Court Holds That Shareholder Derivative Suit May Proceed Against An Officer Without A Pre-Suit Demand Where The Case Involved A Closely-Held Corporation

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In Novedea Sys. v. Colaberry, Inc., co-founders of a business discussed terms of a buy-out, but ended up in litigation. No. 6:20-cv-00180-JDK, 2021 U.S. Dist. LEXIS 152372 (E. D. Tex. August 13, 2021). One co-founder sued on his behalf and on behalf of the company against the other co-founder without discussing the suit with the other co-founder or the board of directors. The defendant filed a motion for summary judgment, arguing that the plaintiff did not have authority to file a lawsuit for the company. The plaintiff responded that his “authority derives from his standing “as a longtime manager and corporate officer” of Novedea, or alternatively, as a shareholder bringing a derivative action.” Id.

The court stated:

“Generally, an officer of the corporation may not authorize the pursuit of litigation without a delegation of authority from the board of directors.” Here, Dasari has presented no evidence that Novedea’s board authorized him to bring this lawsuit. In fact, Novedea’s board has since resolved that the company wants no part of this litigation.

Plaintiffs alternatively claim that Dasari is suing on behalf of Novedea in a shareholder-derivative capacity. Federal Rule of Civil Procedure 23.1 allows “one or more shareholders . . . [to] bring a derivative action to enforce a right that the corporation or association may properly assert but has failed to enforce.” But derivative-action complaints must meet certain pleading requirements, including a particularized statement describing “any effort by the plaintiff to obtain the desired action from the directors . . . and the reasons for not obtaining the action or making the effort.” Fed. R. Civ. P. 23.1(b). And under Texas law, the shareholder must first demand that the corporation take action before bringing suit, stating with particularity the act that is the subject of the claim. Katamaraja argues that Dasari never made such a pre-suit demand, which is fatal to Novedea’s claims. For corporations with fewer than thirty-five shareholders, however, the demand requirement “do[es] not apply to a claim or derivative proceeding by a shareholder . . . against a director, officer, or shareholder of the corporation.” Thus, because Novedea has only two shareholders, Dasari was not required to make a pre-suit demand before bringing claims against Katamaraja, a Novedea director.

The demand requirement nevertheless applies to claims “made against a person who is not that director, officer, or shareholder.” This means that Dasari must show he demanded Novedea’s board take action against Colaberry before bringing this suit. And here, Dasari did not even attempt to show he satisfied this requirement until his sur-reply, leaving Katamaraja no ability to respond. In any event, Dasari’s claimed pre-suit demand is insufficient as a matter of law because it does not include a demand that Novedea’s board file this lawsuit. Even if it were sufficient, Texas law prohibits suits brought within ninety days of the demand unless the demand was rejected, the corporation is suffering irreparable injury, or irreparable injury would result from waiting. Dasari presents no evidence of a rejection, and the Court has previously denied Dasari’s claims of irreparable injury. Accordingly, Novedea’s claims against Katamaraja may proceed as shareholder derivative claims by Dasari, but Novedea’s claims against Colaberry must be dismissed for failure to satisfy the statutory demand requirement.

Id. (internal citations omitted). Accordingly, the court allowed the shareholder derivative action to continue as against the officer.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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