Kautz Ex Rel. iStar Financial Inc. v. Sugarman , 456 F. App'x 16 ( 2011 )

11-1767-cv
Kautz v. Sugarman
UNITED STATES COURT OF APPEALS
FOR THE SECOND CIRCUIT
SUMMARY ORDER
Rulings by summary order do not have precedential effect. Citation to a summary order filed
on or after January 1, 2007, is permitted and is governed by Federal Rule of Appellate
Procedure 32.1 and this court’s Local Rule 32.1.1. When citing a summary order in a document
filed with this court, a party must cite either the Federal Appendix or an electronic database
(with the notation “summary order”). A party citing a summary order must serve a copy of it
on any party not represented by counsel.
1 At a stated term of the United States Court of Appeals for the Second Circuit, held at the
2 Daniel Patrick Moynihan United States Courthouse, 500 Pearl Street, in the City of New York,
3 on the 21st day of November, two thousand eleven.
4
5 PRESENT:
6
7 AMALYA L. KEARSE,
8 JOSEPH M. MCLAUGHLIN,
9 JOSÉ A. CABRANES,
10 Circuit Judges.
11 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -x
12 JAMES KAUTZ, derivatively on behalf of iStar
13 Financial Incorporated,
14
15 Plaintiff-Appellant,
16
17 -v.- No. 11-1767-cv
18
19 JAY SUGARMAN, GLENN AUGUST, ROBERT W.
20 HOLMAN, JR., ROBIN JOSEPHS, JOHN G. MCDONALD,
21 GEORGE R. PUSKAR, DALE ANNE REISS, JEFFREY A.
22 WEBER, NICHOLAS A. RADESCA, CATHERINE D. RICE,
23 TIMOTHY J. O’CONNOR,
24
25 Defendants-Appellees,
26
27 ISTAR FINANCIAL INCORPORATED,
28
29 Nominal Defendant-Appellee.
30 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -x
31
1
1 FOR APPELLANT: BRETT D. STECKER (Robert B.
2 Weiser, Jeffrey J. Ciarlanto, Joseph
3 M. Profy, The Weiser Law Firm,
4 P.C., Wayne, PA, on the brief;
5 Robert I. Harwood, Daniella
6 Quitt, Harwood Feffer LLP, New
7 York, NY, of counsel), The Weiser
8 Law Firm, P.C., Wayne, PA.
9
10 FOR APPELLEES: SCOTT B. SCHREIBER (Andrew T.
11 Karron, Kavita Kumar Puri, on the
12 brief), Arnold & Porter LLP,
13 Washington, D.C., for defendants-
14 appellees Sugarman, August, Holman,
15 Josephs, McDonald, Puskar, Reiss,
16 Weber, Radesca, Rice, and O’Connor.
17
18 DAVID A. KISTENBROKER (Carl
19 E. Volz, Aharon S. Kaye, on the
20 brief), Katten Muchin Rosenman
21 LLP, Chicago, IL, for nominal
22 defendant-appellee iStar Financial Inc.
23
24
25 Appeal from a judgment of the United States District Court for the Southern District of New
26 York (Richard J. Sullivan, Judge).
27
28 UPON DUE CONSIDERATION, IT IS HEREBY ORDERED, ADJUDGED, AND
29 DECREED that the judgment of the District Court be AFFIRMED.
30
31 Plaintiff-appellant James Kautz appeals from a judgment granting defendants-appellees’ motion
32 to dismiss his derivative securities class action complaint for failure to make a pre-suit demand as
33 required by Fed. R. Civ. P. 23.1. See Kautz v. Sugarman, No. 10 Civ. 3478, 2011 WL 1330676 (S.D.N.Y.
34 Mar. 31, 2011) (“Kautz I”). We assume the parties’ familiarity with the underlying facts and the
35 procedural history of this case.
36 This appeal arises out of two parallel shareholder derivative complaints filed in the Southern
37 District of New York for the benefit of Nominal Defendant iStar Financial Inc. (“iStar”) against current
38 and former iStar directors and officers for breaches of fiduciary duties, waste of corporate assets, unjust
2
1 enrichment, and related claims. Kautz did not make pre-suit demand on iStar, electing instead to plead
2 demand futility in his complaint. He alleged that demand was futile for four reasons: (1) the Board of
3 Directors (the “Board”) had already rejected the demand of another alleged shareholder (that of Addie
4 Vancil, the plaintiff in the parallel derivative suit) (the “Vancil Demand”) and therefore no reasonable
5 shareholder would believe that the Board would consider another pre-suit demand in good faith; (2)
6 three of the directors were members of iStar’s audit committee during the relevant period, and therefore
7 had participated in the alleged misconduct that formed the factual basis for the derivative suit; (3) one of
8 the directors, Robert Sugarman, was also the Chief Executive Officer of iStar and therefore lacked
9 independence; and (4) several of the director defendants had participated in a decision to permit three of
10 iStar’s executives who might have otherwise been implicated in the alleged wrongdoing to retire or
11 resign, rather than being fired for cause. See Amended Complaint (“Am. Compl.”) ¶ 151, Kautz I, 2011
12 WL 1330676, No. 10 Civ. 3478 (S.D.N.Y. June 28, 2010).
13 On August 13, 2010, defendants moved to dismiss both the Kautz complaint and the Vancil
14 complaint, arguing that Kautz had failed to plead demand futility and that both Vancil and Kautz had
15 failed to state a claim on which relief can be granted. In Kautz’s memorandum in opposition to the
16 defendants’ motion to dismiss, he argued that his allegation that the directors had improperly permitted
17 several iStar executives to retire or resign necessarily gave rise to an inference that those directors had
18 also executed mutual releases with the departing executives. Those directors, according to Kautz, would
19 therefore face significant personal financial liability should the executives be found to have engaged in
20 wrongdoing, and therefore could not be relied upon to address his demand in good faith. Accordingly,
21 he argued, demand on those directors (who, not incidentally, comprised a majority of the Board) was
22 excused. See Kautz I, 2011 WL 1330676, at *10.
23 The District Court consolidated the two cases for argument and made several rulings in a joint
24 opinion, only two of which are relevant to us today. First, the court held that the Board’s negative
25 response to the Vancil Demand did not excuse the requirement that Kautz make his own pre-suit
26 demand. Id. at *8. Second, it found that Kautz had failed to allege the existence of mutual releases
3
1 between the directors and the departed executives. Id. at *10. The court granted the motion to dismiss
2 as against Kautz and directed that the case be closed.1 Id. at *10–11.
3 On appeal, Kautz argues that the court erred by failing to consider the Board’s treatment of the
4 Vancil Demand to be a relevant factor in its analysis of Kautz’s allegation of demand futility. He further
5 argues that the court erred in holding that he had not sufficiently alleged the existence of mutual releases
6 between certain of the Board members and iStar. We address the court’s two rulings in turn.
7 DISCUSSION
8 A. Standard of Review
9 Where a “challenge is made to the legal precepts applied by the district court in making a
10 discretionary determination,” we review the court’s conclusions de novo. Scalisi v. Fund Asset Mgmt., L.P.,
11 380 F.3d 133, 137 (2d Cir. 2004). However, where the District Court’s “determination of the sufficiency
12 of allegations of [demand] futility depends on the circumstances of the individual case,” we have
13 theorized that we may review its rulings for abuse of discretion. Id. (internal quotation marks omitted).
14 We decline to address here what seems to be an open question of the appropriate standard of review in
15 demand futility cases, see id. at 137 & n.6, because our ruling today would be required under either
16 standard.
17 B. Demand Futility
18 A derivative suit “permits an individual shareholder to bring suit to enforce a corporate cause of
19 action against officers, directors, and third parties.” Kamen v. Kemper Fin. Servs., Inc., 500 U.S. 90, 95
20 (1991) (emphasis and internal quotation marks omitted). Rule 23.1 of the Federal Rules of Civil
21 Procedure requires that any person seeking to bring a derivative suit against a company must first
22 demand that the company’s board of directors take remedial action on behalf of the company. That
23 person must then plead with particularity his “effort . . . to obtain the desired action from the directors .
24 . . [and] the reasons for not obtaining the action.” Fed. R. Civ. P. 23.1(b)(3). If the person deems
1
Vancil’s complaint was not dismissed and is currently the subject of limited discovery pursuant to the District
Court’s order. See Kautz I, 2011 WL 1330676, at *10.
4
1 demand to be futile, he must plead with particularity his “reasons for . . . not making the effort.” Id.2 Demand futility is evaluated under the law of the state of the company’s incorporation, Kamen, 500 U.S.
3 at 108–09, which in this case is Maryland.
4 Under Maryland law, a plaintiff alleging demand futility must plead and prove that “a majority of
5 the directors are so personally and directly conflicted or committed to the decision in dispute that they
6 cannot reasonably be expected to respond to a demand in good faith and within the ambit of the
7 business judgment rule.” Werbowsky v. Collomb, 766 A.2d 123, 144 (Md. 2001);2 see Waller v. Waller, 49
8 A.2d 449, 453 (Md. 1946). This exception to the demand rule is “a narrow one.” Scalisi, 380 F.3d at
9 140; see Werbowsky, 766 A.2d at 144 (futility based on director conflict is “a very limited exception” to the
10 demand rule). Accordingly, demand is rarely, if ever, properly excused under Maryland law. See
11 Washtenaw Cnty. Emps. Ret. Sys. v. Wells Real Estate Inv. Trust, Inc., No. 07-cv-862, 2008 WL 2302679, at
12 *14 & n.6 (N.D. Ga. Mar. 31, 2008) (collecting cases and noting that, since Werbowsky and as of 2008,
13 only one court in the country had found demand to be futile when applying Maryland law).
14 C. Demand was not Excused by the Board’s Response to the Vancil Demand
15 Several months before Kautz filed his complaint, Vancil made her demand upon the Board and
16 was rebuffed for reasons that are not before us today. See Kautz I, 2011 WL 1330676, at *1–2. Kautz
17 accordingly alleged that his demand was excused because, given the Board’s “shocking response (or lack
18 thereof)” to the Vancil Demand, he could not rely upon the Board to respond to his own demand in
19 good faith. Id. at *8. The District Court rejected this argument, holding that under Delaware law, to
20 which Maryland’s courts oftimes look for guidance,3 “the board’s response to one derivative plaintiff
2
The second exception to the pre-suit demand requirement, inapplicable here, permits a plaintiff to skip pre-
suit demand where “demand, or a delay in awaiting a response to a demand, would cause irreparable harm to the
corporation.” Werbowsky, 766 A.2d at 144.
3
The parties do not dispute that Maryland courts give great weight to Delaware law where their own courts
have not addressed a particular issue of securities litigation. See Kramer v. Liberty Prop. Trust, 968 A.2d 120, 134 (Md.
2009). Neither do the parties dispute that no Maryland court has ever addressed the issue of whether the rejection of
one demand can excuse future demands by unrelated persons. The District Court therefore correctly looked to
Delaware law to resolve this issue, as do we.
5
1 cannot form the basis for an assertion of demand futility by another.” Id. Kautz alleges that this
2 conclusion was erroneous. We disagree.
3 As noted by the District Court, “it is well settled [in Delaware] that the board’s response to one
4 derivative plaintiff cannot form the basis for an assertion of demand futility by another.” Kautz I, 2011
5 WL 1330676, at *8; see Kaplan v. Peat, Marwick, Mitchell & Co., 540 A.2d 726, 731 n.2 (Del. 1988)
6 (“Plaintiffs cannot effectively rely on an earlier demand made by another . . . shareholder.”); Decker v.
7 Clausen, Civ. A. Nos. 10,684, 10,685, 1989 WL 133617, at *2 (Del. Ch. Nov. 6, 1989); Maurer v. Johnson,
8 Civ. A. No. 9725, 1989 WL 997172, at *1 (Del. Ch. May 12, 1989) (“Plaintiffs’ argument . . . that
9 demand by these plaintiffs would be futile ‘on its face’ because of the Board’s rejection of a prior
10 demand based on the same transaction[] is without merit. If such were the case, any two shareholders
11 could convert a ‘demand rejected’ derivative cause of action into one for which demand was excused.”).
12 Kautz does not point to a single case in which demand is excused as against one plaintiff because an
13 unrelated plaintiff earlier made an unsuccessful demand. We decline to create such a rule out of whole
14 cloth, and find that Kautz’s first assignment of error is meritless.4
15 D. Kautz did not Establish the Existence of Mutual Releases
16 Kautz also argued before the District Court that some or all of iStar’s directors would face
17 personal financial liability from a shareholder derivative suit because, he claimed, they had executed
18 mutual releases with the departed executives. See Kautz I, 2011 WL 1330676, at *10. He now alleges that
19 the District Court erred in finding that he had not sufficiently pleaded the existence of those mutual
20 releases. Although Kautz correctly states that the District Court must accept all well-pleaded facts in the
21 complaint as true, see Swierkiewicz v. Sorema N.A., 534 U.S. 506, 508 n.1 (2002), this second assignment of
4
Kautz argues that it is not the mere fact of the prior demand’s rejection, but the manner in which the Board
evaluated that demand, that excuses his own demand obligation. But the body of law governing the reasonableness of
boards’ responses to demands is separate from the body of law addressing demand futility. As we note above, Kautz has
not brought to our attention any case in which a board’s prior conduct toward a demanding shareholder has excused
demand on the part of a later shareholder, regardless of the manner in which the board responded to the earlier demand.
Neither have we found such a case—presumably for the simple reason that the two standards are entirely separate and
distinct. See Maurer, 1989 WL 997172, at *1 (Del. Ch. May 12, 1989) (burden of proving that the board’s denial of earlier
demand was improper lay on earlier party who had actually made demand, not on plaintiffs who sought to excuse
demand); see also Kautz I, 2011 WL 1330676, at *8.
6
1 error suffers from a fatal problem: Kautz does not in fact plead the existence of these alleged releases in
2 his complaint. See Am. Compl. ¶ 151 (setting out six sub-paragraphs that allegedly explain why a
3 demand on the Board “would be a futile, wasteful and useless act”). In three nearly-identical footnotes,
4 Kautz alleged that “[t]ypically, when an executive of a public company resigns or retires, that executive
5 enters into an agreement pursuant to which the executive, inter alia, is released from certain claims.” Am.
6 Compl. ¶ 124 n.4 (identical text in nn.5–6). However, Kautz’s complaint continued, “upon information
7 and belief, it has not been disclosed in iStar’s public filings” whether any of the three departing
8 executives “executed such a release in connection with” their departures. Id. (identical text in nn.5–6).
9 As the District Court noted, “the pleadings allege no facts to support the existence of mutual releases
10 between iStar and the departing Defendants,” Kautz I, 2011 WL 1330676, at *10, but merely a string of
11 speculations. See id.5
12 Nevertheless, even if Kautz had properly pleaded the existence of the alleged mutual releases, we
13 would not question the considered judgment of the District Court in the circumstances presented here.6
14 Under Maryland law, the mere fact that a director may have a financial interest that would be harmed if
15 an investigation goes forward does not render that director so “personally and directly conflicted” as to
16 excuse demand. Scalisi, 380 F.3d at 139–40; see Werbowsky, 766 A.2d at 143 (demand not excused when
17 directors earn lucrative fees from their positions and might perceive demand as threatening those
18 positions); In re Davis Selected Mut. Funds Litig., No. 04 Civ. 4186, 2005 WL 2509732, at *3 (S.D.N.Y. Oct.
19 11, 2005) (allegation that “directors would be required to sue themselves and their fellow directors”
5
Even if we were to accept as a well-pleaded fact that it is common for corporations and their directors to
execute mutual releases with departing executives, Kautz has provided no facts that might suggest that iStar and its Board
adhered to this “customary” practice. “Factual allegations must be enough to raise a right to relief above the speculative
level.” Bell Atl. Corp. v. Twombly, 550 U.S. 544, 555 (2007). Where, as here, “the well-pleaded facts do not permit the
court to infer more than the mere possibility of misconduct, the complaint has alleged—but it has not shown—that the
pleader is entitled to relief.” Ashcroft v. Iqbal, 556 U.S. 662, __, 129 S. Ct. 1937, 1950 (2009) (internal punctuation and
quotation marks removed) (citing Fed. R. Civ. P. 8(a)(2)).
6
We address this counter-factual in acknowledgment of Maryland’s express limitation of the scope of the
demand futility inquiry: Courts are to focus on “the real, limited, issue—the futility of a pre-suit demand—and avoid[]
injecting into a preliminary proceeding issues that go more to the merits of the complaint—whether there was, in fact,
self-dealing, corporate waste, or a lack of business judgment with respect to the decision or transaction under attack.”
Werbowsky, 766 A.2d at 144.
7
1 insufficient under Maryland law to excuse demand); Sekuk Global Enters. Profit Sharing Plan v. Kevenides,
2 Nos. 24-C-03-007496, 24-C-03-007876, 24-C-03-008010, 2004 WL 1982508, at *8–9 (Md. Cir. Ct. May
3 25, 2004) (rejecting argument that uninsured directors’ potentially “ruinous” financial liability excused
4 demand). Kautz’s assertion that some or all of the directors have signed mutual releases, and therefore
5 might face significant financial liability should the suit go forward, simply cannot excuse him from
6 complying with Maryland’s extremely strict demand requirement.
7 CONCLUSION
8 We have considered all of Kautz’s arguments on appeal and find them to be without merit.
9 Neither the Board’s rejection of the Vancil Demand nor its alleged mutual release agreements with the
10 departed executives rendered demand futile. Kautz’s complaint therefore does not comport with the
11 requirements of Fed. R. Civ. P. 23.1 and must be dismissed.
12 Accordingly, without necessarily commenting on every aspect of the District Court’s thorough
13 and well-reasoned Memorandum and Order of March 31, 2011, we AFFIRM the judgment of the
14 District Court.
15
16 FOR THE COURT,
17 Catherine O’Hagan Wolfe, Clerk of Court
18
8