core scanner products was maturing and that the Corporation was
dependent on PDTs for a greater portion of revenues.
On July 25, 1989, Symbol Technologies reported net earnings and
earnings per share for the three-month and six-month periods
ending June 30, 1989. These reports indicated a substantial
increase in earnings over the corresponding periods for 1988. The
adverse information regarding lagging orders for PDTs and other
MSI and Vectran products was not disclosed until October 30,
1989, after which the price of Symbol Technologies stock began to
decline. Plaintiff contends that the defendants' failure to
disclose adverse information known to them, in light of
continuing representations by the Corporation regarding increased
earnings, had the effect of artificially inflating the value of
Symbol Technologies stock.
Count I of the complaint asserts a claim against the officers
and directors for selling stock in the Corporation in the absence
of disclosure. The information on which the defendants allegedly
traded was non-public and was known to them only by virtue of
their fiduciary status. As such, plaintiff's claim impliedly
asserts that the information was an asset belonging to the
Corporation; by using the information for their own benefit and
to the detriment of Symbol Technologies, the defendants are
alleged to have breached a fiduciary duty owed to the
Count II of the complaint asserts a claim against the directors
and officers for breach of fiduciary duty based on corporate
waste. Essentially, plaintiff seeks to recover all present and
future costs and expenses incurred by the Corporation in
defending the class action litigation, or as a result of a
settlement or judgment in that action. Plaintiff also alleges
that the Corporation has suffered a present injury in the
marketplace as a result of defendants' acts.
Several issues are raised by defendants' motion to dismiss.
First, defendants challenge the entire complaint for failure to
make a demand upon the board of directors prior to bringing this
action, or to sufficiently plead the reasons for not doing so, as
required by Rule 23.1 of the Federal Rules of Civil Procedure.
Second, Count I of the complaint is challenged under Rule 12
(b)(6) as to certain defendants against whom no allegation is
made that they personally sold stock or otherwise participated in
the acts constituting the breach of duty that is alleged. Third,
defendants challenge the sufficiency of the allegations contained
in Count II, claiming that they are speculative and premature and
therefore fail to state a claim upon which relief may be granted.
Finally, this Court must consider whether a derivative action for
breach of fiduciary duty should be permitted to proceed, and the
extent to which fiduciaries may be held liable for damages, when
a class action is also pending in which those same fiduciaries
(the defendants herein) may be held liable for the same
I. Motion to Dismiss Under Rule 23.1
Rule 23.1 of the Federal Rules of Civil Procedure requires that
a complaint in a shareholder derivative action allege with
particularity: (1) the plaintiff's efforts to obtain relief from
the corporation prior to bringing the action; or (2) the reasons
for not making that effort. See Fed.R.Civ.P. 23.1; Kaster v.
Modification Sys., Inc., 731 F.2d 1014, 1017-18 (2d Cir. 1984).
The first part of the Rule as stated above is referred to as the
"demand requirement," and it is the general rule that a
shareholder must make a demand upon the board of directors to
bring the action on behalf of the corporation. Moreover, the
shareholder must generally give the board of directors an
opportunity to either take action, or refuse to do so, before
bringing the suit derivatively. The second part of the Rule
acknowledges that there are exceptional circumstances under which
the demand requirement may be excused. See Fed.R. Civ.P. 23.1;
see, e.g., Cathedral Estates v. Taft Realty Corp., 228 F.2d 85,
88 (2d Cir. 1955) (noting that "it is clear that under Rule 23
(b) and its predecessors a demand
need not be made on the directors where such demand would be
`futile,' `useless,' or `unavailing'") (citations omitted).
Until recently it has been unclear what the controlling law is
when determining whether the demand requirement of Rule 23.1 is
satisfied, or alternatively, excused. In a recently decided case,
RCM Securities Fund, Inc. v. Heine, 928 F.2d 1318 (2d Cir. 1991),
the Second Circuit clarified the proper influences of the federal
rule and the state law pertaining to shareholder demand. In RCM,
the Court held that:
Rule 23.1 is a rule of pleading that creates a federal standard
as to the specificity of facts alleged with regard to efforts
made to urge a corporation's directors to bring the action in
question. However, the adequacy of those efforts is to be
determined by state law absent a finding that application of
state law would be inconsistent with a federal policy
underlying a federal claim in the action. . . .
Id. at 1330.*fn1
Like the case at bar, RCM Securities involved allegations of,
inter alia, fraud and self-dealing by directors of a Delaware
corporation. The Court held that Delaware law was controlling on
the issue of whether demand should be excused. In so holding, the
Court adopted the view espoused in Justice Stevens' concurrence
in Daily Income Fund, Inc. v. Fox, 464 U.S. 523, 543, 104 S.Ct.
831, 842, 78 L.Ed.2d 645 (1984), which likewise reasoned that
"Rule 23.1 . . . is only a procedural requirement empowering
federal courts to determine from the pleadings whether the demand
requirement has been met." RCM Securities at 1329. Thus, the
precise issue before this Court is whether the plaintiff has
sufficiently pleaded facts (federal procedural requirement) which
would constitute grounds for excusing the pre-suit demand
requirement under Delaware law (state substantive requirement).
See id.; see also Cottle v. Hilton Hotels Corp., 635 F. Supp. 1094
Plaintiff asserts in his complaint that no demand was made on
the directors to initiate this action because such demand would
be futile. See Complaint at ¶ 16. Under Delaware law, demand
is excused by demonstrating futility under the following
standard: the particularized allegations of the complaint must
raise a reasonable doubt as to (i) director disinterest or
independence or (ii) whether the directors exercised proper
business judgment in approving the challenged transaction. Grobow
v. Perot, 539 A.2d 180, 186 (Del. 1988) (citing Aronson v. Lewis,
473 A.2d 805, 815 (Del. 1984)). The entire review is factual in
nature and is within the sound discretion of the Court. Aronson
Plaintiff attempts to establish demand futility under the first
prong of the Aronson test by establishing that a majority of the
board of directors at the time the action was commenced were
"interested" in the transactions which are the subject of the
complaint. See Complaint at ¶ 16. The complaint further
alleges that the director defendants "illicitly profited" from
the sale of Symbol Technologies stock. Id. Although acts of
self-dealing which involve a majority of the directors would
generally support an excusal of demand, for the reasons stated
below these conclusory allegations fall short of the
particularized pleading requirements of both Rule 23.1 and the
Aronson test. It is to be noted that the sufficiency of the
allegations pleaded for the purposes of Rule 23.1 is also a
matter that lies within the sound discretion of the Court.
Papilsky v. Berndt, 59 F.R.D. 95, 97 (S.D.N.Y. 1973) (citations
omitted), appeal dismissed, 503 F.2d 554 (2d Cir. 1974).
Nonetheless, the Second Circuit requires strict enforcement of
the "particularity" requirements of that Rule. See, e.g., Brody
v. Chemical Bank, 517 F.2d 932 (2d Cir. 1975); Brody v. Chemical
Bank, 482 F.2d 1111, 1114 (2d Cir.), cert. denied, 414 U.S. 1104,
94 S.Ct. 737, 38 L.Ed.2d 559 (1973). See also In re Kauffman
Mutual Fund Actions, 479 F.2d 257, 263 (1st Cir.), cert. denied,
414 U.S. 857, 94 S.Ct. 161, 38 L.Ed.2d 107 (1973); Brooks v.
American Export Industries, Inc., 68 F.R.D. 506, 509
(S.D.N.Y. 1975); Phillips v. Bradford, 62 F.R.D. 681, 685
Plaintiff alleges that defendant-directors Heiman, Swartz and
Mallement each sold stock between May and October of 1989, a
period during which the value of Symbol Technologies stock was
artificially inflated, and additionally that at the time they
were in possession of inside information regarding the true value
of the stock. Plaintiff relies upon these defendants' status as
directors to raise the inference that they knew about the lagging
orders and otherwise bleak outlook for projected revenues. On the
other hand, defendants cite Ballan v. Wilfred American Educ.
Corp., 720 F. Supp. 241 (E.D.N.Y. 1989), for the proposition that
"outside directors," Mallement, for example, cannot be charged
with knowledge of internal adverse information solely by virtue
of their positions as directors. Defendant misses the point of
Ballan was a case involving fraud, in which the court refused
to charge outside directors with knowledge of the fraudulent
practices which were being conducted by the corporation for
purposes of establishing liability. See 720 F. Supp. at 254.
There are two important factual distinctions between Ballan and
the case at bar. First, the complaint in this action charges the
outside directors with knowledge of information which is central
to the usual and necessary management of the corporation's
business affairs, not the deceptive practices of insiders.
Second, the issue presented herein is whether the directors, by
virtue of their fiduciary status, can be charged with such
knowledge for purposes of establishing demand futility, not to
establish liability at trial. At least for this purpose the
inference should be allowed because the precise extent of each
director's knowledge, along with information about when and how
he received it, is peculiarly within the possession of the
defendants and cannot be known to plaintiff prior to discovery.
However, an alternative ground exists in support of the motion
to dismiss. The fourth director who is allegedly "interested" in
the transactions complained of is defendant Steinberg. If it was
sufficiently pleaded that Steinberg profited personally from the
sale of stock during the relevant time period, then the
allegations of the complaint would establish that a majority of
the board was "interested" and that demand should be excused on
the grounds of futility.*fn2 The complaint, however, makes no
reference to Steinberg's involvement except to list "Steinberg's
affiliates" as having sold a large number of shares in May, 1989.
See Complaint at ¶ 15. No explanation is provided as to the
identities of these "affiliates," and no theory is offered as to
the way in which defendant Steinberg profited from the
transactions. Although plaintiff's affidavit may arguably explain
this sufficiently, it cannot be considered on this motion. See
Fed.R.Civ.P. 12(b). Accordingly, the complaint herein is
deficient, see Fed.R.Civ.P. 23.1, and defendant's motion to
dismiss is granted with leave to replead on the subject of this
II. Motion to Dismiss Under Rule 12(b)(6)
On a motion to dismiss, the allegations of the complaint must
be accepted as true, Cruz v. Beto, 405 U.S. 319, 322, 92 S.Ct.
1079, 1132, 31 L.Ed.2d 263 (1972), and the complaint must be
construed in a light most favorable to plaintiff. Scheuer v.
Rhodes, 416 U.S. 232, 236, 94 S.Ct. 1683, 1686, 40 L.Ed.2d 90
(1974). Furthermore, a complaint cannot be dismissed for failure
to state a claim unless it appears, beyond a doubt, "`that the
plaintiff can prove no set of facts in support of [a] claim which
could entitle him to relief.'" Dahlberg v. Becker, 748 F.2d 85,
88 (2d Cir. 1984), cert. denied, 470 U.S. 1084, 105 S.Ct. 1845,
85 L.Ed.2d 144 (1985). With these principles in mind, the Court
turns to address the motion at bar.
A. Misappropriation Claim
Count I of the complaint is dismissed with prejudice as against
defendants Martino, Deagle, Strauch and Freiberg. There is no
allegation that any one of these defendants sold or otherwise
profited from the sale of Symbol Technologies stock during the
relevant time period. Similarly, no corporate action is alleged
in which these defendants participated or acquiesced. In short,
no breach of duty is alleged under Count I of the complaint as
against these defendants.
With regard to defendants Steinberg, Swartz, Heiman, Schlenker,
Mallement, Burke and Bravman, the motion under Rule 12(b)(6)
must be denied. Plaintiff has alleged that each of the
above-named defendants profited from insider trading of Symbol
Technologies stock, thereby breaching a fiduciary duty owed to
the Corporation. With specific regard to defendant Steinberg,
although plaintiff may not have pleaded the facts sufficiently to
withstand a motion to dismiss under Rule 23.1, it cannot be said
that Count I of the complaint fails to state a claim against
Steinberg under the parameters of Rule 12(b)(6). The complaint
alleges participation on the part of Steinberg and identifies the
dates of the transactions through which Steinberg allegedly
profited. See complaint at ¶ 16. Plaintiff is therefore
entitled to replead Count I against defendants Steinberg, Swartz,
Heiman, Schlenker, Mallement, Burke and Bravman.
B. Corporate Waste Claim
As a basis for bringing a claim against the directors and
officers for corporate waste, plaintiff alleges violations of
Section 10(b) of the Securities Exchange Act of 1934,
15 U.S.C. § 78j(b) (1988), and Securities and Exchange Commission Rule
10b-5, 17 C.F.R. § 240.10b-5 (1990), ("Rule 10b-5"), promulgated
thereunder. For the reasons set forth below, the Court finds that
this cause of action is premature.
Plaintiff's complaint states in part:
If Symbol Technologies is caused to pay amounts with regard to
the claims asserted in the Class Action, or is caused to pay
any legal fees and incidental expenses in connection with
defending such claims, such payments will constitute a waste
and gift of Symbol Technologies corporate assets.
Complaint at ¶ 27.
A waste or gift of corporate assets may arise anytime an asset
of a corporation is transferred, lost or destroyed. The essence
of a claim of gift is lack of consideration; the essence of waste
is "the diversion of corporate assets for improper or unnecessary
purposes." See Michelson v. Duncan, 407 A.2d 211, 217 (Del.
1979). Plaintiff contends that defendants' acts constitute
violations of the securities laws and that defendants should
therefore be liable for all costs incurred in defending the class
action. Assuming, without deciding, that these facts could
support a claim for corporate waste, the damages claimed are not
recoverable in this action. First, plaintiff does not attempt to
establish the specific violations of federal law, relying instead
upon the outcome of the class action. See Complaint at ¶ 27.
Unless plaintiff alleges and proves these violations, defendants
cannot be held liable for the costs of defending a potentially
baseless suit. Second, and also with regard to the class action,
no judgment has been rendered, nor a settlement reached;
therefore, no injury has been sustained for which plaintiff may
sue to recover. Since both of the damages claims addressed above
hinge entirely on the outcome of another pending action, this
cause of action is more appropriately treated as an action for
indemnification, which has not yet accrued.
Under this same theory, plaintiff also asserts a right of
recovery for injuries sustained in the marketplace. Plaintiff
alleges generally that "the director defendants' acts have
undermined Symbol Technologies' credibility in the securities
market and have jeopardized the continued public acceptance and
marketability of its stock to the injury of the Company. . . ."
Complaint at ¶ 28. In the Court's view, this type of
boilerplate language is not sufficient to withstand a motion to
dismiss. Defendants are entitled to know more specifically what
damages are being claimed, as well as the extent of those
damages. For example, plaintiff could show present injury to the
Corporation by demonstrating a lessened ability to attract public
capital investment, or to obtain institutional financing. See,
e.g., Simon v. New Haven Board and Carton Co., Inc., 393 F. Supp. 139,
143 (D.Conn. 1974), aff'd, 516 F.2d 303 (2d Cir. 1975).
Plaintiff could then specifically allege the damages attributable
to such loss of credibility in the marketplace. Finally, these
damages must be shown to flow directly from the wrongful acts of
defendants, and not to the mere commencement of legal proceedings
against the Corporation. So stated, the damages claimed by
plaintiff could properly be sought in a future derivative action.
Accordingly, Count II of the complaint is dismissed without
In the event that plaintiff repleads in this derivative action,
the fact that there may be private Rule 10b-5 class actions for
damages, or an administrative suit brought by the Securities and
Exchange Commission pending in federal district court, or both,
will not be a basis for dismissal. Delaware has long recognized
the availability of a stockholder derivative action to recover
profits obtained by corporate insiders through a breach of their
fiduciary duties. See Brophy v. Cities Services Co., 11 Del. Ch. 241,
70 A.2d 5 (1949); see also Diamond v. Oreamuno, 24 N.Y.2d 494,
301 N.Y.S.2d 78, 85, 248 N.E.2d 910, 915 (1969); Walton v.
Morgan Stanley & Co., Inc., 623 F.2d 796, 798 (2d Cir. 1980).
Contra Freeman v. Decio, 584 F.2d 186 (7th Cir. 1978) (rejecting
Diamond rationale and holding that derivative action to recover
profits of corporate insiders was not permitted under Indiana
law). Building on Brophy, the New York Court of Appeals, in
Diamond, ruled that damages may be awarded in a derivative action
based on a breach of fiduciary duty, absent a showing of actual
injury to the corporation, and even if the possibility exists
that some third party may in the future bring a superior claim
based on the same conduct. Diamond, 301 N.Y.S.2d at 86, 248
N.E.2d at 915. The Diamond case has been interpreted as
permitting double recovery against corporate insiders for a
single course of conduct constituting a breach of fiduciary duty.
See Gordon v. Fundamental Investors, Inc., 362 F. Supp. 41, 46
The reasoning of the Diamond case was based on sound policy at
the time, but relied on facts which have significantly changed in
the twenty-two years since that decision was rendered. In
Diamond, the defendants were a director and an officer of the
corporation on behalf of which the action was brought. They were
alleged to have sold their own personal stock in the corporation
on the basis of inside information acquired by them solely by
virtue of their positions as fiduciaries. See 301 N.Y.S.2d at 79,
248 N.E.2d at 911. Permitting the derivative action to proceed,
the court stated that:
the function of such an action . . . is not merely to compensate
the plaintiff for wrongs committed by the defendant but, . . .
"to prevent them, by removing from agents and trustees all
inducement to attempt dealing for their own benefit in matters
which they have undertaken for others, or to which their agency
or trust relates."
Id. at 81, 248 N.E.2d at 912 (citation omitted). Indeed, this
policy finds support in the law of agency. The Restatement Second
of Agency states: