Collins_J_06_14(2)[1]In this guest post, Joseph Collins, a partner at the DLA Piper law firm, examines the extent to which mismanagement claims can be brought directly against directors of a Maryland corporation, as opposed to derivatively. I would like to thank Joe for his willingness to publish his article on my site. I welcome guest post submissions from responsible authors on topics of interest to readers of this blog. Anyone interested in submitting a guest post should contact me directly. Here is Joe’s guest post.  


Maryland’s “direct claim bar” set forth in § 2-405.1(g) of the Maryland Corporations and Associations Article provides that any mismanagement claims against directors of Maryland corporation must be brought by or on behalf of the corporation, i.e., as a derivative claim.[1]  In 2009, Maryland’s highest court recognized an exception to the direct claim bar, holding that it “is inapplicable to decisions made outside the purely managerial context, such as negotiating the price shareholders will receive in a cash-out merger transaction.” Shenker v. Laureate Educ., Inc., 983 A.2d 408, 427 (Md. 2009).  In the context of a cash-out merger transaction, where the directors already made a decision to sell the corporation, the Shenker court held that the directors owe additional common law fiduciary duties of candor and maximization of shareholder value directly to the shareholders themselves.  Under Shenker, claims for breach of those common law duties may be brought directly against the directors, notwithstanding the direct claim bar.[2]


In 2014, five years after Shenker, two decisions from two different federal district courts addressed whether additional exceptions to the Maryland direct claim bar should be made, including where a shareholder alleges a “direct” injury from board mismanagement, and where a shareholder alleges that the board owed common duties of candor or maximization of share value outside of the cash-out merger context.  Both courts refused to create any additional exceptions.


In Hohenstein v. Behringer Harvard REIT I, Inc.,[3] two shareholders directly filed suit against the board of a Maryland REIT, alleging that the directors breached their managerial duties to the shareholders, including the duty of candor.  The Hohenstein court refused to recognize a duty of candor outside the cash-out merger context. “To date, Shenker’s holding has been limited to its narrow set of circumstances, and courts have not imposed a fiduciary duty of candor in other situations.”[4]  The Hohenstein court further held that the shareholders’ remaining mismanagement claims are subject to the direct claim bar: “Lawsuits against directors in their managerial capacities … cannot be done directly by the shareholders.”[5]  Because the shareholders could not meet the requirements for a derivative action under Maryland law,[6] the Hohenstein court dismissed their lawsuits with prejudice.


In Sadler v. Retail Properties of America, Inc.,[7] several shareholders directly filed suit against a Maryland REIT and its board, alleging that the directors breached their managerial duties to the shareholders, including the duties of candor and maximization of share value.  Like the court in Hohenstein, the court in Sadler refused to recognize additional duties outside the cash-out merger context, noting that “most of the courts that have interpreted Shenker have held that the duties outside § 2-405.1(a) only arise in a ‘change of control’ transaction.”[8]  Regarding the shareholders’ alleged direct injuries, the court in Sadler held that “if a suit is based on duties contained in § 2-405.1(a), it does not matter whether the Plaintiffs suffered a direct injury; the claims can only be brought through a derivative suit.[9]


Hohenstein and Sadler reaffirm the general rule that mismanagement claims against directors of Maryland corporation may only be brought as a derivative claim.  In the wake of these decisions, shareholder plaintiffs are required to make a demand on boards of directors of Maryland corporations or plead demand futility, a much higher pleading hurdle than they would otherwise face.


[1] The duties owed to a corporation by its directors in undertaking their managerial decisions are codified in § 2-405.1 of the Maryland Corporations and Associations Article:

(a) A director shall perform his duties as a director, including his duties as a member of a committee of the board on which he serves:

(1) In good faith;

(2) In a manner he reasonably believes to be in the best interests of the corporation; and

(3) With the care that an ordinarily prudent person in a like position would use under similar circumstances.

MD. CODE ANN., CORPS. & ASS’NS § 2-405.l(a)(1)-(3).

[2] The Shenker court also found that the alleged injury was direct in nature: “In addition, it is clear that, here, the injury alleged, namely, a lesser value that shareholders received for their shares in the cash-out merger, is an injury suffered solely by the shareholders and not by [the] corporate entity. Such an injury, if suffered, is a direct one, separate from any injury suffered by the corporation….” 983 A.2d at 425.

[3] 2014 WL 1265949 (N.D.Tex. March 27, 2014).

[4] Id. at *5.

[5] Id. at *6.

[6] See Werbowsky v. Collomb, 766 A.2d 123 (Md.2001).

[7] 2014 WL 2598804 (N.D.Ill. June 10, 2014).

[8] Id. at *9.

[9] Id. at *10.