Tola v. Bryant

76 Cal.App.5th 746

291 Cal.Rptr.3d 728

Joseph TOLA, Plaintiff and Appellant,

v.Andy D. BRYANT et al., Defendants and Respondents.

A161150

Court of Appeal, First District, Division 5, California.

Filed March 24, 2022

Cotchett, Pitre & McCarthy, LLP, Mark C. Molumphy, Burlingame, Tyson C. Redenbarger, and Julia Q. Peng for Plaintiff and Appellant.

Gibson Dunn & Crutcher LLP, Paul J. Collins, Palo Alto, for Defendant and Respondent Intel Corporation.

Munger, Tolles & Olson LLP, Fred A. Rowley, Jr., Robert L. Dell Angelo, and John M. Gildersleeve, Los Angeles, for Defendants and Respondents Andy D. Bryant, Brian M. Krzanich, Robert H. Swan, Charlene Barshefsky, Aneel Bhusri, Reed E. Hundt, Omar Ishrak, Tsu-Jae King Liu, David S. Pottruck, Gregory D. Smith, Andrew Wilson, Frank D. Yeary, and David B. Yoffie.

BURNS, J.

In this shareholder derivative action, plaintiff Joseph Tola alleges that officers and directors of Intel Corporation breached their fiduciary duties, engaged in insider trading, and were unjustly enriched. Applying Delaware law, the trial court dismissed Tola's third amended complaint without leave to amend, having concluded that he failed to allege, with the requisite particularity, that it was futile to make a pre-suit demand on Intel's board of directors. Tola disputes this point and, alternatively, argues the trial court abused its discretion by denying his motion for reconsideration, which sought leave to amend. We disagree and affirm.

BACKGROUND

A.

Management of a corporation, including control of any claims it pursues, is vested in its board of directors. ( Bader v. Anderson (2009) 179 Cal.App.4th 775, 782, 101 Cal.Rptr.3d 821.) "When the board refuses to enforce corporate claims, however, the shareholder derivative suit provides a limited exception to the rule that the corporation is the proper party plaintiff." ( Ibid . )

Shareholders face a heavy burden when bringing a shareholder derivative lawsuit. ( Brehm v. Eisner (Del. 2000) 746 A.2d 244, 267.) By nature, a derivative suit intrudes on directors’ freedom to manage a corporation's affairs. ( Stone v. Ritter (Del. 2006) 911 A.2d 362, 366 ( Stone ).) Accordingly, a shareholder may not maintain a derivative lawsuit unless (1) the board has wrongfully refused the shareholder's demand to pursue a corporate claim, or (2) a demand would be futile because the board cannot make an impartial decision. ( Id . at pp. 366-367.) When, as here, the shareholder contends that a demand would be futile, she must plead particularized facts creating a reasonable doubt that the board can impartially consider its merits. ( Rales v. Blasband (Del. 1993) 634 A.2d 927, 934 ; accord, Del. Ch. Ct. Rules, rule 23.1; Leyte-Vidal v. Semel (2013) 220 Cal.App.4th 1001, 1009, 163 Cal.Rptr.3d 641.) The parties agree that Delaware law governs the issue.

B.

Intel, a Delaware corporation headquartered in California, designs and manufactures microprocessors. In June 2017, Google engineers alerted Intel's management to two security vulnerabilities—named "Spectre" and "Meltdown"—affecting Intel's microprocessors. The vulnerabilities could potentially have been exploited by hackers to gain unauthorized access to sensitive data stored on a user's device and potentially affected Intel microprocessors manufactured as far back as 1995 or 1996. When notified of the vulnerabilities, management formed a "Problem Response Team" to investigate and develop software solutions. Over the next six months, Intel made no public disclosures about Spectre or Meltdown.

In January 2018, media reports described the security vulnerabilities affecting Intel's microprocessors. The next day, Intel acknowledged the vulnerabilities, and management's prior knowledge of them, in a press release and investor call. Intel stated it had "begun providing software and firmware updates to mitigate" the vulnerabilities and that it "had planned to disclose this issue [the following] week when more software and firmware updates [would] be available."

In the days following the January disclosures, Intel's stock price dropped (at least temporarily) by about $4 per share, from $46.85 to $42.50, which "eras[ed] over $20 billion in market capitalization."

C.

In 2018, Tola and several other Intel shareholders (collectively Tola) filed separate derivative shareholder lawsuits in the San Mateo County Superior Court. After the separate actions were ordered consolidated, Tola filed a consolidated shareholder derivative complaint, which alleged, among other things, that certain Intel officers and directors breached fiduciary duties owed to Intel and its shareholders.

The individual defendants named in Tola's derivative action are: (1) Brian Krzanich (who served as Intel's chief executive officer and as a director between 2013 and June 2018); (2) Andy Bryant (who is a director and chairman of the board); (3) Robert Swan (who, since January 2019, has served Intel as a director and its chief executive officer); (4) Aneel Bhusri (a director until 2019); (5) Reed Hundt (director); (6) Omar Ishrak (director); (7) Tsu-Jae King Liu (director); (8) David Pottruck (director through May 2018); (9) Gregory Smith (director); (10) Andrew Wilson (director); (11) Frank Yeary (director); (12) Charlene Barshefsky (director through May 2018); (13) David Yoffie (director through May 2018).

The trial court sustained demurrers (with leave to amend) to the first three iterations of Tola's complaint. After obtaining books and records from Intel, Tola filed the operative third amended complaint in December 2019.

In the operative complaint, Tola alleges that Krzanich and Swan (who was Intel's chief financial officer in 2017) "knowingly disregarded industry best practices, material risks to the Company's reputation and customer base, and their fiduciary duties of care and loyalty to the Company, by deliberately concealing and failing to disclose the significant vulnerabilities in the Company's processors for more than six months after they were initially discovered and reported to Intel by engineers at [Google]. Further, the Board of Directors willfully failed to exercise its fundamental authority and duty to govern Company management and establish standards and controls for Company compliance, in breach of the directors’ fiduciary duty of loyalty to the Company." Tola also alleges that the directors’ breaches of fiduciary duties "resulted in a Company-wide failure to maintain security standards and internal controls necessary to detect and prevent material risks to the Company, including risks related to security vulnerabilities in nearly all of Intel's chips, the Company's core product."

Tola alleges that these breaches caused Intel and its shareholders to "suffer[ ] injury in the amount of at least hundreds of millions of dollars."

D.

Five directors are the focus of this appeal. These directors—Bryant, Swan, Hundt, Liu, and Yeary—all served on the board, which was comprised of ten directors total, at the time that Tola filed the operative complaint. (See Braddock v. Zimmerman (Del. 2006) 906 A.2d 776, 786 ["demand inquiry must be assessed by reference to the board in place at the time when the amended complaint is filed"].)

Having abandoned other theories that he pursued below, Tola offers two theories for why these directors cannot impartially consider a demand. First, Bryant and Swan allegedly violated insider trading rules by selling Intel stock after learning of the security vulnerabilities but before the vulnerabilities were publicly disclosed. Second, the four directors (including Bryant) who served on the board both in 2017 and 2019 allegedly disregarded their fiduciary duty to monitor and oversee cybersecurity risks. Specifically, Tola alleges defendants failed to implement any controls to report cybersecurity issues to the board, and the defendants themselves have admitted that they did not discuss security vulnerabilities at a single board or committee meeting between June 2017 and January 8, 2018.

The trial court sustained defendants’ demurrer without leave to amend, concluding that Tola failed to plead demand futility with the requisite particularity. The trial court assumed that Bryant and Swan themselves could not impartially consider a demand. But the trial court rejected Tola's theory that the other three directors faced a substantial likelihood of liability for failing to implement any board-level monitoring system for cybersecurity issues. That theory, the trial court explained, was contradicted by Tola's allegations that Intel's audit committee had a duty to investigate major financial risk exposures and that directors on the audit committee had actual knowledge of the security vulnerabilities as early as June 2017.

The trial court entered judgment in defendants’ favor and dismissed the derivative complaint with prejudice.

DISCUSSION

A.

Tola challenges the trial court's conclusion that he did not adequately plead demand futility. After reviewing the operative complaint's allegations de novo ( Apple Inc. v. Superior Court (2017) 18 Cal.App.5th 222, 240, 227 Cal.Rptr.3d 8 ), we conclude the trial court did not err.

1.

The Delaware Supreme Court recently adopted a universal test for assessing demand futility. ( United Food & Commercial Workers Union v. Zuckerberg (Del. 2021) 262 A.3d 1034, 1058.) In all shareholder-derivative suits, courts are to determine (on a director-by-director basis): (1) "whether the director received a material personal benefit from the alleged misconduct that is the subject of the litigation;" (2) "whether the director faces a substantial likelihood of liability on any of the claims;" or (3) "whether the director lacks independence from someone who received a material personal benefit from the alleged misconduct ... who would face a substantial likelihood of liability on any of the claims." ( Id . at p. 1059.) "If the answer to any of the questions is ‘yes’ for at least half of the members of the demand board, then demand...