Derivative Action Dismissed for Failure to Give Board Adequate Time to Respond to Demand

On April 4, 2020, Justice Masley of the New York County Commercial Division issued a decision in D. Karnofsky, Inc. v. Rozof, 2020 NY Slip Op. 31748(U), dismissing derivative claims because of the plaintiff's failure to give the board adequate time to respond to the plaintiff's demand, explaining:

[D]efendants challenge plaintiff's failure to allege pre-litigation demand. Plaintiffs who make pre-litigation demands but then file the complaint without giving the board a reasonable opportunity to investigate and respond to the demands do not satisfy the demand requirement. Here, Arthur sent his demand letter (Demand Letter) to Mark on November 17, 2017 and Mark responded in an email on November 20, 2017 informing Arthur that the Board of Directors would consider the five claims of alleged misconduct after the annual shareholder meeting on December 15, 2017. Two days after receiving the Response Email, and five days after sending the Demand Letter, Arthur filed his counterclaims on November 22, 2017. Accordingly, Arthur did not give the board a reasonable opportunity to investigate and respond to the demands. The short timeline here makes the pre-suit demand appear perfunctory and, therefore, undermines the purpose of the demand requirement: to weed out unnecessary or illegitimate shareholder derivative suits. Arthur's decision to send the Demand Letter after the complaint was filed against him and while his time to interpose an answer with counterclaims was running only bolsters this conclusion.

The court rejects Arthur's argument that the terse response to the Demand Letter clearly demonstrated that the Company would do nothing more and would not initiate a civil action. Indeed, the Response Email says no such thing, and to the contrary, invites Arthur to submit the evidence of his allegations for the Board's consideration at the meeting. Therefore, Arthur fails to show that the board refused to bring this action in its own name, another reason that the demand requirement was not satisfied.

(Internal citations omitted).

This decision illustrates one of the special pleading requirements for derivative actions (where a shareholder brings an action on behalf of a corporation). Contact Schlam Stone & Dolan partner John Lundin at jlundin@schlamstone.com if you or a client have questions regarding bringing an action on behalf of a corporation or other business entity.