Court Reinstates Finistar Options Backdating Suit

The 9th U.S. Circuit Court of Appeals has reinstated a lawsuit brought by Finistar shareholders alleging stock options backdating.

The court said because plaintiffs pointed to specific grants, specific language in option plans, specific public disclosures, and specific empirical analysis to show knowing and purposeful violations, they had provided sufficient detail to survive a motion to dismiss for failure to make demand.  

A lower court had dismissed the suit for failure to allege particularized facts that make demand on the corporation’s board of directors futile (“demand futility”). Shareholders suing derivatively must make demand on the corporation’s directors to take corrective action, or else, to state with particularity the reasons why demand may be futile, according to the opinion.  

Using Delaware law for the definition of demand futility (which is where Finistar is incorporated), the court found that all factors in Delaware courts have previously found sufficient to plead demand futility were present in the shareholders complaint.  

First the plaintiffs allege demand on the board would be futile because all directors are incapable of being disinterested because six of the seven in place at the time defined in the suit received and/or approved back dated options, and all seven signed false Form 10-K’s, misleading investors and violating federal law. The shareholders also alleged that any backdating violated Finistar’s stock option plan, noting that the plan set forth the fixed recording price and date, and any selection other than that had to be done knowingly.  

The appellate court said plaintiffs also used a “Merrill Lynch”-type analysis to show that dates for stock options were selected to obtain a more favorable price. The opinion explained that a Merrill Lynch analysis calculates the annualized returns of option grants at twenty days after the grant and compares it with the company’s overall annual return.   

The opinion in Lynch v. Rawls is here.