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ORDER TO SHOW CAUSE

UNITED STATES DISTRICT COURT

WESTERN DISTRICT OF WASHINGTON

AT SEATTLE

_______________________________________)

 ) Master File No. C06-794RSL

In re F5 NETWORKS, INC. DERIVATIVE )

LITIGATION. ) ORDER TO SHOW CAUSE

)

)

)

_______________________________________)

I. INTRODUCTION

This matter comes before the Court on “Nominal Defendant F5 Networks, Inc.’s Motion

to Dismiss Amended Complaint for Failure to Make Demand” (Dkt. #49). In its motion,

nominal defendant F5 Networks, Inc. (“F5”) requests dismissal of plaintiffs’ derivative

complaint because plaintiffs did not make a pre-litigation demand on F5’s board of directors and

plaintiffs have failed to plead particularized facts showing that demand was excused as futile. 

As set forth below, the Court orders the parties to show cause why the Court should not certify a

question asking the Washington State Supreme Court to provide the substantive standard

establishing when demand is excused under RCW 23B.07.400(2) in a shareholder derivative

action against a Washington corporation. 

II. DISCUSSION

A. Background

This action arises out of the recent publicity focused on companies that allegedly

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ORDER TO SHOW CAUSE -2-

backdated stock options as a form of compensation to high-level executives. On May 16, 2006,

the Center for Financial Research and Analysis (“CFRA”) issued a report entitled “Options

Backdating, Which Companies Are At Risk?” in which CFRA reviewed the option prices of 100

public companies and, based upon an analysis of the exercise prices of option grants with

reference to the companies’ stock prices, concluded that 17% of the subject companies, were in

CFRA’s view, “at risk for having backdated option grants during the period 1997 to 2002.” See

Dkt. #54, Ex. 1 (F5’s Form 10-K/A filed with the SEC on December 12, 2006) at 20. F5 was

one of the 17 companies so identified. Id.; see also James Bandler et al., Criminal Probe Of

UnitedHealth’s Options Begins, Wall St. J., May 18, 2006, at C1 (“An accounting-research firm

this week identified 17 companies it termed as having ‘the highest risk of having backdated

options.’”). Shortly thereafter, F5 announced that it had received a grand jury subpoena from

the Eastern District of New York and a notice of informal inquiry from the Securities and

Exchange Commission (“SEC”). See Dkt. #54, Ex. 1 at 10. This set off a rush to the

courthouse. 

In 2006, there were a total of six F5 related shareholder derivative actions pending before

this Court: (1) Hutton v. McAdam, et al. (Case No. C06-794RSL); (2) Wright v. Amdahl, et al.

(Case No. C06-872RSL); (3) Adams v. Amdahl, et al. (Case No. C06-873RSL); (4) Locals 302

and 612 of the Int’l Union of Operating Eng’rs-Employers Constr. Indus. Ret. Trust v. McAdam,

et al. (Case No. 06-1057RSL) (hereinafter “Locals Trust”); (5) Easton v. McAdam, et al. (Case

No. C06-1145RSL); and (6) Sommer v. McAdam, et al. (Case No. C06-1229RSL). On

September 12, 2006, the Court remanded the Wright and Adams actions to King County

Superior Court, and on September 28, 2006, the Court signed an order granting the parties’

stipulation for remand in Sommer. See Dkt. #22 in C06-872; Dkt. #34 in C06-873; and Dkt. #18

in C06-1229. Wright, Adams, and Sommer were consolidated in King County Superior Court

before the Honorable William L. Downing and have been stayed pending the federal court

actions (see King County Superior Court Nos. 06-2-17195-1SEA; 06-2-19159-5SEA; and 06-2-

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26248-4SEA). On October 2, 2006, the Court signed an order on the parties’ stipulation in

Hutton, Locals Trust, and Easton, consolidating these actions for all purposes, appointing lead

plaintiff and lead counsel, and setting the schedule for filing a consolidated complaint. See Dkt.

#37 in C06-794. Under this order, Locals 302 and 612 of the International Union of Operating

Engineers-Employers Construction Industry Retirement Trust (hereinafter “Locals 302 and 612”

or “lead plaintiff”) was appointed lead plaintiff charged with filing a consolidated complaint. Id.

at 3. On November 20, 2006, lead plaintiff filed a “Consolidated Verified Shareholders

Derivative Complaint” (Dkt. #39) (hereinafter the “Complaint”). On February 28, 2007, F5

filed a motion to dismiss for failure to make demand. See Dkt. #49. On August 6, 2007, the

Court granted the motion to dismiss with leave to amend because the Court found that it would

not have been futile for plaintiffs to make a pre-litigation demand on F5’s directors. See Dkt.

#69 (Order Granting Nominal Defendant F5 Networks, Inc.’s Motion to Dismiss for Failure to

Make Demand). On September 14, 2007, plaintiffs filed an amended consolidated verified

shareholder derivative complaint. See Dkt. #74. F5 moved again to dismiss the complaint

contending demand was not excused, and this motion is now pending before the Court for

consideration. See Dkt. #80. 

B. Analysis

1. Washington has not established a substantive demand futility standard.

In this shareholder derivative action, F5 moves for a second time to dismiss plaintiffs’

suit for failure to make pre-litigation demand on F5’s board of directors. The purpose of a

derivative action is to “place in the hands of the individual shareholder a means to protect the

interests of the corporation from the misfeasance and malfeasance of faithless directors and

managers.” Kamen v. Kemper Fin. Serv., Inc., 500 U.S. 90, 95 (1991) (quotation marks and

citation omitted). To prevent abuse of this remedy, however, shareholder derivative complaints

are governed by the pleading requirements of Fed. R. Civ. P. 23.1(b), which states, in part: 

“[t]he complaint must . . . (3) state with particularity: (A) any effort by the plaintiff to obtain the

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1

 At oral argument on August 1, 2007, F5’s counsel noted the absence of Washington law

concerning the substantive standard for when demand is excused. See Dkt. #84 (Transcript of

proceedings) at 3:21-4:6 (F5’s counsel stating, “We have here a federal judge [the undersigned] sitting in

Washington applying Washington law because F5 is a Washington company, and we don’t have a lot of

Washington law. So the federal . . . Washington courts, also borrow substantially from Delaware but in

this instance, we also have a substantial body of law that is developed in part because the Northern

District of California has been the center of many of the decided cases. And those cases, I think, shed

good light on how this Court should approach the interestedness element since it doesn’t have much to

look at in Washington law directly.”) (emphasis added).

ORDER TO SHOW CAUSE -4-

desired action from the directors or comparable authority and, if necessary, from the

shareholders or members; and (B) the reasons for not obtaining the action or not making the

effort.” Id. In this case, plaintiffs do not allege that they made a demand on F5’s board of

directors. Instead, plaintiffs claim that demand was excused because it would have been futile. 

See, e.g., Dkt. #74 at ¶175 (“A pre-filing demand would be a useless and futile act”). 

“[A] court that is entertaining a derivative action . . . must apply the demand futility

exception as it is defined by the law of the State of incorporation.” Kamen, 500 U.S. at 108-

109; In re Silicon Graphics Inc. Securities Litig., 183 F.3d 970, 990 (9th Cir. 1999) (“For

[demand futility] standards, we turn to the law of the state of incorporation”). F5 was

incorporated in Washington State, so Washington law applies on this issue. Washington has a

procedural demand requirement set forth in RCW 23B.07.400(2), “Derivative proceedings

procedure,” which states:

A complaint in a proceeding brought in the right of a corporation must be verified

and allege with particularity the demand made, if any, to obtain action by the

board of directors and either that demand was refused or ignored or why a demand

was not made. Whether or not a demand for action was made, if the corporation

commences an investigation of the charges made in the demand or complaint, the

court may stay any proceeding until the investigation is complete.

Although RCW 23B.07.400(2) sets forth the procedural demand requirement, Washington courts

have neither interpreted this provision nor adopted a substantive demand requirement.1

 See

Kamen, 500 U.S. at 96 (“[T]he demand doctrine . . . clearly is a matter of ‘substance’ not

‘procedure.’”). But, it is clear under Washington law that “[d]erivative suits are disfavored and

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ORDER TO SHOW CAUSE -5-

may be brought only in exceptional circumstances.” Haberman v. Wash. Pub. Power Supply

Sys., 109 Wn.2d 107, 147 (1987). 

Courts in the Western District of Washington have generally assumed “the Washington

State Supreme Court would likely adopt the substantive demand requirement and apply a

similar, if not the same, exception for futility as that employed in Delaware.” See In re Cray,

431 F. Supp. 2d 1114, 1120 (W.D. Wash. 2006); accord Schwartzman v. McGavick, 2007 U.S.

Dist. Lexis 28962, at *12 (W.D. Wash. April 19, 2007) (citing In re Cray, 431 F. Supp. 2d at

1120 and following Delaware law given the parties’ agreement); Fernandes v. Bianco, 2006 U.S.

Dist. Lexis 42048, at *7 (W.D. Wash. June 22, 2006) (same).

In the August 6, 2007 order, this Court also looked to Delaware’s substantive demand

futility standard as persuasive authority. See Dkt. #69 at 9 (“Following In re Cray, the parties

agree that Delaware’s substantive demand requirement is persuasive authority here.”). The

Court then applied the Aronson v. Lewis, 473 A.2d 805 (Del. 1984) test to the facts as alleged in

the complaint and found that it would not have been futile for plaintiffs to make a pre-litigation

demand on F5’s directors and therefore granted defendants’ motion to dismiss but with leave to

amend. Id. 

The extent to which this Court should follow Delaware law has now come to a critical

juncture in this case with the filing of plaintiffs’ amended complaint and F5’s second motion to

dismiss because the degree to which this Court follows Delaware’s substantive demand futility

standard is potentially outcome determinative. In order for the Court to decide whether this

matter should proceed, the Court needs to determine two threshold questions. First, the Court

must decide the extent to which Washington follows Delaware’s substantive standards for when

demand is excused as announced in Aronson and Rales v. Blasband, 634 A.2d 927 (Del. 1993). 

Second, assuming Washington follows these Delaware decisions, the Court must determine the

extent to which Washington follows the demand futility standard as articulated in Ryan v.

Gifford, 918 A.2d 341 (Del. Ch. 2007) in the specific context of a derivative action alleging

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2

 See, e.g., Boland v. Engle, 113 F.3d 706, 712 (7th Cir. 1997) (“Although Delaware corporate

law is undoubtedly persuasive authority, Boland’s argument that the Indiana Supreme Court would

follow Delaware . . . is not convincing. Rather, we surmise that the highest court in Indiana would today

be persuaded by the general trend in the law towards narrowing, if not eliminating, the exceptions from

the demand requirement. Eleven states have statutorily imposed a universal demand requirement. And

both the case law and the academic commentary have been moving strongly in that direction as well.”)

ORDER TO SHOW CAUSE -6-

stock option “backdating.” As discussed below, however, the Court in its discretion determines

that because F5 is a Washington corporation, both of these determinations are best considered

through certification to the Washington State Supreme Court as authorized by RCW 2.60.020. 

2. Does Washington follow Delaware’s general demand futility standard?

Under Delaware law, there are exceptions to the demand requirement that flow from the

two landmark Delaware Supreme Court decisions in Aronson and Rales. In Aronson, the

Delaware Supreme Court promulgated the two-part “Aronson test,” which holds that demand is

futile and excused where “under the particularized facts alleged, a reasonable doubt is created

that (1) the directors are disinterested and independent and (2) the challenged transaction was

otherwise the product of a valid exercise of business judgment.” Aronson, 473 A.2d at 814-15. 

If either part of the test is satisfied with respect to half or more of the board members at the time

the complaint was filed, demand is excused. See Beneville v. York, 769 A.2d 80, 85-86 (Del.

Ch. 2004). Under Rales, the Delaware Supreme Court rejected the application of the Aronson

test when the board of directors upon which demand would be made did not approve the

challenged transaction. In these situations, demand is excused if the well-pleaded allegations in

the complaint give rise to reasonable doubt that the board can exercise “its independent and

disinterested business judgment in responding to a demand.” Rales, 634 A.2d at 933-34; see

also Conrad v. Blank, 940 A.2d 29, 37 n.17 (Del. Ch. 2007). 

Federal district courts, including the Court in this case, have assumed without direction

from the Washington Supreme Court that the Supreme Court would likely adopt Delaware’s

substantive demand futility standard. Without instruction from the Washington Supreme Court,

however, this assumption is speculation.2

 

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(internal citations omitted).

ORDER TO SHOW CAUSE -7-

3. If Washington follows Delaware, does Washington also follow Ryan v. Gifford

in cases where the improper “backdating” of stock options has been alleged?

In derivative actions alleging the improper “backdating” of stock options, there are two

general approaches courts have taken concerning the pleading standard to determine whether

demand was excused: (1) the approach taken in Ryan v. Gifford, 918 A.2d 341 (Del. Ch. 2007),

and (2) the approach taken in cases like In re CNET Networks, Inc. S’holder Derivative Litig.,

483 F. Supp. 2d 947, 958 (N.D. Cal. 2007) that distinguish Ryan and engage in a searching

inquiry into the individual option grants at issue.

This Court in its August 6, 2007 order chose the latter approach and engaged “in a

detailed, grant-specific analysis” and ultimately concluded based on this analysis that plaintiffs

had failed to establish reasonable doubt that the option grants at issue had been “backdated.” 

See Dkt. #80 at 5. The Court found that plaintiffs had not made a particularized showing, in

part, because of the “lack of consistency in plaintiffs’ claims.” See Dkt. #69 at 23-24. In their

amended complaint, plaintiffs have substantially cured the inconsistencies in their claims

concerning alleged backdating. However, the alleged facts supporting their claims remain

substantially the same as those alleged in their original complaint. As a result, the central issue

before the Court on F5’s second motion to dismiss is whether plaintiffs’ allegations are

sufficient under Washington law to demonstrate that demand was futile, which in turn, requires

the Court to determine the extent to which the Washington Supreme Court would adopt the

Ryan analysis in the specific stock option backdating context. In Ryan, a Delaware trial-level

court concluded: 

Plaintiff here points to specific grants, specific language in option plans, specific

public disclosures, and supporting empirical analysis to allege knowing and

purposeful violations of shareholder plans and intentionally fraudulent public

disclosures. Such facts, in my opinion, provide sufficient particularity in the

pleading to survive a motion to dismiss for failure to make demand pursuant to

Rule 23.1

Ryan, 918 A.2d at 355 & n.34 (“Defendants argue repeatedly that plaintiff’s allegations

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3

 Whether to answer the certified question is within the discretion of the Washington State

Supreme Court. See Broad v. Mannesmann Anlagenbau, A.G., 141 Wn.2d 670, 676 (2000).

4

 See, e.g., Sexton v. Van Stolk (Case No. 07-1782RSL).

ORDER TO SHOW CAUSE -8-

ultimately rest upon nothing more than statistical abstractions. . . . Given the choice between

improbably good fortune and knowing manipulation of option grants, the Court may reasonably

infer the latter, even when applying the heightened pleading standards of Rule 23.1.”); see

Edmonds v. Getty, 524 F. Supp. 2d 1267, 1276 (W.D. Wash. 2007) (“This court does not find

Getty Images’ arguments persuasive; instead, it adopts the reasoning in Ryan and finds that Mr.

Edmonds alleged facts sufficient to reasonably infer that backdating rather than innocent

bookkeeping errors occurred.”). In their response and amended complaint, plaintiffs assert that

they have met the pleading requirement as set forth in Ryan and as adopted by Judge Robart in

Edmonds. See Dkt. #86 at 11; Dkt. #74 (Amended Complaint) at ¶73 (stating “[a]s Chancellor

Chandler articulated in his seminal decision in Ryan, a pattern of backdating is alleged with

sufficient particularity when the dates, prices, recipients and the plan language violated are

identified.”).

C. Certifying a question to the Washington State Supreme Court is appropriate

RCW 2.60.020 provides:

When in the opinion of any federal court before whom a proceeding is pending, it

is necessary to ascertain the local law of this state in order to dispose of such

proceeding and the local law has not been clearly determined, such federal court

may certify to the supreme court for answer the question of local law involved and

the supreme court shall render its opinion to answer thereto.

Based on the discussion above, the Court concludes that the appropriate course of action

in this case is to certify a question to the Washington Supreme Court in accordance with RCW

2.60.020 because a substantive demand standard has not been established under Washington law

and because the answer may be dispositive in this case. Furthermore, should the Washington

State Supreme Court answer the certified question,3

 the answer will also have far-reaching

effects given the recent number of shareholder derivative actions filed in this district,4

 and the

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5

 See Jeffrey S. Facter, Article: Fashioning a Coherent Demand Rule for Derivative Litigation in

California, 40 Santa Clara L. Rev. 379, 381 n.9 (2000) (arguing for California to adopt its own clearly

defined demand rule rather than adopting Delaware law on an ad hoc basis, and attributing the dearth of

California case law on demand futility to the fact that the issue inherently evades ordinary appellate

review because either (1) the motion to dismiss on demand futility is denied, in which case the litigation

lasts for years before judgment is entered or the case is settled, or (2) if the motion to dismiss is granted

there is an appealable order “but the plaintiff rarely has the incentive to take an appeal because the option

of proceeding to make a demand on the board is a much lower cost alternative than prosecuting an

appeal.”).

6

 See, e.g., Ariz. Rev. Stat. § 10-742 (2008).

7

 See Cuker v. Mikalauskas, 692 A.2d 1042, 1050 (Pa. 1997); Drain v. Covenant Life Ins. Co.,

712 A.2d 273 (Pa. 1998) (“In Cuker this Court adopted the American Law Institute Principles of

Corporate Governance with respect to standing to maintain a derivative action. . . . The shareholder

must make a written demand upon the corporation’s board of directors and request it to prosecute the

action or take corrective measures. Demand on the board is excused only if the shareholder shows that

irreparable injury to the corporation would otherwise result, and the demand should be made promptly

after commencement of the action. If irreparable injury would not result, the court should dismiss the

derivative action that is commenced before the response of the board to a demand unless the board does

not respond within a reasonable time.”) (emphasis added).

8

 See Mod. Bus. Corp. Act § 7.42 (2005) (“No shareholder may commence a derivative

proceeding until: (1) a written demand has been made upon the corporation to take suitable action; and

(2) 90 days have expired from the date 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 90-day period.”); see also Todd A. Murray

& Lyndon F. Bittle, Article: Emerging Issues Raised by Derivative Shareholder Actions Involving

ORDER TO SHOW CAUSE -9-

state-court actions that have been stayed pending the outcome of this federal action.5 See

Keystone Land & Dev. Co. v. Xerox Corp., 353 F.3d 1093, 1097 (9th Cir. 2003) (concluding

that the appropriate course of action was to certify the question because the issue was “not

entirely settled in Washington, and because if clarified definitively by the Washington State

Supreme Court, the answer will have far-reaching effects”).

Generally, states have adopted one of three separate substantive demand tests. First, the

majority of states that have considered the issue have adopted, either by statute6

 or by judicial

decision,7

 what has been described as the “universal demand” requirement from the Model

Business Corporation Act.8

 Second, other states look to Delaware’s demand futility test as set

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Foreign Corporations Headquartered in Texas: Making Sense of the Interaction Between Texas

Procedures and Substantive Law, 39 Tex. Tech. L. Rev. 1, 15-16 (2006) (discussing the fact that Texas

and at least 20 other states have adopted section 7.42 of the Model Act).

9

 See Werbowsky v. Collomb, 362 A.2d 123, 144 (Md. 2001) (“We adhere for the time being, to

the futility exception, but, consistent with what appears to be the prevailing philosophy throughout the

country, regard it as a very limited exception, to be applied only when the allegations or evidence clearly

demonstrate, in a very particular manner, either that (1) a demand, or a delay in awaiting a response to a

demand, would cause irreparable harm to the corporation, or (2) a majority of the directors are so

personally and directly conflicted or committed to the decision in dispute that they cannot reasonably be

expected to respond to a demand in good faith and within the ambit of the business judgment rule.”).

ORDER TO SHOW CAUSE -10-

forth in Aronson and Rales. See, e.g., Shoen v. SAC Holding Corp., 137 P.3d 1171, 1184 (Nev.

2006) (“[W]e adopt the test described in Aronson, as modified by Rales”). Finally, Maryland,

departing from Delaware law, crafted its own “very limited exception” test.9

In its motion, F5 asserts that the demand futility standard set forth in the Court’s August

6, 2007 order is the binding “law of the case” for purposes of analyzing plaintiffs’ amended

complaint. See Dkt. #80 at 5-6 (“The Order is now the law of the case, and there is no reason or

basis whatsoever to revisit or change the well-reasoned demand-futility standards the Court has

established.”) (citing United States v. Alexander, 106 F.3d 874, 877 (9th Cir. 1997); Dkt. #89 at

2 (“The Court did not err, and there are no grounds for reversing the law of the case, as clearly

established by the Court in its Order.”). The law of the case doctrine, however, does not trump

the certification process under the circumstances here. The authorizing statute, RCW 2.60.020,

does not require certification at the beginning of the litigation or preclude certification after the

Court has issued interlocutory rulings: as long as the proceeding is still pending in the district

court, certification remains an option. The district court’s power to reconsider or revise prior

orders is limited by the law of the case doctrine only where the court has been divested of

jurisdiction over the matter or has unduly delayed reconsideration.

The law of the case doctrine is not an inexorable command, nor is it a limit to a

court’s power. Rather, application of the doctrine is discretionary. . . . The law of

the case doctrine is wholly inapposite to circumstances where a district court seeks

to reconsider an order over which it has not been divested of jurisdiction. . . . All

rulings of a trial court are subject to revision at any time before the entry of

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judgment. . . . The doctrine simply does not impinge upon a district court’s power

to reconsider its own interlocutory order provided that the district court has not

been divested of jurisdiction over the order.

United States v. Smith, 389 F.3d 944, 949 (9th Cir. 2004) (internal citations and quotation marks

omitted, emphasis in cited case). The Smith court distinguished the case upon which F5 relies,

United States v. Alexander, 106 F.3d 874 (9th Cir. 1997), on the ground that reconsideration in

that case was untimely granted only after the jury was unable to reach a verdict and the court

had declared a mistrial. Accordingly, F5’s argument concerning the binding effect of the

Court’s August 6, 2007 order is not relevant in the Court’s discretion to certify a question

regarding the applicable demand futility standard to the Washington Supreme Court as

authorized by RCW 02.60.020. III. CONCLUSION

Based on the reasoning above, the parties are ORDERED TO SHOW CAUSE why the

following question should not be certified to the Washington State Supreme Court under RCW

2.60.020:

“What test does Washington apply to determine whether allegations made pursuant

to RCW 23B.07.400(2) by a shareholder seeking to initiate derivative litigation on

behalf of a Washington corporation excuse that shareholder from first making

demand on the board of directors to bring that litigation on behalf of the

corporation?; and

If Washington follows Delaware’s demand futility standard, does it also follow the

reasoning of Ryan v. Gifford, 918 A.2d 341 (Del. Ch. 2007) in cases where the

improper backdating of stock options has been alleged?”

The parties shall SHOW CAUSE in response to this ORDER on or before Friday, June

6, 2008 in a filing not to exceed 12 pages. The Clerk is directed to place this Order to Show

Cause on the Court’s calendar for Friday, June 6, 2008.

DATED this 20th day of May, 2008.

A

Robert S. Lasnik

United States District Judge

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