Requirements to Bringing Shareholder Derivative Actions

A corporation is a legal entity in and of itself, and is owned by its shareholders, those who purchase or acquire shares in the operation. The shareholders elect a Board of Directors to be in charge of everything and in turn to hire officers and managers to conduct the day-to-day business operations.

Most shareholders have little or no involvement in the running of the corporation. They may attend an annual shareholders’ meeting or read the corporation’s annual report, but shareholders still can hold the board and the officers’ feet to the proverbial fire.

If some sort of mismanagement, malfeasance, breach of duty, or self-dealing is uncovered, a single shareholder can bring what is called a shareholder derivative lawsuit against the corporation in the person of the board of directors, or even a single officer.

Suppose a shareholder discovers through news reports or other means that an officer has signed a contract with a family member and that both the officer and family member are suspected of enriching themselves to the detriment of the corporation. There are steps the shareholder can take to get the board to investigate and then, if necessary, personally file a shareholder derivative lawsuit to correct any self-dealing that is harming the corporation.

If you as a shareholder suspect the officers or directors of your corporation of engaging in an act – or in ignoring the acts of others – that is harming the business, contact the Law Offices of David H. Schwartz, INC. Attorney David Schwartz has 45 years experience in business litigation and can advise you of your best options going forward, including a shareholder derivative lawsuit.

The Law Offices of David H. Schwartz, INC. proudly serve clients in and around San Francisco, California, including San Mateo, San Jose, Santa Clara, Oakland, and Alameda County.

Shareholder Derivative Lawsuits: An Overview

One of the largest derivative lawsuits ever settled involved Alphabet, which used to be known as Google. In 2020, the corporation agreed to establish a 10-year $310 million diversity, equity, and inclusion fund over allegations that senior executives’ sexual harassment incidents had been mishandled.

It’s important to know when there is a judgment or settlement in a shareholder derivative lawsuit, the cash or other award goes to the corporation, not to the shareholder who filed the suit on behalf of all shareholders. And that is the other point about derivative lawsuits. They are typically filed by one shareholder in the name of all shareholders.

Requirements for Filing a Derivative Lawsuit

If a shareholder suspects something is being done wrong or being swept under the carpet in the Alphabet case, the first step is to ask the board to investigate and take action. The California Corporations Code, Section states: 

“The plaintiff alleges in the complaint with particularity plaintiff's efforts to secure from the board such action as plaintiff desires, or the reasons for not making such effort, and alleges further that plaintiff has either informed the corporation or the board in writing of the ultimate facts of each cause of action against each defendant or delivered to the corporation or the board a true copy of the complaint which plaintiff proposes to file.”

In other words, the shareholder seeking corrective action must inform the corporation (the board) of the complaint or give written documentation of the facts of the claim to be investigated. If the board fails to act, the shareholder can initiate a derivative lawsuit. A lawsuit can also be initiated if it can be shown to be “futile” to ask the board to resolve matters.

At this point, the court can also require the shareholder to post a bond of no more than $50,000. The Code explains that “the defendant [corporation] may move the court for an order, upon notice and hearing, requiring the plaintiff to furnish a bond….”

Business/Corporate Litigation Attorney in San Francisco, California

Filing a shareholder derivative lawsuit over corporate mismanagement or wrongdoing is sometimes the only way to effect needed changes, but as you can see from the above, certain legal hurdles have to be met. Such lawsuits cannot be based solely on rumors. The California Corporations Code requires “evidence, written or oral, by witnesses or affidavit” to pursue litigation.

If you as a shareholder suspect something amiss and you want to consider a derivative lawsuit in San Francisco, contact the Law Office of David H. Schwartz, INC. He serves clients in San Francisco, San Mateo, San Jose, Santa Clara, Oakland, and Alameda County, California.


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