California Federal District Court Holds That Section 1312(a) of the California Corporations Code Provides the Exclusive Remedy For Minority Shareholders Seeking to Challenge a Proposed Merger

In Dixon v. Cost Plus, Inc., No. 12-2721, 2012 U.S. Dist. LEXIS 90854 (N.D. Cal. Jun. 27, 2012), the United States District Court for the Northern District of California held that Section 1312(a) of the California Corporations Code precluded plaintiff-minority shareholder’s breach of fiduciary duty claim to the extent that the claim relied upon arguments that a proposed merger price was unfair, or that the process employed by the board of directors was inadequate. Nonetheless, the court noted a “recognized exception” to this bar for challenges based upon “the question of an insufficient vote to authorize a merger or consolidation.” In so holding, the court upheld a “unique” California statute which limits the availability of relief for allegations that directors breached their fiduciary obligations in agreeing to merger terms and in the process engaged in self-dealing and other breaches of duty, while also noting an exception to the general bar.

This case centers around a putative class action filed by a minority shareholder of Cost Plus Inc. (“Cost Plus”) in connection with the proposed sale of Cost Plus to Bed Bath & Beyond, Inc. (“BBBY”) (“Merger”). The defendants were Cost Plus, members of the Cost Plus’ board of directors and the Merger Sub and the Parent of BBBY. Plaintiff filed a motion for preliminary injunction to enjoin the tender offer in connection with the Merger. Among other claims, plaintiff argued that the Cost Plus directors breached their fiduciary duty to obtain the best price reasonably available for shareholders in the merger process. Defendants opposed plaintiff’s motion for preliminary injunction, arguing that plaintiff is barred by Section 1312(a) from seeking injunctive relief based upon the “unfair price” and “unfair process” arguments. Specifically, defendants argued that Section 1312(a) provides that an appraisal proceeding is the exclusive remedy for challenges to mergers.

The district court held that California’s “unique” Section 1312(a) limits the availability of relief for allegations of breach of fiduciary duty in mergers. Section 1312(a) provides:

No shareholder of a corporation who has a right under this chapter to demand payment of cash for the shares held by the shareholder shall have any right at law or in equity to attack the validity of the reorganization or short-form merger, or to have the reorganization or short-form merger set aside or rescinded, except in an action to test whether the number of shares required to authorize or approve the reorganization have been legally voted in favor thereof.

The court held that the California Supreme Court had already concluded that Section 1312(a) “acts as a bar” to shareholder suits challenging a merger where the “plaintiff was aware of all the facts leading to his cause of action for alleged misconduct in connection with the terms of the merger prior to the time the merger was consummated but deliberately opted to sue for damages instead of seeking appraisal.” Steinberg v. Amplica, Inc., 42 Cal. 3d 1198, 1214 (1986). Thus, the district court held that plaintiff was barred by Section 1312(a) from seeking monetary damages for breaches of fiduciary duty and fraud in the course of a merger.

Plaintiff also alleged that Cost Plus and the individual defendants violated Section 10(b) of the Securities Exchange Act of 1934 (“1934 Act”), 15 U.S.C. § 78j(b), and the Williams Act (Sections 14(d)(4) and 14(e) of the 1934 Act, 15 U.S.C. § 78n(d)(4) and (e)), by omitting material facts from the Schedule 14D-9 Solicitation/Recommendation Statement Cost Plus filed with the Securities & Exchange Commission in connection with the Merger. The District Court held although Section 1312(a) generally bars attempts to enjoin proposed mergers by minority shareholders, there is a “recognized exception” to this bar for challenges based upon “the question of an insufficient vote to authorize a merger or consolidation.” Thus, challenges related to sufficient disclosures made during the course of a proxy vote may be exempted from the remedial bar of Section 1312(a). Nonetheless, the district court did not make a final determination regarding whether plaintiff’s disclosure claim was barred by Section 1312(a) because, even if it were not barred, plaintiff failed to show in her preliminary injunction motion that she was likely to succeed on the merits of her disclosure claim.

This decision recognized and reiterated California’s unique statute which greatly limits a minority shareholder’s remedy in seeking to challenge a proposed merger of a California corporation.

For further information, please contact John Stigi at (310) 228-3717 or Taraneh Fard at (213) 617-5492.