Derivative suits are becoming increasingly common and growing more risky. Generally, they are brought by an existing shareholder on behalf of the company against the officers and directors of the company and they allege breach of fiduciary duty. Derivative suits come in two basic varieties: those that accompany class actions and those that are free-standing. These two types require very different approaches.
The Tag-Along Suits
Most class actions now have at least one derivative suit (as a tag-along suit). In 1998, Congress passed the Securities Litigation Uniform Standards Act ("SLUSA") to close a loophole in the Private Securities Litigation and Regulatory Enforcement Reform Act of 1995 ("PSLRA"), which allowed plaintiff's lawyers to file national securities class actions in state courts. The SLUSA essentially makes federal court the exclusive jurisdiction, and federal claims the exclusive claims, permitted for large-scale shareholder class actions. However, SLUSA does not preempt shareholder derivative actions. (This exemption is commonly referred to as the "Delaware carve-out.") Consequently, there has been an increase in the filing of state tag-along derivative suits in securities cases.
The derivative action is often handled by a different plaintiff's counsel, who likely failed to be appointed lead counsel in the federal class action. Usually the derivative suit is not subject to the automatic discovery stay provisions of the PSLRA.
Representative tag-along derivative actions include:
The Stand-Alone Suits
The stand-alone suits can allege a wide variety of problems, including:
- Breach of fiduciary duty
Excessive officer compensation
Option plan violations
Related party transactions
Misappropriation of corporate opportunities
- Corporate waste
It is important to get to the facts quickly and make early strategic decisions about what procedures to use. Our litigators know how to attack "demand futility" allegations. We have been successful obtaining stays of the suit or discovery, know when to - and when not to - establish a special litigation committee, and know how to prevent the derivative litigation tail from wagging the securities class action dog. Increasingly plaintiff firms have filed derivative suits to attack corporate action where no class action exists.