Searching over 5,500,000 cases.


searching
Buy This Entire Record For $7.95

Download the entire decision to receive the complete text, official citation,
docket number, dissents and concurrences, and footnotes for this case.

Learn more about what you receive with purchase of this case.

F5 Capital v. Pappas

United States Court of Appeals, Second Circuit

April 26, 2017

F5 Capital, a Cayman Islands Corporation, Plaintiff-Appellant,
v.
Petros Pappas, Milena Maria Pappas, Roger Schmitz, Tom Softeland, Spyros Capralos, Koert Erherdt, Renee Kemp, Rajath Sourie, Emily Stephens, Stelios Zavvos, Oaktree Value Opportunities Fund, L.P., Oaktree Opportunities Fund IX Delaware, L.P., Oaktree Capital Management, L.P., Oaktree Opportunities Fund IX (Parallel 2), L.P., Monarch Alternative Solutions Master Fund Ltd., Monarch Capital Master Partners II-A L.P., Monarch Capital Master Partner II L.P., Monarch Debt Recovery Master Fund, Ltd., Monarch Opportunities Master Fund, Ltd., P Monarch Recovery Ltd., Star Synergy L.L.C., Star Omas L.L.C., Oaktree OBC Holdings L.L.C., Oaktree Dry Bulk Holdings L.L.C., Millennia L.L.C., Millennia HoldingsL.L.C., Mirabel Shipholding & Invest Limited, Mirach Shipping Company Limited, Heron Ventures Ltd., Oceanbulk Carriers L.L.C., Bluesea Invest and Holding Limited, Monarch Alternative Capital LP, Star Bulk Carriers Corp., Defendants-Appellees, Bluesea Oceanbulk Shipping L.L.C., Defendant.

          Argued: December 6, 2016

         F5 Capital ("F5") brought a shareholder derivative action on behalf of Star Bulk Carriers Corp. ("Star Bulk"), alleging that individual members of Star Bulk's board and affiliated entities improperly exploited their control of the corporation in entering into three separate self-dealing transactions. F5's complaint included four causes of action, three of which were derivative and one of which purported to be a direct class-action claim for wrongful equity dilution. F5 did not seek intracorporate remedies by making a pre-suit demand on Star Bulk's board of directors. In dismissing F5's complaint, the district court concluded that the dilution claim was properly derivative under Delaware law and that F5 failed to plead demand futility under Rule 23.1(b)(3)(B), Fed. R. Civ. P., as to any of the claims. For the reasons set forth in this opinion, we conclude that (1) F5's dilution claim was properly derivative, not direct; (2) the district court had subject matter jurisdiction to adjudicate the non-class, derivative claims; and (3) F5 did not allege facts sufficient to excuse it from making a pre-suit demand. The judgment of the district court is therefore AFFIRMED.

          Mark C. Rifkin (Benjamin Y. Kaufman, Michael Liskow, on the brief), Wolf Haldenstein Adler Freeman & Herz LLP, New York, NY, for plaintiff-appellant F5 Capital

          David W. Brown (Andrew J. Ehrlich, Gregory F. Laufer, on the brief), Paul, Weiss, Rifkind, Wharton & Garrison LLP, New York, NY, for Oatkree defendants-appellees.

          Tariq Mundiya, Matthew W. Edwards, Willkie Farr & Gallagher LLP, New York, NY, for Monarch defendants-appellees and defendant-appellee Roger Schmitz.

          Bruce G. Paulsen, Jeffrey M. Dine, Michael B. Weitman, Seward & Kissel LLP, New York, NY for Pappas defendants-appellees and defendants-appellees Tom Softeland, Spyros Capralos, Koert Erhardt, Stelios Zavvos, Star Synergy LLC, Star Omas LLC, Millennia LLC, Millennia Holdings LLC, Mirabel Shipholding & Invest Limited, Mirach Shipping Company Limited, Heron Ventures Ltd., Oceanbulk Carriers LLC, and Bluesea Invest and Holding Limited

          Before: Calabresi, Raggi, and Lynch, Circuit Judges.

          Gerard E. Lynch, Circuit Judge:

         F5 Capital ("F5") brought this shareholder derivative action on behalf of Star Bulk Carriers Corp. ("Star Bulk"), alleging that individual members of Star Bulk's board and affiliated entities improperly exploited their control over the corporation in executing three separate transactions. Those transactions, according to F5, were infected with self-dealing and were not undertaken to serve the corporation's best interests. F5's complaint included four causes of action, three of which were derivative and one of which purported to be a direct class-action claim for wrongful equity dilution. F5 did not seek intracorporate remedies by making a pre-suit demand on Star Bulk's board of directors.

         In dismissing F5's complaint, the district court concluded that the dilution claim was properly derivative under Delaware law and that F5 failed to plead demand futility under Rule 23.1(b)(3)(B), Fed. R. Civ. P., as to any of the claims. For the reasons set forth in this opinion, we conclude that (1) F5's dilution claim was properly derivative, not direct; (2) the district court had subject matter jurisdiction to adjudicate the non-class, derivative claims; and (3) F5 did not allege facts sufficient to excuse it from making a pre-suit demand. We therefore AFFIRM the judgment of the district court.

         BACKGROUND

         The following facts are taken from the complaint and we accept them as true for the purposes of this opinion. F5 is a Cayman Islands corporation that invests in international shipping companies. Star Bulk is a global shipping company that uses sea vessels to ship dry bulk cargos including iron ore, coal, and grains. Star Bulk is incorporated in the Marshall Islands and maintains its executive office in Athens, Greece. The owner of F5, Hsin Chi Su, was a minority shareholder in Star Bulk and served in management positions at Star Bulk until October 2008. After he and defendant Petros Pappas, another key player in Star Bulk's management, had a falling out resulting from a business dispute, the defendants worked to exclude Su from a leadership role at Star Bulk through several self-dealing transactions that F5 claims harmed the corporation and its minority shareholders.

         The allegedly offending transactions are as follows. First, Star Bulk acquired Oceanbulk Carriers LLC and its fleet of vessels in a merger ("Oceanbulk Merger").[1] Oceanbulk was a new company and, prior to the merger, it reported significant financial losses. F5 contends that the merger was an unwise business decision that allowed certain defendants to consolidate their control of Star Bulk to the detriment of the other shareholders.[2] Specifically, the merger was "meant to reward the Pappas Defendants and their cohorts through increased shareholder control and new sweetheart management positions at Star Bulk." Compl. ¶ 86. In consummating the merger, Star Bulk incurred $1.3 billion in debt and needed to raise an additional $614 million in capital. According to F5, those monetary commitments threatened Star Bulk's financial health and risked other injuries to the minority shareholders.[3] F5 voted against the merger, but 95.6% of Star Bulk's shareholders approved the transaction.

         Second, Star Bulk purchased 34 dry bulk vessels from Excel Maritime Carriers Ltd. ("Excel Transaction"), at what F5 claims was a dramatically inflated price. Because the Excel Transaction was not structured as a merger, Star Bulk's board voted on the transaction, but its shareholders did not. Third and finally, F5 alleges on information and belief that Star Bulk entered into service contracts with entities affiliated with Pappas at three times the going rate for the ship maintenance services included in the contracts ("Service Contracts"). More specific facts concerning each transaction will be discussed as necessary below.

         A further introductory word about the parties in this action is warranted. The complaint names as defendants not only the nine members of Star Bulk's board, but also several corporate and other entities with which certain of those defendants are affiliated. As the parties do, we divide those entities into three groups. The first group is the "Pappas Defendants, " which includes Petros Pappas, his daughter Milena Pappas, and several entities that they own.[4] See Compl. ¶¶ 42-47. The second group of defendants, the "Oaktree Defendants, " includes Oaktree Capital Management, L.P. and several related entities.[5] See Compl. ¶¶ 27-33. Three of the individual defendants-Sourie, Kemp, and Stephens-were Oaktree employees who were appointed to Star Bulk's board after the Oceanbulk Merger. The third group of defendants, the "Monarch Defendants, " includes Monarch Alternative Capital LP and affiliated entities.[6] See Compl. ¶¶ 34-41. Schmitz, an individual defendant, is a Monarch employee.

         F5 originally filed its complaint in the Supreme Court of the State of New York in New York County. The complaint asserted the following causes of action: (1) a derivative claim against the individual defendants for breach of fiduciary duty; (2) a derivative claim against all other defendants for aiding and abetting the breach of fiduciary duty; (3) a derivative claim against the individual defendants for corporate waste; and (4) a direct class-action claim for equity dilution. The defendants timely removed to federal district court in the Southern District of New York. According to the notice of removal, there was federal jurisdiction over F5's direct, class action dilution claim under the Class Action Fairness Act ("CAFA"), 28 U.S.C. § 1332(d), and supplemental jurisdiction over the non-class, state law claims, 28 U.S.C. § 1367(a). F5 did not contest removal. The defendants jointly moved to dismiss the complaint under Rule 23.1, Fed. R. Civ. P., for failure to plead demand futility. The district court granted the motion, dismissed the complaint with prejudice, and denied F5's implied request for leave to amend the complaint.[7]

         This appeal followed.

         DISCUSSION

         We review de novo the district court's dismissal of a derivative action for failure to satisfy Rule 23.1, Fed. R. Civ. P., accepting all facts in the complaint as true. Espinoza ex rel. JPMorgan Chase & Co. v. Dimon, 797 F.3d 229, 234-36, 239 (2d Cir.), certified question answered, 124 A.3d 33 (Del. 2015). The parties agree that Delaware law applies.[8] See Chau v. Lewis, 771 F.3d 118, 126 (2d Cir. 2014).

         For organizational clarity, this opinion proceeds as follows. First, we discuss whether F5's class action dilution claim is properly considered derivative or direct. We conclude that the dilution claim is properly considered derivative, and therefore Rule 23.1's demand requirements apply. We next turn to the two issues of subject matter jurisdiction that arise in connection with the derivative claims. On those two issues, we hold (1) that the district court properly retained jurisdiction over the case after it became clear that CAFA, 28 U.S.C. § 1332(d)(2), could no longer anchor jurisdiction; and (2) that the exception to supplemental jurisdiction in certain diversity cases, 28 U.S.C. § 1367(b), did not preclude the district court from exercising jurisdiction over the derivative state-law claims. Finally, we conclude that F5 failed to plead demand futility as Rule 23.1 requires. We therefore affirm.

         I. The Class Action Dilution Claim is Derivative.

         F5 Capital brought a putatively direct class-action claim for dilution of its (and the potential class members') ownership interest in Star Bulk. Specifically, F5 alleges that, "[a]s a result of the Oceanbulk Merger and the Excel Transaction . . . the interest of Plaintiff in Star Bulk has been diluted and the interest of the Defendants has been increased." Compl. ¶ 141. Before the Oceanbulk Merger, F5 owned 1.4% of Star Bulk. After the merger, that interest diminished to 0.5%. F5's share of Star Bulk then decreased to 0.36% after the Excel Transaction. At the same time, the Oaktree, Monarch, and Pappas defendants increased their collective ownership of Star Bulk from 43.9% before the Oceanbulk Merger to 80.2% after that transaction. In dismissing the complaint, the district court agreed with the defendants that the dilution claim is properly considered a derivative claim that belongs to Star Bulk, not to its shareholders.

         In order to determine whether a claim is derivative or direct, courts rely on the following two inquiries: (1) "[w]ho suffered the alleged harm-the corporation or the suing stockholder individually"; and (2) "who would receive the benefit of the recovery or other remedy." Tooley v. Donaldson, Lufkin & Jenrette, Inc., 845 A.2d 1031, 1035 (Del. 2004). "If the corporation alone, rather than the individual stockholder, suffered the alleged harm, the corporation alone is entitled to recover, and the claim in question is derivative." Feldman v. Cutaia, 956 A.2d 644, 655 (Del. Ch. 2007), aff'd, 951 A.2d 727 (Del. 2008) ("Feldman I").[9]"Alternatively, if the stockholder suffered harm independent of any injury to the corporation that would entitle him to an individualized recovery, the cause of action is direct." Id.

         Typically, a "claim for wrongful equity dilution is premised on the notion that the corporation, by issuing additional equity for insufficient consideration, made the complaining stockholder's stake less valuable." Feldman I, 956 A.2d at 655. Such claims are "not normally regarded as direct" under Delaware law. Feldman v. Cutaia, 951 A.2d 727, 732 (Del. 2008) ("Feldman II") (internal quotation marks omitted). This is so because "the alleged injury is to the corporation" and it "falls upon all shareholders equally and falls only upon the individual shareholder in relation to his proportionate share of stock as a result of the direct injury being done to the corporation." Feldman I, 956 A.2d at 655 (internal quotation marks omitted). Moreover, "[m]ere claims of dilution . . . cannot convert a claim traditionally understood as derivative into a direct one" because "a corporation is free to enter into . . . numerous transactions, all of which may result legitimately in the dilution [of the stake of present equity holders]." Id. at 656 (internal quotation marks omitted).

         In certain instances, however, stockholders may bring a claim of equity dilution directly. Direct dilution claims are a "species of corporate overpayment" claim, and arise where:

(1) [A] stockholder having majority or effective control causes the corporation to issue "excessive" shares of its stock in exchange for assets of the controlling stockholder that have a lesser value; and (2) the exchange causes an increase in the percentage of the outstanding shares owned by the controlling shareholder, and a corresponding decrease in the share percentage owned by the public (minority) shareholders.

Gentile v. Rossette, 906 A.2d 91, 99-100 (Del. 2006) (emphasis added). When those two requirements are met, the minority "stockholders also have a separate, and direct, claim." Id. at 100. "Because the shares representing the 'overpayment' embody both economic value and voting power, the end result of this type of transaction is an improper transfer . . . of economic value and voting power from the public shareholders to the majority or controlling stockholder." Id.

         Importantly, Gentile permits a direct claim for equity dilution only in the "limited circumstances involving controlling stockholders." Feldman II, 951 A.2d at 729. A controlling stockholder exists in one of the following circumstances: someone (1) "owns more than 50% of the voting power, " or (2) "exercises control over the business and affairs of the corporation." Feldman I, 956 A.2d at 657 (internal quotation marks omitted). See Kahn v. Lynch Commc'n Sys., Inc., 638 A.2d 1110, 1114 (Del. 1994). Other cases have relied on that test, observing that, "where a significant or controlling stockholder causes the corporation" to engage in an offending transaction, "a separate and distinct harm" may allow shareholders to "seek relief in a direct action." Gatz v. Ponsoldt, 925 A.2d 1265, 1274 (Del. 2007).

         F5 asks us to conclude that the Pappas, Oaktree, and Monarch defendants collectively constitute a control group for purposes of the Oceanbulk Merger and Excel transactions.[10] That is, F5 contends that we may combine those defendants' individual interests in Star Bulk in considering whether there was a controlling shareholder. In general, defendants' holdings may not be aggregated "to satisfy the control test absent a voting agreement among the group or a blood pact to act together." Feldman I, 956 A.2d at 657 (internal quotation marks omitted). In other words, a direct action may lie "if the complaint pleads that a number of shareholders, each of whom individually cannot exert control over the corporation collectively form a control group and are connected in some legally significant way-e.g., by contract, common ownership, agreement, or some other arrangement-to work together toward a shared goal." Carsanaro v. Bloodhound Techs., Inc., 65 A.3d 618, 659 (Del. Ch. 2013) (internal quotation marks and alterations omitted).

         Here, F5 has not alleged sufficient facts to make out a plausible claim that the three groups of defendants constituted a single control group. Of the pre-merger 43.9% ownership, Pappas owned 3.3%, Oaktree owned 19.6%, and Monarch owned 21%. After the merger, Pappas and his related entities increased their ownership share to 12.6% and Oaktree's shot up to 61.3%. Monarch's ownership interest, however, decreased to 7.4%. Although F5 does plead the existence of a voting agreement in which Monarch promised to vote in favor of the Oceanbulk Merger, the dramatic decrease in Monarch's ownership interest after the Oceanbulk Merger is inconsistent with the purported goal of the voting agreement: to "obtain unfettered control of Star Bulk" at the expense of the minority shareholders. Appellant Br. 25. The two shareholders whose interest increased, Pappas and Oaktree, held only about 20% of the shares before the merger, too little to control the outcome-hence the need to add Monarch's substantial 21% stake to allege anything approximating a control group. It is implausible, however, to allege that Monarch committed with Pappas and Oaktree to expand their ownership stake while shrinking its own. (In fact, Monarch's percentage ownership share declined in approximately the same proportion as F5's.) Further, 95.6% of Star Bulk shareholders voted in favor of the merger, [11] a fact that renders still more implausible F5's claim that Monarch, Oaktree, and Pappas defendants colluded to take over the corporation to the other shareholders' detriment.[12] A shared interest in the successful consummation of the transaction is not sufficient to aggregate their shares to allege that Pappas, Oaktree, and Monarch formed a control group as necessary to plead a direct claim, nor does F5 plausibly allege the type of relationship that Delaware law requires to combine the defendants' shares for this purpose.

         Moreover, even assuming arguendo that we can aggregate the defendants' shares of Star Bulk, their collective interest is insufficient to satisfy the definition of a controlling stockholder. As explained, before the Oceanbulk Merger, the three sets of defendants collectively owned 43.9% of Star Bulk's shares. That is plainly less than 50%, and F5 has not plausibly alleged that the group collectively "exercise[d] control over the business and affairs of the corporation." Feldman I, 956 A.2d at 657 (internal quotation marks omitted). Thus, even if we aggregate the defendants' ownership interests for purposes of assessing their control over the Oceanbulk Merger, F5 has not pled that they acted as a control group under Gentile. Finally, after the Excel Transaction, during which Oaktree certainly was a controlling stockholder, Oaktree's stake in Star Bulk decreased from 61.3% to 57.3%. Although the shareholders did not vote on the Excel Transaction, that decrease is inconsistent with a direct claim of equity dilution because the transaction did not improperly transfer voting power from a minority to a controlling stockholder.

         F5's additional arguments to the contrary are not persuasive. F5 contends that, although the defendants collectively owned only 43.9% of Star Bulk, the defendants had effective control over the particular transactions at issue. The complaint does not so allege, however. As explained above, 95.6% of Star Bulk shares were voted in favor of the Oceanbulk Merger, and the complaint alleges no facts evidencing that the defendant shareholder groups dominated the operation of Star Bulk, or even exercised disproportionate influence over the Oceanbulk Merger. Further, in order to complete the merger, a majority of Star Bulk shares that were not affiliated with Oaktree or Pappas needed to, and did, vote in favor of the transaction. See Compl. ¶ 53. Those facts undermine F5's claim that the defendants had sufficient control over the transaction to be deemed controlling shareholders under Gentile, even assuming that their ownership shares could be aggregated for purposes of determining the extent of their control of Star Bulk.

         F5's contentions concerning the Excel Transaction are significantly weaker even than its inadequate allegations concerning the Oceanbulk Merger. First, as explained, F5's share of Star Bulk decreased from 0.5% to 0.36% as a result of the Excel Transaction. F5 concedes, however, that the defendants' percentage ownership of Star Bulk did not correspondingly increase in connection with the Excel Transaction-indeed, Oaktree's majority interest in Star Bulk decreased from 61.3% to 57.3%. To combat this problem, F5 claims that the defendants "improperly increase[d] their economic value through the transaction at the expense of" F5 and the unaffiliated shareholders. Appellant Br. 52. But that is not the circumstance that Gentile contemplates, since the Gentile framework requires "an increase in the percentage of the outstanding shares owned by the controlling stockholder, and a corresponding decrease in the share percentage owned by the public (minority) shareholders." Gentile, 906 A.2d at 100 (emphasis added). In other words, there must be "an improper transfer-or expropriation-of economic value and voting power" for the claim to be treated as direct. Id. (emphasis added). The complaint does not identify such an impermissible transfer of voting power associated with the Excel Transaction. To the extent F5 alleges that the defendants obtained an unfair economic benefit by using corporate funds for the transaction, it alleges a classically derivative claim.

         In sum, F5's dilution claim does not fall into the small group of direct dilution claims that Gentile describes. It is therefore derivative and subject to the same demand requirements as F5's other claims. See Fed. R. Civ. P. 23.1(b). Those requirements will be discussed in detail below, after we turn to two issues related to our subject matter jurisdiction.

         II. The District Court Had and Retained Subject Matter Jurisdiction Over All Claims in This Case.

         Before we can address the merits of F5's derivative claims, we first must resolve two threshold questions concerning our subject matter jurisdiction. Although neither party has challenged our jurisdiction, "[f]ederal courts have a duty to inquire into their subject matter jurisdiction sua sponte, even when the parties do not contest the issue." D'Amico Dry Ltd. v. Primera Mar. (Hellas) Ltd., 756 F.3d 151, 161 (2d Cir. 2014).

         To frame these issues, we note first that the complaint raises only issues of state law and that the parties are not completely diverse under 28 U.S.C. § 1332(a)(2). "[D]iversity is lacking within the meaning of [§ 1332(a)(2)] where the only parties are foreign entities, or where on one side there are citizens and aliens and on the opposite side there are only aliens." Universal Licensing Corp. v. Paola del Lungo S.p.A., 293 F.3d 579, 581 (2d Cir. 2002). F5 is a Cayman Islands corporation, many of the defendants are citizens of foreign jurisdictions, and at least one individual defendant is a citizen of the United States. Thus, the plaintiff is a foreign entity, and the defendants include citizens of both foreign countries and the United States.

         When the defendants removed the case from state court, they explained that CAFA, 28 U.S.C. § 1332(d)(2), which demands only minimal diversity, was the basis for subject matter jurisdiction. The defendants also argued that the district court could properly exercise supplemental jurisdiction over the derivative claims under 28 U.S.C. § 1367(a). CAFA's role as the anchor of federal jurisdiction in this case raises two issues: (1) whether, now that the class action claim cannot proceed as such, the district court properly retained jurisdiction over the complaint, and (2) whether the district court could exercise supplemental ...


Buy This Entire Record For $7.95

Download the entire decision to receive the complete text, official citation,
docket number, dissents and concurrences, and footnotes for this case.

Learn more about what you receive with purchase of this case.