The Honorable Christine Ward of the Allegheny County Court of Common Pleas in Pittsburgh dismissed a consolidated shareholder derivative suit against the Board of Directors of H.J. Heinz Co. (“Heinz”) following a recommendation of dismissal by the Board’s Special Litigation Committee (“SLC”) on April 29, 2013.1 Judge Ward’s decision represents a faithful application of the American Law Institute’s Principles of Corporate Governance, which were formally adopted by the Pennsylvania Supreme Court in the landmark decision Cuker v. Mikalauskas.2
Background
On February 13, 2013, affiliates of Berkshire Hathaway Inc. and 3G Capital agreed to acquire Heinz at a 20% premium over its closing share price in a going-private transaction that would maintain Heinz’s corporate headquarters in Pittsburgh. Heinz is incorporated in Pennsylvania.
Predictably, following the announcement, a bevy of plaintiffs filed putative shareholder class actions and derivative complaints challenging the transaction on grounds that the transaction was the result of a flawed process that would unfairly benefit corporate insiders at the expense of shareholders. In response, the Board created an SLC to investigate whether Heinz should pursue derivative litigation on behalf of the Company. On April 15, 2013, after conducting a thorough investigation, the SLC filed a report with the Court of Common Pleas recommending dismissal of the suits.
Analysis
Under Cuker v. Mikalauskas and the ALI Principles of Corporate Governance, an SLC’s decision to terminate derivative litigation is a “business judgment” that is entitled to judicial deference if the SLC members were disinterested, they “exercised reasonable diligence, and if they honestly and rationally believed their decisions were in the best interests of the company.”3 A court must determine whether these standards have been met without “proceed[ing] to an examination of the merits” of the SLC’s decision, because such an inquiry “is precisely what the business judgment rule prohibits.”4 As Pennsylvania courts have repeatedly recognized, a board’s decision “regarding litigation by or on behalf of a corporation, including shareholder derivative actions, are business decisions as much as any other financial decisions. As such, they are within the province of the board of directors.”5 Thus, courts will not second guess the decisions of officers and directors in the absence of fraud or self-dealing “if [the] challenged decisions were within the scope of the directors’ authority, if they exercised reasonable diligence, and if they honestly and rationally believed their decisions were in the best interests of the company.”6
In evaluating whether a committee’s decision to terminate litigation is afforded the deference of the business judgment rule, Pennsylvania courts consider whether the committee “was disinterested, whether it was assisted by counsel, whether it prepared a written report, whether it was independent, whether it conducted an adequate investigation, and whether it rationally believed its decision was in the best interests of the corporation (i.e., acted in good faith).”7 Moreover, it is the plaintiff’s burden to plead with particularity facts that rebut the presumption that the committee acted in good faith and in the honest belief that terminating the litigation is in the best interests the company.8 If the SLC’s determination was made in accordance with these procedures, the court should not conduct an examination of the merits of the decision.
This is precisely the analysis Cuker mandates and that Judge Christine Ward employed in Heinz. Specifically, Judge Ward “analyzed the decision of the Heinz board to terminate the litigation, and has determined that each Cuker criteria is satisfied. . . .There is no evidence here of any impropriety on behalf of the SLC. There is no evidence that the decision of the SLC was motivated by anything other than the best interests of Heinz.”9 First, the Court found that the plaintiffs had failed to show that the members of the SLC were interested or not independent. Moreover, the SLC was assisted by independent counsel, it conducted an adequate investigation by reviewing more than 22,000 pages of documents and conducting sixteen interviews, and the SLC produced a 104-page written report explaining its decision. These actions made it “fairly easy to determine” that the SLC acted in good faith.10 Accordingly, the Heinz court concluded that the business judgment rule protected the SLC’s determination to terminate the litigation and granted defendants’ motion to dismiss.
Conclusion
Pennsylvania’s adoption of the ALI Principles of Corporate Governance provides considerable protection to boards of directors from meritless derivative suits. However, it is incumbent upon companies facing threatened derivative litigation to closely follow the procedures outlined in Cuker and its progeny. Judge Ward’s decision in Heinz is a model for other courts to follow by respecting the business judgment of independent members of an SLC that pursuing litigation was not in the company’s best interest.
Footnotes
