Kenneth C. Ward v. Allie Gamble et al. (2013)

MEMORANDUM OF DECISION ON MOTION TO DISMISS

Defendant moves to dismiss the complaint because the plaintiff either does not have standing to bring the derivative claims or has otherwise failed to properly allege demand.

The plaintiff, Kenneth C. Ward, commenced this action on February 8, 2011 by serving a complaint on the defendants, Allie Gamble, Shawn Skehan, B East, LLC and B Fare, LLC. In count one of the complaint, which is directed towards Gamble and Skehan (collectively “the individual defendants”), the plaintiff alleges the following facts:  The plaintiff is a member along with the individual defendants in Yoshu, LLC (“the company”), the plaintiff having a 13% interest in the company.   The company was in the business of operating a “Plan B” restaurant in West Hartford, CT, of which the plaintiff was employed by the company as general manager.   The individual defendants subsequently opened up two other Plan B restaurants through B East, LLC and B Fare, LLC (“the company defendants”).   In doing so, the individual defendants did not involve the plaintiff or the company in the new restaurants, and they also used significant assets of the company for the benefit of the company defendants.   These acts allegedly amount to a breach of various duties owed by the individual defendants to the company and constitute conversion, theft and self-dealing.

In counts two and three, the plaintiff incorporates the allegations of count one but directs the claims of conversion towards the company defendants.   Count four alleges additional facts that the individual defendants conspired with the company accountant to report purchases made by the plaintiff as income of the payment, even though those purchases were made for the benefit of the company.   Count five alleges that the individual defendants caused the company to disregard its obligation under an equipment lease, which subsequently made the plaintiff personally responsible for the lease obligation.   Count six alleges that the individual defendants inexplicably “stripped” the plaintiff of his interest in the company and that he was deprived of his capital contribution.   Count seven is a CUTPA claim.

The defendants files this motion to dismiss on May 30, 2012.

There are two other lawsuits related to the present case.   First, in 2008 the plaintiff commenced an action (“Ward I” ) where he asserted direct claims based on the same factual allegations in count one of the present complaint.   Ward v. Gamble, Superior Court, judicial district of Hartford, Docket No. CV085017829S (July 23, 2009, Prescott, J.) (48 Conn. L. Rptr. 286).   The court in Ward I ruled that those claims must be brought derivatively, and dismissed the action.   In 2009, the company, under the direction of the individual defendants, commenced a lawsuit (“the 2009 litigation”) against the plaintiff for alleged breach of contract, breach of fiduciary duty, conversion, theft, fraud and CUTPA violations.  Yoshu, LLC v. Ward, Superior Court, judicial district of Hartford, Docket No. HHD–CV–095033580S.   The pleadings in the 2009 litigation have closed and the matter is currently awaiting trial.

It seems necessary to decide which of the plaintiff's claims are derivative and which are direct, as such an inquiry is necessary to determine the ultimate issue of whether the plaintiff has standing.   The defendants have argued and the plaintiff has admitted that counts four, five and six are direct claims.   For the remaining counts, the plaintiff asserts that counts one through three are pleaded as derivative or, alternatively, direct claims.   He also argues that count seven is a derivative claim.   For the following reasons, the court finds that counts one, two, three and seven are derivative claims, while counts four, five and six are all direct claims.

-I-

A derivative action is an equitable one brought on behalf of a company, where the company cannot or will not sue on its behalf for its injuries.   Ma‘Ayergi and Associates, LLC v. Pro Search, Inc., 115 Conn.App. 662, 669, 97 A.2d 724 (2009).   Generally, individual stockholders cannot sue the company officers for damages on the theory that they are entitled to damages because mismanagement has rendered their stock of less value, since the injury is generally not to the shareholder individually, but to the corporation or the shareholders collectively.   In this regard, it is axiomatic that a claim of injury, the basis of which is a wrong to the corporation, must be brought in a derivative suit, with the plaintiff deriving his rights from the corporation which is alleged to have been wronged.  May v. Coffey, 291 Conn. 106, 114, 967 A.2d 495 (2009) (quoting Yanow v. Teal Industries, Inc., 178 Conn. 262, 281, 422 A.2d 311 (1979)).   The Supreme Court has reaffirmed the general rule that “[i]n order for a shareholder to bring a direct or personal action against the corporation or other shareholders, that shareholder must show an injury that is separate and distinct from that suffered by any other shareholder or by the corporation.”

-II-

The defendant first argues that counts one, two and three must be derivative because of the earlier ruling in Ward I. In Ward I, the court addressed the plaintiff's allegations that were nearly identical to the some of the allegations in this case.   The court, after determining that derivative actions can be employed by LLC members and managers, concluded that the plaintiff was obligated to bring these claims in a derivative action because the plaintiff has alleged injuries that were not separate and distinct from those suffered by the LLC or other members.   If the plaintiff were to be successful, the “recovery should belong to Yoshu, and its members will equally enjoy (according to their percentage interests) in those damages.”  Id. The court specifically addressed whether the plaintiff's claims fell within an exception to the general rule of derivative versus direct actions.   The court determined the case did not fit within any exception because the alleged wrongful acts did not affect both the plaintiff's relationship to the LLC and the structure of the LLC, and concluded that the plaintiff lacked standing and dismissed the action.

That dismissal for lack of standing is a sufficient basis to impose collateral estoppel on the issue of standing in this case because there has been an opportunity to present evidence, see Golden Hill Paugussett Tribe of Indians v. Town of Trumbull, 49 Conn.App. 711, 714–15, 716 A.2d 920 (1998) (affirming summary judgment where collateral estoppel prevented the plaintiff from re-litigating the determination in a prior action that he lacked standing).

The determination in Ward I that the plaintiff lacked standing to bring the claims directly was necessary to the determination of the motion to dismiss.   In the absence of any other equitable reason, the court is bound by the determination in Ward I that the plaintiff was required to bring the claims in that case derivatively, rather than directly.   Accordingly, the first, second and third counts, which essentially claim that “the defendants usurped Yoshu's value and profits, and improperly used trade secrets, assets, and other proprietary information,” are claims that belong to the company and can only be brought by the plaintiff in a derivative manner.

-III-

In count seven, the plaintiff incorporates the factual allegations of count one, which are derivative in nature and relate to the defendants allegedly looting the company, and pleads those allegations as a CUTPA claim.   Because the underlying factual allegations of count seven, including the alleged injury to the company, are the same as those in counts one, two and three, the derivative nature of those counts is also the same.   Accordingly, count seven is a derivative claim as the harm described damaged the company, and, therefore, a CUTPA claim, if any, relating to such harm belongs to the company, not the plaintiff.

-IV-

Turning to the parties' more substantive arguments regarding standing, it is well settled that one cannot rightfully invoke the jurisdiction of the court unless he has, in an individual or representative capacity, some real interest in the cause of action, or a legal or equitable right, title or interest in the subject matter of the controversy.   See Smith v. Snyder, supra, 267 Conn. 460–61.

The defendants contest the plaintiff's standing to bring the derivative claims.  General Statutes § 33–721 provides the standing requirements for a shareholder in a derivative action as follows:  “A shareholder may not commence or maintain a derivative proceeding unless the shareholder:  (1) Was a shareholder of the corporation at the time of the act or omission complained of ․;  and (2) fairly and adequately represents the interests of the corporation in enforcing the right of the corporation.”

First, the defendants argue that the plaintiff cannot maintain the derivative action because the plaintiff supposedly no longer has an interest in the company.   It is true that a representative of a corporation in a derivative action must be a shareholder in that corporation to initiate and maintain a derivative action.  Guarnieri v. Guarnieri, 104 Conn.App. 810, 821, 936 A.2d 254 (2007).   In count one of his complaint, which is incorporated into count six, the plaintiff alleges that he “has an identified Company interest of 13% ․” In count six of his complaint, the plaintiff alleges that “[a]t some time during calendar year 2008, plaintiff Ward was stripped of or in some other manner deprived of his identified Company interest of 13%, had an identified Company interest of 13%,” and that he “was a minority shareholder.”   In a subsequent affidavit, the plaintiff stated that he is “currently a minority shareholder and member of [the company],” that he has “not given up my 13% interest in [the company],” and that he is “seeking to enforce [his] current 13% interest in [the company.”

The plaintiff has never mentioned any voluntary transfer of his interest in the company and the alleged wrongful deprivation of his interest but this should not eliminate his standing to bring a derivative action.   Otherwise, the wrongdoing shareholders and corporate officers would have a fool-proof method of protecting their wrongful acts from derivative actions.   Rather, a shareholder loses standing to bring a derivative action only if the shareholder has sold, transferred or otherwise voluntarily disgorged its interest in the corporation it is attempting to represent.  Bio Phram.   Co., 623 F.Sup.2d 255, 263 (D.Conn.2009), aff'd, 378 F.App'x 109 (2d Cir.2010) (shareholder sold shares six months before filing derivative action);  Halo Tech Holdings, Inc. v. Cooper, United States District Court, Docket No. 3:07–CV–489 (AHN) (D.Conn., August 29, 2008) (shareholder sold shares to a third party).   Accordingly, the plaintiff is not deprived of standing to bring the present action because of the defendant's allegation of his loss of interest in the company.

Second, the defendants argue that the plaintiff does not adequately represent the interests of the corporation for several reasons:  (1) the plaintiff's interest is inconsistent with that of the company in that the real dispute is between the plaintiff and the individual defendants;  (2) the plaintiff has asserted direct claims and recovery for those claims would come from the company;  (3) the plaintiff is a defendant in a separate action brought by the company where it is alleged that the plaintiff has engaged in “serious misconduct”;  and (4) the plaintiff is currently employed by a competitor of the company.

In determining whether a shareholder is an adequate representative of a corporation in a derivative action, “[t]he key is whether the nominal plaintiff's ․ interests and issues [are] coextensive with those of the class of shareholders he seeks to represent, and whether he is able to assure the trial court that as a representative, he will put up a real fight.”  Fink v. Golenbock, 238 Conn. 183, 206, 680 A.2d 1243 (1996).   The Supreme Court in Fink adopted from the Ninth Circuit a set of factors to consider in such an inquiry:  (1) whether the named plaintiff is the real party in interest;  (2) the plaintiff's familiarity with the litigation and willingness to learn about the suit;  (3) the degree of control exercised by attorneys over the litigation;  (4) the degree of support given to the plaintiff by the other shareholders;  (5) the plaintiff's personal commitment to the action;  (6) the remedies sought by the plaintiff;  (7) the relative magnitude of the plaintiff's personal interests as compared to the plaintiff's interest in the derivative action itself;  and (8) the plaintiff's vindictiveness toward the other shareholders.  Id., 205.   The above factors are nonexclusive and interrelated, and that it is frequently a combination of factors that guides a court in determining whether a plaintiff meets the requirements of fair and adequate representation.  Id., 205–06.

The defendants' first argument that the plaintiff's interest is inconsistent with the shareholders he seeks to represent misstates the interests that the plaintiff must allege.  “A derivative action is appropriate, not because the plaintiff is representative of the opposing shareholders, but because the corporation has interests that need to be represented, and the plaintiff shareholder may be the only representative in a position to protect those interests.”  Fink v. Golenbock, 238 Conn. 183 supra.

In light of Fink, the plaintiff is not an inadequate representative merely because the allegedly wrongdoing shareholders may have personal interests different than those of the company and the plaintiff.   See Manson v. Stacescu, 11 F.3d 1127, 1131–32 (2d Cir.1993).   Consequently, the plaintiff's interest in maintaining a derivative action to restore the value of the company is not adverse to the interests of the company or its shareholders merely because the individual defendants wish to disregard the corporate form in growing their business through competing legal entities.

The defendants' next argument relates to the plaintiff's assertion of direct claims, some of which, the defendants argue, would require recovery from the company.   But the plaintiff has not named the company as a defendant in any of its direct claims, and does not seek any damages from the company anywhere in his complaint.   For count six, any damages or remedies would clearly come from the individual defendants through a reallocation of the ownership interests in the company.   Under counts four and five, the plaintiff could likely recover a variety of incidental damages stemming from the alleged wrongful acts.   Even if the plaintiff were to claim some damages from the company, this court believes that those damages are not enough to create a significant conflict of interest between the plaintiff and the company.   It is concluded that the plaintiff's direct claims do not pose a significant conflict of interest in his representation of the company.

The defendants' two remaining arguments relate to the 2009 litigation against the plaintiff and the plaintiff's supposed employment with a competitor of the company but the 2009 litigation is largely irrelevant to the present inquiry.   See Yoshu, LLC v. Ward, Superior Court, Docket No. HHDCV095033580S.

-V-

Finally, the defendants argue that the plaintiff's complaint can be dismissed on the ground that he has failed to allege that he has complied with General Statutes § 33–722.   The plaintiff replies that it is not necessary for him to allege such compliance, and he has submitted evidence to establish that he has in fact complied with the statute.  Section 33–722 provides:  “No shareholder may commence a derivative proceeding until:  (1) A written demand has been made upon the corporation to take suitable action;  and (2) ninety days have expired from the date of delivery of the demand was made unless the shareholder has earlier been notified that the demand has been rejected by the corporation or unless irreparable injury to the corporation would result by waiting for the expiration of the ninety-day period.”

There is no clear Connecticut case law on the issue of whether a shareholder plaintiff must allege in its complaint for a derivative action that it made demand upon the directors.

On the other hand, many Superior Court cases seem to suggest that a plaintiff either needs to prove demand or allege facts that demand was futile.   First Equity Group, Inc. v. Culver, United States District Court, Docket No. 3:08–CV–01893 (VLB) (D.Conn. February 11, 2009);  Chinnicic v. Breakwater Key, Inc., Superior Court, judicial district of Fairfield at Bridgeport, Docket No. CV 92295110S (14 Conn. L. Rptr. 587);  Noble v. Baum, Superior Court, judicial district of Fairfield at Bridgeport, Docket No. CV 89 0265920S (May 17, 1991, Nigro, J.) [4 Conn. L. Rptr. 126].

In the absence of a clear appellate holding to the contrary, this court concludes that it is appropriate to only require the plaintiff to either prove demand has been made or allege particularized facts that demonstrate such demand would have been futile.

In the present action, the plaintiff has satisfactorily demonstrated that he made prior demand upon the defendants before commencing the derivative action.   The plaintiff's counsel has attested that on July 31, 2009, he delivered formal demand to the attorney of the company.   A response letter was sent by the company.   The response letter expressly references § 33–722 and makes clear that the plaintiff was providing notice under that statute.   The defendants have not offered any evidence to rebut this evidence.   The plaintiff has demonstrated that he made demand upon the company and that this action should not be dismissed merely because such demand was not alleged in the complaint.

For the foregoing reasons, the defendant's motion to dismiss is denied.

Wagner, JTR

Wagner, Jerry, J.T.R.