In the

United States Court of Appeals

For the Seventh Circuit ____________

No. 02-4330

JOHN P. KENNEDY, et al.,

Plaintiffs-Appellants,

v.

VENROCK ASSOCIATES, et al.,

Defendants-Appellees.

____________

Appeal from the United States District Court

for the Northern District of Illinois, Eastern Division.

No. 02 C 383—James F. Holderman, Judge.

____________

ARGUED MAY 27, 2003—DECIDED OCTOBER 29, 2003

____________

Before BAUER, POSNER, and COFFEY, Circuit Judges.

POSNER, Circuit Judge. This is a suit by common shareholders of Cadant, Inc. (now CDX Corporation). The defendants

are two corporate entities that we’ll call “Venrock” and “J.P.

Morgan” and individuals associated with them, but we

defer consideration of the individual defendants to the end

of the opinion and till then use “defendants” to denote just

the entities. The suit is based on federal securities law and

state antifraud law. It charges the defendants, though they

are not affiliated with each other (an important point to

stress, because throughout the plaintiffs’ briefs the defendants are lumped together under the name, coined by the

plaintiffs’ lawyers, “Venrock Affiliates,” which is not to be
2 No. 02-4330

confused with “Venrock Associates,” the name of one of the

defendants), with having acted “in virtual tandem” to seize

control of and plunder Cadant. In doing so they are alleged

to have violated the fiduciary duty that they owed the

plaintiffs by virtue of having obtained control of the corporation. The plaintiffs, who own roughly a quarter of the

company’s common stock, seek $100 million in damages.

Cadant is in bankruptcy, and the district judge dismissed

the complaint on the ground that the plaintiffs’ claims,

though styled as individual (“direct”) claims, really are derivative claims and thus belong to Cadant. If so, they must

be litigated in the bankruptcy court—where the plaintiffs

and the other shareholders would have to share any liquidation value with Cadant’s creditors, who happen to

include the defendants.

We construe the facts as favorably to the plaintiffs as the

record, which is limited to the 123-page complaint and the

exhibits attached to it, permits, while of course not vouching

for the accuracy of the allegations. Cadant was formed in

1998 by Venkata Majeti and others to develop cable modem

termination systems, which enable high-speed Internet

access to home computers. Though based in Illinois,

the company was incorporated in Maryland. Majeti and the

other founders received common stock in the new corporation at the outset. The company issued additional stock

the next year to the plaintiffs for $7-$8 million (the exact

amount is not in the record). The year after that the company issued the defendants preferred stock for $12 million;

others received preferred stock as well, but between them

the defendants received and still own 90 percent of it.

A principal of Venrock, named Copeland, became a member

of Cadant’s five-member board of directors. The other four

board members, however, had no affiliation with either

Venrock or J.P. Morgan. The plaintiffs irresponsibly contend
No. 02-4330 3

that one of the four, a Mr. Rochkind, though unaffiliated

with either Venrock or J.P. Morgan, owned some of the

preferred stock in Cadant and was therefore “aligned” with

the defendants.

The following year, 2000, the board turned down a tentative offer by ADC Telecommunications to buy Cadant for

some $300 million. Later that year the board proposed and

the shareholders approved the reincorporation of Cadant in

Delaware, which provides less protection to minority

shareholders than Maryland does.

By the beginning of 2001, Cadant, like many other start-up

companies in Internet-related businesses, was in deep

financial trouble. The defendants—having spurned more

favorable financing possibilities for Cadant (the leitmotif of

this suit is that the defendants, although controlling the

company, repeatedly missed chances to sell or finance it that

would have saved it from insolvency)—agreed with each

other and with the board of directors to make Cadant an $11

million bridge loan. (A bridge loan is a short-term loan to

tide the borrower over while he seeks longer-term financing.) The loan was for 90 days at an annual interest rate of

10 percent and also gave the lenders warrants (never

exercised) that they could use to purchase common stock.

The terms were highly favorable to the lenders.

Only about 60 percent of the $11 million loan was lent

by the defendants. The other owners of preferred stock were

eligible to participate in the loan, including the director who

though not affiliated with either Venrock or J.P. Morgan

owned some of that stock. It is unclear whether he participated in the loan, but probably he did because the board

voted him some options to buy common stock in Cadant.

Shortly before the bridge loan was made, a representative

of J.P. Morgan had been added to Cadant’s board, raising
4 No. 02-4330

the number of directors to six. And earlier, in September,

one of the independent directors had been replaced by an

employee of J.P. Morgan named Lyon, so that half the board

was now controlled by the defendants. Shortly afterwards,

still another representative of the defendants was added to

the board, so that between them the defendants at last

controlled a majority of the board’s members (four out of

seven). But this lasted only until March (2001), by which

time Lyon had resigned from J.P. Morgan (the exact date of

his resignation is unclear).

Within a couple of months of receiving the bridge loan,

Cadant had run through the entire $11 million. In May the

defendants arranged for a second bridge loan, this one for

$9 million, which gave the lenders (who again included the

defendants) a preference in the event that Cadant was sold

or otherwise liquidated: they would be entitled to “an

amount equal to 200% of (i) outstanding principal amount

of the Loans plus (ii) any accrued but unpaid interest thereon.” (On liquidation preferences generally, see Don Clark &

Lisa Bransten, “E-Business: Starting Gate,” Wall St. J., Mar.

19, 2001, at B6; Colin Blaydon & Michael Horvath, “Liquidation Preferences: What You May Not Know,” Venture

Capital J., Mar. 1, 2002, p. 45; see also Ravi Chiruvolu, “It

May Be Time to Hit the Reset Button on Liquidation

Preferences,” Venture Capital J., July 2002, p. 28. Of course a

“liquidation preference” of sorts is implicit in the status of

a lender or a preferred shareholder, since both have priority

over common shareholders.) The first loan was then

amended to add a (smaller) liquidation preference. The

defendants discouraged a search for alternative financing on

terms that would have been more favorable to Cadant,

because they wanted to suck out Cadant’s assets by means

of the liquidation preferences.

Cadant defaulted on the second bridge loan. The lenders

did not foreclose. Instead Cadant sold its entire assets to a
No. 02-4330 5

firm called Arris Group in exchange for stock worth at the

time of the sale (January 2002) some $55 million, an amount

just large enough to satisfy the claims of Cadant’s creditors

and preferred shareholders. The board turned down alternatives that would have been better for Cadant but worse

for the defendants, who remember were preferred shareholders but also creditors by virtue of the bridge loans. The

sale to Arris was approved by Cadant’s board and also, as

required by Delaware law and the articles of incorporation,

by a simple majority of Cadant’s common and preferred

shareholders voting together as a single class and a simple

majority of the preferred shareholders voting separately.

Approval by two-thirds of “of all the votes entitled to be

cast on the matter” would have been required had Maryland rather than Delaware corporation law governed

Cadant, as it had done originally. Md. Code Ann., Corporations & Associations § 3-105(e). For while Maryland permits

a corporation to opt out of the two-thirds requirement, id.,

§ 2-104(b)(5), Cadant had not done so. The record is silent

on whose votes were “entitled to be cast on the matter” (just

common shareholders, or preferred shareholders as well?),

so we do not know the exact change in shareholders’ rights

that was brought about by the reincorporation.

The Arris stock became the property of the bankrupt

estate. But because its price has since fallen by 60 percent

(and it is Cadant’s only asset), the estate is now worth even

less than the claims of the bridge lenders and other creditors; and so the plaintiffs and the other shareholders, including the defendants in their capacity as owners of

preferred stock in Cadant, stand to lose their entire investment. The plaintiffs argue that by becoming creditors the

defendants wrongfully appropriated Cadant’s value.

When a corporation is injured by a wrongful act but the

board of directors refuses to seek legal relief, a shareholder
6 No. 02-4330

can sue the wrongdoer on behalf of the corporation. Alabama

By-Products Corp. v. Cede & Co., 657 A.2d 254, 265 (Del.

1995); Rales v. Blasband, 634 A.2d 927, 932 (Del. 1993); Kamen

v. Kemper Financial Services, Inc., 500 U.S. 90, 95-96 (1991); In

re Abbott Laboratories Derivative Shareholders Litigation, 325

F.3d 795, 803-04 (7th Cir. 2003); Fogel v. Zell, 221 F.3d 955,

965 (7th Cir. 2000); Stepak v. Addison, 20 F.3d 398, 402 (11th

Cir. 1994); see also Parnes v. Bally Entertainment Corp., 722

A.2d 1243, 1245 (Del. 1999). Such a suit is known as a

derivative suit, and is an asset of the corporation— which

means that if, as in this case, the corporation is in bankruptcy, the suit is an asset of the bankrupt estate. 11 U.S.C.

§ 541(a)(1); Pepper v. Litton, 308 U.S. 295, 306-07 (1939); Koch

Refining v. Farmers Union Central Exchange, Inc., 831 F.2d

1339, 1343-44 (7th Cir. 1987); In re Ionosphere Clubs, Inc., 17

F.3d 600, 604 (2d Cir. 1994). As common shareholders of a

bankrupt corporation, the plaintiffs very much do not want

to be in bankruptcy court, where they would be entitled to

nothing until all other claimants to the corporation’s assets

were paid in full, and so they claim to have individual

rather than derivative claims against the defendants, the

alleged wrongdoers.

They seek to fit their case into the familiar framework of

a suit by a minority shareholder against a majority shareholder. The latter has a fiduciary obligation to the former.

Kahn v. Lynch Communication Systems, Inc, 638 A.2d 1110,

1113-14 (Del. 1994); In re MAXXAM, Inc., 659 A.2d 760,

771 (Del. Ch. 1995); Southern Pacific Co. v. Bogert, 250 U.S.

483, 487-88 (1919); Pepper v. Litton, supra, 308 U.S. at 306-07;

In re Lifschultz Fast Freight, 132 F.3d 339, 344 n. 2 (7th Cir.

1997); Rademeyer v. Farris, 284 F.3d 833, 837 (8th Cir. 2002).

The breach of that obligation is a wrong to the minority

shareholder rather than to the corporation, since, at least as

a first approximation, all it does is redistribute wealth from

him to the majority shareholder; it does not reduce the value
No. 02-4330 7

of the corporation. To force the minority shareholder’s suit

into the derivative mold would have the paradoxical result

that the majority shareholder would be the main beneficiary

of any judgment or settlement that resulted from the suit; he

would be on both sides of the litigation. But that is not this

case.

The question whether a suit is derivative by nature or may

be brought by a shareholder in his own right is governed by

the law of the state of incorporation, Frank v. Hadesman &

Frank, Inc., 83 F.3d 158, 159 (7th Cir. 1996); Bagdon v.

Bridgestone/Firestone, Inc., 916 F.2d 379, 382 (7th Cir. 1990);

7547 Corp. v. Parker & Parsley Development Partners, 38 F.3d

211, 220-21 (5th Cir. 1994), in this case Delaware. The

plaintiffs complain about Cadant’s having been reincorporated in Delaware, but that is immaterial so far as the law

applicable to the choice between derivative and direct suits

is concerned because Maryland uses the same basic approach (albeit formulated somewhat differently) to derivative status as Delaware does. Compare Waller v. Waller, 49

A.2d 449, 452-53 (Md. 1946), and Danielewicz v. Arnold, 769

A.2d 274, 284 (Md. App. 2001), with Kramer v. Western

Pacific Industries, Inc., 546 A.2d 348, 351 (Del. 1988), and

Moran v. Household International, Inc., 490 A.2d 1059, 1070

(Del. Ch. 1985), aff'd, 500 A.2d 1346 (Del. 1985). It is true

that Strougo v. Bassini, 282 F.3d 162, 171-72 n. 6 (2d Cir.

2002), conjectured that Delaware may require that the harm

to the plaintiff shareholders be different from the harm to

the rest of the common shareholders (the “undifferentiated

harm” test) for a direct suit to lie, though no Delaware case

says this. But probably all that is meant by the reference to

“undifferentiated harm” is that if all the common shareholders are harmed equally, the case is unlikely to fit the

majority-oppressing-the-minority pattern that allows a

direct suit to be brought.
8 No. 02-4330

In any event the plaintiffs cannot complain about the application of Delaware law in consequence of the reincorporation of Cadant in Delaware because the very case they

rely on to show they’re entitled to bring a direct suit is a

Delaware case. In re Tri-Star Pictures, Inc., Litigation, 634

A.2d 319 (Del. 1993), imposed the fiduciary obligation that

a majority shareholder owes minority shareholders on a

nonmajority shareholder, Coca-Cola. Tri-Star will not do the

trick for the plaintiffs in our case, however. The extension of

fiduciary duty by that decision was a modest one, as our

plaintiffs’ own summary of the case makes clear: “The

control and domination by Coca-Cola was established by

the shareholder agreements which gave it voting control

over 56.6% of the outstanding stock and eight out of ten

board seats.” If shareholders owning in the aggregate a

majority of the corporation’s common stock get together and

agree to use their control of the corporation to plunder the

minority shareholders, the latter have suffered an individual

wrong and can sue the controlling shareholders directly. See

also Rabkin v. Philip A. Hunt Chemical Corp., 547 A.2d 963,

969 (Del. Ch. 1986); compare Behrens v. Aerial Communications Inc., 2001 WL 599870, at *3, 5 (Del. Ch.). In the case of

oppression by a majority created by contract, just as in the

case of oppression by a majority based on single ownership,

there may have been no injury to the corporation, and

therefore no occasion for the filing of a derivative suit. The

more valuable a corporation is, the more valuable the

control of it is. The controlling shareholders want a larger

slice of the pie, not a smaller pie, though if the larger slice of

a smaller pie is larger than the smaller slice of a larger pie,

they will go for the former.

There are two critical differences between this case and

Tri-Star. The first is that there was no agreement between

Venrock and J.P. Morgan (nor do they have overlapping

ownership or management) to control Cadant, as there was
No. 02-4330 9

between Coca-Cola and other shareholders, together constituting a majority, to control Tri-Star. The plaintiffs’ concocted term “Venrock Affiliates” and the expression “in

virtual tandem” are obfuscations intended to conceal the

absence of an agreement or conspiracy, nowhere alleged in

the complaint and expressly disclaimed in the plaintiffs’

reply brief. Venrock and J.P. Morgan, as large investors in

Cadant, had parallel interests—that much is certainly true.

But if having parallel interests is enough to make investors

a control group owing a fiduciary obligation to the other

investors, judicial interference in the affairs of corporations

will be enormously magnified. There is no legal or economic

basis for extending fiduciary obligation so far.

Second, the defendants were not common shareholders at

all, let alone a controlling bloc of them. The statement in the

plaintiffs’ opening brief that “Venrock Affiliates was

a controlling shareholder who owed a fiduciary duty to

the other stockholders of Cadant” is nonsense. Remember,

there is no such entity, whether loose-knit or tight-knit, as

“Venrock Affiliates.” The defendants never exercised their

warrants to purchase common stock.

If an entity that is not a common shareholder steals a corporation’s assets, the corporation is the victim of the wrong

and owns the cause of action against the thief. We cannot

see what difference it makes whether the thief is a complete

outsider or, as in this case, a preferred shareholder, who is

a kind of lender, or at least quasi-lender, because on the one

hand he has a specified return but on the other hand the

return can be changed by the corporation and he has more

authority over management than a conventional lender. See,

e.g., “Preferred Stock,” Management and Technology Dictionary, http://www.legamedia.net/lx/result/match/

3216767669113a143fc04522d/index.php (“most people see

preferred stock as debt with a tax advantage.”); Lee A.
10 No. 02-4330

Sheppard, “Should Junk Bond Interest Deductions Be Disallowed?” 34 Tax Notes 1142, 1146 (1987); Bruce N. Davis &

Steven R. Lainoff, “U.S. Taxation of Foreign Joint Ventures,”

46 Tax L. Rev. 165, 219 (1991). Who steals assets of a corporation injures the corporation, and the right of redress therefore belongs to the corporation, and so the plaintiffs could

not maintain this suit as a direct suit against Venrock and

J.P. Morgan even if the defendants had conspired with each

other to control Cadant and had succeeded in controlling it.

We would have a different case had the defendants exercised their warrants and become common shareholders.

That would have diluted the voting power of the plaintiffs

vis-à-vis the defendants. Lipton v. News Int’l, Plc., 514 A.2d

1075, 1078-79 (Del. 1986); Reifsnyder v. Pittsburgh Outdoor

Advertising Co., 173 A.2d 319, 322-23 (Pa. 1961); Avacus

Partners, L.P. v. Brian, 1990 WL 161909, at *6-7 (Del. Ch.). It

would have redistributed power, and hence potentially

wealth, between two groups of common shareholders, injuring one group without, once again, necessarily injuring

the corporation. As Lipton and Reifsnyder put it, there would

be an injury to the plaintiffs’ contractual rights. There was

no dilution in this case because the defendants never

became common shareholders.

But although this suit thus cannot be maintained as a

direct suit against Venrock and J.P. Morgan, remember that

the suit is against individuals as well. Cadant’s directors are

accused of having issued a misleading proxy statement as

a result of which the common shareholders, including the

plaintiffs, were bamboozled into agreeing to the reincorporation of Cadant in Delaware, which gives shareholders less protection than Maryland does. Directors, like

majority shareholders (and thus unlike Venrock or J.P.

Morgan), have of course a fiduciary obligation to the shareholders. The charge that Cadant’s directors issued a mis-
No. 02-4330 11

leading proxy statement in violation of their fiduciary

obligation is a legitimate direct claim, In re Tri-Star Pictures,

Inc., Litigation, supra, 634 A.2d at 330-32, since the effect of

the reincorporation was to reduce the shareholders’ power

over the corporation’s affairs rather than to reduce the value

of the corporation. It shows by the way that a direct suit is

not necessarily precluded by the common shareholders’

having suffered an “undifferentiated harm.” They can suffer

such a harm without the corporation’s being injured. A

corporation might be worth as much after the directors

decided that shareholders would no longer be entitled to

vote on any matter as it had been worth before.

Only there was no fraud, at least no actionable fraud, regarding the reincorporation. The proxy statement contained

more than 20 pages on the differences between Maryland

and Delaware law, and specifically mentioned that certain

transactions that require a supermajority in Maryland can

be approved in Delaware by a simple majority. There is no

actionable fraud without reasonable reliance, and reliance

cannot be reasonable when it presupposes a failure to read

clear language. Carr v. CIGNA Securities, Inc., 95 F.3d 544,

547 (7th Cir. 1996); In re Mayer, 51 F.3d 670, 676 (7th Cir.

1995); Jackvony v. RIHT Financial Corp., 873 F.2d 411, 416-17

(1st Cir. 1989); Zobrist v. Coal-X, Inc., 708 F.2d 1511, 1517-

19 (10th Cir. 1983).

The plaintiffs complain about other omissions from the

proxy statement as well, concerning Cadant’s dismal financial condition, conflicts of interest of directors, and “biographies of directors, director compensation, if any, amount of

stock held by officers, directors, and 5% owners, executive

compensation, related party transactions, compensation

paid to officers and information regarding employment

contracts.” Such omissions might or might not be material.

Current financial information isn’t always material to the
12 No. 02-4330

election of directors, who after all are not responsible for the

day-to-day running of the corporation (it is even less likely

to be material to a decision to reincorporate in another

state); and so there is no per se rule that financial information must be included in a proxy solicitation— its materiality must be demonstrated case by case. See Loudon v. ArcherDaniels-Midland Co., 700 A.2d 135, 143 (Del. 1997); compare

Arnold v. Society for Savings Bancorp, Inc., 650 A.2d 1270 (Del.

1994). Failing to mention a director’s conflict of interest can

make a proxy statement false and misleading, even when

the directors are running unopposed, Millenco L.P. v. meVC

Draper Fisher Jurvetson Fund I, Inc., 824 A.2d 11 (Del. Ch.

2002), although the potential conflicts alleged here—Lyon’s

soon-to-be-terminated employment with J.P. Morgan,

Copeland’s employment with Venrock, and the fact that

several directors owned preferred shares—seem pretty

tepid.

As for the “biographies,” contracts, and other records,

we are not told what damaging information these might

have revealed that should have been disclosed in the proxy

statement. We cannot tell, therefore, whether there might be

a viable claim buried somewhere in the quoted passage.

What is more, the quotation comes from the plaintiffs’

opening brief rather than from their complaint, where no

such charge is made. They explain that in their brief they are

merely embroidering the terse charge in the complaint that

“the Defendant Venrock Affiliates and the First Venrock

Bridge Affiliates [another fictitious name] breached their

fiduciary duties to Cadant by . . . submitting a proxy

statement to the common stockholders of Cadant containing

material omissions and misstatements, for the purpose of

removing control of Cadant from the common stockholders.” They cite cases that permit plaintiffs to defend against

dismissal by alleging in their brief facts consistent with but

not contained in the complaint. Albiero v. City of Kankakee,
No. 02-4330 13

122 F.3d 417, 419 (7th Cir. 1997); Orthmann v. Apple River

Campground, Inc., 757 F.2d 909, 915 (7th Cir. 1985); cf. Pegram

v. Herdrich, 530 U.S. 211, 230 n. 10 (2000); Southern Cross

Overseas Agencies, Inc. v. Wah Kwong Shipping Group Ltd., 181

F.3d 410, 428 n. 8 (3d Cir. 1999). But such supplementation

cannot save the charge if the charge is one of fraud, because

a charge of fraud must be pleaded with particularity. Fed. R.

Civ. P. 9(b). It is not even enough for the plaintiff to submit

affidavits that particularize the complaint’s charge of fraud.

Miller v. Gain Financial, Inc., 995 F.2d 706, 709 (7th Cir. 1993).

A fortiori he cannot use his appeal brief to plead for the first

time with the requisite particularity. The complaint must

allege “the identity of the person making the misrepresentation, the time, place, and content of the misrepresentation,

and the method by which the misrepresentation was

communicated to the plaintiff.” Sears v. Likens, 912 F.2d 889,

893 (7th Cir. 1990); see also Bankers Trust Co. v. Old Republic

Ins. Co., 959 F.2d 677, 682 (7th Cir. 1992); Midwest Commerce

Banking Co. v. Elkhart City Centre, 4 F.3d 521, 524 (7th Cir.

1993); DiLeo v. Ernst & Young, 901 F.2d 624, 627 (7th Cir.

1990). “[S]ubmitting a proxy statement to the common

stockholders of Cadant containing material omissions and

misstatements, for the purpose of removing control of

Cadant from the common stockholders” does not satisfy this

standard. Elsewhere in the complaint the plaintiffs do

specify the time and place of the alleged omissions and

misstatements, but do not say what they were.

But in charging that the proxy statement contained material omissions and misstatements, are the plaintiffs charging fraud, and fraud alone? For if not, Rule 9(b) falls out of

the picture. Plaintiffs don’t have to charge fraud in a case

such as this in order to state a claim. Negligent omission of

material information from a proxy statement violates both

federal securities law, see Section 14(a) of the Securities

Exchange Act of 1934, 15 U.S.C. § 78n(a); 17 C.F.R.
14 No. 02-4330

§ 240.14a-9; Dasho v. Susquehanna Corp., 461 F.2d 11, 29-30

n. 45 (7th Cir. 1972); Wilson v. Great American Industries, Inc.,

855 F.2d 987, 995 (2d Cir. 1988); Shidler v. All American Life

& Financial Corp., 775 F.2d 917, 926-27 (8th Cir. 1985), and

Delaware law, which governs claims for breach of the fiduciary duty of disclosure by directors of Delaware corporations. Oliver v. Boston University, 2000 WL 1091480, at *8

(Del. Ch. 2000). Rule 9(b) is strictly construed; it applies to

fraud and mistake and nothing else. Leatherman v. Tarrant

County Narcotics Intelligence & Coordination Unit, 507 U.S.

163, 168 (1993); Pizzo v. Bekin Van Lines Co., 258 F.3d 629,

634 (7th Cir. 2001); Hammes v. AAMCO Transmissions, Inc.,

33 F.3d 774, 778 (7th Cir. 1994); In re NationsMart Corp.

Securities Litigation, 130 F.3d 309, 315 (8th Cir. 1997). And if

both fraudulent and nonfraudulent conduct violating the

same statute or common law doctrine is alleged, only the

first allegation can be dismissed under Rule 9(b), Lone Star

Ladies Investment Club v. Schlotzsky’s Inc., 238 F.3d 363, 368-

69 (5th Cir. 2001); In re NationsMart Corp. Securities Litigation,

supra, 130 F.3d at 315, though if, while the statute or common law doctrine doesn’t require proof of fraud, only a

fraudulent violation is charged, failure to comply with Rule

9(b) requires dismissal of the entire charge. Vess v. CibaGeigy Corp. USA, 317 F.3d 1097, 1103-05 (9th Cir. 2003);

Shapiro v. UJB Financial Corp., 964 F.2d 272, 288 (3d Cir.

1992).

The complaint does not charge that the directors’ failure

to disclose their “biographies” and other information in

records and contracts was fraudulent. Although the complaint does state that the defendants’ lawyers “knew or

should have known that the Proxy Statement was fraudulent and misleading,” this does not necessarily mean that all

the omissions complained of were fraudulent. In their briefs

in this court, however, the plaintiffs make clear that they

indeed are claiming that all the omissions were fraudulent.
No. 02-4330 15

For example, the omissions are discussed in a section of the

plaintiffs’ opening brief captioned: “The proxy [statement]

was fraudulent for a host of reasons not addressed by the

district court.” It is apparent that if the case were to be

remanded, the plaintiffs would try to prove that the omissions were fraudulent, and that they have no alternative

theory of liability. If, then, the briefs are treated as amending the complaint to make clear that the omissions are being

complained of solely because they were fraudulent, Rule

9(b) has been violated.

It is true that a plaintiff cannot amend his complaint in his

appeal brief. Harrell v. United States, 13 F.3d 232, 236 (7th

Cir. 1993); Thomason v. Nachtrieb, 888 F.2d 1202, 1205 (7th

Cir. 1989). But just as he might make a concession in his

brief that showed that his case has no merit, though that

might not have been apparent from the complaint, Harrell v.

United States, supra, 13 F.3d at 235-36, so he can be estopped

by statements in his appeal brief to deny the interpretation

that the brief places on the complaint, if the invocation of

estoppel is required for the protection of his opponent. As

it is here. A principal purpose of requiring that fraud be

pleaded with particularity is, by establishing this rather

slight obstacle to loose charges of fraud, to protect individuals and businesses from privileged libel (privileged because

it is contained in a pleading). Ackerman v. Northwestern

Mutual Life Ins. Co., 172 F.3d 467, 469-70 (7th Cir. 1999);

Bankers Trust Co. v. Old Republic Ins. Co., supra, 959 F.2d at

682-83; Vess v. Ciba-Geigy Corp. USA, supra, 317 F.3d at 1104;

In re Burlington Coat Factory Securities Litigation, 114 F.3d

1410, 1418 (3d Cir. 1997); Ross v. Bolton, 904 F.2d 819,

823 (2d Cir. 1990). That purpose is thwarted by the filing of

a stealth complaint in which allegations of fraud are

avoided only to be added later by way of brief or other

filing. Such an end run should not be permitted. This

conclusion is supported by Nolan Bros., Inc. v. United States
16 No. 02-4330

for Use of Fox Bros. Construction Co., 266 F.2d 143, 145-

46 (10th Cir. 1959), which holds that the word “fraud” need

not appear in the complaint in order to trigger Rule 9(b). Cf.

Minger v. Green, 239 F.3d 793, 800-01 (6th Cir. 2001).

Rule 9(b) does not permit us to dismiss the fraud allegations that are based on the failure of the proxy statement to

disclose Cadant’s financial information and directors’ conflicts of interest. But those charges fall, on the merits, with

the charge of fraudulent nondisclosure of the reincorporation (which we said was not fraudulent). The key allegation in the complaint against the director defendants is that

they “submitted a proxy statement to the common stockholders of Cadant containing material omissions and

misstatements, for the purpose of removing control of Cadant

from the common stockholders” (emphasis added). The only

“removal of control” charged is the reincorporation of

Cadant in Delaware, which reduced the shareholders’ control over certain transactions. As to that, the shareholders

could not be deceived, because the proxy statement described the consequences of reincorporation at great length.

All the other charges in the complaint involve injury to the

corporation. The common shareholders were injured by that

injury, but that makes their claim against the defendants,

the injurers, indirect and so bars their prosecuting the claim

outside of the bankruptcy proceeding.

AFFIRMED.

A true Copy:

Teste:

 _____________________________

Clerk of the United States Court of 
No. 02-4330 17

Appeals for the Seventh Circuit 

USCA-02-C-0072—10-29-03