Opinion ID: 776749
Heading Depth: 2
Heading Rank: 3

Heading: Shareholder Standing under Maryland Law

Text: 19
20 Waller v. Waller, 187 Md. 185, 49 A.2d 449 (1946), remains the leading Maryland case on shareholder standing. There, a shareholder brought a direct action against, inter alios, a corporation's sales manager alleging that he and others had caused injury to the shareholder through the improvident discharge of employees, diversion of customers to competitors, choice of detrimental pricing policies, embezzlement of corporate funds, and disruption of corporate governance activities. Id. at 189, 49 A.2d at 451-52. In ruling that the plaintiff's claims could not be brought in a direct shareholder suit, the Maryland Court of Appeals observed: 21 It is a general rule that an action at law to recover damages for an injury to a corporation can be brought only in the name of the corporation itself acting through its directors, and not by an individual stockholder, though the injury may incidentally result in diminishing or destroying the value of the stock. The reason for this rule is that the cause of action for injury to the property of a corporation or for impairment or destruction of its business is in the corporation, and such injury, although it may diminish the value of the capital stock, is not primarily or necessarily a damage to the stockholder, and hence the stockholder's derivative right can be asserted only through the corporation. 22 Id., 49 A.2d at 452. The Court of Appeals further explained: 23 The rule is advantageous not only because it avoids a multiplicity of suits by the various stockholders, but also because any damages so recovered will be available for the payment of debts of the corporation, and, if any surplus remains, for distribution to the stockholders in proportion to the number of shares held by each. 24 Id. at 189-90, 49 A.2d at 452. Thus, Waller noted that a direct action for injuries shared by the corporation may inequitably displace the claims of creditors and thereby subvert the creditors' priority. The court then determined that the injuries alleged by the plaintiff derived from injuries to the corporation itself, and thus the plaintiff lacked standing to bring direct claims. Id. at 191, 49 A.2d at 453. 25 Waller, in holding that a corporation and not its shareholders may recover for injury to [its] property ... or ... impairment or destruction of its business, does not elaborate on the meaning of property or business for these purposes. It does hold, however, that these terms include not only the corporation's funds and inventory, but also its relationships with employees and customers and its internal processes for decision-making. Id. at 189, 49 A.2d at 451-52. More recently, the Maryland Court of Appeals held that injury to the corporation's business or property also occurs when officers and directors waste funds on perquisites, salaries, and bonuses, or make imprudent investments. O'Donnell v. Sardegna, 336 Md. 18, 24-28, 646 A.2d 398, 401-03 (1994). The Maryland Court of Special Appeals has further ruled that corporate business or property injury occurs if officers and directors mismanage or misappropriate funds. Tafflin v. Levitt, 92 Md.App. 375, 381, 608 A.2d 817, 820 (1992). And in Danielewicz v. Arnold, 137 Md.App. 601, 769 A.2d 274 (2001), the same court held that the corporation alone has standing when it issues an excessive number of shares in exchange for shares of another company, even if the issuance of those shares rendered the plaintiff, formerly a majority shareholder, a minority shareholder. The court found Waller to be indistinguishable. Danielewicz, 137 Md.App. at 621, 769 A.2d at 285-86. These Maryland cases indicate, inter alia, that ill-advised investments by a corporation, even if paid for with the corporation's shares, may constitute an impairment or destruction of the corporation's business. 26 In deciding whether a shareholder may bring a direct suit, the question the Maryland courts ask is not whether the shareholder suffered injury; if a corporation is injured those who own the corporation are injured too. The inquiry, instead, is whether the shareholders' injury is distinct from that suffered by the corporation. Tafflin, 92 Md.App. at 381, 608 A.2d at 820. 27 Tafflin deals not with a shareholders' suit, but with the analogous situation of depositors in an insolvent savings and loan association seeking to recover for losses against the association's directors, officers, accountants, lawyers, and others. It is nonetheless illuminating because it explains, in comparable circumstances, the distinct injury requirement by reference to the concern expressed in Waller for making damages recovered for injury to the corporation available to pay the debts of the corporation. 28 Appellants' [alleged injuries] are not distinct from the injury sustained by [the bank] and all its depositors as a result of appellees' mismanagement and wrongdoing.... [P]ermitting depositors to bring individual actions for [mismanagement of funds] would invariably impair the rights of other general creditors and claimants with superior interests.... [T]hat ... fraud may have induced all of the depositors to make their original deposits does not justify bypassing this equitable and common-sense system for recovery. 29 Tafflin, 92 Md.App. at 381-82, 608 A.2d at 820 (internal citation omitted). 30 Both Waller and Tafflin acknowledge that harm to shareholders may flow from injuries to a corporation's business or property, including those that decrease the value of firm assets or otherwise impair the corporation's ability to generate profits. Maryland law nonetheless provides that in such circumstances, despite the harm to shareholders, the corporation alone has a cause of action to recover for the injury asserted. Although shareholders suffer collateral injury, they may have that injury redressed only through the collateral effect of the results of the corporation's lawsuit — which might, for instance, result in a recovery of damages by the corporation and thus a corresponding increase in share value. 5 Allowing shareholders to recover directly, on the other hand, besides threatening the multiplicity of suits cited by Waller, 187 Md. at 189, 49 A.2d at 452, makes possible recoveries that are inequitably distributed among those other than shareholders with an interest in the corporation. Specifically, if the corporation were in default on its debt, direct shareholder suits for corporate injury could defeat the prior claim of corporate creditors to corporate assets because the rule of limited liability would prevent the creditors from reaching damages recovered by the shareholders personally. Where shareholders suffer an injury that does not stem from an injury to the corporation's business or property, by contrast, the corporation lacks standing to sue, and Maryland's distinct injury rule allows shareholders access to the courts to seek compensation directly. 31 Thus, under Maryland law, when the shareholders of a corporation suffer an injury that is distinct from that of the corporation, the shareholders may bring direct suit for redress of that injury; there is shareholder standing. When the corporation is injured and the injury to its shareholders derives from that injury, however, only the corporation may bring suit; there is no shareholder standing. The shareholder may, at most, sue derivatively, seeking in effect to require the corporation to pursue a lawsuit to compensate for the injury to the corporation, and thereby ultimately redress the injury to the shareholders. 32 We thus reject the undifferentiated effect on shareholders standard, which the district court articulated in Scudder and relied upon in its decision in this case. See Bassini, 1 F.Supp.2d at 275 ([S]o long as the defendants' action toward all shareholders was the same, and any disproportionate effect was the result of the various shareholders' responses to the action, the shareholders have no direct action.) (citing Scudder, 964 F.Supp. at 792). To sue directly under Maryland law, a shareholder must allege an injury distinct from an injury to the corporation, not from that of other shareholders. 6 33 In Scudder, the district court ruled that shareholders cannot bring direct claims where the alleged injury involves undifferentiated harm that falls equally on all shareholders. 964 F.Supp. at 790. Scudder in turn drew its undifferentiated harm rule from Olesh v. Dreyfus Corp., No. CV-94-1664 (CPS), 1995 WL 500491, 1995 U.S. Dist. LEXIS 21421 (E.D.N.Y. Aug.8, 1995), a case that applied Maryland law to shareholder claims arising from a merger. But the relied-upon language from Olesh, complaints have been converted into derivative actions where the injury involved obviously `fell alike' on all... shareholders, id. at , 1995 U.S. Dist. LEXIS 21421 at , is descriptive rather than prescriptive. The Olesh court accurately observed that many cases where injury falls alike on all shareholders are properly brought as or become derivative actions. It is not true, however, and Olesh does not stand for the proposition, that if injury falls alike on all shareholders, legal action seeking redress for that injury may only be brought derivatively. Neither of the cases cited by Olesh as the source of its observation, moreover, relies upon Maryland law. And both involve alleged shareholder injuries deriving from diminution of corporate assets, an injury quintessentially remediable by shareholders only through a derivative action. See Vincel v. White Motor Corp., 521 F.2d 1113, 1118 (2d Cir.1975); Nordberg v. Lord, Day & Lord, 107 F.R.D. 692, 698 (S.D.N.Y.1985). 34 An inquiry that asks only whether shareholders have suffered undifferentiated harm, rather than whether the shareholders have suffered injury distinct from any potential injury to the corporation, could lead to situations in which shareholders are improperly left with an injury without legal recourse. There may be acts that injure shareholders equally but do not injure the corporation at all; indeed they might be seen as benefitting the corporation in the sense that they might increase its assets. The shareholders, despite their undifferentiated harm, could not bring a derivative suit — nor could the corporation recover for them — because no such suit could succeed without a showing of injury to the corporation. In such circumstances, only a direct suit by shareholders can redress the harm to them, even though the harm was suffered by the shareholders equally. See James J. Hanks, Jr., Maryland Corporations Law § 7.21(b), 270 (1990 & 2000 Suppl.) (If the wrong alleged was committed against the stockholder rather than the corporation, then the stockholder must bring the action as a direct action — either individually or as representative of a class — and not as a derivative action.) For this reason, the rule under Maryland law is that where shareholders suffer a distinct injury, i.e., an injury that does not derive from corporate injury, they may bring direct suit, even if their injury is undifferentiated among them. 35
36 We also do not see a basis in Maryland law for the defendants' argument, premised on Scudder, that claims for alleged breaches of fiduciary duty by directors and officers only support derivative actions and may not be pursued directly. See Scudder, 964 F.Supp. at 792. It is not clear that this was essential to the decision in Scudder, inasmuch as it appears to have been stated as an observation rather than as a rule of law. Id. at 791 ([C]laims of breach of duty by directors and other fiduciaries of a corporation generally are regarded as derivative rather than direct....). But in any event, the defendants have asserted that under Maryland law, directors and officers cannot be sued directly by shareholders for alleged breaches of fiduciary duty. We disagree. 37 Maryland case law appears to be silent on the narrow question whether shareholders may bring fiduciary duty claims directly against officers and directors. Although neither the district court nor the defendants cite a case from a Maryland court that holds that such lawsuits are prohibited, the plaintiffs similarly fail to cite a case in which such a suit was allowed. 38 But Maryland courts have clearly established the proposition that directors and officers owe fiduciary duties to both the corporation and the shareholders. See Toner v. Baltimore Envelope Co., 304 Md. 256, 268-69, 498 A.2d 642, 648 (1985) (collecting cases); Waller, 187 Md. at 194, 49 A.2d at 454. 7 This means that by asserting that shareholders may not bring direct claims against directors and officers based on an alleged breach of fiduciary duties, the defendants in effect argue that these fiduciary duties, though extant, are non-actionable. The availability of a derivative action does not suggest otherwise. As we have seen, a derivative suit may only be brought if the plaintiff alleges injury to the corporation, and cannot be brought by a plaintiff who alleges only a distinct injury to him- or herself as the result of the breach of a fiduciary duty or otherwise. Thus, the availability of derivative actions does not give shareholders a remedy that they would not have if the officers and directors owed their fiduciary duties to the corporation alone. 39 We note that there is no dispute that the fiduciary duties owed by directors and officers to the corporation are actionable, as the existence of derivative actions under Maryland law indicates. Maryland law also makes clear that the fiduciary duties owed minority shareholders by majority shareholders are actionable, and may be enforced through direct claims. See, e.g. Baker v. Standard Lime & Stone Co., 203 Md. 270, 285, 100 A.2d 822, 830 (1953); Coop. Milk Serv. v. Hepner, 198 Md. 104, 114, 81 A.2d 219, 224 (1951) (dismissing claims on other grounds). 40 Thus, in order to adopt the defendants' argument, we would be required to reach two odd conclusions about Maryland law. We would first have to conclude that the repeated assertions by the Maryland courts of the existence of fiduciary duties flowing from directors and officers to shareholders were not meant to have practical import. See Toner, 304 Md. at 268-69, 498 A.2d at 648. And we also would be forced to conclude that Maryland courts intend the term fiduciary duty to have a different meaning with regard to the duty from directors and officers to shareholders — not giving rise to enforceable rights — than it does with regard to the duty from directors and officers to the corporation and also the duty from majority to minority shareholders — giving rise to enforceable rights — even where the courts use the term only once in a sentence to refer to both sets of relationships. See, e.g., Waller, 187 Md. at 194, 49 A.2d at 454. (It is generally stated that directors occupy a fiduciary relation to the corporation and all its stockholders....) We are unaware of principles of interpretation that would support such a reading of the Maryland cases.