Potential Pitfalls of Derivative Claims

Many owners believe that if those in control of the company are taking advantage of them or the company (for example, using company funds for personal expenses) that they can simply file suit.  Unfortunately, it’s not that easy.  In order for an owner to bring such a claim, they first need to identify whether or not the alleged harm is primarily to the company, as opposed to them individually.  If the harm is to the company, then the owner must follow the requirements for asserting a derivative action, defined as “a civil suit in the right of a domestic corporation.”

This potential pitfall was recently highlighted by the Michigan Court of Appeals in Murphy v Inman.¹ There, plaintiff Leslie Murphy, a former shareholder of Covisint Corporation, sued Covisint’s former directors and offers, claiming they breached their fiduciary duties relative to a merger.  Among other allegations, Murphy alleged that the directors and officers did not obtain a fair price for the shares, acted in their own self-interest, and failed to provide complete information regarding the merger. The directors and officers moved to dismiss, arguing that Murphy lacked standing and did not satisfy the requirements of bringing a derivative action. The trial court agreed, dismissing Murphy’s case.

On appeal, the Court discussed MCL 450.1541a, which specifies that the directors and officers must act in good faith and “in the best interests of the corporation.”  Based on this language, the Court stated that a claim under § 1541a against the directors and officers should generally be brought by the corporation itself or by a shareholder derivatively, on behalf of the corporation.  Because Murphy brought his breach-of-fiduciary claim directly against the directors and officers, as opposed to derivatively on behalf of Covisint, he failed to state a viable claim under MCL 450.1541a.  The Court noted that Murphy also failed to follow the requirements of bringing a derivative action as specified in MCL 450.1493a, which includes a written demand and a 90-day waiting period.

The Court also addressed Michigan common law, which allows a shareholder to bring a claim directly, but only if the individual shareholder “has sustained a loss separate and distinct from that of other stockholders generally” or where the individual shareholder shows a “violation of a duty owed directly to that individual that is independent of the corporation.”  Looking at Murphy’s complaint, however, the Court concluded that Murphy’s claims all related to the directors’ and officers’ duties to Covisint, not him directly, and that the harm Murphy otherwise complained of was to Covisint.  As a result, the Court of Appeals affirmed dismissal of Murphy’s complaint.

So, if your claims relate to harm to the corporation, as opposed to you as an owner individually, make sure you are following the requirements for asserting a derivative action on behalf of the corporation before you file suit.  If you fail to follow the requirements for bringing a derivative claim, your case may be all for naught.

¹No. 345758, issued April 30, 2020.