Last Friday, Judge Kleinberg of the California Superior Court, County of Santa Clara, dismissed two shareholder class actions against the former directors of Actel Corporation and Applied Signal Technology, Inc. for breach of fiduciary duties arising out of the sales of Actel and Applied Signal to third-party buyers. In doing so, Judge Kleinberg stated that, under California law, damages claims brought by shareholders of California corporations against directors for breach of fiduciary duties in connection with the approval of a merger are derivative, not direct. Thus, because a plaintiff in a shareholder’s derivative suit must maintain continuous stock ownership throughout the pendency of the litigation, and the plaintiffs ceased to be stockholders of Actel and Applied Signal by reason of a merger, Judge Kleinberg held that they lacked standing to continue the litigation.

In holding that post-merger claims against directors of California acquired corporations are derivative, Judge Kleinberg relied on the pre-Tooley rationale (which is no longer controlling in Delaware and has been questioned in California) that a harm suffered equally by all shareholders in proportion to their pro rata ownership of the company is a derivative harm. Judge Kleinberg rejected the plaintiffs’ argument that Delaware’s Tooley standard for determining whether a claim was direct or derivative was adopted by the California Court of Appeal in Bader v. Andersen, 179 Cal. App. 4th 775 (2009). According to Judge Kleinberg, in stating that California and Delaware law were “not inconsistent,” the Bader court was merely observing that the results of applying California versus Delaware law in that case were not inconsistent; it was not saying that California and Delaware law are the same on the direct versus derivative issue.

Judge Kleinberg’s holding is a victory for the defense bar, as it means that merger litigation involving California incorporated targets will be susceptible to dismissal by demurrer or summary judgment following the preliminary injunction stage.