In La. Mun. Police Emps.’ Ret. Sys. V. Wynn, 829 F.3d 1048 (9th Cir. 2016) the United States Court of Appeals for the 9th Circuit affirmed the district court’s holding, dismissing the shareholders (“Plaintiffs”) complaint against Wynn Resorts, Limited, a Nevada Corporation (“Wynn Resorts”) and eleven individuals who sit or sat on the board of directors (“Board”) (collectively, “Defendants”). The 9th Circuit ruled the district court found Plaintiffs failed to show why a demand to the Board to bring a derivative suit on behalf of the corporation would be futile.
According to the allegations in the complaint, Wynn Resorts attempted to execute a lease for a new resort and casino with the city of Macau, China (“Government”), but the lease application sat idle for five years. At this time, the Board authorized a donation to the University of Macau and its Development Foundation totaling $135 million over a ten-year period (“Donation”). The Development Foundation “is presided over by many of the same government officials who have substantial control over gaming matters and real estate in Macau.” Following the Donation, the Government accepted Wynn Resorts’ application for a second lease.
Both the Securities and Exchange Commission and the Nevada Gaming Commission Board investigated the Donation, but neither brought an action or found a violation of the law. Meanwhile, a former Director, Kazuo Okada, demanded a separate investigation into the Donation. An investigator retained “hired” by Stephen Wynn, the Chairman and CEO (“Wynn”), concluded that Okada was “unsuitable” to own shares in Wynn Resorts. As a result, the Wynn Resorts redeemed his shares.
Plaintiffs considered the Donation as a “quid pro quo“ bribe. Specifically, they alleged the Board breached its fiduciary duties and committed corporate waste by approving the Donation. In doing so, the Donation caused Wynn Resorts to “incur legal expenses and be exposed to potential liability.” Plaintiffs further alleged Defendants breached their fiduciary duties by redeeming Okada’s shares because such action had no legitimate purpose and merely encumbered Wynn Resorts with a higher debt load.
Before a derivate suit can be brought, the shareholders must either make a demand on the board of directors or explain why such demand would be futile. “Demand futility” must meet the heightened pleading standard set out in the Federal Rules of Civil Procedure. Shareholders must state with particularity the efforts to obtain make demand or the reasons for not doing so. Plaintiffs made no demand and argued futility for three reasons: (1) a majority of the Board was “beholden” to Wynn; (2) the Board could not be impartial because they were subject to personal liability for approving the Donation; and (3) the Board could not be impartial due to a reasonable doubt as to whether its decision to redeem Okada’s shares would be given the benefit of the business judgment rule.
First, the court addressed whether the non-interested directors lacked sufficient independence. To lack Independence, a director must have material ties to the interested party such that the director cannot objectively fulfill his or her fiduciary duties. The material relationship may be personal or financial. In examining the relationships between Wynn and the non-interested directors, the court found that none were sufficient to deprive the directors of their independence. The allegations included, among other things, assistance by Wynn of a director in his political campaigns, various business connections between a director and Wynn and Wynn’s family (with the court noting that the social ties failed to show that the relationships were “as thick as blood relations”), and the receipt by a director of an ownership stake in Wynn Resorts.
Second, the court rejected the allegation that the directors feared that they would face personal liability for the Donation. Under Nevada law, to be subject to liability, the circumstances required the “intentional misconduct, fraud or a knowing violation of law” on the part of the director. The court noted that the complaint acknowledged that the Board had obtained a “legal opinion blessing” for the transaction and that the Nevada and SEC investigations ended without any enforcement proceedings. Moreover, to the extent the complaint could be read to allege negligence, “Nevada law required “knowledge or intent before directly liability” could attach.
Third, the court concluded that shareholders had not sufficiently alleged reasonable doubt about the availability of the business judgment rule. With respect to the redemption of the Okada shares, Plaintiffs alleged that the conversion of Okada from an equity to a debt holder provided no protection for the company’s gaming license. The court disagreed and pointed to state law which treated equity and debt holders differently. “As a consequence, it does not follow logically, and it is not reasonable to infer, that the board was acting dishonestly, in bad faith, or without an informed basis—or otherwise had no legitimate business purpose—when it voted to convert Okada's shares from equity to debt in response to the report of former FBI director Freeh.”
Accordingly, the court affirmed the district court’s holding dismissing the complaint.
The primary materials for this case may be found on the DU Corporate Governance website.