United States District Court, N.D. Illinois, Eastern Division
September 8, 2005.
TODD FENER, Derivatively on Behalf of ARTHUR J. GALLAGHER & CO., Plaintiff,
ROBERT E. GALLAGHER; J. PATRICK GALLAGHER, JR.; BERNARD L. HENGESBAUGH; ELBERT O. HAND; ILENE S. GORDON; GARY P. COUGHLAN; T. KIMBALL BROOKER; JAMES R. WIMMER; and DAVID S. JOHNSON, Defendants, and ARTHUR J. GALLAGHER & CO., a Delaware corporation, Nominal Defendant.
The opinion of the court was delivered by: JOHN W. DARRAH, District Judge
MEMORANDUM OPINION AND ORDER
Plaintiff, Todd Fener, filed a shareholder derivative suit
against Defendants, alleging breaches of fiduciary duties, abuse
of control, gross mismanagement, waste of corporate assets, and
unjust enrichment. Presently pending before the court is the
Defendants' Motion to Dismiss pursuant to Rule 12(b)(6) of the
Federal Rules of Civil Procedure for Plaintiff's failure to
allege a "pre-suit demand" on the Board of Directors. BACKGROUND
A reading of Fener's Amended Shareholder Derivative Complaint
supports the following summary of the alleged conduct of the
Arthur J. Gallagher & Co. ("the Company") was founded by Arthur
J. Gallagher ("Arthur") in 1927. The Company is engaged in
providing insurance brokerage, risk management, and related
services to clients in the United States and abroad. Its
principal activity is insurance brokerage, including the
negotiation and placement of insurance for its clients. The
Company is the nation's fourth largest insurance broker and is
incorporated in the State of Delaware.
In 1950, Arthur divided the Company between himself and his
three sons, wherein he retained forty percent of the Company and
each of his sons received a twenty percent of the Company and
appointment to the Board of Directors ("the Board"). In 1984, the
Company went public; and, in 1986, it was listed on the New York
Defendant Robert Gallagher ("Robert"), one of Arthur's sons,
began acting as the Chief Executive Officer from 1963 through
1994 and President from 1963 to 1990. In 1990, Robert became
Chairman of the Board; and his brother, John Gallagher ("John")
became Vice Chairman. At that same time, Defendant Patrick
Gallagher ("Patrick") John's son and Robert's nephew became
the President and Chief Operating Officer. A few years later,
Patrick became the Chief Operating Officer and CEO. Currently,
Robert is still Chairman of the Board; and Patrick is still a
Director, President and CEO.
Defendant David S. Johnson is, and has been since 2003, a
Director of the Company. Johnson has served: as President of
North American Commercial for Kraft Foods, Inc. since 2003; as
President of North American Operations, Technology, Procurement,
Information Systems and Sales for Kraft Foods North America, Inc. from 2002 to 2003; as
Group Vice-President of Kraft Foods North America, Inc. from 2000
to 2002; and as Executive Vice-President of Kraft Foods, Inc.
from 1998 to 2000.
Defendant Bernard Hengesbaugh is, and has been since 2004, a
Director of the Company. Hengesbaugh has served as Chairman of
the Board of CNA Financial Corporation, an insurer of commercial
enterprises, since 2002; and prior to that, he served as Chairman
and CEO of CNA Insurance Companies from 1999 to 2002 and in
various executive capacities with CNA since 1990. The Company and
certain of its subsidiaries engage in brokerage and other
transactions on behalf of CNA Financial and certain of its
subsidiaries. Because of Hengesbaugh's dual fiduciary capacities
to the Company and CNA, and the importance of the Company's
ongoing business to CNA, Hengesbaugh is financially beholden to
Robert, Patrick, and the Company's management.
Defendant Elbert Hand is, and has been since 2002, a Director
of the Company. Hand currently serves as the Chairman of the
Board of Hartmarx Corporation, a consumer apparel products
business, and previously served as Hartmarx's CEO from 1992 to
April 2002 and as President and COO from 1985 to 1992.
Defendant Ilene Gordon was a Director of the Company. Gordon
has served: as President of Food Packaging, Americas, Alcan, Inc.
since 2004; as President of Pechiney Plastic Packaging, Inc. and
Senior Vice-President of Pechiney Group since 1999 to 2004; as
Vice-President and General Manager of Tenneco Packaging Folding
Carton from 1997 to 1999; and as Vice-President of Operations for
Tenneco, Inc. from 1994 to 1997.
Defendant Gary Coughlan was a Director of the Company. Coughlan
served as a Senior Vice-President and CFO of Abbott Laboratories
from 1990 to March 2001. Prior to that, Coughlan served as Senior Vice-President of Kraft General Foods from 1989
to 1990 and as Senior Vice-President and CFO of Kraft, Inc.,
which he joined in 1972, where he served with Johnson.
Defendant T. Kimball Brooker was a Director of the Company.
Brooker has served as President of Barbara Oil Company, an oil
and gas exploration and investment business, since 1989 and as a
Managing Director of Morgan Stanley & Co., Inc. from 1975 to
Defendant James Wimmer was a Director of the Company. Wimmer, a
lawyer, served as a partner of Lord, Bissel & Brook from 1959 to
1992 and was Of Counsel from 1992 to 1999, representing companies
and individuals in securities and insurance-related matters.
During the relevant period, Wimmer sold 19,000 shares of the
Company stock for proceeds of $627,510.
Defendants Brooker, Gordon, Hand, and Wimmer compromise the
Company's Compensation Committee Board, which determines and
approves the compensation of the CEO and makes recommendations to
the Board with respect to the Company's compensation plans and
equity-based plans. Because the members of the Compensation
Committee Board control the other Defendants' awards, the
remaining Defendants will not institute this action against
Defendants Brooker, Gordon, Hand, and Wimmer.
Defendants Hengesbaugh, Coughlan, and Johnson also lack
independence from the other Defendants because the other
Defendants exert influence over their compensation by virtue of
their positions as CEO, Chairman of the Board, and members of the
Compensation Committee Board.
Defendants Coughlan, Brooker and Wimmer were also members of
the Audit Committee. The Audit Committee is responsible for
assisting the Board in its oversight of the integrity of the
Company's financial statements, the Company's compliance with
legal and regulatory requirements, and the performance of the Company's internal audit function.
Defendants Coughlan, Brooker, and Wimmer breached their duties by
causing or allowing improper financial documents. As a result of
these breaches of their duties, any demand upon them is futile.
Defendants Gordon, Hand, Hengesbaugh, Johnson, and Wimmer are
part of the Nominating/Governance Committee. The
Nominating/Governance Committee is responsible for identifying
and recommending individuals qualified to be directors of the
Company and members of the Board's committees, conducting annual
performance evaluations of the Nominating/Governance Committee,
providing oversight of the evaluation of the management of the
Company, developing and recommending to the Board for its
approval an annual self-evaluation process of the Board and its
committees, and overseeing the annual self-evaluations. The
Defendants on this committee failed to fulfill their duties and
responsibilities by causing or allowing the alleged conduct. As a
result of these Defendants' breaches of their duties, any demand
upon them is futile.
In October 2004, the Defendants announced that the Company had
received a subpoena from the Connecticut Attorney General
concerning allegations of bid-rigging and violations of the
state's antitrust laws. In connection with the announcement of
the subpoena, the Defendants announced that the Company would
eliminate "contingent commission" arrangements effective January
1, 2005. The loss of the contingency commissions was expected to
reduce the Company's earnings by thirteen percent. Merrill Lynch
has issued reports indicating that the Company's earning
expectations would be reduced.
Presently, the Company is the subject of investigations and
regulatory proceedings by authorities by fifteen states attorney
generals and state departments of insurance. The Company is also a defendant in seven other lawsuits brought by private
litigants relating to certain business practices, including
The Defendants have caused the Company to engage in a course of
unfair, deceptive, and anti-competitive conduct. The Defendants
breached their duties of loyalty, due care, and good faith by
allowing or causing the Company to misrepresent its financial
results and prospects from July 2003 to the present. Defendants'
conduct have cost the Company significant sums of money and will
continue to cost significant sums of money. The conduct has also
damaged the Company's corporate image and goodwill.
Because the Directors and Officers of the Company were
personally involved in or were aware of the alleged wrongdoing
and improper and/or illegal violations, demand on them to take
the appropriate legal action to protect the Company and its
shareholders would be futile. All of the Defendants participated
in the issuance of false and/or misleading statements, including
the preparation of false and/or misleading press releases and/or
Securities and Exchange Commission filings. The Directors would
not sue themselves or the Gallagher family members who dominate
and control the Board. Because the Defendants engaged in the
alleged misconduct, any suit could result in civil suits and/or
criminal charges against the Board members and Directors. Thus,
any demand on the Defendants would be futile.
The Defendants contend that the suit should be dismissed
because Plaintiff failed to allege a "pre-suit demand" on the
Company's Board of Directors. Plaintiff contends that a pre-suit
demand was not required because such demand would be futile
because the Board lacks interestedness and independence. In reviewing a motion to dismiss, the court reviews all
allegations in the complaint and any inferences reasonably drawn
therefrom in the light most favorable to the plaintiff.
Marshall-Mosby v. Corporate Receivables, Inc., 205 F.3d 323,
326 (7th Cir. 2000).
Federal Rule of Civil Procedure 23.1 requires that a plaintiff
"allege with particularity the efforts, if any, made by the
plaintiff to obtain the action the plaintiff desires from the
directors . . . and the reasons for the plaintiff's failure to
obtain the action or for not making the effort." Fed.R.Civ.P.
23.1. The requirement of a shareholder demand is more than a
pleading requirement; it is a substantive right of the
shareholder and the directors. See Kamen v. Kemper Fin. Servs.,
Inc., 500 U.S. 90, 97 (1991) (Kamen). Whether a shareholder
should be allowed to proceed without making such a demand "is
based on the application of the State's futility doctrine. . . ."
Kamen, 500 U.S. at 104. Because the Company was incorporated
under the laws of Delaware, Delaware law applies in determining
whether a demand, as required by Rule 23.1, may be excused when a
shareholder files a derivative suit on behalf of the company.
See Kamen, 500 U.S. at 98-99.
In a derivative suit, a shareholder seeks to enforce a right
that belongs to the corporation. See Kamen, 500 U.S. at 95.
Most jurisdictions, including Delaware, require that a pre-suit
demand be made of the corporation's board of directors given "the
basic principle of corporate governance that the decisions of a
corporation including the decision to initiate litigation
should be made by the board of directors or the majority of
shareholders." Kamen, 500 U.S. at 96. A pre-suit demand allows
the directors to exercise their business judgment and determine
whether litigation is in the best interest of the corporation.
See Kamen, 500 U.S. at 96.
Under Delaware law, "demand can only be excused where facts are
alleged with particularity which create a reasonable doubt that
the directors' action was entitled to the protections of the business judgment rule." Aronson v. Lewis, 473 A.2d 805, 808
(Del. 1984) (Aronson), overruled on other grounds by Brehm v.
Eisner, 746 A.2d 244, 253 (Del. 2000) (Brehm). "[T]he entire
question of demand futility is inextricably bound to issues of
business judgment and the standards of that doctrine's
applicability." Aronson, 473 A.2d at 812. The business judgment
rule is "a presumption that in making a business decision the
directors of a corporation acted on an informed basis, in good
faith and in the honest belief that the action taken was in the
best interests of the company." Aronson, 473 A.2d at 812. The
plaintiff has the burden of establishing facts to rebut this
presumption. Aronson, 473 A.2d at 812.
Demand futility is established if the alleged particularized
facts raise a reasonable doubt that either: (1) the directors are
disinterested and independent or (2) the challenged transaction
was a product of a valid exercise of the directors' business
judgment. Aronson, 473 A.2d at 814.*fn1 A disinterested
director "can neither appear on both sides of a transaction nor
expect to derive any personal financial benefit from [the
challenged transaction] in the sense of self-dealing, as opposed
to a benefit which develops upon the corporation or all
stockholders generally." Aronson, 473 A.2d at 812. Independence
exists when "a director's decision is based on the corporate
merits of the subject before the board rather than extraneous
considerations or influences." Aronson, 473 A.2d at 816. In
making the demand futility determination, no single factor may
itself be dispositive. "[T]he question is whether the
accumulation of all the factors creates the reasonable doubt to
which Aronson refers." Harris v. Carter, 582 A.2d 222, 229
Plaintiff argues that Robert and Patrick's familial ties and
dependence on the Company for employment and a means of making a
living demonstrate that they lack independence and that they have domination and control over the remaining Board members as
evidenced by the Board members' current or past business and
personal and employment relationships. The familial ties of
Robert and Patrick and their dependence on the Company for
employment and a means of making a living raise reasonable doubt
about their independence and interestedness. See Beam v.
Stewart, 845 A.2d 1040, 1051 (Del. 2004) (Beam); Mizel v.
Connelly, 1999 WL 550369 (Del. Ch. July 22, 1999) (Mizel).
However, Plaintiff's conclusory allegations that the remaining
directors are beholden to Robert and Patrick because of their
current or past business and personal and employment
relationships fail to raise reasonable doubt about their
independence. The remaining seven dirctors are neither dependent
on the Company for income nor have familial ties to Patrick and
Robert. Allegations of friendship or a business relationship must
be accompanied by "substantially more in the nature of serious
allegations that would demonstrate a reasonable doubt as to a
director's independence." Beam, 845 A.2d at 1052.
Plaintiff argues that Wimmer is interested because he sold
stock while in possession of undisclosed adverse material.
However, Plaintiff's conclusory allegation of insider trading is
insufficient to demonstrate reasonable doubt as to Wimmer's
interestedness. See Guttman v. Haung, 823 A.2d 492, 502 (De.
Ch. 2003) ("it is unwise to formulate a common law rule that
makes a director `interested' whenever a derivative plaintiff
cursorily alleges that he made sales of company stock in the
market at a time when he possessed material, non-public
information."); Rattner v. Bidzos, 2003 WL 22284323 (Del. Ch.
Sept. 30, 2003) (finding allegations of selling securities while
in possession of material inside information, alone, insufficient
for futility pleading requirements).
Plaintiff argues that the directors, especially those members
of the Audit Committee, are disinterested because there is a
substantial likelihood that the directors could be held
personally liable for the alleged misconduct. However, "the mere threat of
personal liability for approving a questioned transaction,
standing alone, is insufficient to challenge either the
independence or disinterestedness of directors. . . ." Aronson,
473 A.2d at 815; Pogostin v. Rice, 480 A.2d 619, 625 (Del.
1984) (rejecting "plaintiffs' bootstrap allegations of futility,
based on claims of directorial participation in and liability for
the wrongs alleged, coupled with a reluctance by directors to sue
themselves. . . .").
For the reasons stated above, the Complaint fails to
demonstrate a reasonable doubt that the majority of the directors
of the Company are disinterested and independent. Accordingly,
Plaintiff is not excused from making a pre-suit demand.
Accordingly, Defendants' Motion to Dismiss is granted. Plaintiff
is given leave to file an amended complaint within thirty days of
this Order if he can do so consistent with Federal Rule of Civil
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