When Objection to Administration is a Shareholder’s Derivative Action
March 12, 2018 § Leave a comment
Frankie Don Ware’s will directed that shares of three closely held corporations be distributed by his estate to a testamentary trust. When his widow, Carolyn, filed to close the estate and distribute the shares as directed, Frankie’s son, Richard, filed an objection arguing that the corporate bylaws required that the shares be offered first to the corporation before transfer. Carolyn responded that Richard lacked standing to object. Richard took the position that he had standing in his capacity as trustee of the testamentary trust. The chancellor agreed with Richard, and Carolyn appealed.
In Estate of Ware v. Ware, decided March 1, 2018, the MSSC reversed and remanded, holding that Richard did not have standing. Justice Randolph penned the opinion for a unanimous court:
¶16. Carolyn argues that Richard’s objection to the closing of the estate is a shareholder derivative action, and therefore Richard lacked standing to object. Despite Carolyn’s raising this issue throughout the proceedings, the trial court declined to address Richard’s standing.
¶17. “Standing is a jurisdictional issue.” Hotboxxx, LLC v. City of Gulfport, 154 So. 3d 21, 27 (Miss. 2015) (citations omitted). Therefore, “it may be raised by the Court sua sponte or by any party at any time, and the standard of review is de novo.” Id.
¶18. Carolyn cites Bruno v. Southeastern Services, Inc., 385 So. 2d 620, 622 (Miss. 1980), in which this Court adopted the rule
that an action to redress injuries to a corporation, whether arising in contract or in tort cannot be maintained by a stockholder in his own name, but must be brought by the corporation because the action belongs to the corporation and not the individual stockholders whose rights are merely derivative. The rule applies even though the complaining stockholder owns all or substantially all of the stock of the corporation.
¶19. Richard argues that his claim is not a shareholder derivative claim, but rather, an objection to the administration of the estate. Richard argues that because he is named a trustee of the trust created by Frankie’s will, he has standing to object to the closing of Frankie’s estate. Thus, Richard argues that Carolyn’s standing argument, as it applies to shareholder derivative actions, is inapplicable. Notably, Richard cites no authority for his position that his title of trustee confers upon him standing to object to the administration of an estate. Regardless, his argument is without merit. Richard is attempting to prevent assets from being distributed to the trust. “A trustee shall take reasonable steps to enforce claims of the trust and to defend claims against the trust.” Miss. Code Ann. § 91-8-811(a) (Rev. 2013) (emphasis added). Richard’s title of trustee alone is insufficient to confer standing unless he is enforcing claims on behalf of the Frankie Ware Family Trust or is defending claims against the family trust. Id.
¶20. In order to address standing, the Court must determine whether Richard “had the right to participate in this cause of action.” City of Picayune v. Southern Reg’l Corp., 916 So. 2d 510, 519-520 (Miss. 2005). “Fundamental to this review” is what body of law applies to the dispute. Id. Accordingly, whether Richard’s action is indeed a shareholder derivative action will determine what law applies, and in turn, determine Richard’s standing.
¶21. “[I]n determining whether the action belongs to the corporation or the individual, the focus of the inquiry is whether the corporation or the individual suffered injury.” Scafidi v. Hille, 180 So. 3d 634, 647 (Miss. 2015) (quoting Mathis v. ERA Franchise Sys., Inc., 25 So. 3d 298, 303 (Miss. 2009)). “The action is derivative if the gravamen of the complaint is injury to the corporation, or to the whole body of its stock or property without any severance or distribution among individual shareholders, or if it seeks to recover assets for the corporation or to prevent the dissipation of its assets.” Id. Richard’s objection to the closing of Frankie’s estate is, in reality, a shareholder derivative claim. Richard was seeking solely to enforce a putative corporate right. As such, the law applying to shareholder derivative actions must apply. See City of Picayune, 916 So. 2d at 519-520 (holding that “different standing requirements are accorded to different areas of the law,” and finding that because corporate law applied to the action, citizens did not have standing to challenge actions by a corporation).
¶22. In Mississippi, a shareholder may not institute a derivative suit unless certain statutory conditions are met. 3 Miss. Practice Encyclopedia of Miss. Law § 22:210 (2d ed. 2017). Mississippi Code Section 79-4-7.41(1) (Rev. 2013) provides that a shareholder may not commence a derivative suit unless he or she was a shareholder at the time of the act or omission in question. Mississippi Code Section 79-4-7.41(2) requires that the shareholder fairly and adequately represent the interests of the corporation. Furthermore, Mississippi Code Section 79-4-7.42 (Rev. 2013) requires the complaining shareholder to make a written demand upon the corporation or appropriate officers prior to commencing the proceeding, and section two of that statute requires ninety days to elapse after the written notice, unless the corporation earlier rejects the demand, or unless irreparable injury to the corporation would result by waiting for the ninety-day period to elapse. Finally, our caselaw requires that the corporation is made a party to the derivative action. See Bruno, 385 So. 2d at 622 (“The corporation is an indispensable party” to a shareholder derivative action); see also Fairchild v. Keyes, 448 So. 2d 292, 294 (Miss. 1984) ([T]he corporation is an indispensable party to
a suit brought to protect its interest . . . .”).
¶23. “The rationale for these procedural prerequisites has to do with the corporation’s status as a creature of the State.” 3 Miss. Practice Encyclopedia Miss. Law § 22:210 (2d ed. 2017). “Since the corporation is a separate entity, the shareholder has no legal interest in any of its property.” Id. These conditions “avoid multiple lawsuits, preserve creditors’ rights since any recovery will belong to the corporation, and provide for any recovery to benefit all shareholders.” Id.
¶24. Richard failed to satisfy the statutory conditions required of shareholder derivative actions. Notwithstanding, Richard argues that, even if his action is considered a shareholder derivative action, the chancery court has discretion to disregard the procedural prerequisites and treat the claim as a direct action if it makes certain findings under the Derouen doctrine. Derouen v. Murray, 604 So. 2d 1086, 1091 n.2 (Miss. 1992). The trial court declined to address the question of whether Richard’s action was a shareholder derivative action, and never made any findings under Derouen. In Derouen, this Court did not overrule Bruno, but stated in a footnote that [i]n the case of a closely held corporation . . . , the [chancery] court in its discretion may treat an action raising derivative claims as a direct action, exempt it from those restrictions and defenses applicable only to derivative actions, and order individual recovery, if it finds that to do so will not (i) unfairly expose the corporation or the defendants to a multiplicity of actions, (ii) materially prejudice the interests of creditors of the corporation, or (iii) interfere with a fair distribution of the recovery among all interested persons. Derouen, 385 So. 2d at 622. This Court later interpreted the Derouen doctrine to hold “that in derivative suits involving closely held corporations, the trial court may award damages on an individual basis, provided certain safeguards are met.” Investor Res. Servs., Inc. v. Cato, 15 So. 3d 412, 424 (Miss. 2009). Indeed, the facts of Derouen involved a shareholder
seeking individual recovery for his fifty-percent equity interest in proceeds from the business. Derouen, 604 So. 2d at 1089-90.
¶25. Here, Richard is not seeking individual recovery or individual damages. Rather, he has brought an action to enforce corporate bylaws. The Derouen doctrine does not apply because Richard does not seek individual recovery, but rather seeks to redress alleged wrongs to the three corporations.
¶26. The holding in Bruno applies in this case. Richard lacked standing to bring suit because the right belongs to the three corporations. It is of no consequence that Richard owns half of the shares of stock, as Bruno explicitly applies to closely held corporations, where “the complaining stockholder owns all or substantially all of the stock of the corporation.” Bruno, 385 So. 2d at 622. Accordingly, Richard lacked standing under Bruno to assert a claim individually on behalf of the corporations.
- Although shareholder derivative actions are something you won’t read about much on this blog, it’s worth giving some thought to how the rules of corporation law intersect with chancery matters, particularly estates and divorce. I can conjure up a fair number of scenarios where the holding in this case could apply.
- “Standing is a jurisdictional issue” that may jump up and bite you at any point in the litigation. Even the judge may raise it.