Recent Developments in Shareholder Derivative Litigation Concerning Diversity in Corporate Leadership

Background on Shareholder Diversity Suits

Jones Day has continued to monitor a series of lawsuits filed in federal court since last July, relating to an alleged lack of diversity among corporate leadership. As discussed in our September 2020 Commentary, these lawsuits generally allege that defendant officers and directors made material misstatements and omissions to investors regarding their companies' professed commitment to achieving and maintaining diversity and inclusion. According to the lawsuits, the alleged lack of diversity demonstrates that defendants have made no real efforts to achieve diversity and inclusion.

Since our last Commentary, four additional lawsuits have been filed in California. Like the six previously filed actions, these lawsuits have been filed against large public companies, primarily by the same California-based plaintiffs' law firm. The claims in these recent suits are similar to the ones from the earlier cases, including alleged violations of Section 14(a) of the Exchange Act for material misstatements in annual proxy statements, and claims against the companies' directors and officers alleging that they violated their fiduciary duties by failing to achieve diversity and inclusion.

Legal Implications

While new lawsuits continue to be filed, defendants in several cases have won motions to dismiss on various grounds. Most notably, in March 2021, Northern District of California Magistrate Judge Laurel Beeler granted Facebook's motion to dismiss plaintiff's claim under Section 14(a) of the Exchange Act on the grounds that plaintiff (i) failed to make a pre-suit demand or plead demand futility with particularity and (ii) failed to plead an actionable false statement. With respect to the latter holding, Judge Beeler found that defendants' statements regarding diversity in the company's proxy statements were aspirational, and thus nonactionable. Judge Beeler also found that plaintiff did not adequately allege facts sufficient to support a claim of widespread unlawful practices because the factual allegations were largely incorrect. Plaintiff also failed to identify any basis for inferring that the diversity-related statements formed an essential link to a loss-generating corporate action. The court also severed the Section 14(a) claim from the accompanying state law claims, and dismissed the state law claims under forum non conveniens because Facebook's forum-selection clause in its certificate of incorporation required the derivative action to be filed in the Delaware Court of Chancery.

In May, Oracle also won its motion to dismiss on similar grounds. Northern District of California Magistrate Judge Jacqueline Scott Corley dismissed plaintiffs' Section 14(a) claim because plaintiffs did not make a pre-suit demand and failed to allege demand futility with particularity. Specifically, Judge Corley found that plaintiffs failed to plead particularized facts supporting an inference that the challenged statements were false or misleading given that the aspirational statements in question were not capable of objective verification. Therefore, plaintiffs failed to plead that any director faced a substantial likelihood of liability. Additionally, like the Facebook case, the Section 14(a) claim was severed from the state law claims, and the state law claims were dismissed under forum non conveniens because Oracle's bylaws included a forum-selection clause requiring derivative actions to be brought in the Delaware Court of Chancery.

The Gap won its motion to dismiss in April on narrower grounds. There, Northern District of California Magistrate Judge Sallie Kim dismissed plaintiff's Section 14(a) claim and related state law claims under forum non conveniens because The Gap had a forum-selection clause in its bylaws requiring derivative actions to be filed in the Delaware Court of Chancery. Judge Kim found that plaintiff failed to demonstrate that enforcing the forum-selection clause against the Section 14(a) claim would contravene a strong public policy of the Northern District of California. Judge Kim did not discuss plaintiff's Section 14(a) claims in much detail, but this decision, along with the Facebook and Oracle decisions, may indicate an emerging pattern. The forum-selection clauses in these cases have been clear, resulting in a major hurdle for plaintiffs. Coupled with an inability to meet the pleading requirements associated with Section 14(a) claims, we expect plaintiffs to continue to be dismissed out of federal court, barring a change in strategy.

Most recently, in late June, Danaher Corporation won a motion to dismiss on the grounds that plaintiffs failed to allege demand futility with particularity. District of Columbia Judge Trevor McFadden found plaintiffs had not shown that the directors were "interested," or in other words, that they faced a substantial likelihood of personal liability as to any of plaintiffs' claims, which included a Section 14(a) claim and accompanying state law claims. As a result, Judge McFadden found plaintiffs were required to make a demand on Danaher's board, but they failed to do so.

Despite these early successes, companies should remain focused on ESG disclosures, especially given recent indications from SEC Chair Gary Gensler. The SEC has made it clear that it believes ESG reporting is important, and that it deems arguments in favor of a single global ESG reporting framework as persuasive. An overhaul of the ESG disclosure framework may very well prompt a wave of similar lawsuits focusing on potential forms of liability for company leadership related to diversity and other ESG-related goals.