Too Close For Comfort: Application of Shareholder’s Derivative Actions to Disputes Involving Closely Held Corporations
Posted Wednesday, September 2, 2009

Should traditional shareholder’s derivative rules apply to close corporation disputes?  The ALI has proposed that closely-held corporations may be treated as partnerships in the context of internal disputes.  The rationale for shareholder derivative suit requirements – to protect creditors, to benefit all shareholders proportionate to their ownership interests, to discourage strike suits, and to permit the corporation to manage the suit and its resolution under court supervision – are less powerful in the context of closely held corporations.  In fact, adhering to the requirements of shareholder’s derivative actions can increase the cost and complexity of suit, shift the expense of internal dissention to the corporation, and leave some members (for example, defrauded former shareholders) without a remedy. The ALI standards have been adopted, largely by judicial decision, in some states, rejected in others, and left unaddressed in California.  This paper proposes that California adopt rules to adjudicate disputes in closely held corporations, and, by extension, LLCs.