Opinion
SUCV201700210BLS2
12-19-2017
Edward S. TURNER, Individually and as a Designee of Shareholders Comprising more than 15% of Issued and Outstanding Shares of IVES Group, Inc., a Nevada Corporation v. Mark L. CHEFFERS et al.
Caption Date: December 18, 2017
MEMORANDUM OF DECISION AND ORDER ON DEFENDANTS’ MOTION FOR PARTIAL SUMMARY JUDGMENT ON COUNTS III, IV, AND V
Janet L. Sanders, Justice
Plaintiff Edward S. Turner, a minority shareholder of IVES Group, Inc. (IVES), brings this action individually and as designee of certain other minority shareholders against defendants Mark Cheffers and Christine Renda, both of whom are directors and shareholders of IVES. IVES is a closely-held Nevada corporation. Turner alleges that Cheffers and Renda engaged in transactions that diverted certain corporate assets and opportunities to themselves. He further alleges that Cheffers removed him from the IVES Board of Directors and terminated his employment with IVES in retaliation for seeking information related to the value of his investment and his efforts to improve the company’s corporate governance procedures. The defendants now seek summary judgment on Counts III, IV, and V of Turner’s Complaint, each of which is based on the alleged diversion of corporate assets and opportunities. Specifically, defendants contend that these claims are derivative under Nevada law, and that the shareholders have since voted to terminate those claims. For the reasons that follow, this Court concludes that the Motion must be Allowed.
BACKGROUND
The relevant facts in the summary judgment record are as follows. In May 2000, Cheffers and Turner founded IVES, a closely-held corporation, and incorporated the company in Nevada. Cheffers became the company’s President and Treasurer, while Turner became its Chief Information Officer and later its Chief Technology Officer. Renda became IVES’s Chief Administrative Officer (CAO) and later its General Counsel. Each of them is presently an IVES shareholder along with Michael Nohrden, Joseph Cyr, Joseph Kellner, Donald Whalen, Jeffrey Bourassa, and Turner’s wife and children. Cheffers is by far the company’s largest shareholder, owning 53.6156% of all outstanding shares. The next largest shareholder is Nohrden, who owns 14.0200% of all outstanding shares.
In 2007, Cheffers founded Allen David Press, Inc. (ADP) and IVES began a business relationship with the company soon thereafter. This relationship was reduced to writing in a Memorandum of Understanding dated September 15, 2010 (the 2010 MOU) pursuant to which IVES agreed to " license ADP content, corporate positioning and its independence abilities on a retainer basis totaling up to $10,000 a month." The MOU also provided, however, that the extent to which compensation would be actually paid depended on whether IVES had sufficient funds. Renda was the President of ADP at the time IVES and ADP entered into the 2010 MOU.
At some point, Cheffers began an extramarital affair with Renda. After the affair was discovered, Cheffers, on behalf of IVES, entered into a MOU with Renda placing her on " administrative leave" from her position as CAO and General Counsel effective August 31, 2012 (the 2012 MOU). That agreement provided that Renda would receive full salary and benefits until December 31, 2016. It also provided that Cheffers would temporarily transfer his ownership of ADP to Renda for $1.00 " [a]s security for [her] agreement to the terms of [the MOU]" until such time that IVES completed its obligations under the MOU. Turner maintains that this transaction " had no business purpose and was instead designed to provide Defendant Renda with income at the expense of other IVES Group shareholders." Complaint at ¶ 37. He further asserts that ADP " properly belongs to IVES Group" and that " Cheffers wrongfully usurped ADP and sold ADP to Renda." Complaint at ¶ 41. Renda subsequently rejoined the company as its Interim CFO.
The MOU further provided that IVES would repurchase Renda’s shares at a rate of $5,000 " until such time as she no longer desires to sell them." It is unclear if any of Renda’s shares were repurchased as Renda continues to retain an 8.7% interest in IVES. It is also unclear whether Renda presently retains ownership of ADP.
In May 2015, Cheffers removed Turner from the Board without a shareholder vote and terminated his employment with IVES. Turner claims these actions were taken in retaliation for the efforts he undertook, with assistance from Cheffers’ ex-wife (an IVES director) to improve IVES’s corporate governance and to obtain access to certain financial and corporate records. The defendants contend that the decision was made primarily because of concerns over Turner’s managerial competence.
In October 2015, Turner, along with Keufler, Bourassa, and Turner’s wife and children, sent IVES a written demand to inspect the company’s books and records pursuant to Nev. Rev. Stat. § 78.257. IVES denied the request a month later and stopped sending Turner certain severance payments Cheffers had agreed to provide him. Turner maintains that Cheffers prevented him from accessing the company’s books and records because they would potentially reveal " years of financial mismanagement, including the comingling of personal and corporate finances, diversion of corporate opportunities and corporate waste insofar as Cheffers was diverting corporate assets to Renda and ... dissipating corporate assets to minimize the value of IVES Group while [Cheffers] was divorcing his then-wife." Complaint at ¶ 6.
In January 2016, Turner, individually and as designee for his wife, children and Keufler, filed the present action and brought six claims against Cheffers and Renda. Counts I and II seek access to certain financial and corporate records pursuant to Nev. Rev. Stat. § 78.257. Count III seeks an accounting " of the business operations and accounts of IVES Group, including, but not limited to, funds that have been wrongly received by Defendants and transfers of Company property to the Defendants." Complaint at ¶ 60. Count IV asserts a claim for breach of fiduciary duty, alleging that Renda and Cheffers breached their fiduciary duties by entering into the MOU, usurping ADP and transferring it to Renda, and also by refusing to provide financial information to IVES shareholders. Count V is a claim for unjust enrichment, alleging that Renda and Cheffers were unjustly enriched " at the expense of and to the detriment of IVES Group" as a result of their wrongful conduct. Id. at ¶ 67. Both Counts IV and V are asserted by Turner " as a shareholder and representative of IVES Group." Id. at ¶¶ 65, 68. Count VI alleges that Cheffers abused his power as the largest shareholder by wrongfully removing Turner as a director and terminating him from his employment with IVES (among other things). Turner purports to assert each of these counts directly.
Soon after Turner filed his Complaint, the defendants brought a motion to dismiss all the claims against them, a motion to strike Paragraph 26 from the Complaint, and a motion to require Turner to furnish security. In the motion to dismiss, the defendants argued, among other things, that Counts III, IV, and V were derivative (i.e., that they belonged to IVES) and that Turner had failed to comply with Nev. Rev. Stat. § 42.520, which governs the pleading requirements for derivative claims asserted against Nevada corporations. While the three motions were pending, IVES issued a Notice of Special Meeting in Lieu of Annual Meeting of Shareholders to be held on April 28, 2016. The notice indicated that several proposals would be considered at the meeting, including termination of Counts III, IV, and V of the lawsuit as well as ratification of the 2010 and 2012 MOUs.
A day after sending the notice, IVES sent each shareholder a package containing Turner’s Complaint, the defendants’ Answer, and the papers filed by the parties in connection with the defendants’ three motions. The package also included letters from Cheffers, Nohrden, and Donald Whalen as well as IVES’s 2015 and 2016 financial statements (reviewed by independent CPAs) and an independent appraisal of the company’s value. The letter from Cheffers provided his view on the state of IVES’s business. The letter from Nohrden, the company’s COO, analyzed both the propriety of the 2012 MOU and the relationship between ADP and IVES. The letter from Whalen, the company’s General Counsel, commented on the company’s duty to indemnify officers and directors under Nevada law, a plaintiff’s burden of proof in connection with claims against officers and directors, and certain defenses asserted by the defendants. In particular, Whalen opined that the possibility that IVES would benefit from Counts III, IV, and V was " remote" and in any event would outweigh the cost of defending Cheffers and Renda, who had a right to be indemnified for their legal fees and, unless the plaintiff can show intentional misconduct, for any damages awarded against them. The lawsuit could also damage IVES’s reputation at a time when it was attempting to grow. Both Nohrden and Whalen recommended that Counts III, IV, and V be terminated.
On April 28, 2016, the special meeting was held as scheduled and the shareholders voted for the proposals. Each proposal was approved by 13, 651, 809 out of the 16, 226, 809 shares present at the meeting in person or by proxy. The shareholders voting for the proposals included Cheffers, Renda, Nohrden, Cyr, Whalen, and Bourassa; the shareholders voting against included Keufler, Turner, and Turner’s wife and children. A few days later, the Court (Frison, J.) denied the defendants’ motions by margin endorsement. The case was subsequently transferred to the Business Litigation Session.
DISCUSSION
Defendants move to dismiss Counts III, IV, and V on the grounds that they are derivative claims and that a majority of the IVES shareholders, including the owners of a majority of disinterested shares, have voted to terminate the claims and ratify the defendants’ challenged actions. Turner does not dispute that he has not complied with the procedural requirements for maintaining derivative claims. In opposing the motion, he argues instead that the claims may be asserted as direct claims under Nevada law. This Court disagrees.
Because IVES is a Nevada corporation, this Court applies Nevada law to this issue. As to what test Nevada uses in distinguishing between derivate and direct shareholder claims, that was recently decided in Parametric Sound Corp. v. Eighth Judicial District Court, 401 P.3d 1100 (2017), where the Nevada Supreme Court adopted the test forth in Tooley v. Donaldson, Lufkin & Jenrette, Inc., 845 A.2d 1031 (Del. 2004) (Tooley). Under the Tooley test, the Court determines whether a claim is direct or derivative by answering two questions: 1) who suffered the alleged harm; and 2) who would receive the benefit of any recovery or other remedy? Tooley, 845 A.2d at 1033, 1035. If the corporation alone suffered the harm for which a plaintiff seeks recovery, then it is the corporation which is entitled to recover and the claim is derivative. Conversely, if the plaintiff suffered some harm independent of any injury to the corporation, then individualized recovery is warranted and the cause of action is direct. See id. at 1039.
Applying the Tooley test, this Court concludes that Counts III, IV, and V are derivative in nature. Each of these counts is based on allegations that Cheffers and Renda engaged in transactions that diverted corporate assets and opportunities to themselves. Any harm from such conduct was suffered directly by IVES and affected shareholders such as Turner only secondarily in proportion to their pro rata investments. See, e.g., Leslie v. Telephonics Office Techs., Inc., 1993 WL 547188, at *11 (Del.Ch. Dec. 30, 1993) (scheme to divert corporate assets was " a classic derivative claim asserting harm to the corporation generally"); Infinity Inv’rs Ltd. v. Takefman, 2000 WL 130622, at *6 (Del.Ch. Jan. 28, 2000) (plaintiff’s allegations of misfeasance, nonfeasance, and waste are " classic derivative claims that, if true, injure the corporate entity and the stockholders’ investments ratably"). Although Turner suggests that Count IV is based on Cheffers’ decision to terminate Turner that is not is how it is described in the Complaint. Moreover, to the extent that Turner challenges his termination, he may still do so, since that is the basis for Count VI, which is not the subject of the instant motion.
Turner contends that, even if the claims are derivative under the Tooley test, he may nevertheless assert these claims directly pursuant to an equitable exception applicable to closely-held corporations. That exception has been carved out in part to deal with the reality that, in a closely held corporation of relatively few shareholders, one or more of those shareholders are often also named as defendants. If the case proceeds derivatively, the shareholder wrongdoer will unjustly benefit from an award and the shareholder plaintiff may not be properly compensated. Although a few states have recognized this exception, it is not entirely clear what a Nevada state court would do.
A federal district court, applying Nevada law, did apply the exception in Simon v. Mann, 373 F.Supp.2d 1196, 1198-99 (D.Nev. 2005) (Simon), and Carstarphen v. Milsner, 693 F.Supp.2d 1247, 1249 (D.Nev. 2010) (Carstarphen). Both cases were decided by the same judge. The court in those cases noted that whether to apply the exception or not was entirely within the court’s discretion, exercised in order to serve the " interest of justice." Simon, __ F.Supp.2d at 1198-99; Carstarphen, 693 F.Supp.2d at 1252. This Court sees no reason to exercise that discretion in the instant case so as to permit plaintiff to bypass the requirements that apply to derivative actions.
In both Smith and Carstarphen, all the minority shareholders injured by the alleged misconduct of the defendant shareholders were either plaintiffs or did not oppose the lawsuit; there was therefore no risk that permitting recovery by the plaintiffs on a direct claim would prejudice the rights of other minority shareholders. Here, however, the opposite is true. Not all the minority shareholders are named as plaintiffs. More important, the majority of disinterested shareholders made it clear by their votes at the Special Meeting that they do not want Turner to pursue these claims. They did so after receiving information about this instant lawsuit as well as letters from Whalen, Nohrden, and Cheffers. Those letters explained the risks of the litigation, the costs to the company in pursuing it and the authors’ opinions regarding the relative merits of Turner’s claims.
Turner also contends that he has the authority to bring these claims directly under Nev.Rev.Stat. § 78.138.7. This argument is without merit. The language of the statute does not indicate that it authorizes shareholders to bring directly a claim that is deemed derivative under the Tooley test. Indeed, when it adopted the Tooley test for determining whether a claim was direct or derivative, the Nevada Supreme Court made no mention of the statute. Clearly, it would have if the court interpreted this statute as plaintiff does. In sum, Counts III, IV and V are all derivative claims which cannot proceed without a demand being made to the company or a demonstration that such a demand is excused because it would be futile. See Nev.Rev.Stat. § 42.520.2; Shoen v. SAC Holding Corp., 137 P.3d 1171, 1179-81 (Nev. 2006). Plaintiff concedes he has not satisfied these requirements.
Although plaintiff has not specifically asked for leave to amend his Complaint and asserts these counts derivatively (with allegations showing that he has satisfied the demand requirement for such a suit), this Court concludes that such an amendment would itself be futile. That is because, even in the face of a properly made demand, a vote by the majority of shareholders to ratify the acts that give rise to the claim will have the effect of blocking the claim from being made. The demand requirement exists precisely because " the acts in question may be subject to ratification by a majority of the shareholders, thus precluding the necessity of suit." Shoen, 137 P.3d at 1179, quoting Wolgin v. Simon, 722 F.2d 389, 392 (8th Cir. 1983). In the instant case, that is precisely what happened. A majority of IVES shareholders voted to terminate the claims as not being in the best interest of IVES and also voted to approve the 2010 and 2012 MOUs. Significantly, while Turner, his family members, and Keufler, who collectively own 15.8691% of IVES’s shares, voted against the proposals, the other disinterested minority shareholders (Nohrden, Whalen, and Cyr), who collectively own 21.7831% of IVES’s shares, voted for the proposals. Given the outcome of the vote, any re-pled derivative claims would not survive dismissal.
Finally, Turner contends that the vote was invalid because the shareholders were not sufficiently familiar with the extent of the defendants’ wrongdoing. This Court has reviewed the materials that were provided to shareholders before a vote was taken, however, and concludes that they were sufficient for the shareholders to determine that it was in the business interest of the company to terminate Counts III, IV, and V.
CONCLUSION AND ORDER
For the foregoing reasons, the defendants’ Motion for Partial Summary Judgment on Counts III, IV and V is ALLOWED and it is ORDERED that those Counts be DISMISSED.