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Date: 10-08-2018
Case Style:
Klein v. Cadian Capital Mgmt., LP
Case Number: 17-3218-cv
Judge: Rosemary S. Pooler
Court: UNITED STATES COURT OF APPEALS 1 FOR THE SECOND CIRCUIT
Plaintiff's Attorney: PAUL DENNIS WEXLER
Defendant's Attorney: JAMES E. TYSSE
Z.W. Julius Chen
Douglas A. Rappaport
Robert H. Pees
Jessica Oliff Daly
Description:
Section 16(b) of the Securities Exchange Act requires corporate insiders, 11
including owners of more than ten percent of a company’s stock, to disgorge 12
what are colloquially known as “short‐swing profits,” i.e., any profits made from 13
buying and selling or selling and buying within a six‐month period a security 14
based on that company’s stock. 15 U.S.C. § 78p(b). The statute imposes strict 15
liability on insiders likely to have access to insider information in order to “tak[e] 16
the profits out of a class of transactions in which the possibility of abuse was 17
believed [by the Congress that passed it] to be intolerably great.” Reliance Elec. 18
6
Co. v. Emerson Elec. Co., 404 U.S. 418, 422 (1972). Suits under 16(b) can be brought 1
by the company that issues the relevant stock or, “if the issuer shall fail or refuse 2
to bring such suit within sixty days after request or shall fail diligently to 3
prosecute the same thereafter,” by any “owner of any security of the issuer.” 15 4
U.S.C. § 78p(b). 5
The Cadian Group allegedly owned more than ten percent of Qlik and 6
engaged in short‐swing transactions in that stock in 2014. Klein purchased some 7
of Qlik’s stock and made demand on Qlik on June 11, 2015. Qlik informed Klein 8
that it did not intend to bring an action, so Klein filed a complaint against the 9
Cadian Group on October 15. 10
The case was stayed on November 20 pending resolution of a motion in a 11
related case brought by the same plaintiff’s attorneys against the same group of 12
defendants who apparently engaged in similar transactions with another 13
company. In the meantime, a private equity company that is not a party to this 14
matter bought out Qlik in an all‐cash merger. The agreement was signed on June 15
2, 2016, and checks were cut to shareholders on August 22. 16
On November 11, 2016, the Cadian Group requested permission to file a 17
motion to dismiss on the grounds that Klein no longer had standing after selling 18
7
her shares in the merger.2 Four days later, Klein requested permission to file a 1
motion to substitute Qlik (now under new ownership) under Rule 17(a)(3) of the 2
Federal Rules of Civil Procedure. The district court granted the Cadian Group’s 3
motion to dismiss and denied Klein’s motion to substitute. Klein, 2017 WL 4
4129639, at *11. The court reasoned that Klein’s lack of continuing financial 5
interest in the litigation caused her to lose standing, which made the case moot. 6
Id. at *8. According to this logic, Klein’s lack of standing rendered the court 7
powerless to rule on her motion to substitute. The district court found in the 8
alternative that Rule 17(a)(3) does not actually apply to this situation because 9
Klein did not make an “honest mistake” in failing to include Qlik as a plaintiff ab 10
initio. Id. at *10 & n.13. Klein and Qlik timely appealed. 11
DISCUSSION 12
The district court should not have hesitated to substitute Qlik. It has the 13
constitutional power to substitute a real party in interest to avoid mooting a case 14
and Rule 17(a)(3) is an appropriate procedural mechanism for doing so. 15
2 The Cadian Group also argued that Klein did not have standing at the inception of the lawsuit, but the district court (correctly) rejected that argument and it is not at issue on appeal. See Klein ex rel. Qlik Techs., Inc. v. Cadian Capital Mgmt., LP, 15 Civ. 8140 (ER), 2017 WL 4129639, *5‐6 (S.D.N.Y. Sept. 15, 2017).
8
I. The Jurisdictional Consequence of Klein’s Loss of a Personal Stake 1
It is an elementary lemma of constitutional interpretation that Article III, 2
Section 2 limits the power of federal courts to adjudicating “Cases” and 3
“Controversies.” In practice this means that the judicial power to articulate the 4
law extends only to complaints from parties “seek[ing] redress for a legal 5
wrong.” Spokeo, Inc. v. Robins, 136 S. Ct. 1540, 1547 (2016). In civil matters, federal 6
courts will only hear from plaintiffs who clearly allege that one or more of a 7
defendant’s actions led to an “invasion of [the plaintiffs’] ‘legally protected 8
interest’” in a manner that makes it “likely that the injury will be redressed by a 9
favorable decision.” Bhatia v. Piedrahita, 756 F.3d 211, 218 (2d Cir. 2014) (quoting 10
Lujan v. Defs. of Wildlife, 504 U.S. 555, 560 (1992)). We may, in short, only entertain 11
complaints from a complainant with a concrete stake—and not just a “keen 12
interest”—in the outcome of the litigation. Hollingsworth v. Perry, 570 U.S. 693, 13
700 (2013). 14
We have previously found that there is a case or controversy in a Section 15
16(b) case so long as the party bringing suit is either the corporation that issued 16
the securities in question or a current security holder of that corporation. See 17
Donoghue v. Bulldog Inv’rs Gen. P’ship, 696 F.3d 170, 175 (2d Cir. 2012). At this 18
9
stage of the litigation, nobody contests that Klein’s interest in Qlik at the 1
initiation of the suit and until the moment of the buyout was sufficient to 2
empower the district court to hear her Section 16(b) action. The question in front 3
of us is what that court has the power to do now that Klein no longer has any 4
financial stake in Qlik. 5
The district court concluded that, once Klein was bought out, it lost all 6
power to do anything but declare that it no longer had subject‐matter 7
jurisdiction. Klein, 2017 WL 4129639, at *10. It reasoned that a derivative plaintiff 8
in a Section 16(b) action who loses her stake in the corporation thereby loses her 9
standing to maintain the action, id., which rendered “the only function remaining 10
to the court . . . that of announcing [its lack of jurisdiction] and dismissing the 11
cause.”3 Steel Co. v. Citizens for a Better Env’t, 523 U.S. 83, 94 (1998) (quoting Ex 12
parte McCardle, 7 Wall. 506, 514 (1868)). According to the court below, “[w]hile it 13
may be true that courts have distinguished between standing and mootness, the 14
Supreme Court in analyzing whether a plaintiff would maintain some continuing 15
3 Other district courts in this Circuit have analyzed similar cases similarly under the standing rubric. See, e.g., Clarex Ltd. v. Natixis Sec. Am. LLC, No. 12 Civ. 0722 (PAE), 2012 WL 4849146, at *3‐6 (S.D.N.Y. Oct. 12, 2012).
10
financial stake in a Section 16(b) litigation has indicated that the applicable 1
doctrine is that of standing.” Klein, 2017 WL 4129639, at *7 n.8 (internal quotation 2
marks omitted). 3
Reviewing this determination de novo, we hold that it was erroneous. 4
Cortlandt St. Recovery Corp. v. Hellas Telecomms., S.à.r.l., 790 F.3d 411, 417 (2d Cir. 5
2015). (“On appeal from a dismissal under Rule 12(b)(1) [including on mootness 6
grounds], we review the court’s factual findings for clear error and its legal 7
conclusions de novo.”). The district court’s interpretation of the relevant 8
precedent is understandable given the sometimes‐incautious way the word 9
“standing” has been used, but it is mistaken nevertheless. The consequences of 10
losing a stake in ongoing litigation are determined not by asking whether the 11
party losing its stake in the litigation has lost its standing but by asking whether 12
the action has become moot. 13
The case‐or‐controversy limitation on our jurisdiction, and its focus on 14
parties’ stakes in the action, manifests in three distinct legal inquiries: standing, 15
mootness, and ripeness. Only the first two are at issue here. “[S]tanding doctrine 16
evaluates a litigant’s personal stake as of the outset of litigation.” Altman v. 17
Bedford Cent. Sch. Dist., 245 F.3d 49, 70 (2d Cir. 2001) (quoting Cook v. Colgate, 992 18
11
F.2d 17, 19 (2d Cir. 1993)); see also Lujan, 504 U.S. at 569 n.4; Gollust v. Mendell, 501 1
U.S. 115, 124 (1991) (discussing Section 16(b) statutory standing as “limited only 2
by conditions existing at the time an action is begun”). Mootness doctrine 3
determines what to do “[i]f an intervening circumstance deprives the plaintiff of 4
a personal stake in the outcome of the lawsuit, at any point during litigation” 5
after its initiation.4 Genesis Healthcare Corp. v. Symczyk, 569 U.S. 66, 72 (2013) 6
(internal quotation marks omitted); see also United States v. Sanchez‐Gomez, 138 S. 7
Ct. 1532, 1537 (2018). 8
For many years, however, the term “standing” was also used to more 9
broadly connote “[a] party’s right to make a legal claim or seek judicial 10
enforcement of a duty or right.” Standing, Black’s Law Dictionary (10th ed. 2014). 11
In other words, “standing” was sometimes used to refer to a particular Article III 12
inquiry and sometimes, more informally, as a synonym for the personal stake in 13
the litigation with which multiple areas of law concerns themselves. The more 14
4 Ripeness doctrine, measured at the outset, is “designed to prevent the courts, through avoidance of premature adjudication, from entangling themselves in abstract disagreements” when it is not yet clear if or how a plaintiff has been injured. Nat’l Park Hosp. Ass’n v. Dep’t of Interior, 538 U.S. 803, 807‐08 (2003) (internal quotation marks omitted); see also Sunrise Detox V, LLC v. City of White Plains, 769 F.3d 118, 121‐22 (2d Cir. 2014).
12
informal use of “standing” can be found in some of the cases the district court 1
relied on. 2
Gollust v. Mendell, the leading case on who can sue under Section 16(b), 3
repeatedly refers to the breadth of “standing.” See 501 U.S. at 123‐25. But the 4
Gollust Court did not ask any constitutional questions; indeed, it avoided them. 5
See id. at 125‐26 (stating that had Congress drafted Section 16(b) more broadly, it 6
would have raised “serious constitutional doubt,” and relying on constitutional 7
avoidance to avoid determining the constitutional question). It was concerned 8
with a matter of statutory interpretation: to whom Section 16(b) provides a 9
private cause of action. The “standing” it was discussing was what used to be 10
called “statutory standing.” The Supreme Court has since clarified that “what 11
has been called ‘statutory standing’ in fact is not a standing issue, but simply a 12
question of whether the particular plaintiff ‘has a cause of action under the 13
statute.’” Am. Psychiatric Ass’n v. Anthem Health Plans, Inc., 821 F.3d 352, 359 (2d 14
Cir. 2016) (quoting Lexmark Int’l, Inc. v. Static Control Components, Inc., 572 U.S. 15
118, 128 (2014)). It is precisely “to avoid incorrectly portraying them as 16
jurisdictional requirements” that we now avoid the term “statutory standing” 17
when discussing the sorts of requirements found in Section 16(b) on which the 18
13
Gollust court focused. See Harry v. Total Gas & Power N. Am., Inc., 889 F.3d 104, 1
111 (2d Cir. 2018); see also Am. Psychiatric Ass’n, 821 F.3d at 359 (“Because the 2
Supreme Court made clear in Lexmark that the ‘statutory standing’ appellation is 3
‘misleading’ and ‘a misnomer,’ we avoid this appellation going 4
forward.”(citation omitted) (quoting Lexmark, 572 U.S. at 127‐28 & n.4)). If Gollust 5
had been written after the 2014 Lexmark decision, it would surely not have used 6
“standing” in describing the object of its analysis. 7
An infelicitous phrasing in one of this Circuit’s cases adds to the confusion. 8
In Altman, we reaffirmed the principle that while “standing doctrine evaluates a 9
litigant’s personal stake as of the outset of the litigation, the mootness doctrine 10
ensures that the litigant’s interest in the outcome continues to exist throughout 11
the life of the lawsuit.” 245 F.3d at 70 (internal quotation marks omitted). Just 12
before we did so, however, we seemed to conflate the two doctrines, saying “if 13
the plaintiff loses standing at any time during the pendency of the proceedings in 14
the district court or in the appellate courts, the matter becomes moot.” Id. at 69. 15
This is another instance of “standing” being used to mean something other than 16
the constitutional minimum a party must establish at the onset of a case. It is 17
14
“standing” not in its constitutional sense, but as a stand‐in for “personal stake in 1
the litigation.” 2
These terminological distinctions may seem mere taxonomic fussiness. But 3
the standing and mootness inquiries “differ in respects critical to the proper 4
resolution of” cases like this one. Friends of the Earth, Inc. v. Laidlaw Envtl. Servs. 5
(TOC), Inc., 528 U.S. 167, 180 (2000). “Standing doctrine functions to ensure, 6
among other things, that the scarce resources of the federal courts are devoted to 7
those disputes in which the parties have a concrete stake. In contrast, by the time 8
mootness is an issue, the case has been brought and litigated, often . . . for years.” 9
Id. at 191. Thus, “[t]o abandon the case at an advanced stage may prove more 10
wasteful than frugal.” Id. at 191‐92. It may also prove prejudicial to non‐parties 11
who forewent filing a separate suit on the same issues in reliance on the outcome 12
of the suit already brought. And it may enable defendants to game the judicial 13
system by providing some sort of ephemeral relief to named plaintiffs to avoid 14
the risk of more substantial relief being awarded to other real parties in interest. 15
The difference between mootness and standing has been most evident in 16
class action jurisprudence. Named plaintiffs in class litigation represent not 17
just—or even primarily—themselves, but also those sufficiently similarly 18
15
situated that Rule 23 enables judicial recognition of their shared interest. 1
Members of a class who are not named plaintiffs (and do not opt out) will be 2
bound by the result of the litigation. It is well established that their interest in the 3
outcome should not be ignored when circumstances deprive the party that 4
represents them of her interest. See Sanchez‐Gomez, 138 S. Ct. at 1538 (“The 5
certification of a suit as a class action has important consequences for the 6
unnamed members of the class . . . [as] [t]hose class members may be bound by 7
the judgment and are considered parties to the litigation in many important 8
respects.” (internal quotation marks omitted)). Accordingly, “[s]ubstitution of 9
unnamed class members for named plaintiffs who fall out of the case because of 10
settlement or other reasons” that would deprive them of standing if present at 11
the outset of litigation “is a common and normally an unexceptionable . . . 12
feature of class action litigation . . . in the federal courts.” Phillips v. Ford Motor 13
Co., 435 F.3d 785, 787 (7th Cir. 2006); see also Lierboe v. State Farm Mut. Auto. Ins. 14
Co., 350 F.3d 1018, 1023 (9th Cir. 2003) (distinguishing between cases where 15
standing was lacking ab initio, where immediate dismissal is required, and 16
where a mootness issue arises, where “substitution or intervention might [be] 17
possible”); Baxter v. Palmigiano, 425 U.S. 308, 310 n.1 (1976) (allowing for such 18
16
substitution in a prisoner litigation case). But see Symczyk, 569 U.S. at 73‐74 1
(distinguishing collective actions under the Fair Labor Standards Act from Rule 2
23 class actions for mootness purposes). Moreover, though a class technically 3
does not exist before it has been certified, “where the class is not certified until 4
after the claims of the individual class representatives have become moot, 5
certification may be deemed to relate back to the filing of the complaint in order 6
to avoid mooting the entire controversy.” Robidoux v. Celani, 987 F.2d 931, 939 (2d 7
Cir. 1993); see also Phillips, 435 F.3d at 787 (“Strictly speaking, if no motion to 8
certify has been filed (perhaps if it has been filed but not acted on), the case is not 9
yet a class action and so a dismissal of the named plaintiffs’ claims should end 10
the case . . . [b]ut the courts . . . are not so strict.”). The Supreme Court has 11
allowed the United States to step in as a plaintiff when statutorily permitted 12
“despite the disappearance of the original plaintiffs and the absence of any class 13
certification.” Pasadena City Bd. of Educ. v. Spangler, 427 U.S. 424, 430‐31 (1976). 14
And substitution of a plaintiff whose individual claim has not been mooted is not 15
even always necessary after class certification unless there is reason to believe 16
that the class representative will no longer meet the requirements of Rule 23. See, 17
e.g., Turkmen v. Ashcroft, 589 F.3d 542, 545‐46 (2d Cir. 2009). 18
17
The Seventh Circuit has described these situations as “disregard[ing] the 1
jurisdictional void that is created when the named plaintiffs’ claims are 2
dismissed.” Phillips, 435 F.3d at 787. But one might more accurately say that there 3
is no jurisdictional void to disregard. A legal controversy is not like an electrical 4
circuit, such that a court’s power switches off as soon as the personal stake of all 5
of the named parties on either side of the controversy drops below the legally 6
adequate threshold. Rather, Rule 17 contemplates that federal courts maintain 7
jurisdiction over an action in which a representative plaintiff has lost her stake 8
long enough to determine whether the concrete adverseness that existed at the 9
outset of the case can be maintained without undue prejudice to defendants. 10
Only if the answer is “no” is there no longer a live case in front of the court. And 11
only then must a court dismiss the matter for want of jurisdiction. 12
The dissent argues that recent Supreme Court precedent establishes that 13
this “more relaxed rule of mootness” applies “exclusively to class actions.” 14
Dissent at 2. With all due respect, this is an overreading of the relevant 15
precedent. In Symczyk, the Supreme Court held only that a plaintiff‐employee 16
who brings a proposed collective action under the Fair Labor Standards Act and 17
whose individual claim is mooted before any of her fellow employees opt into 18
18
the action may not be replaced with another plaintiff‐employee to avoid mooting 1
the action. See 569 U.S. at 73‐76. The Court reasoned that, unlike in a Rule 23 class 2
action, a FLSA collective action “does not produce a class with an independent 3
legal status” before other employees opt into the action. Id. at 75. In Sanchez‐4
Gomez, the Supreme Court rejected a flexible mootness inquiry in a criminal case 5
that did “not involve any formal mechanism for aggregating claims,” not even 6
one “comparable to the FLSA collective action.” 138 S. Ct. at 1539. 7
What Symczyk and Sanchez‐Gomez teach is that whether the interests of 8
non‐named interested parties are to be considered in determining whether to 9
dismiss a case as moot depends on whether those parties have a “legal status 10
separate from the interest asserted by the named plaintiff.” Id. at 1538 (quoting 11
Symczyk, 569 U.S. at 74). And whether non‐named parties have that status 12
“turn[s] on the particular traits” of the action in front of the court. Id. Ours is not 13
the easy question of whether a derivative action is a class action or not but the 14
harder question of whether a derivative action is like a class action in the 15
relevant ways. 16
We think it is. Like a class action—but unlike a pre‐certification FLSA 17
collective action as understood by the Supreme Court—a derivative action 18
19
involves a representative plaintiff. Under both Rule 23, governing class actions, 1
and Rule 23.1, governing derivative actions, a plaintiff seeking to bring suit must 2
establish that the Federal Rules allow her to formally represent the interests of 3
others. Fed. R. Civ. P. 23, 23.1. A derivative action, like a class action, is thus “an 4
‘exception to the usual rule that litigation is conducted by and on behalf of the 5
individual named parties only.’” Sanchez‐Gomez, 138 S. Ct. at 1538 (quoting 6
Califano v. Yamasaki, 442 U.S. 682, 700‐01 (1979)). A corporation is “bound by the 7
judgment” of derivative litigation brought on its behalf and is “considered [a] 8
part[y] to the litigation in many important respects.” Id. Since the dissent does 9
not deny these analogies, we are not persuaded by its assertion that a derivative 10
action is “even further afield” from class actions than FLSA collective actions. 11
Dissent at 3. 12
We also note that mootness doctrine counsels suspicion in situations in 13
which a defendant deprives a plaintiff of her stake in the litigation. For instance, 14
when a plaintiff seeks an injunction, a defendant who voluntarily ceases the 15
challenged behavior calls into question whether there is any way to redress the 16
injury alleged. A rigid view of mootness would dismiss such an action. But it is 17
well settled that “a defendant’s voluntary cessation of a challenged practice does 18
20
not deprive a federal court of its power to determine the legality of the practice.” 1
Mhany Mgmt., Inc. v. Cty. of Nassau, 819 F.3d 581, 603 (2d Cir. 2016) (quoting City 2
of Mesquite v. Aladdin’s Castle, Inc., 455 U.S. 283, 289 (1982)). To prevent a 3
defendant from strategically pausing their wrongdoing, getting a case dismissed 4
as moot, and then beginning it again after the suit ends (potentially resulting in a 5
new suit), federal law places the burden on the defendant who has voluntarily 6
ceased her wrongdoing to prove that mootness should result. Such a defendant 7
has “the formidable burden of showing that it is absolutely clear the allegedly 8
wrongful behavior could not reasonably be expected to recur,” Friends of the 9
Earth, 528 U.S. at 190, and that “interim relief or events have completely and 10
irrevocably eradicated the effects of the alleged violation,”5 Granite State Outdoor 11
Advert., Inc. v. Town of Orange, 303 F.3d 450, 451 (2d Cir. 2002) (internal quotation 12
marks omitted). Similarly, a defendant to a class action may not moot a case 13
simply by offering a settlement equivalent to the full potential value of the 14
individual claims of class representatives. See Campbell‐Ewald Co. v. Gomez, 136 S. 15
5 Moreover, dismissing a case as moot because a defendant has voluntarily ceased behavior that allegedly violates a plaintiff’s rights is a discretionary matter. See In re Charter Commc’ns, Inc., 691 F.3d 476, 483 (2d Cir. 2012).
21
Ct. 663, 670‐71 (2016). But see Symczyk, 569 U.S. at 72‐73 (leaving open whether 1
this rule applies to FLSA actions). 2
There is no evidence of any skullduggery in this case, but the rule we 3
announce today will surely apply to cases where there has been. Dismissing 4
Klein’s claim without further inquiry would leave us powerless to address a 5
defendant’s attempt to avoid liability by buying out derivative plaintiffs in future 6
cases. And strategic buyouts are not unheard of in the Section 16(b) context. Take 7
Gollust itself for instance. Before that case made it to the Supreme Court, it 8
passed through this Circuit. See Mendell ex rel. Viacom, Inc. v. Gollust, 909 F.2d 724 9
(2d Cir. 1990). While “we decline[d]—in keeping with §16(b)’s objective analysis 10
regarding defendants’ intent—to inquire whether the merger was orchestrated 11
for the express purpose of divesting plaintiff of standing,” we could not “help 12
but note that the . . . merger proposal occurred after plaintiff’s § 16(b) claim was 13
instituted,” which made “the danger of such intentional restructuring to defeat 14
the enforcement mechanism incorporated in the statute . . . clearly present.” Id. at 15
731. We observed that “a rule that allows insiders to avoid § 16(b) liability by 16
divesting public shareholders of their cause of action through a business 17
reorganization would undercut the function Congress planned to have 18
22
shareholders play in policing such actions.” Id. The Supreme Court quoted this 1
observation with approval in announcing its interpretation of Section 16(b). See 2
Gollust, 501 U.S. at 120 n.5. Today we observe, in parallel fashion, that a mootness 3
doctrine that allows those accused of securities fraud to have a suit promptly 4
dismissed by buying out a derivative plaintiff would undercut the purpose of 5
derivative litigation under Rule 23.1 as well as courts’ constitutional function of 6
resolving genuine disputes. 7
Thus, while the district court is correct that Klein lost her personal stake in 8
the litigation, it is incorrect that it has no ability to consider Klein’s motion to 9
substitute Qlik.6 Unlike a federal court presented with a plaintiff who has no 10
standing, a federal court considering whether a case has become moot already 11
has jurisdiction over that case. When a representative plaintiff’s ongoing stake in 12
the outcome is at issue, a federal court maintains its jurisdiction at least long 13
enough to determine whether the represented parties maintain an interest and 14
6 Both Section 16(b) and Rule 23.1 require a continuing financial interest. Because the nature of the injury for constitutional purposes is in part delimited by the law underlying the claim in question, we need not determine whether a statute or federal rule that enabled Klein to maintain an action despite her loss of a financial interest in Qlik would run into constitutional problems.
23
whether a substitution could avoid mootness. So long as a proposed substitution 1
does not “come[] long after the claims of the named plaintiff[] were dismissed” 2
and does not alter the substance of the action, it should be considered as an 3
alternative to dismissal. Phillips, 435 F.3d at 787. 4
II. Substituting Qlik under Rule 17(a)(3) 5
Klein’s proposed procedural route to substitution is Rule 17(a)(3) of the 6
Federal Rules of Civil Procedure. That Rule prohibits federal courts from 7
dismissing a case “for failure to prosecute in the name of the real party in interest 8
until, after an objection, a reasonable time has been allowed for the real party in 9
interest to ratify, join, or be substituted into the action.” Fed. R. Civ. P. 17(a)(3). 10
“Crucially for statute of limitations purposes, the claim of the [substituted] real 11
party in interest . . . dates back to the filing of the complaint.” Cortlandt, 790 F.3d 12
at 421. Qlik, the issuer of the securities at issue, is the real party in interest in this 13
derivative litigation. See Donoghue, 696 F.3d at 176 & n.5. 14
The district court ruled that “[e]ven if [it] had standing to entertain 15
[Klein’s] motion, the motion would fail,” because Rule 17(a) only allows 16
substitution when there has been an “honest mistake in selecting the proper 17
party,” and Qlik’s conscious decision not to litigate this action is not an “honest 18
24
mistake.” Klein, 2017 WL 4129639, at *10 n.13. This determination was based on 1
an error of law, and thus constituted an abuse of the district court’s discretion. 2
See Cortlandt, 790 F.3d at 417 (“A district court’s decision whether to dismiss 3
pursuant to Rule 17(a) is reviewed for abuse of discretion.” (internal quotation 4
marks omitted)). 5
In this Circuit, “Rule 17(a) substitution of plaintiffs should be liberally 6
allowed when the change is merely formal and in no way alters the original 7
complaint’s factual allegations as to the events or the participants.” Advanced 8
Magnetics, Inc. v. Bayfront Partners, Inc., 106 F.3d 11, 20 (2d Cir. 1997). Even if a 9
proposed substitution meets these requirements, it should be denied if it is being 10
proposed “in bad faith or in an effort to deceive or prejudice the defendants.” Id. 11
at 21. A court may also deny a Rule 17(a) substitution if doing so would 12
otherwise result in “unfairness to defendants.” Id. In sum, “[a]lthough the district 13
court retains some discretion to dismiss an action where there was no semblance 14
of any reasonable basis for the naming of an incorrect party, there plainly should 15
be no dismissal where substitution of the real party in interest is necessary to 16
avoid injustice.” Id. at 20 (citation and internal quotation marks omitted). 17
25
Klein’s proposed substitution of Qlik would alter none of the factual 1
allegations of the complaint. And there is no evidence that either Qlik or Klein 2
are acting or have acted in bad faith. As far as the record shows, both Qlik and 3
Klein honestly expected, based on the information they had at the time of Klein’s 4
demand, that Klein would litigate on Qlik’s behalf until judgment. 5
Circumstances intervened. A third‐party investor bought Qlik, resulting both in 6
Klein losing her interest in the litigation and Qlik changing its corporate mind 7
about whether to litigate on its own behalf. We do not have even the slightest 8
reason to believe that this transaction was designed with its impact on this 9
litigation in mind. Neither Klein nor Qlik seems to have engaged in any trickery. 10
Both seem merely to have responded to the extra‐litigation circumstances as they 11
presented themselves. 12
Further, we can discern no unfairness to the Cadian Group in allowing 13
substitution. Of course, if substitution were not allowed, they would no longer 14
have to defend this action or to worry about disgorging the profits from their 15
alleged short‐swing trades. And this suit has gone on long enough that if Qlik 16
were to bring a new suit on these claims, the Cadian Group would have a statute 17
of limitations defense. No doubt it is unfortunate for them that Rule 17(a)(3) is 18
26
the only thing keeping them in court. Unfortunate, but not unfair. Ensuring that 1
an otherwise proper suit is not dismissed for want of a proper party when that 2
party is ready and willing to join the fray is the very purpose of Rule 17(a)(3). See 3
Cortlandt, 790 F.3d at 420‐21. Rule 17’s relation‐back provision furthers that 4
purpose in situations like this one, where the course of the litigation has traveled 5
beyond the limitations period through no fault of the real party in interest or the 6
party representing them. 7
We need not determine whether Qlik committed an “honest mistake” 8
when it declined Klein’s demand because, contrary to the dissent’s suggestion 9
and the district court’s holding, a plaintiff’s honest mistake is not a precondition 10
for granting a Rule 17(a)(3) motion. Only in two opinions interpreting Rule 17 do 11
we ever refer to a plaintiff’s honesty, and in neither do we declare that 12
establishing an “honest mistake” is necessary. In Cortlandt, we mentioned by way 13
of background that Rule 17(a)(3) “codifies the modern ‘judicial tendency to be 14
lenient when an honest mistake has been made in selecting the proper plaintiff.’” 15
790 F.3d at 421 (quoting 6A Charles Alan Wright et al., Federal Practice 16
& Procedure § 1555 (3d ed. 2014)). But when it came time to enumerate 17(a)(3)’s 17
requirements, we relied, as we do today, on Advanced Magnetics, calling it the 18
27
“leading case interpreting the Rule.” See Cortlandt, 790 F.3d at 422. In DeKalb 1
County Pension Fund v. Transocean Ltd., we mentioned that substitution of the real 2
party in interest should be denied when that party has neither established that 3
“its tardy appearance was understandable or honest, nor pointed to a semblance 4
of any reasonable basis therefor.” 817 F.3d 393, 412 (2d Cir. 2016) (internal 5
quotation marks omitted). This statement was dicta,7 and, in any case, requiring 6
“a semblance of a reasonable basis” for a real party in interest’s “tardy 7
appearance” is not the same as requiring that party to establish that she made an 8
“honest mistake.”8 Thus, both Cortlandt and DeKalb are entirely consistent with 9
Advanced Magnetics, which focused on “bad faith.” 106 F.3d at 20‐21. Establishing 10
that a real party in interest has made an honest mistake is, at most, one way of 11
7 Contrary to the dissent’s suggestion, DeKalb’s conclusion that the original plaintiff lacked standing and the court thus lacked subject matter jurisdiction ab initio could not be an “alternative holding.” See Dissent at 7. “[I]n the absence of a plaintiff with standing . . . there [is] . . . no lawsuit pending for the real party in interest to ‘ratify, join, or be substituted into’ under Rule 17(a)(3) or otherwise.” Cortlandt, 790 F.3d at 423. Whether the real party in interest made a mistake does not even enter into consideration. 8 The dissent suggests that these two concepts are the same. Dissent at 8. If so, then it seems the main focus of disagreement is the narrow question of whether Qlik had any semblance of a reasonable basis for failing to join the suit earlier. We think Qlik exhibited at least “minimal diligence” in the circumstances of this case (for the reasons articulated above); our dissenting colleague does not.
28
making clear that her failure to join the suit at a previous stage of the litigation9 1
was not “deliberate or tactical.” Id. Whether or not it was an “honest mistake” for 2
Qlik not to join this suit at its outset (or at any point prior to the Rule 17 motion), 3
it did not act in bad faith. 4
Finally, we conclude that substituting Qlik here is “necessary to avoid 5
injustice,” id. at 20 (internal quotation marks omitted), because a rule disallowing 6
substitution in these circumstances would contravene the purpose of shareholder 7
derivative suits. A company that rejects a demand to sue does so with the 8
knowledge that a shareholder can sue on its behalf. Unlike in the class action 9
context, the filing of a derivative action does not toll the statute of limitations on 10
the substantive cause of action so that a company can intervene if a shareholder 11
loses her interest in the suit (legal or otherwise). See Cal. Pub. Emps.’ Ret. Sys. v. 12
ANZ Sec., Inc., 137 S. Ct. 2042, 2051‐54 (2017) (discussing the equitable tolling rule 13
in the class context and distinguishing it from securities actions governed by the 14
Securities Exchange Act’s statutes of repose); SRM Global Master Fund Ltd. P’ship 15
9 In asking why a real party in interest did not join the suit earlier, a court need not only focus on the time at which the suit was brought (or at which demand was rejected). Bad faith in failing to join at any prior point in the litigation can call into question the propriety of allowing substitution.
29
v. Bear Stearns Co. L.L.C., 829 F.3d 173, 176‐77 (2d Cir. 2016) (same). Thus, if a 1
company were disallowed from joining a suit under Rule 17(a)(3) merely because 2
it had rejected a shareholder’s demand, its ability (and the ability of its other 3
shareholders) to recover assets of which it was illegally deprived would stand or 4
fall with the continuing financial interest of the representative shareholder. Other 5
shareholders would have to maintain separate derivative actions to avoid having 6
their investment depend on the vicissitudes of that litigation, resulting in a 7
“needless multiplicity of actions.” Crown, Cork & Seal Co. v. Parker, 462 U.S. 345, 8
351 (1983). Companies would reasonably doubt whether relying on a derivative 9
shareholder to protect their interests would be prudent, undermining Rule 23.1 10
and the policies it furthers.
Outcome: For the foregoing reasons, we VACATE the district court’s dismissal of this
action and REMAND for substitution of Qlik and further proceedings consistent
with this decision.
Plaintiff's Experts:
Defendant's Experts:
Comments: