The Good News and Bad News in a Defeated Shareholder Suit
from
March/April 2002
by Warren L. Dennis
White v. ICN Pharmaceuticals had undeniable sex appeal. Sex, in
fact, was at the factual, if not the legal, core of a case that began
with a 1998 article in U.S. News & World Report. The magazine laid
out a number of lurid allegations of sexual liberties that ICN founder
and chairman Milan Panic had supposedly taken with employees over
several years. The fact that Panic had been prime minister of his
native Yugoslavia in 1992 and 1993 attracted extra attention.
The U.S. News account is central to this case, since the article was used in an attempt to envelop ICN’s board members in the harassment charges. The magazine reported that starting in 1993, the company had settled several lawsuits alleging sexual harassment by Panic and that it had lent him several million dollars to help pay his share of the settlements. In addition, said U.S. News, the board had voted to give Panic a bonus in recognition of his overall contribution to ICN that same year.
The magazine article was enough to encourage the plaintiff, Andrew White, an individual shareholder who declined to disclose the size of his investment in the company, to target ICN, Panic, and the ICN board in a so-called derivative suit, one brought by a shareholder on behalf of the corporation itself. The plaintiff claimed that the directors had taken inadequate steps to admonish the chairman for his behavior and, among other things, should cut his salary as a punishment.
In 2000 the Delaware Court of Chancery ruled against the plaintiff. And just as well. It’s not difficult to see the unending legal problems directors might face if they could be hauled into court on the strength of a single news story and asked to explain why they settled a suit in a particular way, say, or how they calculated a top executive’s compensation. Companies would probably agree to settle even the most frivolous claims rather than go through the disruptive and expensive process of fighting them.
In fact, well before White v. ICN, Delaware law had laid out the steps shareholders must take if they want to correct boardroom behavior. Specifically, before they can bring a derivative suit, they must “make demand” on a company’s board to investigate possible malfeasance by any of its members and to take corrective action if necessary.
White had failed to make such demand, which led to the court’s dismissal of his suit “with prejudice,” or finality. The Supreme Court of Delaware upheld the decision in a ruling that also prevented the plaintiff from filing the same suit again.
For years, in fact, Delaware’s top court has been exhorting plaintiffs to “use the tools at hand” to investigate alleged failures on the part of directors before marching into court. “The tools at hand” means the variety of mechanisms that shareholders have available to them, including SEC filings, court filings, and, most important, Section 220 of the Delaware Corporate Code, which permits shareholders to obtain information contained in a company’s books and records.
That the Delaware court barred the plaintiff from filing a second suit against ICN is important to directors. Before the ruling, shareholders who rushed into court on the basis of threadbare allegations could, if they lost, frequently count on a second bite at the apple via an amended complaint. After White, however, such suits must have sufficiently detailed and specific factual information the first time out, including an account of the steps taken to use “the tools at hand” in investigating alleged misdeeds. If the plaintiff loses, he won’t get another shot.
So what does White v. ICN mean for the future of corporate-governance litigation? Fewer frivolous derivative lawsuits by shareholders, probably.
But the ruling also has a flip side. It may encourage plaintiffs to investigate their claims more thoroughly before going to court—and that could increase the number of better-prepared, more substantive suits brought against directors and their companies.
Warren L. Dennis is a partner in the Washington, D.C., office of Proskauer Rose LLP.
