1. Partnerships--limited partner claims--misrepresentation--fraudulent nondisclosure-
-individual claims
Under Delaware law, plaintiff limited partners could assert individual claims for
misrepresentation and fraudulent nondisclosure directly against the general partner, its parent
bank which acted as placement agent for the partnership, and the partnership managers. The
determination of whether a partner's claim should be brought directly or derivatively turns on
who suffered the alleged harm and who would receive the benefit. Defendants concede that the
alleged harm here was suffered by the individual limited partners and any remedy or recovery
would benefit those individual partners
.
2. Partnerships--limited partner claims--breach of contract--negligence--breach of
fiduciary duty--derivative claims--demand upon general partner
Under Delaware law, plaintiff limited partners' claims for breach of contract, negligence,
and breach of fiduciary duty against the general partner, its parent bank which acted as
placement agent for the partnership, and the partnership managers were derivative claims that
could be asserted by plaintiffs on behalf of the limited partnership only after the general partner
refused to do so or it was shown that a demand on the general partner to bring the action would
be futile. Although plaintiffs contend that making a demand on the general partner would have
been futile because it would in essence have been asking the general partner to sue itself, this
reason is not a sufficient excuse for failure to make a demand.\
Kilpatrick Stockton L.L.P., by David C. Smith, for plaintiff-
appellants.
Bell, Davis & Pitt, P.A., by William K. Davis, and Brooks
Pierce, by Mack Sperling, and Smith Moore, L.L.P., by J.
Donald Cowan, Jr., for defendant-appellees.
HUDSON, Judge.
This action arises from a complaint filed against defendants
Deutsche Bank Securities, Inc. (“Deutsche Bank”) d/b/a Deutsche
Bank Alex. Brown, Alex. Brown Management Services, Inc. (“Alex.
Brown”), DC Investment Partners, LLC (“DCIP”), and D.B. Alex. Brown
Exchange Fund, I, L.P. (“Exchange Fund”), by plaintiffs Eda
Hofstead Cabaniss (“Mrs. Cabaniss”), James and Kalen Haun (“the
Hauns”), and Elizabeth Wanders (“Mrs. Wanders”) as trustee,
alleging, both as individuals and derivatively on behalf of the
Exchange Fund, breach of contract, negligence, misrepresentation,
and breach of fiduciary duty, and individual claims for fraudulent
non-disclosure. On 28 July 2003, defendants moved to dismiss the
complaint pursuant to Rule 12(b)(6) of the North Carolina Rules of
Civil Procedure. On 17 October 2003, the court entered an order
dismissing the complaint. Plaintiffs appeal. As discussed below,
we affirm in part and reverse and remand in part.
In 1997, each of the plaintiffs owned or controlled a large
number of shares of highly-appreciated stock and wished to
diversify their holdings without triggering significant capital
gains tax liability. Deutsche Bank, an investment advisor to
plaintiffs, created the Exchange Fund, a Delaware limited
partnership, as a solution to plaintiffs' investment quandary.
Deutsche Bank acted as the placement agent for the Exchange Fund,
while Alex. Brown, a wholly-owned subsidiary of Deutsche Bank,
served as the Exchange Fund's general partner and investment
advisor responsible for management. Alex. Brown employed DCIP to
handle the day-to-day management and administration of the ExchangeFund. The management committee of the Exchange Fund consisted of
six members, five of whom were Deutsche Bank executives.
Plaintiffs became limited partners in the Exchange Fund. In
2000, the value of the Exchange Fund's limited partnership units
fell dramatically. After plaintiffs filed their complaint,
defendants moved to dismiss on the ground that the claims could
only be asserted derivatively, and that derivative claims could not
be pursued in court in the absence of a prior demand on the
management committee.
[1] Plaintiffs first argue that the court erred in dismissing
plaintiffs' complaint on the ground that they could not assert
individual claims against defendants. We agree with respect to the
misrepresentation and fraudulent non-disclosure claims, but
disagree with respect to plaintiffs' other claims.
It is well-established that:
On a motion to dismiss pursuant to Rule
12(b)(6) of the North Carolina Rules of Civil
Procedure, the standard of review is whether,
as a matter of law, the allegations of the
complaint, treated as true, are sufficient to
state a claim upon which relief may be granted
under some legal theory. The complaint must
be liberally construed, and the court should
not dismiss the complaint unless it appears
beyond a doubt that the plaintiff could not
prove any set of facts to support his claim
which would entitle him to relief.
Block v. County of Person, 141 N.C. App. 273, 277-78, 540 S.E.2d
415, 419 (2000) (internal citations and quotation marks omitted).
Here, because the Exchange Fund is a Delaware limited
partnership, Delaware law controls. N.C. Gen. Stat, § 59-901(1999); 6 Del. Co. § 17-901 (1999). The determination of whether
a stockholder's claim should be brought directly or derivatively
must turn solely on the following questions:
(1) who suffered the alleged harm (the
corporation or the suing stockholders,
individually); and (2) who would receive the
benefit of any recovery or other remedy (the
corporation or the stockholders,
individually)?
Tooley v. Donaldson, Lufkin, & Jenrette, Inc., 845 A.2d 1031, 1033
(Del. 2004) (emphasis omitted). Defendants concede that under this
analysis, the claims for fraudulent non-disclosure and
misrepresentation are properly brought as direct actions, as the
alleged harm was suffered by the individual stockholders and any
remedy or recovery would benefit the individual stockholders.
Thus, we reverse the dismissal of these claims.
[2] The remaining claims are for breach of contract,
negligence, and breach of fiduciary duty. In answering the first
question of the Tooley test, we must determine if “the plaintiff
[has] demonstrated that he or she can prevail without showing an
injury to the corporation.” Agostino v. Hicks, 845 A.2d 1110, 1122
(Del. Ch. 2004). Here, we believe that the answer must be no.
Each of these claims is at its heart, based on allegations of
mismanagement of the Exchange Fund's assets. Where the “injury
suffered by plaintiff, a devaluation of his stock, was a natural
and expected consequence of the injury initially borne by the
Company[,] the injury . . . is not individual in nature.” Id. at
1124. Plaintiffs allege that by failing to screen adequately
contributions to the Exchange Fund and to manage properly anddiversify the investments, and by engaging in self-dealing,
defendants caused the Fund's assets to decline and thus financially
damaged plaintiffs in proportion to their investments in the Fund.
Thus, we conclude that plaintiffs' claims for breach of contract,
negligence, and breach of fiduciary duty are derivative claims.
Plaintiffs also argue that they were not required to make
demand upon Alex. Brown before asserting their derivative claims
because such demand would have been futile. We disagree.
“[T]he determination of whether a fiduciary duty lawsuit is
derivative or direct in nature is substantially the same for
corporate cases as it is for limited partnership cases.” Litman v.
Prudential-Bache Properties, Inc., 611 A.2d 12, 15 (Del. Ch. 1992).
Under Delaware law, a plaintiff may not bring a derivative claim in
the right of a limited partnership unless the general partner has
refused to do so, or any demand that the general partner do so
would be futile:
A limited partner or an assignee of a
partnership interest may bring an action in
the Court of Chancery in the right of a
limited partnership to recover a judgment in
its favor if general partners with authority
to do so have refused to bring the action or
if an effort to cause those general partners
to bring the action is not likely to succeed.
6 Del. C. § 17-1001 (2001). In addition, in derivative actions,
the complaint must state with particularity what effort plaintiffs
made to get a general partner to initiate an action by a general
partner or explain why it has not done so. Litman, 611 A.2d at 17.
“This rule is one of substantive right -- not simply a technical
rule of pleading.” Haber v. Bell, 465 A.2d 353, 357 (Del. Ch.1983). The purpose of this rule is to allow the general partner,
on behalf of the limited partnership, “the opportunity to rectify
the alleged wrong without suit or to control any litigation brought
for its benefit.” Id. Plaintiffs contend that making demand on
Alex. Brown would have been futile because the majority of its
current and former management committee members were employed by
Deutsche Bank and its affiliates and that a demand would in essence
be asking the managers of the general partner to sue themselves.
However, as the court pointed out in Haber, “[t]his is not a
sufficient excuse for failure to make a demand.” Id. at 360.
Further, when a plaintiff accepts the terms of a partnership
agreement which discloses conflicts of interest or self-dealing, he
or she is precluded from bringing a derivative claim based on facts
disclosed in that agreement. Goodman v. Futrovsky, 213 A.2d 899,
902-03 (Del. 1965), cert. denied, 383 U.S. 946, 16 L. Ed. 2d 209,
86 S. Ct. 1197 (1966) (holding that a plaintiff could not bring a
derivative claim regarding a conflict of interest when this
information had been disclosed in previous prospectuses). “A
stockholder cannot complain of corporate action in which he has
concurred.” Schreiber v. Bryan, 396 A.2d 512, 517 (Del. Ch. 1978).
Because plaintiffs failed to make demand on Alex. Brown or excuse
such demand as futile as required by 6 Del. C. § 17-1001, they have
no standing to bring these derivative actions.
Finally, plaintiffs argue that the trial court wrongly
considered documents outside the scope of the second amended
complaint which were attached to the motion to dismiss. Oberlin
Capital, L.P. v. Slavin, 147 N.C. App. 52, 60-1, 554 S.E.2d 840,
847 (2001). However, given plaintiffs' failure to comply with thedemand requirements as discussed above, the court's consideration
of the letter in making its ruling, while improper, was not
prejudicial.
Reversed and remanded in part, affirmed in part.
Judges WYNN and STEELMAN concur.
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