337 U.S. 541, 69 S. Ct. 1221, 93 L. Ed. 1528 (1949)
P (represented by his estate) filed a complaint stating that manager and directors of Beneficial funneled money into their own accounts at the expense of the corporation’s financial well-being – nearly $100M. Beneficial is a Delaware-registered corporation that does business in NJ. NJ had a law requiring shareholders with less than 5% of all outstanding shares to pay back the corporation for legal fees and expense in the event that the shareholder’s case is unsuccessful.
The case was filed in federal court due to diversity. However Beneficial requested that P post a $125K bond for assurance that P would meet the financial burden if P lost the lawsuit..
P contended that the NJ statute requiring the 5% was inapplicable because the suit was brought before the law was created in 1945. They also argued that the state law was “procedural” in nature and needn’t be followed by the federal courts.
“The ultimate question here is whether a federal court, having jurisdiction of a stockholder’s derivative action only because the parties are of diverse citizenship, must apply a statute of the forum state which makes the plaintiff, if unsuccessful, liable for all expenses, including attorney’s fees, of the defense and requires security for their payment as a condition of prosecuting the action.”
State law should be followed.
- Historically, certain shareholders brought “strike suits” which were meant to be a nuisance – these were usually paid off on the side to a small shareholder who wanted more money. Therefore, this is a regulatory law, which the state has wide power to make.
o The statute is constitutional and can apply to “ongoing litigation” only for those fees accumulated after the date in which the NJ law was passed.
- P’s claim that the 14th amendment right of contract was violated, yet “he had no contract rights on which to base an action at law, and hence none which is impaired by this legislation.”
- The use of a percentage interest in the corporation is always arbitrary, and it’s more a question for the legislature to address in fairness than this court in a constitutional challenge.
o The NJ law is not procedural.
- This law doesn’t merely regulate procedure.
- It goes beyond usual liability by making the P liable for losses of the corporation and other Ds. If it only were reimbursement of legal costs, it would be substantive.
Moreover, executing a bond to secure repayment is most certainly not a substantive procedural law.