Johnston v. Box

903 N.E.2d 1115

453 Mass. 569

Eric JOHNSTON v. Alan L. BOX & others.¹

SJC-10231.

Supreme Judicial Court of Massachusetts, Suffolk.

Argued December 4, 2008.

Decided April 13, 2009.

Eric L. Zagar, Randor, PA (Tara P. Kao & James H. Miller, of Pennsylvania, with him) for the plaintiff.

Roger A. Lane, Boston (Courtney Worcester & Matthew Martel with him) for Special Litigation Committee of the Board of Directors of American Tower Corporation.

Douglas S. Brooks, Boston, for Joseph L. Winn, was present but did not argue.

Kurt Wm. Hemr, Boston, for Arnold L. Chavkin, was present but did not argue.

Meredith A. Wilson, for Alan L. Box & others, was present but did not argue.

Marbree D. Sullivan, Boston, for Steven B. Dodge, was present but did not argue.

Present: MARSHALL, C.J., IRELAND, SPINA, COWIN, CORDY, & BOTSFORD, JJ.

CORDY, J.

In this appeal, we consider whether a complaint in a shareholder derivative action is sufficient under Delaware law to survive a motion to dismiss. Specifically, we must determine whether its particularized factual allegations create a reasonable doubt that the board of directors (board) of American Tower Corporation (ATC) was capable of exercising independent and disinterested judgment in responding to allegations that former and current officers and directors had colluded in the improper backdating of stock options. If the factual allegations are sufficient, the plaintiff stockholder, Eric Johnston, properly is entitled to proceed with the derivative action without having first made demand on the board to act on ATC's behalf, that is, the action may proceed on a "demand excused" basis. If they are insufficient, as the motion judge found, the complaint is properly dismissed. We also consider whether the judge, on dismissing the complaint, should have done so without prejudice, and permitted the plaintiff to file an amended complaint.

Before reaching these issues, however, we must determine whether Johnston's appeal from the judgment of dismissal has been rendered moot or is otherwise barred by the actions of unrelated plaintiffs in a parallel case filed in the Federal court, or by the ruling of the Federal judge dismissing that case.

We conclude that the appeal is neither moot nor barred by matters occurring in the Federal litigation, and affirm the judgment of dismissal entered below by the Superior Court judge.

1. Background.² On May 19, 2006, ATC issued a press release stating that it had begun reviewing past stock option grants issued by the ATC board, and that it had received a letter of formal inquiry from the Securities and Exchange Commission (SEC). On May 24, 2006, Johnston, an ATC shareholder, filed a derivative suit against sixteen current and former officers or directors of ATC, alleging that those individuals colluded in granting or receiving improperly backdated ATC stock options. The complaint included allegations that Johnston had not made demand on the board to institute the action because such a demand would have been futile where the board was "incapable of making an independent and disinterested decision to institute and vigorously prosecute the action."

In support of the allegation that demand on the board would have been futile, the complaint alleged that four of the seven members of the then existing board, defendants James D. Taiclet, Jr.; Fred R. Lummis; Raymond P. Dolan; and Pamela D.A. Reeve, were not disinterested or independent,³ for various reasons. With respect to Dolan, it was alleged that he had been a member of the compensation committee in 2003 and had participated in the granting of stock options backdated to November 17, 2003. Having participated in that action, the complaint alleged that Dolan was "substantially likely to be held liable for breaching his fiduciary duties," and was therefore not a disinterested board member.⁴ The basis for the complaint's allegations that the November 17 stock option grants were backdated was its further allegation that ten days after the "purported" grant date (November 17), the stock price was 8.2 per cent higher than it was on that "purported" date, and that this fit an "extraordinary pattern" noted in five other stock option grants (made prior to Dolan's tenure on the compensation committee and the board) that were dated "just before a substantial rise in ATC's stock price." Thus, by inference, all of the stock option grants were backdated after the price of the stock had risen using hindsight to choose the date of a lower periodic stock price, to the detriment of ATC.

In response to the lawsuit, ATC formed a special litigation committee (SLC) to investigate the backdating claims. On July 12, 2007, the SLC issued a report concluding that several members of the ATC board had granted and received improperly backdated stock options.⁵ On July 16, 2007, ATC moved to dismiss Johnston's claim, with prejudice, for failing to make a presuit demand on the board without legal excuse.

In the memorandum in support of its motion to dismiss, ATC argued that the complaint failed to allege facts sufficient to create a reasonable doubt that a majority of the seven member board was disinterested, and focused with particularity on the adequacy of the allegations regarding Dolan.⁶ Specifically, ATC challenged the lynchpin to the plaintiff's allegations regarding Dolan, that the November 17, 2003, stock option grants were backdated. ATC pointed out that SEC records conclusively established (as a matter of public record) that on November 19, 2003 (two days after the grant), the recipients of the stock options filed Form 4 statements reporting their repetitive grants to the SEC.⁷ This fact ATC argued, "negate[d] any reasonable inference that this grant was backdated," and specifically negated the only basis for that allegation in the complaint. Consequently, there was no factual basis in the complaint for any doubt as to Dolan's disinterest or independence.

The plaintiff's memorandum in opposition to the motion to dismiss, dated September 14, 2007, argued, with respect to Dolan, that notwithstanding the November 19, 2003, SEC filings, the compensation committee did not actually execute a "unanimous written consent form" finally approving the November 17, 2003, grant of stock options until February 12, 2004, in violation of various accounting rules.⁸ Therefore, there was sufficient evidence of culpability on Dolan's part in a scheme to backdate stock options as to cast a reasonable doubt on whether he was a disinterested and independent director.⁹

The plaintiff's memorandum also included a footnote requesting that the court grant him "leave to replead in the event the Court grants any part of Defendants' motion to dismiss." The footnote stated that permission to replead would be "particularly appropriate here," noting the report of the SLC "as having come to light following the filing of the Complaint." The plaintiff did not further indicate what a repleaded complaint would include based on the information in the SLC report, nor did the plaintiff move to amend the complaint between the date the SLC report was issued (July 12, 2007) and the judge's ruling dismissing the complaint on October 25, 2007.

In his memorandum of decision dismissing the complaint, the motion judge took note of the SEC Form 4 filings made on November 19, 2003, disclosing the November 17, 2003, grants. He also noted that the stock price dropped between those dates, and concluded that it would make little sense to "backdate a stock option to a time when the adjusted closing price was higher than on the date of the grant." Therefore, there was no reason to believe that the stock option grant was improper. The judge further concluded that, without the backdating of the November 17 grant, the complaint failed to allege an impropriety for which Dolan might be liable. Insofar as the complaint made no allegations against three of the board members, the judge held that the plaintiff failed to meet his burden of pleading facts with particularity showing that a majority of the board was not disinterested or independent. Consequently, he granted ATC's motion to dismiss for failure to make presuit demand. The dismissal was, as ATC had sought, with prejudice, and without further leave to amend.

Johnston then filed a motion requesting that the judge alter or amend the judgment "so as to be without prejudice and with leave to amend" his complaint pursuant to Mass. R. Civ. P. 15(a), 365 Mass. 761 (1974).¹⁰ The judge denied the motion, reasoning that his prior decision had been carefully considered, and involved a "time-consuming effort"; Johnston had never sought to amend the complaint prior to the decision; and allowing an amendment would merely lead to a new ATC motion to dismiss, and a new analysis of the same issues. He concluded "This kind of let's-see-what-the-judge-does-on-the-motion-attacking-present-complaint-first,-and-then-move-to-amend-later approach is not favored in a busy Session of the Superior Court," noting that this reasoning was consistent with the reasoning in White v. Panic, 783 A.2d 543, 555-557 (Del.2001).¹¹ Johnston filed a notice of appeal, and we transferred the case to this court on our own motion.

2. Preliminary questions. ATC has moved to dismiss Johnston's appeal as moot because following the dismissal in this case other plaintiffs in a parallel Federal lawsuit (In re Am. Tower Corp. Sec. Litig., No. 06-10933 MLW, 2006 WL 1726143 [D. Mass.]) made demand on ATC to respond to the allegations of stock option backdating. ATC essentially contends that a demand made by any stockholder makes moot the demand excused or futility claim of any other stockholder. The proposition is not supported by Delaware law, under which the matter must be resolved. See Kamen v. Kemper Fin. Servs., Inc., 500 U.S. 90, 108-109, 111 S.Ct. 1711, 114 L.Ed.2d 152 (1991).

"Where a demand has actually been made, the stockholder making the demand concedes...