4th 906, 920, 103 Cal. Rptr.2d 320, 15 P.3d 1071.) But if we conclude that Delaware law imposes this requirement while California law...