Zimmerman v. Bell

• Decision Date: 08 May 1984
• Docket Number: Civ. No. Y-82-2658.
• Citation: 585 F. Supp. 512
• Parties: Ilse ZIMMERMAN, et al. v. Griffin B. BELL, et al.
• Court: U.S. District Court — District of Maryland

585 F. Supp. 512

Ilse ZIMMERMAN, et al. v. Griffin B. BELL, et al.

Civ. No. Y-82-2658.

United States District Court, D. Maryland.

May 8, 1984.

Leon J. Rudd, Baltimore, Md., and Irving Bizar, New York City, for plaintiffs.

George Beall, Baltimore, Md., and Robert C. Myers, New York City, for defendants.

MEMORANDUM

JOSEPH H. YOUNG, District Judge.

The plaintiffs, stockholders in the Martin Marietta Corporation ("Martin"), have filed this derivative action against several directors of the company for their activities in opposing a hostile tender offer by the Bendix Corporation. The complaint in this action alleges that the defendants breached their fiduciary duty to the corporation and engaged in a waste of corporate assets to perpetuate their control over Martin.

The complex history of this epic battle in American corporate history has been documented in prior decisions of this and other courts, see, e.g., Martin Marietta Corp. v. Bendix Corp., 547 F.Supp. 533 (D.Md. 1983), and 549 F.Supp. 623 (D.Md.1983); Horowitz v. Pownall, 582 F.Supp. 665, (D.Md.1984); and Zimmerman v. Bell, 101 F.R.D. 329 (D.Md.1984). Therefore, the background of this litigation need not be repeated.

Pending before the Court is the defendants' motion to dismiss, or in the alternative, for security for costs, filed in the consolidated cases of Zimmerman v. Bell, Y-82-2658, and Cohen v. Adams, Y-82-3043. The motion argues that the claims must be dismissed because: (1) certain of the plaintiffs' claims are not justiciable, (2) the plaintiffs (except for one intervenor) did not make a demand on the board of directors before bringing this action, and (3) the plaintiffs did not make a demand on the stockholders of the corporation to bring this action before filing suit themselves.

The first two arguments may be dispensed with quickly. The defendants claim that the complaint must be dismissed because the allegations of the plaintiff with regard to so-called "golden parachute" contracts are not justiciable. The defendants argue that the beneficiaries of those contracts are not receiving benefits under them, and that enforcement of the contracts is not being sought. Therefore, the defendants claim, no actual "case or controversy" exists, and the Court does not have jurisdiction. There are three problems with the defendants' argument. First, the directors' approval of golden parachutes— or contracts designed to discourage takeover attempts by ensuring top corporate officers continued employment or payment of salary—formed only a portion of the claims filed by the plaintiffs, and dismissal of those claims would not result in dismissal of the entire case. Second, although the plaintiffs are seeking, as part of their relief, that the Court declare the contracts invalid (a dispute which may not yet be justiciable), the plaintiffs are also seeking damages from the defendants for breach of fiduciary duty in approving the contracts, a claim separate and distinct from relief with regard to the validity of the contracts. Third, an affidavit was filed (commendably, by the defendants) subsequent to the motion to dismiss which indicated that, in fact, one of the beneficiaries of the contracts has left the employ of Martin Marietta and is receiving benefits as a consequence, making the theretofore "unripe" controversy ripe.

The second claim of the defendants relates to the failure of the plaintiffs to have made a demand on the Board of Directors of Martin to file the suit before the plaintiffs acted. However, the intervenor in this case, Richard Ash, did indeed file a request with the Board which was rejected, and the other plaintiffs are excused from filing a request because such a demand would have been futile under the circumstances.

It should first be noted that there is some difference among courts as to whether state or federal law should be applied when a federal court, sitting in diversity, is attempting to determine whether a plaintiff seeking to bring a derivative action has satisfied the director demand requirements of Rule 23.1 of the Federal Rules of Civil Procedure. See, e.g., Meltzer v. Atlantic Research Co., 330 F.2d 946, 948, cert. denied, 379 U.S. 841, 85 S.Ct. 80, 13 L.Ed.2d 47 (4th Cir.1964) (federal law) and Reilly Mortg. v. Mt. Vernon S & L Ass'n., 568 F.Supp. 1067, 1075 (E.D.Va.1983) (state law). However, as to this issue, there would appear to be no difference between the standards to be applied under federal and state law so the Court need not address the choice of laws problem.

The federal courts have allowed recourse to this clause excusing the demand on the board of directors when a demand would be "futile," "useless," and "unavailing," or an "idle ceremony." Wright and Miller, Federal Practice and Procedure, § 1831 at pp. 379-80 (1972).

... generally speaking, the complaining stockholder must make demand upon the corporation itself to commence this action, and show that this demand has been refused or ignored. This general rule, however, is subject to a well-recognized exception, i.e., that no such prior demand is required when it would be futile. Parish v. Milk Producers Ass'n., 250 Md. 24, 82, 242 A.2d 512 (1968).

Here, the plaintiffs have named as defendants all members of the Board of Directors at the time of the alleged wrongdoing. While it is true that merely naming the directors is not enough to establish that a demand would be futile, Lewis v. Graves, 701 F.2d 245, 249 (2d Cir.1983), the complaint sufficiently alleges that the defendants as a body actively participated in the alleged wrongdoing in order to perpetuate their control over the corporation. Furthermore, one of the plaintiffs, intervenor Richard Ash, did in fact demand that the board take action, and the board refused, evidence that any demand by the other plaintiffs would have been futile. The fact that a demand was made and rejected in a related case excuses demand, Schwartz v. Romnes, 357 F.Supp. 30, 38 (S.D.N.Y.1973).

The question whether a demand on the stockholders was excused requires somewhat more discussion. The defendants' claim in this regard is grounded in Rule 23.1, which states, in pertinent part,

The complaint shall also allege with particularity the efforts, if any, made by the plaintiff to obtain the action he desires from 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.

It is clear that Maryland law will apply in deciding whether a demand on stockholders was necessary, and whether failure to make such a demand will result in dismissal.

Rule 23.1 provides that plaintiff must allege his efforts to obtain action from the shareholders "if necessary." This qualification has been interpreted as referring the federal court to the governing substantive law for determining whether a demand on the shareholders is necessary. For example, where the source of the corporate right being enforced is a state statute, then that law controls the issue. Wright and Miller Federal Practice and Procedure, § 1832 at 385 (1973).

The Rule provides that a demand is also to be made upon the shareholders, prior to suit, "if necessary." This reservation is inserted since such a demand upon the shareholders, unlike the demand on the directors, is intertwined with the substantive law of corporations dealing with the power of the shareholders to ratify "fraud." Moore's Federal Practice, ¶ 23.1.19 at 23.1-94 (1983).

The controlling law in Maryland with regard to the requirement of a demand on shareholders is set forth in Parish, supra. And, again, the requirement is excused if futile.

Before a shareholder may sue the Corporation to enforce and protect its rights or to redress wrongs to it, he must first make an earnest and unsuccessful effort to obtain remedial action by the Corporation itself, first by application to the directors and then by application to the body of shareholders. But he need not do so where the circumstances are such that an application would be futile. 250 Md. at 82, 242 A.2d 512, citing Eisler v. Eastern States Corp., 182 Md. 329, 333, 35 A.2d 118 (1943), and C.J. Corporations, § 1339.

The plaintiffs have argued that a demand on the stockholders would have been futile because (1) the underlying transactions are illegal and are therefore incapable of ratification by the shareholders, (2) the officers and directors of the corporation, named as defendants in this suit, manage the affairs of the corporation, and the only method for the stockholders to cause an action such as this to be brought would be to place the litigation in the hands of the defendant directors themselves, and (3) making a demand on the stockholders would result in a costly and prolonged proxy fight.

The first issue to be addressed, then, is whether the underlying acts would be capable of ratification by the stockholders. In their complaint, the plaintiffs allege that the directors of the corporation took the following actions (aimed at blocking the Bendix tender offer) in violation of their fiduciary duties to the stockholders: approved "golden parachute" contracts for...