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January 8, 2013

LITIGATION AND ENFORCEMENT

DIRECTORS AND OFFICERS-Delaware Chancery Court Turns Away pro se Shareholder Derivative Case

By Mark S. Nelson, J.D.

A pro se plaintiff's shareholder derivative action to recover funds allegedly embezzled by a corporation's officers or directors should be dismissed, according to the Delaware Chancery Court (Michael Patrick Kelly v. Fuqi International, Inc., January 2, 2013, Glasscock, S.). Plaintiff Michael Patrick Kelly had sought to recover $150 million in allegedly misappropriated funds on behalf of Delaware corporation Fuqi International, Inc. The Chancery Court dismissed the case because Kelly failed to comply with the requirements for Delaware derivative actions.

Fuqi makes jewelry in China and has been the subject of multiple recent shareholder suits and an ongoing SEC investigation. Plaintiff Kelly claimed to have been a Fuqi shareholder. Kelly had initially sued Fuqi's directors, managers, auditors, and attorneys in California state court for breach of fiduciary duty, negligence, and fraud. The California case was later dismissed with prejudice. Kelly then sued Fuqi in Delaware on shareholders' behalf to recover allegedly misappropriated corporate funds. The case was initially assigned to a different vice chancellor, who admonished Kelly to obtain legal counsel, but Kelly opted to remain pro se. Fuqi moved to dismiss.

The Chancery Court noted that its core purpose is to achieve fairness. As a result, the court typically gives pro se parties leeway to present their case in order to reduce the potentially negative impact of having no legal counsel. But this flexibility does not excuse pro se litigants from compliance with the Chancery Court's rules. The court observed that many of Kelly's replies to Fuqi's motions were non-substantive and sometimes recited personal attacks on Fuqi's counsel.

According to the court, Kelly's suit was a derivative one that failed to meet the demand requirement of Delaware Chancery Court Rule 23.1. Kelly also failed to name individual Fuqi defendants. Although Kelly's prior complaint named at least one individual defendant, the amended complaint named only Fuqi. Under Delaware law, said the court in a footnote, a corporation is a defendant in name only in a derivative suit and a plaintiff must name individual defendants in order to proceed.

The Chancery Court also stated that a Delaware shareholder derivative action may not be pursued pro se. In a footnote, the court cited then-Vice Chancellor Strine's 2006 decision in Parfi Hldg. AB v. Mirror Image Internet, Inc. for the rule that derivative plaintiffs must have legal counsel. Said the court, quoting the Parfi court's footnote, "[A] derivative plaintiff, who steps into the shoes of the corporation, also must be represented by counsel." Although not mentioned by the instant court, the Parfi footnote also cited a case in which the Court of Appeals for the Second Circuit observed that because a corporation must appear in court via counsel, so too must a shareholder representative.

Additionally, the Chancery Court said that Kelly did not adequately allege how Fuqi could be liable to him directly. The court observed that even if it read Kelly's amended Delaware complaint to incorporate the prior California complaint, the court still would likely dismiss Kelly's case on the grounds of claim and issue preclusion. Kelly also failed to properly serve Fuqi and he waived the opportunity to substantively oppose Fuqi's dismissal motion. Lastly, the court noted that a related derivative suit can adequately serve Kelly's interests.

The case is Civil Action No. 6797-VCG.

Michael Patrick Kelly (pro se). John L. Reed, Scott Czerwonka, Robert Brownlie, and Jennifer A. Lloyd (DLA Piper LLP) for Fuqi International, Inc.

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