liibulletin: Bansbach v. Zinn

Bansbach v. Zinn, 2003 N.Y. Int. 0123 (Oct. 30, 2003).

COMMERCIAL LAW - CORPORATE LAW - SHAREHOLDER DERIVATIVE ACTION - COLLATERAL ESTOPPEL - DEMAND - FUTILITY - CEO MALFEASANCE - BUSINESS JUDGMENT RULE - BOARD OF DIRECTORS - SUMMARY JUDGMENT

ISSUE & DISPOSITION

Issue(s)

1. Whether a prior shareholder derivative action that a court dismissed can serve to collaterally estop a plaintiff from filing a shareholder derivative action on a separate issue, where the current board of directors and the special litigation committee consist of the same individuals.

2. Whether a demand prior to instituting a shareholder derivative action to a corporation's board of directors is futile when there is evidence that the board is dominated and controlled by the party against which the action would proceed.

3. Whether a plaintiff is entitled to summary judgment on the issue of liability when the defendant has admitted in previous court proceedings that he was guilty and acted knowingly.

Disposition

1. No. A plaintiff is not estopped where the record before the court is different from the previous case, the issues are distinct, and the defendants were not personally named in the previous trial.

2. Yes. Where there is sufficient evidence that the board of directors will place the defendant's interests above the company's interests, a demand upon the board prior to instigating litigation is futile and its absence excusable.

3. Yes. A summary judgment as to liability is appropriate against a defendant who admitted in open court that he knowingly and willingly violated the law.

SUMMARY

Defendant Zinn was the finance chairman of U.S. Representative Maurice Hinchey's congressional campaign and was also founder, president, board chairman, chief executive officer and majority stockholder of Besicorp Group, Inc. ("Besicorp"), also a named defendant. Zinn and Besicorp were indicted for activities relating to an illegal campaign contribution scheme and tax fraud. Zinn pleaded guilty to aiding and abetting the submission of false statements to the Federal Election Commission and admitted that he provided funds for Besicorp employees to contribute to Hinchey's congressional campaign, thus circumventing a federal prohibition on corporate campaign contributions. After the government indicted Zinn, several members of Besicorp's Board of Directors ("the Board"), who were also named defendants, decided to indemnify Zinn for his legal fees and expenses. Plaintiff commenced a derivative shareholder action against Besicorp's Board after Zinn pleaded guilty, arguing that Besicorp's financing of Zinn's legal fees was a breach of fiduciary duties and a waste of corporate assets. Supreme Court dismissed Plaintiff's action for failure to make a demand on the board of directors as required by Business Corporation Law § 626(c). The Appellate Division reinstated Plaintiff's claim, holding that demand is futile when the board members lack independence. Defendants then moved for summary judgment dismissing Plaintiff's suit on grounds that Plaintiff was collaterally estopped from filing the suit based on Lichtenberg v. Zinn, 260 A.D.2d 741 (N.Y. App. Div. 1999). (Lichtenberg was a shareholder derivative suit against Besicorp that Supreme Court dismissed based on a lengthy investigation and the recommendation of a Special Litigation Committee, the members of which are defendants in the present case.) In the instant case, Supreme Court held that the issue in Lichtenberg was different from the one alleged in Plaintiff's complaint, and granted Plaintiff summary judgment regarding Zinn's liability based on his allocution while pleading guilty. The Appellate Division reversed and dismissed the action. The Court of Appeals modified by reinstating the order of the Supreme Court.

The Court held that demand on the Board should be excused, that collateral estoppel did not apply, and that Plaintiff is entitled to a summary judgment with respect to Zinn's liability based on his in-court admission of guilt. With respect to the demand requirement, the Court noted that normally plaintiffs are required to state "with particularity" in their complaint that they attempted to "secure the initiation of such action by the board or the reasons for not making such effort." See Bus. Corp. Law § 626(c). However, this demand is futile when, among other instances, a majority of the board of directors is interested in the transaction, a self-interested director "controls" a director with no direct interest, or the challenged transaction was so egregious that it could not have been the result of sound business judgment. See Marx v. Akers, 88 N.Y.2d 189, 200-01 (1996). Here, the Court held that Plaintiff was not required to make a demand because Zinn controlled the Board, as evidenced by the Board's continual financial support of Zinn even after he admitted guilt.

The Court further found that collateral estoppel was not applicable in this case because the members of the Board, who were part of the Special Litigation Committee in Lichtenberg, are named defendants in the present case, and a previous finding that they were not subject to Zinn's control with regard to a case dealing with stock options does not preclude a finding that they were under Zinn's control in this situation. Further, the Court found that the evidence presented by the Board's members did nothing to indicate their independence from Zinn or that they acted with the best interest of the corporation in mind.

Finally, the Court found that Plaintiff is entitled to summary judgment with respect to Zinn's liability because the Board indemnified Zinn after he pleaded guilty. See Bus. Corp. Law §§ 721-722. Zinn admitted in court that he willfully and knowingly provided funds to employees for them to contribute to Hinchey's campaign to prevent the campaign from learning the true source of the contributions. However, the Court said that factual issues remain regarding the motivations of the other Defendants. See Bus. Corp. Law § 723(b)(2)(A). Thus, the Court held Plaintiff is entitled to summary judgment regarding Zinn, but not the other Defendants.

Finding that the Appellate Division erred in holding that Plaintiff was collaterally estopped from bringing this suit; that Plaintiff was not required to first bring a pre-litigation demand that the Board pursue the claims because the Board was controlled by Zinn; and that Plaintiff was entitled to a summary judgment as to the liability of Zinn, the Court of Appeals modified the Appellate Division's order by reinstating the order of the Supreme Court.

Prepared by the liibulletin-ny editorial board.