PAUL BERGER, ETC. VS. KENNETH C. FRAZIER (L-1379-15, UNION COUNTY AND STATEWIDE) ( 2018 )

NOT FOR PUBLICATION WITHOUT THE
APPROVAL OF THE APPELLATE DIVISION
This opinion shall not "constitute precedent or be binding upon any court."
Although it is posted on the internet, this opinion is binding only on the
parties in the case and its use in other cases is limited. R. 1:36-3.
SUPERIOR COURT OF NEW JERSEY
APPELLATE DIVISION
DOCKET NO. A-1852-15T1
PAUL BERGER, Derivatively on
Behalf of MERCK & CO., INC.,
Plaintiff-Appellant,
v.
KENNETH C. FRAZIER, LESLIE A.
BRUN, THOMS R. CECH, THOMAS H.
GLOCER, WILLIAM B. HARRISON, JR.,
C. ROBERT KIDDER, ROCHELLE B.
LAZARUS, CARLOS E. REPRESAS,
PATRICIA F. RUSSO, CRAIG B.
THOMPSON, WENDELL P. WEEKS, PETER
C. WENDELL, ROBERT M. DAVIS, and
PETER N. KELLOGG,
Defendants-Respondents,
and
MERCK & CO., INC.,
Nominal Defendant-Nominal
Respondent.
______________________________________
Argued October 18, 2017 – Decided July 13, 2018
Before Judges Fuentes, Koblitz, and Suter.
On appeal from Superior Court of New Jersey,
Law Division, Union County, Docket No. L-1379-
15.
John F. Keating, Jr. (The Brualdi Law Firm,
PC) argued the cause for appellant (Steven P.
Lombardi, attorney; Richard B. Brualdi, Steven
P. Lombardi, and John F. Keating, Jr., on the
brief).
Mark A. Kirsch (Gibson, Dunn & Crutcher, LLP)
of the New York bar, admitted pro hac vice,
argued the cause for respondents (McCarter &
English, LLP, and Mark A. Kirsch, attorneys;
Mark A. Kirsch, Laura K. O'Boyle and Peter M.
Wade (Gibson, Dunn & Crutcher, LLP) of the New
York bar, admitted pro hac vice, Samuel G.
Liversidge (Gibson, Dunn & Crutcher, LLP) of
the California bar, admitted pro hac vice, and
Mary Gabriel, on the brief).
PER CURIAM
Plaintiff Paul Berger appeals from a December 4, 2015 order
that dismissed his shareholder derivative lawsuit filed against
the individual members of Merck & Company's (Merck's) Board of
Directors (Board) and three members of Merck's management
(collectively, defendants).1 The complaint alleged that
1
Defendants include: Kenneth C. Frazier, Merck's President and
Chief Executive officer since 2011; Robert M. Davis, Merck's
Executive Vice President and Chief Financial Officer (CFO) since
2014; Peter N. Kellogg, Merck's Executive Vice President and Chief
Financial Officer from 2007 to April 2014; Leslie A. Brun, a member
of the Board since 2008; Thoms R. Cech, a member of the Board
since 2009; Thomas H. Glocer, a member of the Board since 2007;
William B. Harrison, Jr., a member of the Board since 1999; C.
Robert Kidder, a member of the Board since 2005; Rochelle B.
Lazarus, a member of the Board since 2004; Carlos E. Represas, a
member of the Board since 2009; Patricia F. Russo, a member of the
Board since 1995; Craig B. Thompson, a member of the Board since
2008; Wendell P. Weeks, a member of the Board since 2004; and
Peter C. Wendell, a member of the Board since 2003.
2 A-1852-15T1
defendants caused Merck to fail to disclose its tax liability on
indefinitely reinvested overseas earnings, otherwise known as the
Repatriation Tax (Tax), when it filed its 2013 Form 10-K with the
Securities and Exchange Commission (SEC). We affirm dismissal of
the complaint under Rule 4:6-2(e), for failure to state a claim
upon which relief can be granted.
I.
Merck is a Fortune 500 company headquartered in New Jersey.
Its common stock is traded on the New York Stock Exchange. It is
a "global health care company." In 2013, its revenue was
approximately $43.9 billon; it had $57.1 billion of earnings from
its subsidiaries outside the United States. Plaintiff is a
stockholder of Merck.
The Financial Accounting Standards Board (FASB)2 has
developed various accounting standards. Standard 740-30-50-2
requires disclosure by companies of "[t]he amount of the
unrecognized deferred tax liability for temporary differences
related to investments in foreign subsidiaries and foreign
corporate joint ventures that are essentially permanent in
2
FASB "establishes financial accounting and reporting standards
for public and private companies and not-for-profit organizations
that follow Generally Accepted Accounting Principles." About Us,
FASB, https://www.fasb.org/jsp/FASB/Page/LandingPage&cid=1175805
317407.
3 A-1852-15T1
duration if determination of that liability is practicable or a
statement that determination is not practicable."
Merck's Form 10-K for year end 2013, filed on February 27,
2014, provided that,
[a]t December 31, 2013, foreign earnings of
$57.1 billion have been retained indefinitely
by subsidiary companies for reinvestment;
therefore, no provision has been made for
income taxes that would be payable upon the
distribution of such earnings and it would not
be practicable to determine the amount of the
related unrecognized deferred income tax
liability.
[Emphasis added.]
Plaintiff contends in his complaint that calculation of the Tax
is routine, requiring only that "current tax laws and rates" be
applied to "historical permanently reinvested earnings." He
asserts that Merck's Form 10-K was misleading without the Tax
information.
On October 28, 2014, plaintiff demanded that the Board file
a lawsuit against Merck's current and past directors for their
failure to comply with Standard 740-30-50-2 when reporting the
Tax. Plaintiff asserted that this failure breached their fiduciary
duties to shareholders.
The Board hired the law firm of Forman & Shapiro, LLP (F&S)
to conduct an investigation of plaintiff's claims and to report
its findings to the Board. F&S retained an accounting expert,
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interviewed partners at PricewaterhouseCoopers, who were the
accountants for Merck, and spoke with certain current and former
Merck employees. It reviewed records from Merck's Audit Committee
and communications between the Board and the SEC.
F&S reported its findings at the February 2, 2015 Board
meeting, advising that calculation of the deferred tax liability
was "not practicable" and that it was "reasonable" for Merck not
to provide this Tax in its Form 10-K. On February 25, 2015, the
Board declined to file the lawsuit requested by plaintiff, finding
it was "not in the company's best interests."
Plaintiff filed this shareholder derivative lawsuit on April
7, 2015. The complaint alleged defendants breached their fiduciary
duty to Merck by causing Merck to fail to disclose the Tax in its
Form 10-K filed on February 27, 2014 (for the year ending December
31, 2013) with the SEC. It included a single count against
defendants for breach of their duties of "due care, loyalty, good
faith, and other obligations to Merck." The relief sought included
a declaration of the breach, an affirmative injunction requiring
defendants to comply with the accounting standard to disclose the
Tax, monetary damages and attorney's fees.
The complaint alleged that other large multinational
companies, such as Apple, Microsoft and Citigroup, made disclosure
of the Tax. "On information and belief," the complaint averred
5 A-1852-15T1
that Merck periodically made an estimate of the Tax. Plaintiff
also said that for three prior years, Merck calculated and reported
a "reconciliation between the effective tax rate and the U.S.
statutory [tax] rate, which included . . . foreign earnings and
unremitted foreign earnings." The complaint alleged that
potential changes to the tax laws could tax "accumulated
unrepatriated foreign earnings of controlled foreign companies,"
creating a financial impact for Merck.
Plaintiff complained that Merck's Board did not "investigate
or consider the consequences" of violating this FASB standard even
though a July 5, 2014 New York Times article had discussed the
same issue and specifically referenced Merck. Another
shareholder, the Beatrice Corwin Living Irrevocable Trust,
requested access to books and records about the same issue.
According to plaintiff, the Board's minimal response showed it did
not investigate or consider the issue.
In July 2015, defendants filed a motion to dismiss the
verified complaint under Rule 4:6-2(e), for failure to state a
claim. Defendants argued that plaintiff provided no factual
support for its allegation that Merck could make the Tax
calculation "practicably." Defendants averred that the complaint
did not allege any acts or omissions by the individual directors
that breached their fiduciary duties to the company. Plaintiff
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did not identify any purported harm to the company. Defendants
also argued that the directors' decision not to institute suit was
protected by the modified business judgment rule.
Judge Thomas J. Walsh dismissed plaintiff's complaint under
Rule 4:6-2(e) for failure to state a claim for breach of fiduciary
duty on December 4, 2015, in an oral opinion. Plaintiff's
complaint did not allege that defendants breached any "law,
regulation or other similar authority" by reporting that Merck's
deferred tax liability was not practicable to calculate. Plaintiff
did not articulate any facts to support his claims. Plaintiff did
not say how defendants breached any fiduciary duty or that Merck's
practices were "not customary in the industry." Merck's
certificate of incorporation "parallel[ed]" N.J.S.A. 14:2-7(3) and
limited the liability of a director or officer. The court found
the complaint made "no allegation that the Board knew of a duty
to act in regard to disclosure and consciously failed to do so;
nor [did] plaintiff's [c]omplaint assert any allegations regarding
the Board's oversight of Merck's accounting practices." There was
no obligation by the Board to react to the New York Times newspaper
article. The trial court did not address defendants' modified
business judgment rule defense or their contention that plaintiff
did not suffer damages.
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On appeal, plaintiff claims the trial court erred because it
was practicable for the company to calculate and disclose the Tax.
Plaintiff argues that Rule 4:6-2(e) was not properly applied. Had
it been, the court would have accepted as true all the allegations
he made, including that the Tax could be calculated. Plaintiff
alleged the Board members breached their duty to "keep informed,
to read and understand Merck's financial statements, including its
tax disclosures," by not considering the tax implications of the
Tax.
Also, the complaint should not have been dismissed based on
the exculpatory provision in Merck's certificate of incorporation.
This was extrinsic to the complaint. It should not have been
enforced at the pleading stage, before discovery. It was improper
to deny injunctive relief because the exculpatory clause did not
address it.
Plaintiff claims that the modified business judgment rule
cannot be used as an alternate basis to affirm the trial court
because the trial court did not consider it. Finally, plaintiff
argues that Robert Davis, Merck's current chief financial officer
(CFO), is a necessary party to this litigation to enforce
injunctive relief.
We conclude that plaintiff's arguments lack merit and we
affirm the dismissal of this litigation.
8 A-1852-15T1
II.
We review de novo the challenged order that dismissed
plaintiffs' complaint for failure to state a cause of action,
applying the same legal standard as the trial court. Frederick
v. Smith, 416 N.J. Super. 594, 597 (App. Div. 2010). A motion for
failure to state a claim must be denied if, giving plaintiffs the
benefit of all their factual allegations and all favorable
inferences, a cause of action has been alleged in the complaint.
Printing Mart-Morristown v. Sharp Elecs. Corp., 116 N.J. 739, 746
(1989). Conclusory allegations do not provide an adequate basis
to deny a motion to dismiss under Rule 4:6-2. Id. at 768.
We agree with the trial court that the complaint was properly
dismissed under Rule 4:6-2(e). There is no dispute that FASB
standard 740-30-50-2 allows a company to report that it is not
practicable to estimate the Tax. Financial Accounting Standard
(FAS) 109 explains that a determination or calculation may be
impracticable where "the cost to develop that information is
excessive[.]" FAS No. 107, incorporated into a different section
of the ASC, indicates that "practicable" means, "that an estimate
. . . can be made without incurring excessive costs."3
3
See Statement of Financial Accounting Standards No. 107,
Accounting for Income Taxes, 7 (Dec. 1991),
http://www.fasb.org/jsp/FASB/Document_C/DocumentPage?cid12182201
23701&acceptedDisclaimer=true.
9 A-1852-15T1
Practicability, therefore, is a "dynamic concept," meaning what
is practicable for one entity might not be for another and what
is not practicable in one year might be practicable in another.
We reject plaintiff's contention that we are required to
accept as true his allegation that Merck can "practicably" estimate
the Tax. That is a conclusion that he has not supported factually.
Under Rule 4:6-2(e), we are required to accept as true facts that
are alleged, but not conclusory allegations. Scheidt v. DRS
Techs., Inc., 424 N.J. Super 188, 193 (App. Div. 2012).
"[P]leadings reciting mere conclusions without facts and reliance
on subsequent discovery do not justify a lawsuit." Glass v.
Suburban Restoration Co., 317 N.J. Super. 574, 582 (App. Div.
1998); see Lederman v. Prudential Life Ins. Co. of Am., 385 N.J.
Super. 324, 349 (App. Div. 2006).
Plaintiff makes three arguments to support this conclusion,
none of which are persuasive. Plaintiff contends on "information
and belief" that Merck actually estimated the Tax. He provided
no evidence or facts to support this. This claim is meaningless
because it was based on information and belief, not on personal
knowledge even though the complaint was verified. See Monmouth
Cty. Social Serv. v. P.A.Q., 317 N.J. Super. 187, 193-94 (App.
Div. 1998) (providing that a complaint that is made without
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personal knowledge, it is a nullity and insufficient to invoke the
court's jurisdiction); see also R. 1:4-7.
Next plaintiff says that Merck was required to make a
reconciliation between the effective tax rate and the U.S.
statutory tax rate and did so in 2011, 2012, and 2013. Defendants
acknowledge that they were required to make a reconciliation
between the effective tax rate and U.S. statutory tax rate, but
that the calculation simply applied a 35% tax rate to foreign
earnings. What is important here is that plaintiff did not explain
how this reconciliation shows that Merck can practicably estimate
the Tax at issue. This then is another bare conclusion, not
supported by facts.
Plaintiff contends that other multinational companies, such
as Apple and Microsoft, disclose the amount of the Tax. However,
that does not mean that Merck can do the same or that its corporate
structure is similar. These are entirely different corporations
with separate overseas business holdings. Equating one company's
capabilities with another is speculative. Therefore, we agree
with the trial court that the complaint was properly dismissed
under Rule 4:6-2(e) because it relied on a newspaper article and
conclusory statements without any supporting facts. Without
factual support, we cannot "accept as true" plaintiff's conclusion
that Merck can calculate the Tax "practicably."
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The breach of fiduciary duty claim also was properly dismissed
by the trial court. The complaint alleged a single count for
breach of fiduciary duty by Merck's directors and officers.
Plaintiff argued that Merck's shareholders "have a right to expect
that directors will exercise reasonable supervision and control
over the policies and practices of a corporation," citing Francis
v. United Jersey Bank, 87 N.J. 15, 36 (1981). He claims that
defendants had a "duty to look" which included "reading and
understanding financial statements, and making reasonable attempts
at detection and prevention of . . . illegal conduct." Id. at 31,
39.
Whether or not Francis sets forth the applicable standard,
the complaint did not allege facts sufficient to meet the standard.
The complaint did not cite a law or regulation violated by Merck's
2013 Form 10-K. It did not identify any inadequacies with Merck's
internal controls or its financial reporting process. It did not
say what accounting standards were violated. There was no
obligation by the Board to act based on a newspaper article that
mentioned the company. There were no factual allegations made
against individual Board members.
We discern no error by the trial court in dismissing the
complaint in the alternative based on the exculpation clause in
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Merck's certificate of incorporation for directors and officers.
It provided that
all current and former directors and officers
of the Corporation shall not be personally
liable to the Corporation or its stockholders
for damages for breach of duty owed to the
Corporation or its stockholders, except that
the provisions . . . shall not relieve a
director or officer from liability for any
breach of duty based upon an act or omission
(a) in breach of such person's duty of loyalty
to the Corporation or its stockholders, (b)
not in good faith or involving a knowing
violation of law or (c) resulting in receipt
by such person of an improper personal
benefit.
The certificate of incorporation was referenced by plaintiff
in his complaint. The trial court could rely on it in deciding
the Rule 4:6-2(e) motion. See Myska v. N.J. Mfrs. Ins. Co., 440
N.J. Super. 458, 482 (App. Div. 2015) (quoting E. Dickerson & Son,
Inc. v. Ernst & Young, LLP, 361 N.J. Super. 362, 365 n.1 (App.
Div. 2003) ("a court may consider documents specifically
referenced in the complaint 'without converting the motion into
one for summary judgment.'"). Plaintiff's complaint did not allege
facts showing the individual defendants breached their duty of
loyalty, acted in bad faith, knew about any violation of law or
benefited from the Form 10-K filing.
We also reject plaintiff's argument that Robert Davis was a
necessary party to the litigation. He was not CFO when the 2013
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Form 10-K was filed in February 2014. He is not needed for
injunctive relief, given our decision here.
In light of our opinion, we have no need to address any of
plaintiff's arguments about the modified business judgment rule.
Affirmed.
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