The New Jersey Legislature is debating the enactment of a bill which, if enacted would change the current law governing derivative proceedings and shareholder class actions. Although, the bill repeals the current law concerning actions brought in the right of a corporation by a shareholder, N.J.S.A. 14A:3-6, and supplements the "New Jersey Business Corporation Act" with a new set of regulations concerning derivative proceedings, certain substantive provisions of the repealed section would remain. Certain provisions of the bill are also applicable to shareholder class actions against a corporation or its directors arising out of breach of duty imposed by New Jersey statutory or common law.
Under the bill, the regulations governing derivative proceedings and shareholder class actions are applicable only if the certificate of incorporation makes them applicable. The bill raises the value of plaintiffs’ shareholdings required to avoid the need to post security for a fee award, which had not been increased since 1968, to $250,000. The current law is that a shareholder need not post a bond if their interest in the company exceeds $25,000. The bill also adds the judicially developed concept that the shareholder plaintiffs must continue to hold the shares throughout the derivative proceeding. Under the current law, the party asserting the derivative action may sell their shares during the course of the litigation and still maintain the cause of action derivatively.
Under the bill, a New Jersey corporation may amend its certificate of incorporation to supersede judicial case law developments regarding demand requirements and adopt the statutory standards. For example, before the derivative action may be filed the complaining shareholder is required to send the corporation a written demand. The corporation shall have no less than 90 days to respond. As I stated in an earlier post, under the current law, a pre-suit demand is not necessary if the demand would be “futile.” In re PSE& G Shareholders Litigation, 173 N.J. 258, 278 (2002). If enacted, the corporation could require that a pre-suit demand be made even if it would be “futile.” Hence, it would appear, if this bill is enacted, the holding In Re PSE&G Shareholders Litigation would be moot under most circumstances. That is because, if adopted by a corporation, demand is required in every derivative proceeding and disinterested directors, shareholders, or court appointed professionals are authorized to make the decision that, after a good faith investigation, the derivative proceeding is not in the best interests of the corporation.
The bill also adds a requirement that the person asserting the derivative claim must demonstrate to the Court that they “fairly and adequately represent the interests of corporation in enforcing the right of the corporation.” The current law does not require the same.
Although the bill, if enacted would affect the ability of shareholders to assert derivative claims in large New Jersey corporation, I do not foresee if affecting shareholders in smaller companies. First, shareholders in closely held companies (those with 25 or less shareholders) will still be able to assert claims pursuant to New Jersey’s minority oppression statute, N.J.S.A. 14A:12-7(c). Moreover, in companies with slightly more than 25 shareholders, it seems more likely than not that the complaining shareholder’s interest will either be greater than $250,000, or they will control more than 5% of the company.