California Public Employees' Retirement v. Felzen, Paul, et al. (01/20/1999)

By: Roxani Saberi, Medill News Service

Questions presented

Whether a non-party shareholder who appears in response to notice provided under rule 23.1 of the Federal Rules of Civil Procedure to present objections to a proposed dismissal or settlement of a derivative action may appeal an adverse decision even though the shareholder has not been formally made a party to the action.

Brief

Two years after Archer Daniels Midland Co. disclosed in 1995 that a grand jury was investigating it for possible price-fixing and other antitrust violations, the agri-business company agreed to a settlement with its shareholders, who claimed that ADM directors breached their duties to them.

The $8 million settlement was the result of a shareholders1 derivative action, which was brought by Paul Felzen and Sandra Esner, ADM investors, on behalf of the company against certain members of the ADM board. The settlement between ADM and its shareholders on July 7, 1997, divided the $8 million between the investors1 attorneys and an audit committee, that was constituted to help reform the ADM board.

One week later, the California Public Employees Retirement System (CalPERS) and the Florida State Board of Administration, two dissatisfied shareholders who had not been parties to the action, appealed the settlement to the 7th Circuit Court of Appeals. Members of the two groups claimed that even though their organizations had not been made formal parties, the trial court should not have approved the settlement until their objections had been addressed. CalPERS and the Florida State Board of Administration alleged the settlement would do little to help individual investors or to improve corporate governance measures.

The appeals court unanimously dismissed the case in January 1998 for want of jurisdiction, finding that since the agreement was the result of a shareholder's derivative action, the dissatisfied shareholders could not appeal it.

""The individual investor is not an injured party and is not entitled to litigate,"" the court held. ""A derivative suit is brought by an investor in the corporation's (not the investor's) right to recover for injury to the corporation.""

""Loss to the corporation does not permit stockholders to sue directly. Stockholders may displace the board if dissatisfied with its performance, but they may not displace the board in litigation,"" Judge Frank Easterbrook wrote for the appeals panel.

In its opinion, the appeals court acknowledged it was overruling some of its prior decisions and creating a conflict among the circuits.

The appeals court had previously looked at class action lawsuits when it held in re Brand Name Prescription Drugs Antitrust Litigation (1997) that only parties may appeal from an order granting summary judgment to the defendant in a class action suit.

But in Bell Atlantic Corp. v. Bolger (1993), the 3rd Circuit Court of Appeals had focused on derivative litigation instead of class actions. The 3rd circuit held that a non-party shareholder can appeal from the final decision in derivative litigation.

The 7th Circuit disagreed with the 3rd Circuit, which permitted shareholders to appeal because it had also permitted class members to appeal.

""One does not follow from the other . . . shareholders have the weaker claim,"" Judge Easterbrook wrote. ""But in this circuit, which requires class members to intervene if they want to appeal, similar treatment . . . of shareholders is ordained.""

In September 1998, three ADM executives were convicted of illegally conspiring with four Asian competitors to fix the price of lysine, a livestock food additive. In 1996, ADM pleaded guilty to antitrust violations and paid a then-record $100 million fine.

The U.S. Supreme Court granted certiorari on Sept. 29, 1998, limiting review to one question.

If the Court rules that non-parties can appeal any kind of adverse agreement, whether it be a derivative or a class action lawsuit, according to Allen Kamp, a professor at the John Marshall School of Law, shareholders would be more likely to become formal parties.

""(If the Court says) that you have some rights to appeal without becoming formal parties, then they are broadening the ability of people to get involved in lawsuits,"" Kamp said. ""If not, then you are shutting the door on that kind of participation.""

On Jan. 20, 1999, in a 4-4 vote, the Court divided equally, thereby affirming the court below.