(a) Prerequisites. This rule applies when one or more shareholders or members of a corporation or an unincorporated association bring a derivative action to enforce a right that the corporation or association may properly assert but has failed to enforce. The derivative action may not be maintained if it appears that the plaintiff does not fairly and adequately represent the interests of shareholders or members who are similarly situated in enforcing the right of the corporation or association.
(b) Pleading Requirements. The complaint must be verified and must:
(1) allege that the plaintiff was a shareholder or member at the time of the transaction complained of, or that the plaintiff’s share or membership later devolved on it by operation of law;
(2) allege that the action is not a collusive one to confer jurisdiction that the court would otherwise lack; and
(3) state with particularity:
(A) any effort by the plaintiff to obtain the 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.
(c) Settlement, Dismissal, and Compromise. A derivative action may be settled, voluntarily dismissed, or compromised only with the court’s approval. Notice of a proposed settlement, voluntary dismissal, or compromise must be given to shareholders or members in the manner that the court orders.
Summary and Explanation
Federal Rule of Civil Procedure 23.1 addresses “Derivative Actions,” which are lawsuits brought by a shareholder on behalf of a corporation against a third party, often insiders such as officers or directors, alleging mismanagement, breach of fiduciary duty, or other wrongful acts against the corporation. This rule sets forth specific requirements that must be met for such an action to proceed, emphasizing the unique nature of derivative suits where the plaintiff shareholder acts as a representative of the corporation. Here’s a breakdown of its key components:
- Pre-Suit Demand Requirement: Rule 23.1 requires that the complaint must allege with particularity the efforts made by the plaintiff to obtain the desired action from the directors or comparable authority and the reasons for not obtaining the action or not making the effort. This is known as the “demand requirement,” which is fundamental to derivative actions. It ensures that the corporation’s directors are given the first opportunity to address the alleged misconduct, reflecting the principle that management decisions should generally be made by the board of directors rather than the courts.
- Adequacy of Representation: The plaintiff must fairly and adequately represent the interests of the shareholders and the corporation. This requirement is designed to ensure that the lawsuit genuinely serves the interests of the corporation and its shareholders, rather than the interests of the individual shareholder or a small group of shareholders.
- Particularized Complaint: The rule mandates that the complaint in a derivative action must state with particularity the facts forming the basis of the plaintiff’s claim. This higher standard of pleading is intended to prevent shareholders from using derivative suits to conduct fishing expeditions or to bring frivolous lawsuits against the corporation’s management.
- Litigation Authority: In a derivative action, the plaintiff shareholder is seeking to enforce a right that belongs to the corporation. Therefore, the outcome of the suit can bind the corporation and affect its rights and property. The rule acknowledges this by setting standards for the conduct of derivative lawsuits, including the requirement for court approval for settlement or dismissal, to protect the interests of absent shareholders and the corporation itself.
- Notification to Shareholders: In cases where a settlement or dismissal is proposed, the court may direct that the shareholders be notified in order to give them an opportunity to object or comment on the proposed settlement or dismissal. This ensures transparency and fairness in the resolution of derivative actions.
Rule 23.1 is essential for maintaining the balance between allowing shareholders to hold corporate management accountable for wrongdoing and preventing abusive or unwarranted litigation that could harm the corporation’s interests. It establishes a procedural framework that respects the corporate governance structure while providing a means for redressing genuine grievances on behalf of the corporation.
History
(As added Feb. 28, 1966, eff. July 1, 1966; amended Mar. 2, 1987, eff. Aug. 1, 1987; Apr. 30, 2007, eff. Dec. 1, 2007.)
Notes of Advisory Committee on Rules—1966
A derivative action by a shareholder of a corporation or by a member of an unincorporated association has distinctive aspects which require the special provisions set forth in the new rule. The next-to-the-last sentence recognizes that the question of adequacy of representation may arise when the plaintiff is one of a group of shareholders or members. Cf. 3 Moore’s Federal Practice, par. 23.08 (2d ed. 1963).
The court has inherent power to provide for the conduct of the proceedings in a derivative action, including the power to determine the course of the proceedings and require that any appropriate notice be given to shareholders or members.
Notes of Advisory Committee on Rules—1987 Amendment
The amendments are technical. No substantive change is intended.
Committee Notes on Rules—2007 Amendment
The language of Rule 23.1 has been amended as part of the general restyling of the Civil Rules to make them more easily understood and to make style and terminology consistent throughout the rules. These changes are intended to be stylistic only.