In re Diamond Foods, Inc. Derivative Litig., C.A. No. 7657-CS (Del. Ch. Feb. 28, 2013)

In this memorandum opinion, the Court of Chancery granted defendants’ motion to dismiss the plaintiffs’ breach of fiduciary duty claims. 

Defendant Diamond Foods, Inc. (“Diamond”) was planning a December 2011 merger with strategic rival Procter & Gamble’s Pringles division.  In order to hide Diamond’s poor financial performance from Procter & Gamble, plaintiffs alleged that Diamond’s former CEO and former CFO manipulated the company’s financial statements and thereby breached their fiduciary duties to the shareholders.  In November 2011, the manipulation became public and Diamond was forced to restate its financial statements, the Procter & Gamble deal collapsed, the Diamond CEO and CFO were replaced, and multiple lawsuits were initiated across various jurisdictions.

The first group of derivative suits was filed by different plaintiffs in California state court, alleging breach of fiduciary duty against the defendants.  The original derivative complaint in the “California State Action” was dismissed for failure to plead demand excusal, with leave to amend.  The California State Action is currently ongoing.    The plaintiffs in this case brought the next round of suits, but not in the Court of Chancery.  Instead, these plaintiffs filed suit in the U.S. District Court for the Northern District of California, alleging state law claims similar to those filed in the California State Action as well as claims under section 14(a) of the Securities Exchange Act of 1934 (the “California Federal Action”).  The California Federal Action was subsequently dismissed for lack of subject matter jurisdiction, since the court held that plaintiffs’ section 14(a) claims failed as a matter of law.  One of the plaintiffs appealed the federal court’s ruling and, a few weeks later, plaintiffs filed a complaint in the Court of Chancery with state law claims identical to those raised in the California Federal Action.  The defendants subsequently moved to dismiss the Delaware state law claims.

The Court agreed with all of the defendants’ arguments for dismissal.  It held that it was improper under the McWane doctrine and principles of equity for the plaintiffs to subject the defendants to identical litigation in two forums at once.  The Court also found that, because the plaintiffs failed to distinguish their Delaware claims from the much earlier-filed claims in the California State Action, there was no reason to interfere with the course of that litigation.  The Court also rejected plaintiffs’ claim that they were in a better position to litigate demand excusal than the plaintiffs in the California State Action, noting that if the Delaware plaintiffs felt that Diamond would be settling with a weaker plaintiff in California, the Delaware plaintiffs could choose to intervene in the California State Action.  The Court also observed that, despite their claims of superiority over the California plaintiffs, the Delaware plaintiffs did not seek books and records to aid in a demand excusal pleading. 

The Court further held that plaintiffs’ argument that their claims raise novel issues of Delaware law, and thereby must be heard in the Delaware courts, was meritless given the plaintiffs’ failure to bring their case to the Delaware courts in the first instance.  The Court cited several cases that settled the legal principles involved in the current case, dispelling any notion of a novel question of law. 

Accordingly, the Court held that the plaintiffs’ Delaware claims must be dismissed with prejudice to their ability to proceed in Delaware, but without prejudice to plaintiffs’ ability to proceed in the California Federal Action upon a successful appeal or to seek intervention in the California State Action.

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