Standing in the company's place
A shareholder who brings a derivative claim acts as a representative of the company and, indirectly, of the other shareholders. Courts generally require that the plaintiff owned shares when the challenged conduct occurred and keep owning them while the case is pending, so selling during the case can end your role in it. The plaintiff also has to show either that a demand was made on the board and wrongly refused, or why a demand would have been futile, under the law of the state where the company is incorporated. Because the claim belongs to the company, money recovered generally goes to the company rather than to the shareholder who sued. In public companies, derivative claims often follow a securities class action arising from the same events.
How these cases move
After filing, defendants commonly move to dismiss on the demand question before the facts are tested, so the complaint needs particularized facts, which is one reason books-and-records requests often come first. A board may respond by forming a committee of independent directors to evaluate the claims, and its recommendation can lead a court to dismiss or narrow the case. Discovery, when a case gets that far, tends to focus on board materials and the communications around the challenged decisions. A derivative settlement usually requires court approval, often after notice to shareholders, because it binds the company and other shareholders. Relief frequently includes governance changes, in addition to or instead of money.
Weighing whether to proceed
Derivative cases can be slow and the economics are unusual, since the plaintiff's benefit is indirect and counsel's fees, if awarded, usually depend on the benefit conferred on the company. In closely held companies, a direct claim, a books-and-records proceeding, or a negotiated buyout may serve your interests better. Before anything is filed, we go over your ownership history, the conduct at issue, the company's state of incorporation, the records you already have, and whether a demand letter or an inspection request should come first. Bring your share records, the company's governing documents, and the materials that led to your concern.
