Binn v. Bernstein

Background

Moreton Binn and Marisol F, LLC brought a derivative action on behalf of XpresSpa Group, Inc., formerly known as Form Holdings Corp. They sued individual directors and related entities, alleging breach of fiduciary duty, corporate waste, unjust enrichment, faithless servant, aiding and abetting, and violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. They alleged that defendants participated in transactions without a legitimate business purpose, causing substantial dilution and reducing the company’s market value.

In an earlier round of related litigation, the court dismissed certain state-law claims and granted summary judgment to defendants on the remaining securities and contract claims. A later related suit was dismissed as duplicative. In this action, the court recommended dismissing the First Amended Complaint, and Judge Gregory H. Woods adopted that recommendation on August 6, 2020, dismissing the action with prejudice. Judge Woods also denied plaintiffs’ later request to voluntarily dismiss the action without prejudice before adopting the recommendation.

Sanctions Motion

After the judgment, defendants moved under the Private Securities Litigation Reform Act and Federal Rule of Civil Procedure 11 for findings that the action was abusive litigation and for sanctions against plaintiffs and their counsel. Defendants argued that plaintiffs brought the case for an improper purpose, were not adequate representatives in a derivative action, lacked legal and evidentiary support, and improperly tried to continue or withdraw the litigation. Plaintiffs argued that their filings were not improper, their legal theories were supported by existing law or a reasonable extension of it, and their factual allegations had evidentiary support or could have obtained such support through discovery.

The Private Securities Litigation Reform Act requires a court, after a final decision on federal securities claims, to make specific findings about compliance with Rule 11. Rule 11 requires that pleadings and motions not be filed for an improper purpose, that legal arguments have a basis in existing law or a nonfrivolous argument for changing the law, and that factual allegations have evidentiary support or are likely to obtain such support after reasonable investigation. The court explained that a claim is not sanctionable merely because it is a long shot or is later dismissed; sanctions are appropriate when the claim has no chance of success and no reasonable argument supports it.

Court’s Analysis

The court found that plaintiffs did not violate Rule 11. The prior finding that plaintiffs were not adequate representatives did not by itself justify sanctions because, if claims had survived, other minority shareholders might have been substituted as named plaintiffs.

The court also rejected the argument that dismissal meant the complaint had no legal or factual basis. Although plaintiffs had not pleaded the alleged securities violations with the required level of detail, failure to satisfy that pleading standard did not necessarily warrant sanctions. The court found that plaintiffs could reasonably have believed that overlapping board memberships, coordinated investment activity, and alleged economic relationships supported a securities claim and made it unnecessary to ask the board to pursue the claims first.

The court further held that the filing of related lawsuits, all of which were dismissed, did not establish an objective intent to harass defendants, cause unnecessary delay, or needlessly increase litigation costs. Finally, although the court described plaintiffs’ attempt to withdraw the case after the recommendation as heavily disfavored, it found that the attempt did not merit sanctions because Judge Woods promptly denied the request and soon adopted the recommendation.

Disposition

Judge Sarah L. Cave concluded that a reasonable attorney would not necessarily have determined that plaintiffs’ legal position had no chance of success. The arguments were unconvincing but not entirely frivolous. The court therefore denied defendants’ Sanctions Motion under the Private Securities Litigation Reform Act and Rule 11, and directed the Clerk of Court to close the motion docket entry.