Sarnacki v. Golden, 1st Cir. (2015)

7/26/2019 Sarnacki v. Golden, 1st Cir. (2015)

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United States Court of AppealsFor the First Circuit

No. 14- 1414

AARON SARNACKI ,der i vat i vel y on behal f of Smi t h & Wesson Hol di ng Corporat i on,

Pl ai nt i f f , Appel l ant ,

v.

MI CHAEL F. GOLDEN; J OHN A. KELLY; BARRY M. MONHEI T; KENNETH W.CHANDLER; J OHN B. FURMAN; I . MARI E WADECKI ; J EFFREY D. BUCHANAN;

ROBERT L. SCOTT; MI TCHELL A. SALTZ; COLTON R. MELBY; ANN B.MAKKI YA; LELAND A. NI CHOLS; THOMAS L. TAYLOR; SMI TH & WESSON

HOLDI NG CORPORATI ON,

Def endant s, Appel l ees.

APPEAL FROM THE UNI TED STATES DI STRI CT COURTFOR THE DI STRI CT OF MASSACHUSETTS

[ Hon. Mi chael A. Ponsor , U. S. Di st r i ct J udge]

Bef or e

Lynch, Chi ef J udge,St ahl and Kayat t a, Ci r cui t J udges.

J ul i a M. Wi l l i ams, wi t h whom Cr ai g W. Smi t h, Robbi ns Ar r oyoLLP, Ter ence K. Ankner , and Par t r i dge, Ankner & Horst mann, LLP were

on br i ef , f or appel l ant . J ohn A. St en, wi t h whom J ason C. Mor eau, Vi ct or i a E. Thavaseel an, and McDer mot t Wi l l & Emer y LLP wer e on br i ef , f orappel l ees.

Febr uary 4, 2015



LYNCH, Chief Judge. Thi s i s a shar ehol der der i vat i ve

sui t under st at e l aw whi ch, af t er i nvest i gat i on by a Speci al

Li t i gat i on Commi t t ee, t he cor por at i on r ej ect ed. I t i s one of

sever al sui t s al l egi ng t hat Smi t h & Wesson Hol di ng Cor por at i on

( "Smi t h & Wesson") made mi sl eadi ng publ i c st at ement s i n 2007 about

demand f or i t s pr oduct s. We pr evi ousl y af f i r med a gr ant of summary

j udgment f or t he cor porat i on i n a cl ass act i on al l egi ng t hat t hese

st at ement s const i t ut ed vi ol at i ons of f eder al secur i t i es l aws. I n

r e Smi t h & Wesson Hol di ng Cor p. Sec. Li t i g. , 669 F. 3d 68 ( 1st Ci r .

2012) .

I n t hi s case, Aar on Sar nacki asser t s Nevada st at e- l aw

cl ai ms agai nst Smi t h & Wesson' s of f i cer s and di r ect or s, i ncl udi ng

br each of f i duci ar y dut i es, wast e of cor por at e assets, and unj ust

enr i chment . I n r eact i on t o ear l i er and par al l el cases, i n J une

2009, Smi t h & Wesson' s Boar d f ormed a Speci al Li t i gat i on Commi t t ee

( SLC) t o i nvest i gat e and det er mi ne t he vi abi l i t y of any of t hese

cl ai ms and t o make a recommendat i on t o t he Board whet her t o pursue

any of t hese cl ai ms. The SLC r ecommended agai nst f i l i ng any

cl ai ms. On t he basi s of t hat deci si on, t he def endant s her e moved

f or summary di smi ssal under Del aware l aw, as adopt ed by Nevada.

Af t er l i mi t ed di scover y, t he di st r i ct cour t gr ant ed t he mot i on. We

af f i r m.

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I .

Smi t h & Wesson i s a maj or gun manuf act urer i ncor por at ed

i n Nevada wi t h i t s pr i nci pal pl ace of busi ness i n Spr i ngf i el d,

Massachuset t s. The def endant s ar e or wer e of f i cer s or di r ect or s of

Smi t h & Wesson, i ncl udi ng bot h i t s CEO and f ormer CFO. Sarnacki i s

a sharehol der of Smi t h & Wesson who i s a ci t i zen of Mai ne.

Sar nacki ' s sui t al l eged t hat , st ar t i ng i n t he second

quar t er of 2007, t he def endant s made or caused t he company t o make

a ser i es of publ i c stat ement s, i ncl udi ng pr ess r el eases, t out i ng

hi gh sal es proj ect i ons due t o t he company' s new r i f l e and shot gun

busi ness . For exampl e, on Sept ember 6, 2007, t he company i ssued a

pr ess r el ease r ai si ng sal es pr oj ect i ons f or f i scal year 20081 based

on "gr owt h i n [ t hei r ] cor e handgun busi ness as wel l as [ t hei r ]

newl y est abl i shed l ong gun busi ness. " 2 Through Sept ember 10, 2007,

t he company cont i nued t o pr edi ct st r ong sal es growt h and r ai sed

ear ni ngs gui dance i n pr ess r el eases, on conf er ences cal l s, and i n

f ederal f i l i ngs .

Sar nacki al l eged t hat al l t hi s t i me, Smi t h & Wesson and

t he def endant s had evi dence that t hese pr oj ect i ons wer e f al se.

Smi t h & Wesson had over i nvest ed i n pr oduct i on whi l e demand

1 Smi t h & Wesson' s f i scal year begi ns on May 1, so FY 2008began May 1, 2007. See I n r e Smi t h & Wesson Hol di ng Cor p. Sec.Li t i g. , 669 F. 3d at 70 n. 2.

2 The hi gher earni ngs proj ect i ons wer e based i n part on Smi t h& Wesson' s ent r ance i nt o t he market f or l ong guns, compl ement i ngt hei r cor e busi ness sel l i ng handguns.

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col l apsed at t he st ar t of t he economi c downt ur n, l eadi ng t o

excessi ve i nvent or y. Al t hough awar e of t hi s, t he def endant s

cont i nued t o t out hi gh pr oj ect ed sal es, and some of t he def endant s

sol d mi l l i ons of t hei r shar es.

The def endant s f i nal l y cor r ect ed t hei r al l eged

mi sr epr esent at i ons. On Oct ober 29, 2007, t he company reduced i t s

net i ncome gui dance by t en cent s per di l ut ed share, causi ng a 40%

dr op i n shar e pr i ce. I n t hat new gui dance, t he def endant s poi nt ed

i n part t o sof t demand f or l ong guns and excessi ve i nvent ory. On

December 6, 2007, t he company agai n r educed gui dance by t hi r t een

cent s per di l ut ed shar e, and on J anuary 22, 2008, t he company

wi t hdr ew t hei r ear ni ngs gui dance compl et el y. I n t ot al , t he company

l ost $726 mi l l i on i n mar ket capi t al i zat i on.

As i s of t en t he case i n t hese si t uat i ons, a number of

secur i t i es f r aud cases wer e br ought agai nst t he company. I n

December 2007 and J anuary 2008, t hr ee put at i ve cl ass act i ons were

f i l ed i n f eder al di st r i ct cour t i n Spr i ngf i el d agai nst t he company

and t hr ee i ndi vi dual s, al l egi ng vi ol at i ons of f eder al secur i t i es

l aws. See I n r e Smi t h & Wesson Hol di ng Cor p. Sec. Li t i g. , 604 F.

Supp. 2d 332, 334- 35 ( D. Mass. 2009) . Those act i ons were

consol i dat ed i nt o one case, t he "Secur i t i es Cl ass Act i on. " I d. at

334 n. 1. The di st r i ct cour t event ual l y gr ant ed summary j udgment t o

t he def endant s on March 25, 2011, f i ndi ng t hat t her e was

i nsuf f i ci ent evi dence of sci ent er and t hat t he company' s st at ement s

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wer e nei t her f al se nor mi sl eadi ng. I n r e Smi t h & Wesson Hol di ng

Cor p. Sec. Li t i g. , 836 F. Supp. 2d 1, 3 ( D. Mass. 2011) . Thi s

cour t af f i r med. I n r e Smi t h & Wesson Hol di ng Cor p. Sec. Li t i g. ,

669 F. 3d at 77.

On Febr uar y 1, 2008, Sar nacki f i l ed a shar ehol der

der i vat i ve sui t i n Massachuset t s st at e cour t . That case was

consol i dated wi t h ot her si mi l ar cases and di smi ssed i n J anuar y 2009

because t he pl ai nt i f f s f ai l ed t o make a pr oper pr e- sui t demand on

t he Boar d of Di r ect ors. See Sarnacki ex r el . Smi t h & Wesson

Hol di ng Corp. v. Gol den, 4 F. Supp. 3d 317, 320- 21 ( D. Mass. 2014)

( expl ai ni ng pr ocedur al hi st or y and pr evi ous l i t i gat i on) .

Havi ng r ecei ved t wo ot her demand l et t ers, Smi t h & Wesson

f ormed a Speci al Li t i gat i on Commi t t ee on J une 22, 2009, t o eval uate

t he vi abi l i t y of cl ai ms i n t he demand l et t er s. See I n r e Smi t h &

Wesson Hol di ng Cor p. Der i vat i ve Li t i g. , 743 F. Supp. 2d. 14, 17 ( D.

Mass. 2010) . The SLC consi st ed of t hr ee di r ect ors: J ohn Fur man,

Rober t Scot t , and I . Mar i e Wadecki . Two of t hose di r ect ors, Fur man

and Wadecki , were al so out si de di r ect ors and member s of t he Audi t

Commi t t ee dur i ng t he r el evant t i mes. The SLC hi r ed an i ndependent

l aw f i r m, t hen known as Fi er st , Pucci & Kane LLP of Nort hampt on,

Massachuset t s, and conduct ed t he i nvest i gat i on at i ssue i n t hi s

case.

On Sept ember 4, 2009, Sar nacki sent a demand t o Smi t h &

Wesson' s Boar d, i nsi st i ng t hat i t commence an i ndependent

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i nvest i gat i on and recover damages caused by t he of f i cer s' and

di r ect or s' br eaches of f i duci ar y dut i es. Cor por at e counsel f or t he

Boar d responded to Sarnacki , not i f yi ng hi mof t he SLC and demandi ng

i nf or mat i on pr ovi ng Sar nacki ' s owner shi p of shar es dur i ng t he

r el evant t i mes. The SLC' s counsel al so cont act ed Sar nacki ,

r equest i ng si mi l ar i nf or mat i on.

On Oct ober 28, 2010, Sar nacki f i l ed t hi s di ver si t y act i on

i n f eder al di str i ct cour t i n Ar i zona. 3 The cl ai ms ar i se under

Nevada st at e l aw f or br each of f i duci ar y dut y, wast e of cor por at e

asset s, unj ust enr i chment , and ent i t l ement t o cont r i but i on or

i ndemni f i cat i on. Sar nacki , 4 F. Supp. 3d at 321.

The SLC i ssued i t s r epor t on December 23, 2010,

concl udi ng t hat " t her e i s i nsuf f i ci ent evi dence of any br each of

f i duci ar y dut y by t he named of f i cer s and di r ect or s" and t hat i t i s

"not . . . i n t he best i nt er est s of t he Company" t o pur sue a

der i vat i ve sui t . On J anuar y 13, 2011, t hi s case was t r ansf er r ed t o

t he Di st r i ct of Massachuset t s wi t h t he consent of bot h par t i es. On

J ul y 1, 2011, t he def endant s f i l ed a mot i on t o di smi ss, based on

t he SLC' s f i nal r epor t . The di st r i ct cour t deni ed t he mot i on

wi t hout pr ej udi ce on March 29, 2012, and order ed l i mi t ed di scover y

on t he adequacy of t he SLC' s i nvest i gat i on. Sar nacki v. Gol den,

3 Sar nacki i nsi st s t hat he f i l ed on t hi s dat e t o ensur e ashar ehol der sui t sat i sf i ed t he per t i nent st at ut e of l i mi t at i ons,t hough t he SLC ( al l egedl y unbeknownst t o Sar nacki ) obt ai ned t ol l i ngagr eement s.

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No. 11- cv- 30009- MAP, 2012 WL 1085539, at *2 ( D. Mass. Mar . 29,

2012) .

Af t er di scover y, t he def endant s moved f or summary

di smi ssal on J une 28, 2013, agai n on t he basi s of t he SLC' s

concl usi ons. Under Del aware l aw, a mot i on t o t er mi nat e a

der i vat i ve sui t because an SLC has r ecommended agai nst f i l i ng any

cl ai ms i s handl ed by summary di smi ssal , a "hybr i d summary j udgment

mot i on f or di smi ssal . " Zapata Corp. v. Mal donado, 430 A. 2d 779,

787 ( Del . 1981) . The di st r i ct cour t gr ant ed t hat mot i on on Mar ch

12, 2014. Sar nacki , 4 F. Supp. 3d at 327. Thi s appeal f ol l owed.

I I .

The par t i es agree t hat Del awar e l aw, by oper at i on of

Nevada l aw, appl i es t o t hi s case. Sar nacki , 4 F. Supp. 3d at 322;

Sarnacki , 2012 WL 1085539, at *2; see Moradi v. Adel son, No. 2: 11-

cv- 00490- MMD- RJ J , 2012 WL 3687576, at *2 n. 1 ( D. Nev. Aug. 27,

2012) ; I n r e Amer co Der i vat i ve Li t i g. , 252 P. 3d 681, 697 ( Nev.

2011) . Under Del aware l aw, i f t he corporat i on moves f or summary

di smi ssal of a shar ehol der sui t on t he basi s of t he SLC' s j udgment ,

a cour t conduct s a t wo- st ep i nqui r y. Fi r st , t he cor por at i on must

pr ove t he SLC' s ( 1) i ndependence, and ( 2) good f ai t h and r easonabl e

bases f or i t s concl usi ons. 4 Zapat a, 430 A. 2d at 788- 89. On t hese

4 We anal yze t he SLC' s good f ai t h and r easonabl eness t ogether ,t hough Del awar e' s cour t s somet i mes anal yze t hem separ at el y.Compar e Kahn v. Kol ber g Kr avi s Rober t s & Co. , 23 A. 3d 831, 841- 42

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quest i ons, t he bur den i s on t he cor por at i on t o show " t hat t her e i s

no genui ne i ssue as t o any mater i al f act and t hat t he movi ng part y

i s ent i t l ed t o di smi ss as a mat t er of l aw. " I d. at 788. Second,

i n t he cour t ' s di scr et i on, t he cour t may appl y " i t s own i ndependent

busi ness j udgment " t o " t hwart i nst ances wher e corporate act i ons

meet t he cr i t er i a of st ep one, but t he r esul t does not appear t o

sat i sf y i t s spi r i t . " I d. at 789. The di str i ct cour t her e deci ded

t he case at t he f i r st st ep, and Sar nacki does not ar gue t hat i t

shoul d have conduct ed t he st ep- t wo i nqui r y.

Thi s cour t has never addr essed t he st andar d of r evi ew f or

a summary di smi ssal at Zapat a st ep one. We now hol d t hat t he

appl i cabl e st andard of r evi ew i s de novo, because a summary

di smi ssal under Del aware l aw i s a hybr i d of a mot i on t o di smi ss and

a mot i on f or summar y j udgment , both of whi ch we revi ew de novo.

See Boot h Fami l y Tr ust v. J ef f r i es, 640 F. 3d 134, 139- 41 ( 6t h Ci r .

2011) . Al t hough t he st andar d of r evi ew i s a mat t er of f eder al l aw,

see Boot h, 640 F. 3d at 140 ( " [ C] onsi st ent wi t h t he Er i e doct r i ne,

f ederal l aw gover ns t he st andar d of r evi ew of a summar y j udgment

mot i on i n a di ver si t y case. ") , our hol di ng i s consi st ent wi t h

Del aware st ate l aw, see Kahn v. Kol ber g Kr avi s Rober t s & Co. , 23

A. 3d 831, 840- 41 ( Del . 2011) ( "Zapat a' s f i r st pr ong i s subj ect t o

a summary j udgment st andard, our r evi ew of whi ch i s de novo. " ) .

( Del . 2011) ( t oget her ) , wi t h Ki ndt v. Lund, No. Ci v. A. 17751- NC,2003 WL 21453879, at *3- 4 (Del . Ch. May 30, 2003) ( separat el y) .

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Accor di ngl y, we consi der de novo whet her t he di st r i ct

cour t er r ed i n f i ndi ng as a mat t er of l aw t hat ( a) t he SLC was

i ndependent , and ( b) t he SLC' s i nvest i gat i on was r easonabl e and

conduct ed i n good f ai t h.

A. I ndependence

The i ndependence i nqui r y i s hi ghl y f act speci f i c and

cent ers on whether any member of t he SLC, " f or any subst ant i al

r eason, [ i s] i ncapabl e of maki ng a deci si on wi t h onl y t he best

i nt er est s of t he cor por at i on i n mi nd. " I n r e Or acl e Cor p.

Der i vat i ve Li t i g. , 824 A. 2d 917, 938 ( Del . Ch. 2003) ( ci t at i on and

quotat i on marks omi t t ed) .

Sar nacki ' s mai n chal l enge t o t he SLC' s i ndependence i s

t hat t wo of t he t hree SLC member s, Wadecki and Fur man, coul d not be

i ndependent f or t wo r easons. The f i r st i s t hat t hey ar e def endant s

i n t hi s case. The second r eason i s t hat , as member s of t he Audi t

Commi t t ee, t hey r evi ewed and appr oved many of t he al l egedl y

mi sl eadi ng st at ement s. I n par t i cul ar , Sar nacki ' s compl ai nt al l eged

t hat t he Audi t Commi t t t ee appr oved f i nanci al st at ement s, pr ess

r el eases, and " f i nanci al i nf or mat i on and ear ni ngs gui dance pr ovi ded

t o anal yst s and r at i ng agenci es, " t hough t he recor d does not show

t hat t hey appr oved scr i pt s f or ear ni ngs conf er ence cal l s.

Ther e ar e no per se r ul es hol di ng t hat an SLC' s

i ndependence i s dest r oyed by ei t her nami ng a member as a def endant

or a members' past appr oval of a di sput ed st at ement . See Kapl an v.

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Wyat t , 499 A. 2d 1184, 1189 ( Del . 1985) ( "Even a di r ect or ' s appr oval

of t he t r ansact i on i n quest i on does not est abl i sh a l ack of

i ndependence. " ) ; Ki ndt v. Lund, No. Ci v. A. 17751- NC, 2003 WL

21453879, at *3 ( Del . Ch. May 30, 2003) ( "The f act t hat Senat or

Garn was on t he boar d and appr oved t he t r ansact i ons does not negat e

hi s i ndependence. Nor does hi s bei ng named as a def endant cause

Senat or Gar n t o l ack i ndependence. " ( f oot not es omi t t ed) ) . Rat her ,

t he i nqui r y i s mor e cl osel y based on t he f act s. Sar nacki must

"show mor e" t o suggest t hat an SLC member ' s "posi t i on as a member

of t he Boar d of Di r ect or s i nf l uenced hi s deci si ons as a member of

t he [ SLC] . " Kapl an, 499 A. 2d at 1189.

Ther e ar e good r easons t o r ej ect such per se r ul es. I f

an SLC member ' s st at us as a def endant i n t he l i t i gat i on

categor i cal l y subver t ed t he i ndependence of t he commi t t ee, a

shar ehol der woul d be abl e to mani pul at e the pr ocess: he or she

woul d be abl e t o name SLC member s as def endant s af t er t he

commi t t ee' s f or mat i on, t her eby under cut t i ng t he l egi t i macy of i t s

concl usi ons. See Lewi s v. Gr aves, 701 F. 2d 245, 249 ( 2d Ci r . 1983)

( cal l i ng, i n t he cont ext of t he demand r equi r ement , such a move a

"t r anspar ent l i t i gat i on t act i c") . The r eal i t i es of cor por at e

governance, i n whi ch some cor porat i ons have smal l boar ds, suggest

t hat an SLC wi l l f r equent l y i ncl ude at l east one di r ect or who al so

appr oved t he r el evant t r ansact i on. Cf . i d. at 248 ( "By vi r t ue of

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t hei r of f i ces, di r ect or s or di nar i l y par t i ci pat e i n t he deci si on

maki ng i nvol ved i n such t r ansact i ons. " ) .

These r eal i t i es of cor porat e gover nance pl ay a r ol e here.

The SLC was f or med on J une 22, 2009. At t hat t i me, Smi t h & Wesson

had an ei ght - per son Boar d i ncl udi ng a t hr ee- per son Audi t Commi t t ee.

Though t he t hr ee SLC members wer e named as al l eged wr ongdoers al ong

wi t h t he r est of t he Boar d, nei t her t he Secur i t i es Cl ass Act i on nor

t he ot her demand l et t er s speci f i ed any wr ongdoi ng by t he Audi t

Commi t t ee. I n cr eat i ng a t hr ee- per son SLC, t hen, t he Boar d coul d

r easonabl y have sel ect ed member s of t he Audi t Commi t t ee wi t hout any

at t empt t o undermi ne t he SLC' s i ndependence, scr eeni ng onl y f or

exper t i se and ensur i ng t hat t he SLC had at l east t wo out si de

di r ect or s. I t was onl y mont hs af t er t he SLC' s f or mat i on t hat

Sar nacki sent hi s demand, on September 4, 2009, t o t he Boar d

speci f yi ng mi sconduct by t he Audi t Commi t t ee. By t hat poi nt , t he

SLC had met , hi r ed counsel , and begun communi cat i ng wi t h pl ai nt i f f s

i n ot her der i vat i ve act i ons. I t was not unr easonabl e f or t he Boar d

t o decl i ne t o abandon t he SLC, whi ch had al r eady st ar t ed i t s work,

and t o reconst i t ut e a new one.

To say t here i s no per se r ul e does not mean t hat t here

i s no cause f or concer n. Those who are asked t o eval uat e conduct

whi ch t hey have appr oved may have a t endency not t o f i nd f aul t .

But t he Del aware Supr eme Cour t has hel d t hat "a di r ect or i s

i ndependent when he i s i n a posi t i on t o base hi s deci si on on t he

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mer i t s of t he i ssue r ather t han bei ng governed by ext r aneous

consi der at i ons or i nf l uences. " Kapl an, 499 A. 2d at 1189; see al so,

e. g. , Sut her l and v. Suther l and, No. C. A. 2399- VCL, 2008 WL 1932374,

at *3 ( Del . Ch. May 5, 2008) . Sar nacki of f er s no evi dence of

act ual bi as af f ect i ng any deci si onmaker or of ext r aneous

consi der at i ons havi ng mot i vat ed ei t her t he pr ocess or t he ul t i mat e

r ecommendat i on. Moreover , t he Commi t t ee di d not use i n- house

counsel , a di sappr oved pr act i ce, but chose i ndependent counsel .

Sarnacki overst at es t he r ecor d when he ar gues t here were

admi ss i ons of non- i ndependence. He argues t hat t he SLC member s

admi t t ed pr ej udgi ng t he mer i t s of t he cl ai ms t hey wer e charged wi t h

i nvest i gat i ng. But i n t he st at ement s at i ssue, t he SLC member s

t est i f i ed mer el y t hat t hey wer e doubt f ul of Sar nacki ' s der i vat i ve

cl ai ms based on t hei r backgr ound knowl edge and t he Boar d' s

pr el i mi nary i nvest i gat i ons bef or e t he SLC was f or med. They di d not

dr aw any f ormal concl usi ons, and t hat t hey had some pr el i mi nary

vi ews i s not sur pr i si ng and does not by i t sel f const i t ut e

pr ej udgment of t he i ssue. I n t he case ci t ed by Sar nacki , i n

cont r ast t o t he r ecor d here, t he SLC members " conduct ed t he

i nvest i gat i on wi t h t he obj ect of put t i ng t oget her a r epor t t hat

demonst r ates t he sui t has no mer i t . " London v. Tyrr el l , No. 3321-

CC, 2010 WL 877528, at *15 ( Del . Ch. Mar . 11, 2010) .

Sar nacki al so ar gues t he di st r i ct cour t er r ed by

consi der i ng each of hi s bi as argument s separ at el y, r at her t han as

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a t ot al i t y. Sar nacki compl ai ns t hat had t he di st r i ct cour t vi ewed

t he st r uct ur al bi as, t he evi dence of pr ej udgment , and argument s on

t he good f ai t h and r easonabl eness pr ong t oget her , i t woul d have

seen a l ack of i ndependence by t he SLC. We do not r ead t he

deci si on t hat way and on de novo revi ew, consi der i ng t hese al l

t oget her , concl ude t her e i s no mer i t .

Sar nacki f i nal l y ar gues t hat , even i f he has not

pl ausi bl y chal l enged t he SLC' s i ndependence, t hat i s not hi s

bur den. Rat her , t he def endant s must pr ove t he SLC' s i ndependence.

Sar nacki i s r i ght on t he l aw. See Zapata, 430 A. 2d at 788. But

t he def endant s have car r i ed t hei r bur den. Smi t h & Wesson' s Boar d

appoi nt ed t hr ee exper i enced di r ect or s, t wo of whom wer e out si de

di r ect ors on t he i ndependent Audi t Commi t t ee, t o t he SLC. They

wer e "i n a posi t i on t o base [ t hei r ] deci si on on t he mer i t s of t he

i ssue r ather t han bei ng gover ned by ext r aneous consi der at i ons or

i nf l uences. " Kapl an 499 A. 2d at 1189. And Sar nacki has of f er ed

no pl ausi bl e argument t o t he cont r ary.

We do not r el y, as di d t he di st r i ct cour t , on a t heor y

t hat Sarnacki " t aci t l y conceded t he i ndependence of t he SLC by

maki ng a demand on t he board. " Sar nacki , 4 F. Supp. 3d at 325. As

Sar nacki cor r ect l y obser ves, t he cour t ' s anal ysi s i s i ncor r ect .

The cases di scussi ng t hi s t aci t concessi on f ocus on t he ef f ect of

t he concessi on i mpl i ci t i n a demand on a pl ai nt i f f ' s l at er at t empt

t o argue t hat maki ng a demand was excused. See, e. g. , Spi egel v.

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Bunt r ock, 571 A. 2d 767, 775- 77 ( Del . 1990) . Del aware' s cases do

not say t hat such a concessi on l i mi t s l ater ar gument s about an

SLC' s i ndependence. To t he cont r ar y, t hey say t hat a pl ai nt i f f can

make a demand and subsequent l y argue t hat t he Board i mproper l y

r ef used t he demand, i ncl udi ng by chal l engi ng t he SLC' s

i ndependence. See, e. g. , Gr i mes v. Donal d, 673 A. 2d 1207, 1219- 20

( Del . 1996) , over r ul ed on ot her gr ounds by Br ehm v. Ei sner , 746

A. 2d 244, 253 & n. 13 (Del . 2000) .

On t he undi sput ed f act s, t he Boar d has met i t s bur den as

t o t he i ndependence of t he SLC.

B. Good Fai t h and Reasonabl eness

The good f ai t h and r easonabl eness i nqui r y f ocuses on t he

pr ocess used by t he SLC, r ather t han t he subst ant i ve out come of t he

pr ocess. See Spi egel , 571 A. 2d at 778 ( "The ul t i mat e concl usi on of

t he [ speci al l i t i gat i on] commi t t ee . . . i s not subj ect t o j udi ci al

r evi ew. " ( al t er at i ons i n or i gi nal ) ( quot i ng Zapat a, 430 A. 2d at 787)

( i nt er nal quot at i on mar ks omi t t ed) ) . Cour t s l ook t o i ndi ci a of t he

SLC' s i nvest i gat ory thoroughness, such as what document s were

r evi ewed and whi ch wi t nesses i nt er vi ewed. See Sarnacki , 4 F. Supp.

3d at 325.

Ther e i s no quest i on t hat t he SLC r el i ed on exper i enced

i ndependent counsel , r evi ewed r el evant di scover y mat er i al s, and

r el eased a l engt hy f i nal r epor t , al l i ndi ci a of a r easonabl e

pr ocess and good f ai t h.

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Sar nacki f i r st ar gues t hat t he SLC abdi cat ed i t s

r esponsi bi l i t i es, pl aci ng t he ent i r e i nvest i gat i on i n i t s counsel ' s

hands. Thi s i s i n some t ensi on wi t h hi s suggest i on t hat t he SLC

member s coul d have been out t o prot ect t hemsel ves. Second, he

argues t hat t he SLC' s work was t ai nt ed, because SLC i ndependent

counsel col l abor at ed cl osel y wi t h counsel r epr esent i ng t he

def endant s i n t he Secur i t i es Cl ass Act i on.

Sar nacki agai n over st at es t he r ecor d. He t akes

st atement s f r om t he SLC member s' deposi t i ons t hat t hey wer e

gener al l y unaware of t he scope of di scover y t o show t hat t hey wer e

so uni nvol ved as t o abdi cat e thei r r ol es t o i ndependent counsel .

For exampl e, SLC counsel obt ai ned an ext ensi ve document pr oduct i on

f r om t he Secur i t i es Cl ass Act i on def endant s' counsel , but SLC

member s coul d not t est i f y as t o the det ai l s of how t hat pr oduct i on

was generat ed or how document s f r om t hat pr oduct i on were sel ect ed

f or t hei r per sonal r evi ew.

Rel i ance on exper i enced out si de counsel f or t he SLC i s

of t en taken as evi dence t hat t he SLC conduct ed i t s i nvest i gat i on

r easonabl y and i n good f ai t h, not t he opposi t e. See, e. g. , Gr af man

v. Cent ur y Br oad. Cor p. , 762 F. Supp. 215, 220 ( N. D. I l l . 1991) .

Ther e i s no adver se i nf er ence t o be drawn about t he members

del egat i ng t he di scover y met hodol ogy or f i l t er i ng deci si ons t o

counsel . The SLC members di d personal l y r evi ew t he r el evant

document s and make t he f i nal deci si ons about t he cont ent s of t he

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SLC r eport . 5 The pl ai nt i f f s ci t e no case f or t he pr oposi t i on t hat

r el yi ng on counsel f or di scover y deci si ons, wi t hout mor e, i s

unr easonabl e or a si gn of bad f ai t h. Cf . Pel l er v. The Sout her n

Co. , 707 F. Supp. 525, 529 ( N. D. Ga. 1988) ( expl ai ni ng t hat whi l e

an SLC' s " r el i ance on counsel i s an accept ed pr act i ce, " i nsul at i ng

t he i nvest i gat i on f r omscr ut i ny by pr i vi l egi ng the SLC' s document s

i s "not good f ai t h" ) ; Davi dowi t z v. Edel man, 583 N. Y. S. 2d 340, 344

( N. Y. Sup. Ct . 1992) ( f i ndi ng an SLC' s i nvest i gat i on unr easonabl e

because " [ t ] he commi t t ee di d not j oi n i n t hei r counsel ' s

i nvest i gat i on or r evi ew, save i n t he most per f unct or y manner " ) .

The er r or s i n t hose cases di d not happen here.

Sarnacki argues t hat SLC counsel engaged i n "heavy

r el i ance" on di scover y by t he def endant s' counsel i n t he f eder al

Secur i t i es Cl ass Act i on, and t hi s shoul d have been a " r ed- f l ag

warni ng" t o t he SLC t hat t hey needed t o supervi se SLC counsel more

cl osel y. Si nce t hey f ai l ed t o do so, t he ar gument goes, t he SLC

ef f ect i vel y r el i ed on conf l i ct ed counsel .

Thi s ar gument cont ai ns a f at al f l aw: t here i s no evi dence

t hat SLC counsel was bi ased or conf l i ct ed, and t he SLC' s choi ce t o

5 The def endant s r el y heavi l y on t he SLC' s f i nal r epor t t o

r ebut Sar nacki ' s cl ai ms. Sar nacki r ej ect s thi s by obser vi ng t hatt he repor t was aut hor ed by SLC counsel , and so cannot show t hat t heSLC member s t hemsel ves were adequat el y i nvol ved i n t he process. Wear e doubt f ul t hat t he cl ai med i nconsi st enci es bet ween t he f i nal SLCr epor t and t he SLC member s' deposi t i on t est i mony undermi ne t her epor t i n any ser i ous way. Nonet hel ess, we do not pl ace heavyemphasi s on t hat r epor t i n r eachi ng our concl usi on.

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save cost s and avoi d dupl i cat i on i n di scover y by usi ng what had

al r eady been pr oduced i n the secur i t i es act i on was emi nent l y

sensi bl e. Cf . Ki ndt , 2003 WL 21453879, at *4 ( f i ndi ng an SLC' s

concl usi on r easonabl y suppor t ed even as t he SLC saved cost s by

f or egoi ng a f or mal f ai r ness opi ni on of a mer ger ) . The di scover y

f r om t he cl ass act i on case was pl ai nl y r el evant t o t he SLC' s

deci si on. The cases Sar nacki ci t es, whi ch i nvol ved a conf l i ct by

t he SLC' s own counsel , have no bear i ng her e. E. g. , St epak v.

Addi son, 20 F. 3d 398, 406- 08 ( 11t h Ci r . 1994) . 6

Havi ng deal t wi t h Sarnacki ' s second ar gument , we poi nt

out t hat t he di f f er ences bet ween Sar nacki ' s cl ai ms and t hose of t he

cl ass act i on di d not r ender use of t hat di scover y unr easonabl e or

i n bad f ai t h.

Sarnacki next pl aces heavy emphasi s on t he SLC' s r el i ance

on t wo exper t s who were al so used by t he def endants i n t he

6 Sarnacki al so emphasi zes t hat t he SLC members, i n t hei rdeposi t i ons, coul d not r ecal l basi c i nf or mat i on about t hei r t ask.For exampl e, Sar nacki emphasi zes t hat t he SLC member s di d notr emember t he cont ent s of Sarnacki ' s demand l et t er . Thei r l ack of memor y, he ar gues, suppor t s t he vi ew t hat t he SLC member s were souni nvol ved i n t he i nvest i gat i on t hat t hey abdi cat ed t hei rresponsi bi l i t i es.

Thi s ar gument i s unsuppor t ed by t he r ecor d. See Sarnacki , 4F. Supp. 3d at 326. Whi l e t he SLC member s f ai l ed t o r ecal l answer s

t o many quest i ons asked, subst ant i al t i me passed bet ween t hei rdeposi t i ons i n t hi s case ( i n Mar ch and Apr i l 2013) and t he SLC' sf i nal r eport ( i n December 2010) . Some det ai l s unknown t o t he SLCmembers per t ai ned t o t he di scover y pr ocess, whi ch the SLC del egat edt o counsel . Fi nal l y, as Sar nacki expl ai ns i n ot her par t s of hi sbr i ef , t he SLC member s' answer s of "Not t hat I r ecal l " of t en meant"No we di d not , " r at her t han " I do not r emember . "

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Secur i t i es Cl ass Act i on. The SLC r et ai ned Dr . Cr ai g Moor e, an

economi c exper t , t o anal yze f i nanci al dat a. The SLC al so r et ai ned

t he Di Nat al e Det ect i ve Agency t o i nvest i gat e al l egat i ons made by

unnamed f ormer empl oyees. As t o Dr . Moor e, t he def endants not e

t hat t he SLC was awar e of hi s pot ent i al conf l i ct , r evi ewed t he

deposi t i on t r anscr i pt f r om t he cl ass act i on i n whi ch Dr . Moor e was

cr oss- exami ned, and revi ewed deposi t i on t r anscr i pt s of t he

pl ai nt i f f s' exper t s f r om t he cl ass act i on. The SLC was per f ect l y

capabl e of eval uat i ng t he soundness of Dr . Moor e' s opi ni on i n l i ght

of hi s pot ent i al conf l i ct .

As t o Di Natal e, t he def endant s argue t hat t he agency onl y

pr ovi ded "wr i t t en r epor t s of f act ual i nt er vi ews, " t o whi ch Sar nacki

r epl i es t hat t hose repor t s wer e not passed al ong t o the SLC

members. I f t he Di Nat al e agency di d not produce any i nf ormat i on

act ual l y used i n t he SLC' s deci si on, i t coul d not have caused t he

SLC members t o act i n bad f ai t h or unr easonabl y. The SLC' s use of

t he def endant s' exper t s i s not al ways a best pr act i ce, but t hese

f act s do not r ai se a pl ausi bl e i nf er ence of bad f ai t h or

unr easonabl eness under t hese ci r cumst ances.

Sar nacki ' s l ast chal l enge i s t hat t he SLC' s al most

excl usi ve7 r el i ance on t he Secur i t i es Cl ass Act i on mat er i al s was

7 The SLC' s r el i ance on t he Secur i t i es Cl ass Act i on di scover ywas not ent i r el y excl usi ve. Near t he end of t he i nvest i gat i on, SLCcounsel i nt er vi ewed seven def endant s i n t he der i vat i ve act i onsunnamed i n t he Secur i t i es Cl ass Act i on. One SLC member descr i bedt hem as a mat t er of "wr appi ng up, " but t he same member t est i f i ed

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necessari l y i ncompl et e. Hi s compl ai nt f ocuses on f or war d- l ooki ng

st at ement s di smi ssed f r om t he Secur i t i es Cl ass Act i on and names

el even i ndi vi dual def endant s unnamed i n t he cl ass act i on. These

di st i nct i ons, he ar gues, show t hat r el evant i nf or mat i on was omi t t ed

f r om t he di scover y t he SLC used.

I nsof ar as t he over l ap i n mat er i al s was ext ensi ve, i t i s

al so not i ndi cat i ve of any unr easonabl eness. Sar nacki does not

i dent i f y a "f act or l i ne of i nvest i gat i on t hat Def endant s mi ssed. "

Sar nacki , 4 F. Supp. 3d at 327. Though t he Secur i t i es Cl ass

Act i on di d not i ncl ude di scover y about any f or war d- l ooki ng

st at ement s, i t di d i ncl ude st at ement s of pr esent or hi st or i cal

f act . I n r e Smi t h & Wesson Hol di ng Cor p. Sec. Li t i g. , 669 F. 3d at

72. The di scover y f or t hese cl ai ms i s si gni f i cant l y si mi l ar . The

f or war d- l ooki ng st at ement s at i ssue her e ar e al l eged t o be

mater i al l y mi sl eadi ng because t hey pr oj ect ed gr owt h based on hi gh

f ut ur e demand, whi l e t he st at ement s of hi st or i cal f act at i ssue i n

t he cl ass act i on wer e al l eged t o be mat er i al l y mi sl eadi ng because

t hey cl ai med st r ong exi st i ng demand - - bot h al l egedl y i n conf l i ct

wi t h cont empor ar y i nt er nal cor por at e dat a. See i d. at 74- 77. The

basi c nar r at i ve i n t he t wo cases i s t he same: Smi t h & Wesson and

t hat t he cl ass di scover y had shown "not hi ng . . . t o war r antf ur t her goi ng down f ur t her pat hs, " especi al l y i n l i ght of t hedi f f i cul t y of provi ng f raud ar i s i ng f rom f orward- l ooki ngst at ement s. Nonet hel ess, ot her t han t he SLC f i nal r epor t , t her ecord cont ai ns no evi dence t hat t he SLC member s t hemsel ves r eadt r anscr i pt s or summar i es of t he i nt er vi ews.

-19-



i t s management i nf l at ed expect at i ons about t hei r sal es of guns i n

2007 and ear l y 2008 based on asser t i ons about hi gh demand t hat were

f al se.

The di st i nct i ons Sarnacki emphasi zes ar e ones wi t hout a

di f f er ence - - or at l east , a di f f er ence t hat was not cur ed by t he

SLC' s addi t i onal i nt er vi ews. Sar nacki has not i dent i f i ed any key

f act ual pr edi cat es whi ch mi ght be di scover abl e but di d not f al l

wi t hi n t he cl ass act i on di scover y.

At bot t om, t her e i s i nadequate evi dence t o per mi t a

r easonabl e f i nder of f act t o concl ude that SLC counsel was

conf l i ct ed, t hat t he SLC member s r ead t oo f ew di scover y mater i al s,

or t hat t he SLC' s i nvol vement was mer el y per f unct ory. On t he

undi sput ed f act s, t he SLC' s i nvest i gat i on was r easonabl e and i n

good f ai t h.

C. Scope of Di scover y Al l owed t o Sarnacki

Sarnacki concl udes by ar gui ng that , at mi ni mum, t he

di st r i ct cour t shoul d have gr ant ed br oader di scover y. I n

part i cul ar , Sarnacki want s access t o t he communi cat i ons among t he

SLC, t hei r counsel , t he def endant s, and t he def endant s' counsel .

Sarnacki al so asks f or t he mi nut es of t he SLC meet i ngs and t he

r et ent i on agr eement s bet ween t he SLC and i t s advi sor s. Si nce t he

SLC di d not pol i ce t hese r el at i onshi ps, Sar nacki ar gues, he i s

ent i t l ed t o evi dence al l owi ng hi m t o pr obe t hem f or bi as.

-20-



To succeed, Sarnacki must overcome t wo hur dl es. Fi r st ,

we r evi ew t he di st r i ct cour t ' s deci si ons about t he scope of

di scover y f or abuse of di scr et i on, r ever si ng onl y "upon a cl ear

showi ng [ t hat ] . . . t he l ower cour t ' s di scover y or der was pl ai nl y

wr ong and r esul t ed i n subst ant i al pr ej udi ce t o t he aggr i eved

par t y. " Uni t ed St at es ex r el . Duxbur y v. Or t ho Bi ot ech Pr ods. ,

L. P. , 719 F. 3d 31, 37 ( 1st Ci r . 2013) ( al t er at i ons i n or i gi nal )

( ci t at i ons and i nt er nal quot at i on mar ks omi t t ed) . Second, Zapat a

i t sel f cont empl at es onl y "[ l ] i mi t ed di scover y . . . t o f aci l i t at e"

t he i nqui r y. 430 A. 2d at 788. Thi s di scover y i s " i nt ended mor e as

an ai d t o t he Cour t t han i t i s as a pr epar at i on t ool f or t he

par t i es, " and "i s not af f or ded t o t he pl ai nt i f f as a mat t er of

r i ght but onl y t o such ext ent as t he Cour t deems necessary. "

Kapl an v. Wyat t , 484 A. 2d 501, 510 ( Del . Ch. 1984) , af f ' d 499 A. 2d

1184 ( Del . 1985) .

Sar nacki ci t es a ser i es of cases i n whi ch cour t s have

gr ant ed di scover y of t he t ype of document s he seeks. E. g. , Zi t i n

v. Tur l ey, No. Ci v. 89- 2061- PHX- CAM, 1991 WL 283814, at *2- 4 (D.

Ar i z. J une 20, 1991) ( gr ant i ng di scover y of communi cat i ons bet ween

an SLC and i t s counsel ) . Onl y one case suggest s t hat pl ai nt i f f s

shoul d r ecei ve t hat di scover y as a mat t er of cour se. Gr i mes v. DSC

Commc' ns Corp. , 724 A. 2d 561, 567 ( Del . Ch. 1998) . But even t hat

case does not suggest t hat , i n t he hi ghl y f act - i nt ensi ve cont ext of

a Zapata i nqui r y, a more l i mi t ed di scover y scope i s an abuse of

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di scr et i on.

I n t hi s case, t he def endant s pr ovi ded t he f i nal SLC

r epor t , al l document s r el i ed on by the SLC t o pr oduce t hat r epor t ,

Boar d mi nut es r egardi ng t he f ormat i on and appoi nt ment of t he SLC,

and t he SLC members f or deposi t i on. Sarnacki , 4 F. Supp. 3d at

321. Sar nacki di d not f i l e under Fed. R. Ci v. P. 56( d) al l egi ng

t hat i t coul d not pr esent f act s i n r esponse t o t he mot i on f or

summar y di smi ssal essent i al t o i t s opposi t i on. See J ones v.

Secor d, 684 F. 3d 1, 6 ( 1st Ci r . 2012) ( descr i bi ng Rul e 56( d) as a

"saf et y net f or par t i es t hat need mor e t i me to gat her f act s

essent i al t o r esi st a mot i on f or summar y j udgment " ) . Consi der i ng

t he speci f i c di scover y r equest s i n Sar nacki ' s mot i ons t o compel

f ur t her di scover y, t he di st r i ct cour t deci ded t hat t hey wer e

"over br oad, ext endi ng wel l beyond t he i nt ent of t he cour t i n

per mi t t i ng l i mi t ed di scover y" and t hat t he "subst ant i al

di scl osur es" al r eady pr ovi ded wer e "suf f i ci ent t o per mi t [ Sar nacki ]

t o bui l d an adequat e r ecor d. " Sar nacki has al so f ai l ed t o mount a

ser i ous chal l enge t o t he i ndependence, good f ai t h, and

r easonabl eness of t he SLC i nqui r y. The di st r i ct cour t deci ded t hat

t he di scover y was adequat e t o ai d i t s r evi ew, and that deci si on was

not an abuse of t he cour t ' s di scr et i on.

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I I I .

Af t er a car ef ul r evi ew of t he r ecor d, we f i nd t hat

Smi t h & Wesson sat i sf i ed t he Zapat a st eps. The j udgment of t he

di str i ct cour t i s af f i r med.

So order ed.

-23-

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