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Posted: February 21, 2018

Derivative Action Dismissed for Failure to Plead Demand Futility With Particularity

On February 13, 2018, the First Department issued a decision in Retirement Plan for Gen. Empls. of the City of N. Miami Beach v. McGraw, 2018 NY Slip Op. 01027, dismissing a derivative action for failure to plead demand futility with particularity, explaining:

The motion court correctly dismissed the complaint, as plaintiffs failed to adequately plead, with particularity, that the demand requirement, pursuant to Business Corporation Law ยง 626(c), was excused.

Plaintiffs’ claim that six of the 12 members of the then current board of directors were self-interested is insufficient. Four of these director defendants are alleged to be interested based solely on ties with companies that received credit ratings from S & P, with no explanation as to how these affiliations compromised their independence in evaluating a demand. The mere fact of director defendant Robert McGraw’s fraternal relationship with director defendant Harold McGraw III, whom the complaint does not directly implicate in any misconduct, is insufficient to establish control. The claim of self-interest for the sixth director defendant, based upon a role at S & P which began in 2011, long after the alleged misconduct, is also insufficient.

Plaintiffs’ claims that the board of directors failed to fully inform themselves about S & P’s ratings of RMBS and CDOs, that they turned a blind eye to various red flags, and that their abdication of oversight of S & P’s business practices was so egregious that it could not constitute a valid exercise of business judgment, also lack the requisite particularity. The board’s regular meetings demonstrate that they were fulfilling their fiduciary obligations. Further, S & P took responsive action to the subpoenas and lawsuits filed, beginning in August 2007, concerning S & P’s rating of RMBS and CDOs, by, among other things, downgrading thousands of securities and announcing new measures to strengthen their ratings criteria and improve transparency.

(Internal quotations and citations omitted).

This decision illustrates the special pleading requirements for derivative actions (where a shareholder brings an action on behalf of a corporation). Contact Schlam Stone & Dolan partner John Lundin at jlundin@schlamstone.com if you or a client have questions regarding bringing an action on behalf of a corporation or other business entity.

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