Ufcw Local 1500 Pension Fund v. Mayer

UFCW LOCAL 1500 PENSION FUND, Plaintiff, v. MARISSA MAYER, et al., Defendants.

Case No. 16-cv-00478-RS

UNITED STATES DISTRICT COURT NORTHERN DISTRICT OF CALIFORNIA

October 19, 2016

ORDER GRANTING DEFENDANTS' MOTIONS TO DISMISS

I. INTRODUCTION

This shareholder derivative action seeks to hold individual Yahoo, Inc. directors and officers liable on multiple theories, all predicated on Yahoo allegedly acting as an investment company without registering as such with the Securities and Exchange Commission ("SEC," "Commission"), in violation the Investment Company Act of 1940 ("ICA"). Plaintiff UFCW Local 1500 Pension Fund also asserts one direct claim against Yahoo on the basis of the same allegations. All defendants move to dismiss plaintiff's complaint for failure to state a claim upon which relief can be granted. The individual director and officer defendants also move to dismiss the derivative claims for plaintiff's failure to make a pre-litigation demand on the board of directors.

Although demand would have been futile for all claims and is therefore excused, all of plaintiff's claims are nonetheless dismissed because they all depend on the faulty theory Yahoo operated illegally from 2013 through the present as an unregistered investment company. Defendants' motions are therefore granted.

II. BACKGROUND

Back in the salad days of the dot-com boom, Yahoo made tidy profits from its internet services "operating business," and investment activities made up a considerably smaller portion of its business. Specifically, in 2000 approximately 57 percent of Yahoo's income came from its operating business, while approximately 44 percent came from investments — mostly from Yahoo's interest in Yahoo Japan. That year, Yahoo applied to the SEC for an order exempting it from registering as an investment company, which the ICA otherwise requires for any issuer of securities that "is engaged or proposes to engage in the business of investing, reinvesting, owning, holding, or trading in securities, and owns or proposes to acquire investment securities having a value exceeding 40 per centum of the value of such issuer's total assets." 15 U.S.C. § 80a-3(a)(1)(C). The SEC "found, on the basis of the information set forth in [Yahoo's] application . . . that [Yahoo was] primarily engaged in a business other than that of investing, reinvesting, owning, holding, or trading securities," and granted the application "subject to the conditions contained in the application." In the Matter of Yahoo, Inc., SEC Release No. 40-24494, 2000 WL 870891 (June 13, 2000) (citing 15 U.S.C. § 80a-3(b)(2)). These conditions were: "1. Yahoo! will continue to allocate and utilize its accumulated cash and Cash Management Investments for bona fide business purposes"; and "2. Yahoo! will refrain from investing or trading in securities for short-term speculative purposes." Yahoo also stated in its application that "in the future the percentage of its total revenues derived from operating activities [would] ordinarily be over 90%."

In the years since the SEC issued that exemption order, Yahoo's business has changed considerably. Most importantly, it invested $1 billion in Chinese e-commerce company Alibaba in 2005. Yahoo's investment assets have grown dramatically as a result of its stakes in Alibaba and Yahoo Japan (currently valued at about $27 billion and $7.4 billion, respectively), while the value of its operating business has dwindled rapidly. While in 2013, operations were responsible for 32.7 percent of Yahoo's net income, in 2014 that number plummeted to 1.2 percent. In 2015, Yahoo's operations lost over $4 billion, and all of its net income was attributable to its investments. On the basis of these figures, plaintiff alleges investments accounted for more than 90 percent of the value of Yahoo's total assets for the years 2013, 2014, and 2015, and that Yahoo's operating business is now worth "less than zero."

In 2013, Yahoo began considering spinning-off its Alibaba holdings into a separate company called Aabaco. In 2015, Yahoo filed an N-2 with the SEC, stating its intention to go through with the spin-off and register Aabaco as an investment company under the ICA. According to plaintiff, this filing demonstrated defendants' awareness of the ICA's registration requirements, and their understanding that Yahoo was operating in violation of the ICA as an unregistered investment company. In December 2015, Yahoo abandoned the spin-off plan, apparently because it could not accomplish it tax free. In January of 2016, it announced plans for a reverse spin-off or sale of most of its operating business.

As a result of these fundamental changes to Yahoo's business, and owing to the Alibaba investment, which plaintiff alleges was not made for a bona fide business purpose, plaintiff argues that Yahoo had lost the protection of its registration exemption by 2013. Thus, plaintiff argues Yahoo was required to register as an investment company under the ICA. Because Yahoo has never so registered, plaintiff alleges it has been operating illegally as an unregistered investment company since at least 2013. Therefore, plaintiff alleges the ICA forbids Yahoo from engaging in interstate commerce, and renders voidable contracts Yahoo has entered into since 2013. See 15 U.S.C. §§ 80a-7(a), 80a-46(b). According to plaintiff, various Yahoo directors and officers knew or should have known of Yahoo's obligation to register as an investment company, and deliberately disregarded that obligation in order to protect their positions and contracts, which provided for lucrative compensation packages including stock options.

Plaintiff now brings five derivative claims on behalf of Yahoo (a Delaware corporation based in California) against: current Yahoo directors David Filo, Sue James, Thomas J. Mclnerney, H. Lee Scott, Jr., Jane E. Shaw, and Maynard Webb, Jr.; former directors Charles R. Schwab and Max R. Levchin; current officers Kenneth A. Goldman and Ronald S. Bell; former officer Henrique de Castro; and current CEO and director Marissa Mayer. The five derivative claims are: violation of section 47(b) of the ICA, breach of fiduciary duty of loyalty, unjust enrichment, violation of Delaware General Corporate Law section 124(2) (which prohibits ultra vires activities by corporate officers and directors), and violation of California's Unfair Competition Law ("UCL"). Plaintiff also brings a direct claim against Yahoo, alleging violation of Delaware General Corporate Law section 124(1). All of plaintiff's claims are predicated on Yahoo's alleged operations as an unregistered investment company.

Plaintiff seeks various forms of relief, including: an injunction preventing Yahoo from engaging in interstate commerce, performing any voidable contract, or selling any of its material assets; a declaration that plaintiff can maintain its five derivative claims under Delaware law and is an adequate representative of Yahoo; rescission of voidable contracts and disgorgement of compensation paid or payable under those contracts; statutory relief; disgorgement of any unjust enrichment and all profits obtained from the alleged misconduct; costs, expenses, and other fees; and other relief the Court deems proper.

Yahoo and the individual defendants raise a host of defenses to plaintiff's claims. Most importantly, defendants argue Yahoo's registration exemption has remained valid since 2000, meaning Yahoo has never been an unregistered investment company and that plaintiff's claims all fail as a matter of law. In addition to the exemption defense, the individual defendants also argue plaintiff has no standing to bring its derivative claims because it has not sufficiently demonstrated demand futility as required by Federal Rule of Civil Procedure 23.1. All defendants also argue plaintiff has failed to plead sufficiently a violation of Delaware General Corporate Law section 124. The individual defendants also raise the following defenses: failure to plead bad faith on behalf of the directors; failure to plead sufficient allegations about the officers; that ICA section 47(b) provides no private right of action; that the statute of limitations on the alleged ICA violations has expired; and failure to plead sufficiently breach of fiduciary duty of loyalty, unjust enrichment, or a violation of California's UCL.¹

III. LEGAL STANDARD

"A pleading that states a claim for relief must contain . . . a short and plain statement of the claim showing that the pleader is entitled to relief . . . ." Fed. R. Civ. P. 8(a)(2). In a shareholder derivative suit, the plaintiff must "state with particularity: (A) any effort by the plaintiff to obtain the desired action from the directors or comparable authority and, if necessary, from the shareholders or members; and (B) the reasons for not obtaining the action or not making the effort." Fed. R. Civ. P. 23.1(b)(3). Federal Rule of Civil Procedure 12(b)(6) provides a mechanism to test the legal sufficiency of the averments in a complaint. Dismissal is appropriate when the complaint "fail[s] to state a claim upon which relief can be granted." Fed. R. Civ. P. 12(b)(6). A complaint in whole or in part is subject to dismissal if it lacks a cognizable legal theory or the complaint does not include sufficient facts to support a plausible claim under a cognizable legal theory. Navarro v. Block, 250 F.3d 729, 732 (9th Cir. 2001). When a plaintiff has failed to state a claim upon which relief can be granted, leave to amend should be granted unless "the complaint could not be saved by any amendment." Gompper v. VISX, Inc., 298 F.3d 893, 898 (9th Cir. 2002).

IV. DISCUSSION

A. Standing for Derivative Claims: Demand Futility

The individual defendants argue plaintiff's derivative claims all fail because plaintiff has not shown that its failure to make a pre-litigation demand upon Yahoo's board was excused for futility, as required by Rule 23.1(b)(3)(B). Whether a pre-litigation demand is excused...