In the
United States Court of Appeals
For the Seventh Circuit
____________________
No. 12‐3342
WESTMORELAND COUNTY EMPLOYEE
RETIREMENT SYSTEM,
Plaintiff‐Appellant,
v.
ROBERT L. PARKINSON, JR., et al.,
Defendants‐Appellees.
____________________
Appeal from the United States District Court for the
Northern District of Illinois, Eastern Division.
No. 10 C 6514 — John J. Tharp, Jr., Judge.
____________________
ARGUED APRIL 22, 2013 — DECIDED AUGUST 16, 2013
____________________
Before WOOD, TINDER, and HAMILTON, Circuit Judges.
WOOD, Circuit Judge. This is a shareholder derivative suit
arising out of the protracted, and ultimately unsuccessful,
efforts of Baxter International, Inc., to fix various problems
with a medical device called the Colleague Infusion Pump.
Westmoreland County Employee Retirement System
(Westmoreland) alleges that Baxter’s directors and officers
breached their fiduciary duties by “consciously
2 No. 12‐3342
disregard[ing] their responsibility to bring Baxter into
compliance with [a 2006] Consent Decree and related health
and safety laws.” This breach, it contends, caused Baxter to
lose more than $550 million after an FDA‐mandated recall of
the Colleague Infusion Pumps in 2010. Westmoreland’s
problem is that it did not first ask Baxter’s board of directors
to pursue the claims it advances here; it alleges that it should
be excused from the demand requirement because of futility.
The district court concluded that Westmoreland failed
adequately to plead demand futility, as required by Federal
Rule of Civil Procedure 23.1(b)(3) and Delaware substantive
law, and solely on that basis dismissed the complaint. We
reverse.
I
We draw the following facts from Westmoreland’s
amended complaint. In doing so, we bear in mind the fact
that the adequacy of its pleadings is measured by federal
law—in particular, Rule 23.1. See Kamen v. Kemper Financial
Servs., Inc., 500 U.S. 90, 96 (1991); 7C CHARLES ALAN WRIGHT,
ARTHUR R. MILLER & MARY KAY KANE, FEDERAL PRACTICE
AND PROCEDURE §§ 1831, 1836 (3d ed. 2007). The function of
the demand futility doctrine, however, is a matter of
substance, not procedure. Kamen, 500 U.S. at 96. Thus, for
instance, although federal law governs the degree of detail
that the plaintiff must furnish when it gives its “reasons for
not obtaining the action or not making the effort,” see Rule
23.1(b)(3)(B), state law will determine whether those reasons
are sufficient.
In the mid‐1990s, Baxter began manufacturing and
selling a product called the Colleague Infusion Pump (the
Pump), an electronic medical device used to deliver
No. 12‐3342 3
intravenous fluids to patients. The Food and Drug
Administration (FDA) closely regulates the medical device
industry and requires that companies comply with “current
good manufacturing practices” and “quality system
regulations,” see 21 C.F.R. Part 820, when manufacturing
such medical devices. Between 1999 and 2005, the Pumps
were already suffering from a range of defects, some relating
to the manufacturing process and others to flaws in the
machinery. The FDA discovered some of these problems
during its inspections of Baxter’s facilities. The agency sent
Baxter a series of warning letters in which it detailed Baxter’s
failure to bring its manufacturing process into compliance
with quality‐control standards, but Baxter’s response was
not satisfactory. In October 2005, the FDA took the drastic
step of filing a complaint in federal court seeking forfeiture
of all Baxter‐owned Colleague Infusion Pumps.
On June 29, 2006, the FDA and Baxter entered into a
Consent Decree of Condemnation and Permanent Injunction
(Consent Decree), which the court approved. Baxter agreed
to stop manufacturing and distributing all models of the
Pump within the United States, and it committed to bringing
the approximately 200,000 Pumps already in the hands of
health care professionals “into compliance with the [Federal
Food, Drug, and Cosmetic] Act, its implementing
regulations, and this decree.” The Consent Decree did not
set a deadline for Baxter to complete these remedial efforts,
but it required Baxter to develop and implement a
Comprehensive Action Plan within a matter of weeks. If at
any time the FDA determined that Baxter “failed to comply
with any provision of [the] decree, or … violated the Act or
its regulations, or that additional corrective actions [were]
necessary to achieve compliance[,]” the Consent Decree
4 No. 12‐3342
authorized the Agency to take “any … corrective actions [it]
deem[ed] necessary,” including ordering a recall of the
Pumps at Baxter’s sole expense.
Over the next several years, Baxter devoted significant
attention and resources to the task of fixing the Pumps.
Company records show that the full board of directors
discussed the Pumps at least 28 times between 2006 and
2010, while Baxter’s Audit and Public Policy Committees
reviewed Pump‐related matters at least 19 and 13 times,
respectively. During these meetings, Baxter’s directors were
regularly apprised of “ongoing dialogue with the [FDA]”
and “recent meeting[s] [with Agency officials] … concerning
proposed remediation plans.” The company also expended
considerable resources on its remedial efforts, at least at first.
From 2005 to 2007, it recorded charges and other costs
totaling $185 million related to fixing the Pumps and another
medical device that was subject to the Consent Decree.
During the first three quarters of 2008, Baxter recorded
another $125 million in charges related to the Pumps. But
this spending tapered off: in the fourth quarter of 2008,
Baxter did not record any charges related to the Pumps, and
in 2009, the company spent a relatively modest $27 million.
Westmoreland’s complaint does not indicate how much, if
any, Baxter spent in the first part of 2010.
Despite these efforts, problems with the Pumps persisted,
and FDA officials grew increasingly frustrated with Baxter’s
unsuccessful remedial efforts. According to FDA enforce‐
ment officials, whose declarations Westmoreland has sub‐
mitted along with its Complaint:
the FDA consistently and repeatedly informed
Baxter, during face‐to‐face meetings, on con‐
No. 12‐3342 5
ference calls, and in writing, that its Colleague
remediation efforts were insufficient and that
Baxter’s timeline for remediating the Colleague
was unacceptable because the Colleague, at all
times, remained a violative device that posed
significant and potentially deadly health risks
to patients receiving treatment using the Col‐
league pump in the United States.
Because each new “fix” that Baxter devised “creat[ed] addi‐
tional, significant problems with the Colleague pumps” (e.g.,
battery and display failures, and diagnostic, software, and
registry errors) the FDA informed Baxter at a November 25,
2008 meeting that Baxter would be required to submit clini‐
cal data to the FDA as part of its next “510(k) submission.”
This filing was a critical part of the remedial process, but
from late 2008 through early 2010, Baxter failed to generate
clinical data (or even take preliminary steps necessary to set
up such clinical trials) as instructed. The company also “con‐
tinued to experience numerous internal quality deficiencies,”
in violation of 21 C.F.R. Part 820. Officials warned that these
shortcomings would undermine the Agency’s confidence “in
Baxter’s processes for collection, verification, and validation
of data submitted in a 510(k).” Throughout 2009, the FDA
repeatedly informed Baxter that its “timeline for complying
with the Consent Decree was unsatisfactory.” By late that
year, it became “clear within the FDA that Baxter had failed
to take the appropriate and timely corrective actions to re‐
mediate the violative Colleague pumps … or to improve [its]
quality systems to a level that would comply with the …
Consent Decree.”
6 No. 12‐3342
As these events were proceeding behind the scenes,
company officials told investors that Baxter was “moving
down a path where we [are] hopeful that we can launch our
next generation platform” (a new device called the Sigma
Pump) “in the not‐too‐distant future.” On a September 2009
conference call, Baxter’s CEO explained to investors that the
Colleague Infusion Pump was an “old device” that lacked “a
lot of the technology that’s represented in many of the
[newer] devices.” Although remedial efforts would continue,
he said, the time was coming when Baxter would “reassess
where we allocate our promotional focus in our resources.”
On April 8, 2010, Baxter submitted a revised timeline for its
response to the Pump’s problems to the FDA. According to
the new schedule, Baxter would begin the latest round of
corrections in May 2012; the company anticipated
completing these repairs in 2013.
The FDA found this proposal unacceptable and ended
the languishing remedial effort. Invoking its power under
the 2006 Consent Decree, it ordered Baxter to recall and
destroy all Colleague Infusion Pumps then in use in the
United States; to reimburse customers for the value of the
recalled device; and to assist in finding replacement devices
for these customers. This was the first time the FDA had ever
ordered a medical device company to pay a refund to
customers. Baxter’s stock price fell by more than 5% after the
announcement, and the company later recorded a pre‐tax
charge of $588 million to account for the estimated costs of
the recall.
At that point, Westmoreland brought this shareholder
derivative action on behalf of Baxter against thirteen
“Director Defendants,” including CEO and Chairman of the
No. 12‐3342 7
Board Robert L. Parkinson, Jr., and five non‐director “Officer
Defendants,” alleging breach of fiduciary duty in connection
with the Colleague Infusion Pump remedial effort. Although
the complaint recites the entire troubled history of the
Pump, the relevant period for Westmoreland’s claims is late
2008 through May 3, 2010, which is when the defendants
allegedly “consciously disregarded their responsibility to
bring Baxter into compliance with the Consent Decree and
related health and safety laws.” All of the Director
Defendants were on Baxter’s board during this period, and
at the time Westmoreland filed its complaint, these thirteen
people continued to comprise the entirety of the board.
Westmoreland’s complaint also alleges wrongdoing in
connection with several unrelated matters, but these claims
are no longer part of this controversy.
Westmoreland did not file a pre‐suit demand with Baxter
asking the directors to initiate this action (against
themselves) on the corporation’s behalf. It skipped this step
because, it contends, such a demand would have been futile.
Citing Federal Rule of Civil Procedure 23.1(b)(3), the
defendants filed a motion to dismiss, arguing that
Westmoreland had not “alleged with particularity facts
sufficient to excuse demand under Delaware law.” The
district court granted the motion. Applying the demand
futility test announced in Aronson v. Lewis, 473 A.2d 805 (Del.
1984), the court concluded that Westmoreland failed to meet
its burden of showing that demand would have been futile,
because Westmoreland failed to allege facts that would
create a reasonable doubt (1) that “the board is disinterested
in the lawsuit” or (2) that “the challenged transaction was
otherwise the product of a valid exercise of business
judgment.” This appeal follows.
8 No. 12‐3342
II
We review de novo the district court’s determination that
Westmoreland’s allegations failed to meet the requirements
of Rule 23.1 and thus that its action had to be dismissed. In re
Abbott Laboratories Derivative Shareholders Litigation, 325 F.3d
795, 803 (7th Cir. 2003). The defendants maintain that Abbott
Labs “did not adopt and apply a de novo standard of review”
because there (id. at 803) we cited an earlier demand futility
case, Starrels v. First National Bank of Chicago, 870 F.2d 1168
(7th Cir. 1989), in which we applied an abuse‐of‐discretion
standard. See also Petition for Writ of Certiorari at 17 n.4,
UBS Financial Serv. Inc. of Puerto Rico, et al., v. Unión de
Empleados de Muelles de Puerto Rico PRSSA Welfare Plan, et al.,
2013 WL 1400213 (No. 12‐1208) (question presented is
whether the First Circuit erred by reviewing a Rule 23.1
determination de novo rather than for abuse of discretion, as
allegedly done in other circuits), cert. granted, 133 S. Ct. 2857
(June 24, 2013). The UBS petition, however, overreads our
Abbott Labs decision insofar as it assumes that we were
reviewing for abuse of discretion. It relies on our citation of
Starrels, but we referred to Starrels only for the
uncontroversial proposition that appellate review generally
is deferential “except on questions of law,” Abbott Labs, 325
F.3d at 803. Our holding in Abbott Labs rested on our analysis
of the law, for which, we noted, “[a]ppellate review is
plenary.” Id. at 803. We considered holding this case for
UBS, but we have concluded that in this instance the
standard of review is not outcome‐determinative: whether
the Supreme Court endorses the de novo standard or abuse‐
of‐discretion, we would conclude that it was error to dismiss
Westmoreland’s complaint.
No. 12‐3342 9
Federal Rule of Civil Procedure 23.1 requires a plaintiff
bringing a shareholder derivative action to state with
particularity “any effort by the plaintiff to obtain the desired
action from the directors or comparable authority [and] the
reasons for … not making the effort.” Whether the content of
the statement suffices to permit the shareholder to proceed
with the litigation, however, depends on state substantive
law. Robert F. Booth Trust v. Crowley, 687 F.3d 314, 316‐17 (7th
Cir. 2012) (citing Kamen, supra). In our case, because Baxter is
incorporated in Delaware, Delaware law determines
whether Westmoreland may litigate derivatively on Baxter’s
behalf. Id.
Under that law, plaintiffs like Westmoreland must make
a pre‐suit demand of the board of directors, unless “under
the particularized facts alleged, a reasonable doubt is created
that: (1) the directors are disinterested and independent [or]
(2) the challenged transaction was otherwise the product of a
valid exercise of business judgment.” Aronson, 473 A.2d at
814. The test is “in the disjunctive[:] if either prong is
satisfied, demand is excused.” Brehm v. Eisner, 746 A.2d 244,
256 (Del. 2000). Before the district court, Westmoreland
argued both that a majority of the current directors are “not
disinterested” and that the challenged conduct was not a
valid exercise of “business judgment”; in this court,
Westmoreland appears to focus only on the second branch of
the test. It urges that a finding of demand futility is
compelled by our decision in Abbott Labs. 325 F.3d at 807‐09
(holding that although plaintiffs failed to plead specific facts
casting doubt on disinterestedness and independence, they
succeeded in creating reasonable doubt that the challenged
conduct was the product of valid business judgment).
10 No. 12‐3342
The business judgment rule establishes “a presumption
that in making a business decision the directors of a
corporation acted on an informed basis, in good faith and in
the honest belief that the action taken was in the best
interests of the company.” Gantler v. Stephens, 965 A.2d 695,
705 (Del. 2009) (quoting Aronson, 473 A.2d at 812). This
standard is “an acknowledgement of the managerial
prerogatives of Delaware directors,” id. at 812, and the
parties do not dispute that directors ordinarily enjoy wide
latitude in managing a corporation’s affairs. See In re
Caremark Intern. Inc. Derivative Litigation, 698 A.2d 959, 967
(Del. 1996) (emphasizing that “wrong” or “stupid” board
decisions generally “provide[] no ground for director
liability”).
But there are important limits to directors’ insulation
from personal liability. If a director breaches the fiduciary
duty of loyalty—which requires “conduct that is
qualitatively different from, and more culpable than, the
conduct giving rise to a violation of the fiduciary duty of
care (i.e., gross negligence)”—the business judgment rule
affords no protection. Stone v. Ritter, 911 A.2d 362, 367 (Del.
2006). The fiduciary duty of loyalty “is not limited to cases
involving a financial or other cognizable fiduciary conflict of
interest,” but also “encompasses cases where the fiduciary
fails to act in good faith.” Id. at 370. Where “directors fail to
act in the face of a known duty to act, thereby demonstrating
a conscious disregard for their responsibilities, they breach
their duty of loyalty by failing to discharge that fiduciary
obligation in good faith.” Id. Or, put slightly differently, “the
intentional dereliction of duty or the conscious disregard for
one’s responsibilities [constitutes] bad faith conduct, which
results in a breach of the duty of loyalty.” McPadden v. Sidhu,
No. 12‐3342 11
964 A.2d 1262, 1274 (Del. Ch. 2008); see also In re Massey
Energy Co., C.A. No. 5430‐VCS, 2011 WL 2176479, at *20 (Del.
Ch. May 31, 2011) (“[A] fiduciary of a Delaware corporation
cannot be loyal to a Delaware corporation by knowingly
causing it to seek profit by violating the law.”).
In this case, the question of demand futility hinges on
whether the defendants’ actions (or, more accurately, the
defendants’ considered inactions) amount to “bad faith”
under Delaware law. See Aronson, 473 A.2d at 813 (“[A]
conscious decision to refrain from acting may nonetheless be
a valid exercise of business judgment and enjoy the
protections of the rule.”). If Westmoreland has pleaded
enough to show with the necessary particularity how (in its
view) the defendants acted in “bad faith,” such that they
breached their duty of loyalty to Baxter, the alleged conduct
would fall into the narrow range of activity that falls outside
the scope of the business judgment rule. Westmoreland
would then be permitted to proceed with this suit, because
Delaware law excuses failure to make a pre‐suit demand
when a reasonable doubt exists that the challenged conduct
was “the product of a valid exercise of business judgment.”
Id. at 814. In this connection, it is worth emphasizing that
“[t]he totality of the complaint’s allegations need only
support a reasonable doubt of business judgment protection,
not ‘a judicial finding that the directors’ actions are not
protected by the business judgment rule.’” Abbott Labs, 325
F.3d at 809 (quoting Grobow v. Perot, 539 A.2d 180, 186 (Del.
1988)).
III
So let us take a closer look at Westmoreland’s allegations.
While acknowledging that Baxter officials expended
12 No. 12‐3342
considerable company resources in an effort to fix the
Pumps in 2006, 2007, and part of 2008, Westmoreland argues
that company officials improperly “threw in the towel” by
November 2008. Despite repeated warnings from the FDA
that Baxter’s remedial efforts were insufficient—warnings
that were directly communicated to CEO Parkinson and
passed along to the board of directors—the board took no
action to ensure the company’s timely compliance with the
law, choosing instead to work on the new Sigma Pump
despite its legal obligations regarding the old Colleague
Infusion Pumps. This conscious disregard of Baxter’s
responsibilities under the Consent Decree and FDA
regulations, Westmoreland continues, jeopardized the health
of thousands of patients who relied on Colleague Infusion
Pumps for their medical treatment and ultimately exposed
Baxter shareholders to significant financial losses.
Westmoreland argues that the directors’ obstinacy “in the
face of a clear mandate from the FDA to do more falls
squarely into the category of behavior that is so facially
egregious that, at the pleading stage, it creates a reasonable
inference of bad faith and excuses demand.”
The wrongdoing alleged in this case bears strong
similarities to that challenged in Abbott Labs, where this court
held that a board of director’s failure to rectify ongoing
violations of FDA regulations could constitute bad faith
excusing demand. There, the shareholders filed suit against
Abbott Labs’ directors, alleging breach of fiduciary duty
following a costly recall of adulterated diagnostic test kits
manufactured by the company. According to the complaint,
FDA officials conducted thirteen inspections of the
company’s manufacturing facilities over a six‐year period,
during which Agency officials repeatedly identified “current
No. 12‐3342 13
good manufacturing practice” and “quality system
regulation” shortcomings, see 21 C.F.R. Part 820, the same
regulations at issue here. 325 F.3d at 799. FDA officials sent
several “Warning Letters” over this period formally advising
certain company officials of this noncompliance. Id. For two
and a half years, the FDA and company officials worked
together closely under a “comprehensive Voluntary
Compliance Plan,” but eventually the FDA “clos[ed] out the
Compliance Plan” in the face of continued “deviations” by
Abbott Labs from the regulations. Id. at 800. Six months
later, the FDA filed suit, which the parties promptly
resolved through a consent decree. The agreement barred
Abbott Labs from manufacturing certain devices until
independent experts and FDA inspectors certified that its
facilities were in compliance with FDA regulations; required
the company to withdraw certain products from the market;
and obliged Abbott Labs to pay a $100 million civil fine. Id.
at 801.
We concluded that these allegations created a reasonable
doubt that the directors’ actions fell outside the protection of
the business judgment rule. Id. at 809. The directors “knew
of the violations of law, took no steps in an effort to prevent
or remedy the situation, and that failure to take any action
for such an inordinate amount of time resulted in substantial
corporate losses.” Id. Emphasizing the “magnitude and
duration of the alleged wrongdoing,” coupled with
significant evidence that the directors were “on notice”
regarding the “current good manufacturing practices”
violations, we concluded that there was a reasonable
possibility of bad faith. Although we implied in Abbott Labs
that “gross negligence” would establish a breach of the duty
of loyalty under Delaware law—a standard that Delaware
14 No. 12‐3342
courts have since refined—our reasoning was largely
consistent with subsequent Delaware cases holding that
when “directors fail to act in the face of a known duty to act,
thereby demonstrating a conscious disregard for their
responsibilities, they breach their duty of loyalty.” Stone, 911
A.2d at 367, 370. We thus found that the pleadings were
sufficient and that they alleged sufficient facts to excuse
Abbott Labs’ shareholders failure to make a pre‐suit
demand.
In some ways, the arguments for “bad faith,” and thus
for demand futility, are even stronger here. Abbott Labs did
not involve any affirmative obligations imposed on the
board of directors by virtue of a consent decree; there the
directors faced potential personal liability simply for failure
to rectify ongoing and known noncompliance with FDA
quality‐standards regulations. Westmoreland’s complaint
alleges not only that Baxter’s directors consciously flouted
the same FDA regulations, but also that the directors
knowingly steered Baxter on a course that was all but certain
to prompt the FDA to take enforcement action under the
2006 Consent Decree.1 And in Abbott Labs, we had to infer
1 When the FDA acted, it invoked its power under Paragraph 15 of the
Consent Decree, which reads as follows in pertinent part: “If, at any time
after this decree has been entered, FDA determines, based on the results
of an inspection, sample analysis, a report or data prepared or submitted
by Defendants, the Expert, or the Auditor pursuant to this decree, or any
other information, that Defendants have failed to comply with any
provision of this decree, or have violated the Act or its regulations, or
that additional corrective actions are necessary to achieve compliance
with this decree or the Act, FDA may, as and when it deems necessary,
order Defendants in writing to take appropriate actions with respect to
the Infusion Pumps or components thereof located in or to be distributed
(continued…)
No. 12‐3342 15
that the board was kept informed about the company’s
discussions with the FDA based on the responsibility of
leading company officials to share such information with the
full board. See 325 F.3d at 802, 809. Here, no such inference is
necessary, since the complaint alleges particularized facts
(e.g., meeting dates and minutes) indicating that the
directors were intimately involved in overseeing the
remedial effort.
Despite these similarities, the district court thought Ab‐
bott Labs was distinguishable: it wrote that “Baxter’s board
acted, devoting substantial resources and attention over a
prolonged period of time … to remediate the Colleague
Pump problems,” whereas in Abbott Labs the directors failed
“to take any action concerning the problems over a six‐year
period.” (Emphasis in original). Perhaps the problems with
the Pumps were simply unfixable, it speculated, since
Westmoreland’s complaint did not specify “what the
[d]efendants could or should have done differently.” The
district court concluded that Westmoreland’s allegations
that the remedial efforts were “minimal” and “deeply
flawed” would establish at most that the directors “made
poor decisions,” but that they provided “no basis to believe
that [the directors] were acting in bad faith.”
in the United States, including but not limited to, the following: [C]ease
the manufacture, processing, … and interstate distribution of any or all
the Infusion Pumps or components thereof[;] Recall … adulterated or
misbranded Infusion Pumps …; and/or … Take any other corrective
action(s) as FDA, in its discretion, deems necessary to protect the public
health or to bring Defendants into compliance with the Act, its
implementing regulations, and this decree.”
16 No. 12‐3342
There are at least three problems with this analysis. First,
Westmoreland does not challenge the directors’ actions from
2006 to 2008, when Baxter was devoting considerable
resources to fixing the Pumps. Rather, Westmoreland
contends that the directors breached their duty of loyalty
when they made a conscious decision to halt these efforts in
late 2008, despite clear and specific guidance from the FDA
that additional action from Baxter was needed to bring the
company into compliance with FDA regulations and the
terms of the Consent Decree. In November 2008,
Westmoreland alleges, the FDA informed Baxter that it
needed to design and perform clinical trials in order
properly to remedy the Colleague Infusion Pumps, but the
company declined to do so. Instead, Westmoreland asserts,
that was when it dramatically cut the amount it was
spending on the remedial efforts. Baxter’s earlier measures,
however laudable, do not negate the possibility that its
directors acted in bad faith during this later period.
Second, the district court incorrectly paints Abbott Labs as
a case involving directors who took literally no action
whatsoever in seeking to fix an adulterated product.
Although it is true that we faulted Abbott Labs’ directors for
not “tak[ing] any action,” that statement did not stand alone
and cannot be taken literally. We also recognized that the
company was party to a “comprehensive Voluntary
Compliance Plan” with the FDA for almost half of the period
of alleged wrongdoing. 325 F.3d at 809. The FDA eventually
grew frustrated with Abbott Labs and “clos[ed] out” the
Plan, but it acknowledged “Abbott Laboratories’ efforts to
meet all of the Compliance Plan commitments.” Id.; see also
id. at 802 (noting board of directors held 31 meetings during
relevant period, during which directors presumably
No. 12‐3342 17
discussed FDA compliance issues). The gravamen of the
shareholder’s complaint was not that Abbott Labs’ directors
did nothing, but rather that the defendants “knew of the
continuing pattern of noncompliance with FDA regulations
… and yet ignored repeated red flags raised by the FDA …
and chose not to bring a prompt halt to the improper
conduct causing the noncompliance,” thus incurring severe
penalties for the corporation. Id. at 802. We held that these
allegations raised a sufficient possibility of bad faith to
excuse demand. To the extent there are differences in the
(similarly ineffectual) actions of Baxter’s directors as
portrayed in Westmoreland’s complaint, they are small
differences of degree, not kind.
Finally, the district court’s focus on other hypothetical
explanations for the defendants’ conduct improperly ignores
the rule that “any inferences reasonably drawn from the fac‐
tual allegations of the complaint must be viewed in the light
most favorable to the plaintiffs.” Abbott Labs, 325 F.3d at 803.
Indeed, as in a recent Delaware Court of Chancery case
(where the court rejected a comparable Chancery Court Rule
23.1 motion to dismiss), it is altogether possible:
that the directors received advice from sophisticated
counsel … , understood where the boundary lay, and
approved a business plan and management initiatives
in the good faith belief that [the company] was re‐
maining within the bounds of the law, although per‐
haps close to the edge … . If this scenario proves true,
then [although demand was excused,] the directors
will not have acted in bad faith and will not be liable
to [the company] for any harm it suffered.
18 No. 12‐3342
La. Mun. Police Empls.’ Ret. Sys. v. Pyott, 46 A.3d 313, 356
(Del. Ch. 2012), reversed on other grounds, ‐‐‐ A.3d ‐‐‐, 2013
WL 1364695 (Del. Apr. 4, 2013) (trial court should have given
full faith and credit to California judgment). On the other
hand, as Westmoreland suggests, it could be that the direc‐
tors diverted critical resources to speed the development of
the new Sigma pump, cynically gambling that this next‐
generation device could establish a market foothold, and
that Colleague Infusion Pumps already in use would become
obsolete before the FDA spotted Baxter’s abandonment of its
earlier efforts.
At the pleading stage, without the benefit of discovery,
there is no way to “determine what actually happened.” Id.
This uncertainty is an unavoidable consequence of
Delaware’s demand futility rule. See Starrels, 870 F.2d at
1175‐76 (Easterbrook, J., concurring) (“A final oddment in
the Aronson approach [is that it requires] bobtailed
adjudication, without evidence. If facts suggesting [a
reasonable doubt] that the business judgment rule will not
prevent recovery have come to light, the investor may plead
them and litigate further, setting the stage for still another
decision about the scope of the business judgment rule.”).
The important point is that Delaware’s demand futility law
does not require Westmoreland to “plead particularized
facts sufficient to sustain ‘a judicial finding[,]’ … [n]or must
[the complaint] demonstrate a reasonable probability of
success.” Pyott, 46 A.3d at 256. The proper inquiry is
whether Westmoreland has made a sufficient “threshold
showing, through the allegation of particularized facts, that
[its] claims have some merit,” Rales v. Blasband, 634 A.3d 927,
934 (Del. 1993). We conclude that Westmoreland’s complaint
meets that standard.
No. 12‐3342 19
IV
The development and manufacture of complex medical
devices and pharmaceuticals is a risky business. Nothing we
have said should be taken as a suggestion that officers and
directors in these industries forfeit the protection of the
business judgment rule simply because some initiatives fail.
We hold instead that Westmoreland’s complaint has cleared
a significant hurdle. Delaware law is clear that “where the
fiduciary intentionally fails to act in the face of a known duty
to act, demonstrating a conscious disregard for his duties,”
such conduct establishes a failure to act in good faith. Stone,
911 A.2d at 369 (quoting In re Walt Disney Co. Deriv. Litig.,
906 A.2d 27, 67 (Del. 2006)); see also In re Massey Energy Co.,
at *20 (“Delaware law does not charter law breakers.”).
Because the particularized facts that Westmoreland has
furnished cast a reasonable doubt that the defendants’
conduct was the product of a valid exercise of business
judgment, Aronson 473 A.2d at 814, we REVERSE and REMAND
for further proceedings.