August 16, 2017

Minnesota Supreme Court Articulates Test for Direct Versus Derivative Claims in In re Medtronic, Inc. Shareholder Litigation

On August 16, 2017, the Minnesota Supreme Court decided In re Medtronic, Inc. Shareholder Litigation, holding that a shareholder’s claim is properly characterized as a direct claim, not a derivative claim, if the shareholder suffered the injury alleged and would receive the benefit of any recovery. By contrast, the Court held that a shareholder’s claim is properly characterized as a derivative claim if the corporation suffered the injury alleged and would receive the benefit of any recovery.

Beginning in March 2014, executives of Covidien, an Irish company, contacted executives at Medtronic, then a Minnesota company, to discuss a potential merger between the companies. The companies ultimately determined that Medtronic would acquire Covidien through an “inversion”—in which Medtronic would change its place of incorporation to Ireland so that Medtronic’s future earnings would not be subject to U.S. federal income taxes. To deter such transactions, the Internal Revenue Service (IRS) imposes certain excise (or capital gains) taxes on shareholders of companies that execute inversions. But as part of the merger, Medtronic provided senior executives with tax “gross-up” payments of more than $60 million as reimbursement for these taxes. Medtronic and Covidien publicly announced the merger agreement on June 15, 2014.

On July 2, 2014, Medtronic shareholder Kenneth Steiner filed a class-action complaint against Medtronic, generally alleging that the decision to structure the acquisition as an inversion harmed him by (1) forcing him to incur capital-gains tax liability; (2) diluting the value of his shares; and (3) allowing Medtronic officers and directors to be reimbursed for excise-tax liability. He pleaded numerous counts under the Minnesota Business Corporation Act (MBCA), as well as claims against Medtronic’s Board of Directors for self-dealing and breach of fiduciary duty. In pertinent part, the district court granted Medtronic’s motion to dismiss, concluding that the self-dealing, breach-of-fiduciary duty and MBCA claims were derivative claims that failed because Mr. Steiner had not followed the procedures required by Minnesota Rule of Civil Procedure 23.09 for derivative claims. 

A three-judge panel of the Minnesota Court of Appeals reversed in part. Relying upon Delaware law, the court held that all shareholders of a Minnesota corporation may bring a direct claim even if (1) all shareholders share the same injury, as long as (2) the shareholders would receive the benefit of the recovery or remedy; and (3) the injury is not suffered by the corporation. Applying this test, it held that all but one of Mr. Steiner’s claims were direct, and thus need not have satisfied procedural requirements for derivative claims.

The Minnesota Supreme Court reversed in part. After reviewing its past decisions, it concluded that Minnesota courts need not “resort to Delaware law” to answer the “direct-versus-derivative question.” Instead, the Court clarified its standard for determining if a claim is direct or derivative: if the injury is to the shareholder and the shareholder would receive the benefit of any recovery, the claim is direct. If, by contrast, the party that suffered the injury is the corporation and the corporation would receive the benefit of any recovery, the claim is derivative. The Court made certain to note that there was no requirement that a “shareholder’s injury must be separate and distinct from any injuries to all other shareholders to bring a direct action.” 

Applying that test, the court concluded that some of the shareholder’s claims were derivative, and some were direct. First, the shareholder’s claims alleging that Medtronic improperly reimbursed corporate officers and directors for excise tax liability were derivative, because if the shareholder succeeded on that claim, “the recovery would go to Medtronic,” rather than to the shareholder. By contrast, the shareholder’s claims that the inversion forced him to incur capital-gains tax liability and diluted the value of his shares were direct, because the injury was suffered by him and any recovery would go to him. Notably, the alleged “shareholder dilution” injury was considered direct, even though many Medtronic shareholders could allege the same harm.

The opinion is noteworthy for continuing Minnesota’s tradition of forging its own path in shareholder and securities law, rather than following Delaware law. See, e.g., Reimel v. MacFarlane, 9 F. Supp. 2d 1062, 1067 n.7 (D. Minn. 1998) (“The Court will not adhere to the test articulated by the Delaware courts because, at least in [the shareholder derivative] context, that approach would be at odds with general principles of Minnesota law.”).

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