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STONER v. WALSH

August 22, 1991

MARGARET G. STONER, PLAINTIFF,
v.
LEO WALSH; JOHN E. CARTER; GLENN H. GETTIER; RICHARD H. JENRETTE; RAYMOND L. COLOTTI; THOMAS C. GORMAN; ROBERT W. BARTH; JOSEPH L. DIONNE; DON JOHNSTON; WINTHROP KNOWLTON; JEWEL S. LAFONTANT; ELEANOR B. SHELDON; RAYMOND H. WITTCOFF; JOHN T. HARTLEY; ARTHUR LEVITT, JR.; PETER S. HELLER; JAMES J. HOWARD, III; AND STRATEGIC PLANNING ASSOCIATES, DEFENDANTS, AND THE EQUITABLE LIFE ASSURANCE COMPANY OF THE UNITED STATES, NOMINAL DEFENDANT.



The opinion of the court was delivered by: Mukasey, District Judge.

  OPINION AND ORDER

Plaintiff Margaret Stoner sues derivatively on behalf of nominal defendant The Equitable Life Assurance Company of the United States against various present and former Officers and Directors of Equitable as well as Strategic Planning Associates, a management consulting firm, for alleged mismanagement and corporate waste. Before commencing this action, plaintiff's attorney demanded that Equitable sue those persons allegedly responsible for the company's "currently deteriorated financial state." The demand was unanimously rejected by Equitable's Board of Directors upon the recommendation of a committee of three outside Directors. Defendants move to dismiss the complaint under Fed.R.Civ.P. 12(b)(6) and 23.1, or, alternatively, for summary judgment. For the reasons set forth below, certain allegations in the complaint are dismissed for failure to make a demand. The rest of the complaint is dismissed because of plaintiff's failure to plead facts leading to a reasonable inference that her demand was wrongfully rejected.

I.

Because all assertions in the complaint are accepted as true upon a motion to dismiss, DiVittorio v. Equidyne Extractive Industries, Inc., 822 F.2d 1242, 1244 (2d Cir. 1987), the following facts are based on plaintiff's complaint and those documents which are incorporated into the complaint by reference. See Fed.R.Civ.P. 10(c). In particular, I consider the contents of plaintiff's initial demand letter, dated June 5, 1989, a follow-up demand letter, dated October 11, 1989, and certain correspondence from Equitable to plaintiff's counsel to have been incorporated into the complaint by reference. See Feinman v. Schulman Berlin & Davis, 677 F. Supp. 168, 170 (S.D.N.Y. 1988). However, I have disregarded certain other materials that were not set forth in the complaint, including a joint affidavit submitted by the three outside Directors who recommended that the full Board reject plaintiff's demand.

Plaintiff, a citizen of Indiana, is an Equitable policyholder. Because nominal defendant Equitable is a mutual insurance company organized under the laws of New York with its principal place of business in New York, and all other defendants are citizens of states other than Indiana, there is subject-matter jurisdiction based on diversity of citizenship. Smith v. Sperling, 354 U.S. 91, 97, 77 S.Ct. 1112, 1116, 1 L.Ed.2d 1205 (1957) (corporation should be aligned as defendant in derivative action when management is antagonistic to shareholder's claims). Defendants Carter and Walsh are former Officers and Directors of Equitable.*fn1 (Compl. ¶¶ 5, 7) Defendant Gettier, Colotti, Gorman and Barth are former Officers of Equitable who were not Directors. (Compl. ¶¶ 6, 10, 11, 12) Defendants Lafontant and Levitt are former directors of Equitable who are not alleged to have been officers. (Compl. ¶ 9) Defendant Jenrette is Equitable's current Chairman of the Board and Chief Executive Officer. (Compl. ¶ 8) Defendants Hartley, Heller, Howard, Dionne, Johnston, Knowlton, Sheldon, and Wittcoff are all current Directors of Equitable.*fn2 (Compl. ¶ 9)

On June 5, 1989, plaintiff's attorney sent the Board of Directors a one and one-half page letter demanding that Equitable "commence legal proceedings against each of its present and former officers and directors who have caused [Equitable] to reach its currently deteriorated financial state." The letter alleged that "[s]uch financial deterioration has been the direct result of reckless and negligent business practices carried out by officers and directors of Equitable." Although the demand letter did not specify exactly which officers and directors were derelict or how their conduct would be actionable under applicable law, the letter did set forth the following as examples of "reckless and negligent business practices":

    1. "an ill-conceived multi-million dollar plan
  to market the Equitable Asset Management Account .
  . .";
    2. "a costly and demoralizing scheme" to
  reorganize the company into twenty operating
  units;
    3. the company's "inability to foresee and
  compensate for increased compensation in the HMO
  field and consequent inability to contain massive
  losses" by Equitable's HMO subsidiary;
    4. the company's decision "to squander $200
  million to construct its new art bedecked
  headquarters";
    5. the decision to "reward some of the very
  individuals responsible for [Equitable's)
  financial decay with lavish raises, bonuses and
  other perks";
    6. the company's "reckless failure to timely
  recognize and address the problems associated with
  the high interest rates being paid on its
  Guaranteed Investment Contracts (GIC's)."

The letter stated further that "[a]s a result of the above-described actions, (many of them taken as a result of personal quests for power and aggrandizement within the Society), [Equitable] has breached the fiduciary duty owed to its policyholders." Plaintiff's counsel then warned that if Equitable did not take "action against the persons responsible as demanded above," he would file suit to "protect [the company's] rights and assets and, further to seek the replacement of those directors and officers responsible for the Society's fiscal irresponsibility." (Heines Aff., Exh. 1)

On June 28, 1989, Equitable's general counsel informed plaintiff's counsel that a committee (the "Committee") consisting of three Directors, defendants Hartley, Heller and Howard, had been "appointed . . . to review the matters referenced in [the demand letter] and report to the Board" and that the Committee had retained the law firm of White & Case as independent counsel to the Committee and the entire Board with respect to the matters referred to in the demand. The general counsel also requested that plaintiff's counsel furnish White & Case with "all factual information and legal analyses that you believe would support your demand that [Equitable] commence legal proceedings against certain of its present and former officers and directors, and . . . specify the individuals who . . . should be the subject of the envisioned legal proceedings and the factual and legal basis for proceeding against each." (Heines Aff., Exh. 3)

More than three months later, on October 11, 1989, plaintiff's counsel sent the following response to Equitable's general counsel:

    "While clearly we and our clients do not have
  access to the information that you and
  `independent counsel' have as insiders of
  Equitable, we have access to that information
  which has appeared in certain news media reports.
  In particular, I would like to recommend to you an
  article which appeared in the September 19, 1988
  issue of Forbes entitled `The Mess at Equitable
  Life'. This article will certainly provide the
  Board of Directors with the degree of enlightenment
  that they presumably do not have.
    At a minimum, it would appear appropriate that
  each of the members of the Board of Directors of
  Equitable should be the subject of the envisioned
  legal proceedings since each of such persons,
  based upon the information publicly available,
  would seem to have been responsible for the waste
  and mismanagement referred to in my letter of June
  5, 1989 and in public documents. It is clear that
  there are other persons in the management of
  Equitable who are not directors but should,
  nevertheless, be named as defendants with respect
  to certain of the claims. However, the specific
  identity of such persons is not known to us, at
  least at this time."

On November 15, 1989, the Committee recommended that the full Equitable Board adopt the following resolution:

    RESOLVED, that (i) the demand that legal action
  be taken based upon the allegations made in the
  policyholder's letter, dated June 5, 1989, from
  Richard D. Greenfield, as analyzed in the Report
  of White & Case, dated November 10, 1989 (a copy
  of which was submitted to and filed with the
  records of this meeting), in each and every case
  be rejected, all on the basis as more fully
  described in the Report of White & Case, and (ii)
  in the exercise of the business judgment of the
  directors, it is in the best interests of The
  Equitable that no claim for money damages based
  upon those allegations be pursued, through the
  initiation of litigation, against any of the
  individuals with whom the said policyholders'
  demand letter is concerned.

(Heines Aff., Exh. 6) The full Board unanimously adopted the recommended resolution on November 16, 1989. Plaintiff alleges that the Board's rejection of the demand was "wrongful, wholly unjustifiable, although quite predictable" because it was "an integral part of a larger cover-up and whitewash intended to insulate the defendants and their confederates from accountability for their wrongdoing." (Compl. ¶¶ 19, 20)

The body of the complaint purports to describe a "[p]attern [o]f [w]aste [a]nd [m]ismanagement." (See Compl. ¶¶ 23-26 (Heading)) The allegations appear to be based almost entirely on the contents of the September 19, 1988 Forbes magazine article that plaintiff sent Equitable's counsel in response to the latter's request for specifics with respect to the "reckless and negligent business practices" complained of in the June 5, 1989 demand letter. Plaintiff turns the Forbes article into a complaint essentially by adding adjectives such as "wrongful" (Compl. ¶ 30), "reckless" (Compl. ¶¶ 27, 31), "imprudent" (Compl. ¶ 29), "ego-driven" (Compl. ¶¶ 32, 36), "ill-conceived" (Compl. ¶ 32), and "haphazard and frenzied" (Compl. ¶ 35) to the facts set forth in the article. The main target of plaintiff's complaint appears to be defendant Walsh, Equitable's former Chief Operating Officer, who "assume[d] near-dictatorial control of senior management" by "put[ting] his lieutenants into power and ruthlessly remov[ing] those who challenged him" (Compl. ¶ 21), and defendant Carter, Equitable's former President.

Plaintiff alleges further that Walsh retained a management consulting firm, Strategic Planning Associates, "as a means by which he could directly and indirectly control the operation of the Company" (Compl. ¶ 30) and that Carter, Walsh and "certain of their henchmen received enormous undeserved compensation, benefits and other perquisites." (Compl. ¶ 37) Carter is accused of launching an "ill-conceived" money market account known as TEAM. (Compl. ¶ 31) Finally, plaintiff claims that defendant Barth, as co-manager of Equitable's Philadelphia sales agency, "induced" the company and its agents to utilize the services of a software company, Ekta, in which he had an ownership interest. (Compl. ¶ 38)

Plaintiff seeks, inter alia, damages of more than $1 billion, injunctive relief, costs and attorneys" fees. Defendants have moved to dismiss certain claims in the complaint for failure to comply with the demand requirements of Fed.R.Civ.P. 23.1. As to those claims for which demand was made, defendants seek dismissal or summary judgment on the ground that the Board's decision not to bring an action was protected by the business judgment doctrine. Alternatively, defendants assert that the underlying allegations of mismanagement and waste by Equitable's Officers and Directors fail to state a claim for relief because they represent actions fully protected by the business judgment doctrine.

II.

"The derivative form of action permits an individual shareholder to bring `suit to enforce a corporate cause of action against officers, directors and third parties.'" Kamen v. Kemper Financial Services, Inc., ___ U.S. ___, 111 S.Ct. 1711, 1716, 114 L.Ed.2d 152 (1991) (quoting Ross v. Bernhard, 396 U.S. 531, 534, 90 S.Ct. 733, 736, 24 L.Ed.2d 729 (1970)) (emphasis in original). However, to prevent abuse of this right, courts have traditionally imposed a requirement that the shareholder demonstrate "`that the corporation itself had refused to proceed ...


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