Amicus Curiae Brief — California Public Employees' Retirement System v. Felzen

FILED

NOV 10 95

OCTOBER TERM, 1998

CALIFORNIA PUBLIC EMPLOYEES’ RETIREMENT

SYSTEM, ET AL., PETITIONERS

v.

PAUL FELZEN, ET AL.

ON WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS

FOR THE SEVENTH CIRCUIT

BRIEF FOR THE UNITED STATES AND

THE SECURITIES AND EXCHANGE COMMISSION

AS AMICI CURIAE SUPPORTING PETITIONERS

SETH P. WAXMAN

. : Solicitor General

HARVEY J. GOLDSCHMID Counsel of Record

General Counsel

DWIN S. KN

DAVID M. BECKER E EEDLER

Deputy Solicitor General

Deputy General Counsel 7 ;

PAUL GONSON — abe - 3 '

Seide ssistant to the Solicitor

General

JACOB H. STILLMAN | Department of Justice

Associate General Counsel Washington, D.C. 20530-0001

ERIC SUMMERGRAD (202) 514-2217

Principal Assistant General

Counsel

HOPE HALL AUGUSTINI

Special Counsel ;

Securities and Exchange nt

Commission

Washington, D.C. 20549

QUESTION PRESENTED

Whether a shareholder who is not a named plaintiff but

who submits an objection to a proposed settlement in a de-

rivative action in district court, in response to notice pro-

vided under Federal Rule of Civil Procedure 23.1, may

appeal the approval of the settlement without formally inter-

vening as a party.

Objecting shareholders may appeal an order

approving a settlement in a shareholder derivative

suit

A. The right of objecting shareholders to appeal

is longstanding and grounded in this Court’s

cases involving quasi parties 5

B. Upholding the rights of objecting share-

holders to appeal district court decisions

approving settlements furthers the

purposes underlying the rule 19

C. The court of appeals’ contrary reasoning

is unpersuasive

8 &

Conclusion

TABLE OF AUTHORITIES

Cases:

Aetna Life Ins. Co. v. Alla Medical Servs., 855

F.2d 1470 (9th Cir. 1988) 27

Alleghany Corp. v. Kirby, 333 F.2d 327 (2d Cir.

1964), cert. dismissed, 384 U.S. 983 (1965) 23

American Pipe & Constr. Co. v. Utah, 414 US.

588 (1974) 25

Baldwin v. Hale, 68 U.S. (1 Wall.) 223 (188 15

Bateman Eichler, Hill Richards, Inc. v. Berner,

472 U.S. 299 (1985) 1

Bayard v. Lombard, 50 U.S. (9 How.) 580

(1850) 11,27

Bell Atlantic Corp. v. Bolger, 2 F.3d 1804 (3d

Cir. 1993) 5, 21, 28, 24, 28

(IID

Cases—Continued: Page

Bernstein v. Mediobanca Banca di Credito

Finanziario-Societa Per Azioni, 78 F.R.D.1

(S.D.N.Y. 1978) 21

Blake v. District Court, 59 F.2d 78 (9th Cir.

1932) 8

Blossom v. The Milwaukee Railroad, 68 U.S.

655 (1 Wall.) (1863) 4, 8, 9, 10, 11, 17

Blue Chip Stamps v. Manor Drug Stores, 421

US. 723 (1975) 1

Boggess v. Hogan, 410 F. Supp. 438 (N. D. IIL.

1976) 21

Brand Name Prescription Drugs Antitrust Litiga-

tion, Imre, 115 F.3d 456 (7th Cir. 1997), cert.

denied, 118 S. Ct. 1178 (1998) 4

Bryant v. Yellin, 447 U.S. 352 (1980) 29

Christian v. R. Hoe & Co., 68 F.2d 218 (Ad Cir.

1933) 8

Cockcroft, Ex parte, 104 U.S. 578 (1881) 11

Cohen v. Beneficial Indus. Loan Corp., 337 US.

541 (1949) 13, 14

Cohen v. Young, 127 F.2d 721 (6th Cir. 1942 5, 6, 7,

12, 23, 24

Collier v. Marshall, Dennehey, Warner, Coleman &

Goggin, 977 F.2d 98 (3d Cir. 1992), cert. denied,

510 U.S. 977 (1993) 18, 27

Cutting, Ex parte, 94 U.S. 14 (1876) 12

Daily Income Fund, Inc. v. Fox, 464 U.S. 523

(1984) 13

Davis v. Mercantile Trust Co., 152 U.S. 590

(1894) 17

DeLuca v. Long Island Lighting Co., 862 F 2d 427

(2d Cir. 1988) 27

Eisen v. Carlisle & Jacquelin, 417 U.S. 156

(1974) 15

Ford v. Douglas, 46 U.S. 148 (1847) 12

Cases—Continued: Page

FTC v. Amy Travel Serv., Inc., 875 F.2d 564

(7th Cir. 1989) 27

General Tire & Rubber Co. Securities Litig., In re,

726 F.2d 1075 (6th Cir. 1984)

Glicken v. Bradford, 35 F.R.D. 144 (S. D. N. V.

1964) 21

Granada Invs., Inc. v. DVG Corp., 962 F.2d 1208

(6th Cir. 1992) 22

Greenspun v. Bogan, 492 F. 2d 375 (Ist. Cir.

1974) 21,22

Guthrie v. Evans, 815 F.2d 626 (11th Cir. 1987 25

Hawes v. City of Oakland, 104 U.S. 450 (18817 13

Hinckley v. Gilman, Clinton & Springfield R. R.,

94 U.S. 467 (1876) 8-9, 10

Hovey v. McDonald, 109 U.S. 150 (1888) 10

Indiana S. R.R. Liverpool, London & Globe Ins. Co.,

109 U.S. 168 (1883) 11

JI Case Co. v. Borak, 377 U.S. 426 (1964) 1

Jiffy Lube Securities Litig., In re, 927 F.2d

155 (4th Cir. 1991) 22

Johnson v. Manhattan Ry., 289 U.S. 479 (1983 7,8

Jones v. Nuclear Pharmacy, Inc., 741 F.2d

(10th Cir. 1984) 15, 22

Kneeland v. American Loan & Trust Co., 136

US. 89 (1890) 8, 16

Litchfield v. Goodnow, 123 U.S. 549 (1887) 11

Maher v. Zapata, 714 F 2d 436 (5th Cir. 19888) 14, 15, 21

Marino v. Ortiz, 484 U.S. 301 (1988) 8, 5, 12, 25, 26, 27

Martin v. Wilks, 490 U.S. 755 (1989) 26

Massachusetts School of Law at Andover, Inc. v.

United States, 118 F.3d 776 (D.C. Cir. 1997 18

Matsushita Elec. Indus. Co. v. Epstein, 516 U.S.

367 (1996) 14-15

Miltier v. Downes, 985 F 2d 660 (4th Cir. 199172 27

Minnesota Co. v. St. Paul Co., 69 U.S. (2 Wall.)

609 (1864) 10, 11

VI VII

Cases Continued: Page Cases Continued: Page

Mitchell v. Lay, 48 F.2d 79 (9th Cir. 1930) 8 Walker v. City of Mesquite, 858 F.2d 1071 (5th

Mork iber v. Cohn, 788 F.2d 26 (2d Cir. 1986) 27-28 Cir. 1988) 25

Mylett v. Jeane, 879 F.2d 1272 (5th Cir. 19899 22 Webster Coal & Coke Co. v. Cassatt, 207 U.S. 181

National Student Marketing Litig., In re, 68 F. R. D. (1907) 19

151 (D.D.C. 1974) 21 West v. Radio-Keith-Orpheum Corp., 70 F 2d 621

Pacific Enterprises Sec. Litig., In re, 47 F 3d 378 (2d Cir. 1984) 8

(9th Cir. 1995) 28 West v. Randall, 29 F. Cas. 718 (C. C. D. R. I. 1820)

Pianta v. H. M. Reich Co., 77 F.2d 888 (2d Cir. (No. 17,424) 11

1935) 7 White v. Auerbach, 500 F. 2d 822 (2d Cir. 1974 21

Papilsky v. Berndt, 466 F. 2d 251 (2d Cir.), cert. Williams v. Morgan, 111 U.S. 684 (1884). 4, 8, 10, 17

denied, 409 U.S. 1077 (1972) 23

Phillips Petroleum Co. v. Shutts, 472 U.S. 797 Statutes, regulation, and rules:

(1985) 15 Antitrust Penalties and Procedure Act, 15 U.S.C.

Reynolds v. National Football League, 584 F 2d 16(b)-(h) 18

280 (8th Cir. 1978) Comprehensive Environmental Response, Compensation

Sage v. Railroad Co., 96 U.S. 712 (1877) 10, 17 and Liability Act of 1980, 42 U.S.C. 9601 et seq.:

Saylor v. Lindsley, 456 F 2d 896 (2d Cir. 19727 21 42 U.S. C. 9613(i) 19

Shelton v. Pargo, Inc., 582 F.2d 1298 (4th Cir. 42 U.S. C. 9622(d)(2) 19

1978) Solid Waste Disposal Act, 42 U.S.C. 3251 et seq.:

Stacy v. Thrasher, 47 U.S. 44 (1848) 12 42 U.S. C. 6972(b)(1) 19

Trustees v. Greenough, 105 U.S. 527 (1881) 10, 17 42 U.S. C. 6972(b)(2\(E) 19

Tryforos v. Icarian Development Co., 518 F.2d 42 U.S. C. 6973(d) 19

1258 (7th Cir. 1975), cert. denied, 423 U.S. 1091 15 US.C.4 18

(1976) 5 15 U.S. C. 15 18

United Airlines, Inc. v. McDonald, 42 U.S. 385 15 US.C. 1605008) 18

(1977) 27 15 U.S.C. 25 18

United States v. LTV Corp., 746 F.2d 51 (D.C. 15 U.S.C. 26 18

Cir. 1984) 18 42 U.S.C. 2000e 26

United States v. Seigel, 168 F 2d 148 (D.C. Cir. 42 U.S.C. 2000e-2(a) 26

1948) 9 28 C.F.R. 50.7 19

United States ex rel. Louisiana v. Jack, 244 US. Fed. R. App. P.:

897 (1917) 26,27 Rule 3c) 8, 5, 27, 28

Rule 3(c)(3) 28

Fed. R. Civ. P.:

Rule © 4,7, 19, 20, 21

Rule 23(c) 21

VIII

Rules—Continued:

Rule 23.1

Rule 23.1(1)

Rule 24

Miscellaneous:

Manual for Complex Litigation 3d (1995)

F. Calvert, A Treatise Upon The Law Respecting

Parties To Suits In Equity (1847)

J. Coffee, The Unfaithful Champion: The Plaintiff

as Monitor in Shareholder Litigation, Law &

Contemp. Probs., Summer 1985

J. Coffee, Rescuing the Private Attorney General: Why

the Model of the Lawyer as Bounty Hunter is not

Working, 42 Md. L. Rev. 215 (1983)

W. Haudek, The Settlement and Dismissal of Share-

holders’ Actions—Part II: The Settlement, 23 SW.

LJ. 765 (1969)

C. McLaughlin, Capacity of Plaintiff-Stockholder to

Terminate a Stockholder’s Suit, 46 Yale L.J. 421

(1937)

J. Moore & M. Cohn, Federal Class Actions—Jurisdic-

tion and Effect of Judgment, 32 Ill. L. Rev. 555

(1938)

J. Moore & E. Levi, Federal Intervention, Part I:

The Right to Intervene and Reorganization, 45 Yale

LJ. 565 (1936)

8B J. Moore, Moore’s Federal Practice (2d ed.

1996)

J. Story, Commentaries on Equity Pleadings (9th

ed. 1879)

5 Moore’s Federal Practice (D. Coquillette et al.

eds., 3d ed. 1997)

7C C. Wright et al., Federal Practice & Procedure:

Cwil (2d ed. 1986)

15A C. Wright 2d ed., Federal Practice and Pro-

cedure Jurisdiction (2d ed. 1992)

In the Supreme Court of the Anited States

OCTOBER TERM, 1998

No. 97-1732

CALIFORNIA PUBLIC EMPLOYEES’ RETIREMENT

SYSTEM, ET AL., PETITIONERS

V.

PAUL FELZEN, ET AL.

ON WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS

FOR THE SEVENTH CIRCUIT

BRIEF FOR THE UNITED STATES AND

THE SECURITIES AND EXCHANGE COMMISSION

AS AMICI CURIAE SUPPORTING PETITIONERS

INTEREST OF THE AMICI

This case presents an issue of importance to the man-

agement and disposition of shareholder derivative actions,

which may involve claims under the federal securities laws

and issues of corporate governance of critical importance to

shareholders. The Securities and Exchange Commission

(SEC) has long taken the view that private actions under the

federal securities laws serve important functions, in compen-

sating investors who have been harmed by securities law

violations and providing “‘a most effective weapon in the

enforcement’ of the securities laws, and are ‘a necessary

supplement to [SEC] action.“ Bateman Eichler, Hill Rich-

ards, Inc. v. Berner, 472 U.S. 299, 310 (1985) (quoting J.J.

Case Co. v. Borak, 377 U.S. 426, 432 (1964)); see also Blue

Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 730 (1975).

(1)

2

The SEC also has an interest in protecting investors through

effective corporate governance. The federal government

more generally has a substantial interest in the procedural

rules that apply in class action suits in a variety of contexts.

STATEMENT

1. On October 15, 1996, Archer Daniels Midland Cor-

poration (ADM) pleaded guilty to federal criminal antitrust

violations involving charges that company officers had

conspired to fix the price of citric acid. The company paid a

$100 million fine and subsequently settled civil antitrust

lawsuits filed by competitors for $90 million. Pet. 4.

In the wake of the criminal investigation, ADM share-

holders filed several derivative actions on behalf of ADM

against directors of the corporation. Those actions were

consolidated in United States District Court for the Central

District of Illinois. The suits alleged that the directors had

breached their fiduciary duties by failing to supervise com-

pany employees properly and sought recovery of the $190

million paid out in the criminal and private cases. Pet. 4-5.

On May 29, 1997, the parties in the consolidated cases

announced a proposed settlement pursuant to which the

shareholders would release the defendants from all claims in

exchange for a settlement fund of $8 million (Felzen Br. in

Opp. App. 2) and the adoption of corporate governance

reforms (ADM Br. in Opp. App. 13a-15a) designed to prevent

similar violations in the future. Of the $8 million amount,

$3.92 million, plus interest, was to be paid to plaintiffs’

counsel (Pet. App. 17a), with the remaining amount desig-

nated for legal fees incurred by ADM in adopting agreed-

upon reforms (Pet. 6). Neither the corporation nor its share-

holders would receive any monetary recovery from the

settlement.

2. The district court tentatively approved the settlement

on May 30, 1997. Pet. 7. Pursuant to Federal Rule of Civil

Procedure 23.1, the court ordered that notice be given to all

3

ADM shareholders to show cause why the settlement should

not be approved. The court ordered that all objections were

to be filed by July 3, 1997, and scheduled a final hearing on

the settlement for July 7, 1997. Pet. 7. Petitioners California

Public Employees’ Retirement System and the Florida

Board State Board of Administrtion—which hold, respec-

tively, 2.8 million and 1.7 million shares of ADM stock—filed

written objections with the district court and appeared at

the July 7 hearing. ADM Br. in Opp. App. 4a; Pet. 7. They

argued that the settlement disproportionately benefited the

plaintiffs’ lawyers and that the corporate governance

reforms agreed to were not materially better than reforms

adopted by ADM a year earlier. ADM Br. in Opp. App. 15a.

The district court approved the settlement over petitioners’

objections. Felzen Br. in Opp. App. 1-7.

3. The court of appeals dismissed petitioners’ appeal,

reasoning that, since petitioners had not moved to intervene

for purposes of taking an appeal, they were not parties to the

case. Pet. App. 3a. The court of appeals held tl.at, under

this Court’s decision in Marino v. Ortiz, 484 U.S. 301, 304

(1988), only parties may take an appeal. Pet. App. la-2a.

The court read Marino (a class action rather than a de-

rivative suit) to hold “that a person adversely affected b) the

settlement of a class action may appeal from the consent

decree based on that settlement only if he has intervened as

a party.” Jd. at 2a. The court also noted that Federal Rule of

Appellate Procedure 3(c) specifies that “[a] notice of appeal

must specify the party or parties taking the appeal by

naming each appellant in either the caption or the body of

the notice of appeal.” Ibid.

The court observed that prior to Marino it had “permitted

class members and stockholders to appeal, whether or not

they had intervened, provided they had informed the district

court of their objections to the decision that disadvantaged

them.” Pet. App. 2a. But it further noted that since Marino

it had “held that a class member in an action under Fed. R.

4

Civ. P. 23 who has not become a party may not appeal from

an order granting summary judgment to the defendant.”

Ibid. (citing In re Brand Name Prescription Drugs Anti-

trust Litigation, 115 F.3d 456 (7th Cir. 1997)). The court rea-

soned that the same rule should apply to shareholders in a

derivative suit challenging a settlement, because share-

holders “have no more right to speak for the firm or control

its litigation decisions than bondholders or banks or land-

lords, all of whom have contractual interests that may be

affected by litigation.” Pet. App. 3a. Although the court

recognized that Rule 23.1 requires that shareholders be

given notice of the settlement, it read the purpose of that re-

quirement to be “so that other investors may contest the

faithfulness or honesty of the self-appointed plaintiffs; we do

not doubt that this monitoring is often useful and that inter-

vention to facilitate an appeal could be justified.” Pet. App.

6a.

SUMMARY OF ARGUMENT

Until the decision below, courts had uniformly held that

objecting shareholders in a derivative action had the limited

right to appeal the district court’s entry of a settlement

decree without formally intervening in the suit. That rule

finds support in this Court’s cases involving certain persons

deemed to be “quasi parties,” who have been summoned to

court or to whom notice of proceedings has been directed,

who appear in court to protect particular interests, and

whose rights are affected by claim preclusion principles by

the court’s judgment. See, eg., Williams v. Morgan, 111

U.S. 684 (1884); Blossom v. The Milwaukee R.R., 68 U.S. (1

Wall.) 655 (1863). That line of cases, coupled with the pro-

cedures of and the purposes behind Federal Rule of Civil

Procedure 23.1, support the limited right of objecting share-

holders to appeal the court’s decree overruling their objec-

tions and approving the settlement. Rule 23.1 requires

directed notice to all shareholders so that any objector to a

a ny

5

settlement may show cause why the settlement should not

be approved. The court’s entry of a seitlement decree has

claim preclusive effect, extinguishing the right of the cor-

poration and the shareholders thereafter to bring the same

claim.

The decision below erred in its reliance on Marino v.

Ortiz, 484 U.S. 301 (1988), which involved an attempt to

appeal in a class action suit by non-parties who were not

members of the class. In Marino, the appellants were

strangers to the litigation and were not precluded by the

judgment from subsequently litigating their claims. The

court also erred in relying on Federal Rule of Appellate

Procedure 3(c), which defines the contents of the notice of

appeal and does not specify that the “party or parties”

taking the appeal must be limited to the party or parties who

were formally named in the district court proceedings.

ARGUMENT

OBJECTING SHAREHOLDERS MAY APPEAL AN

ORDER APPROVING A SETTLEMENT IN A DERIVA-

TIVE SUIT

A. The Right Of Objecting Shareholders To Ap-

peal Is Longstanding And Grounded In This

Court’s Cases Involving Quasi Parties

In overruling one of its prior decisions, the Seventh

Circuit departed from a uniform rule in derivative actions

that had long been applied in the courts of appeals per-

mitting an objecting shareholder to appeal without formal

intervention if the district court overruled the shareholder's

objections in entering a settlement decree. See Bell Atlantic

Corp. v. Bolger, 2 F.3d 1304, 1308 n.6 (3d Cir. 1993); Tryforos

v. Icarian Development Co., 518 F.2d 1258, 1263 n.22 (7th

Cir. 1975) (Stevens, J.), cert. denied, 423 U.S. 1091 (1976),

overruled by Pet. App. 7a; Cohen v. Young, 127 F.2d 721 (6th

Cir. 1942). That rule had been reported by influential

6

commentators without any question as to its validity. See,

eg., 70 C. Wright et al., Federal Practice & Procedure

§ 1839, at 182 (2d ed. 1986) (Han objector to the settlement

may appeal the court’s approval of the compromise”); 3B J.

Moore, 5 Moore’s Federal Practice J 23.1 2413] (2d ed. 1996)

(same). Indeed, one commentator wrote in 1969 that “[i}f the

court approves the compromise [between plaintiff-share-

holders and defendants], the objector has an absolute right

to appeal.” W. Haudek, The Settlement and Dismissal of

Shareholders’ Actions—Part II: The Settlement, 23 SW. LJ.

765, 803 (1969). Although the rule was widely accepted, its

origins and underlying legal basis appear to have been

forgotten.

1. The modern application of the rule that objecting

shareholders may appeal an order approving a settlement to

which they object stems from the Sixth Circuit’s decision in

Cohen v. Young, supra. That case, which was decided

shortly after promulgation of the Federal Rules of Civil

Procedure, involved a shareholder in a derivative action who

brought forward evidence in support of his objection to a

proposed settlement, along with a motion to intervene as a

party. The district court denied the objector’s intervention

motion and refused to consider the evidence proffered in

support of the objection. The objecting shareholder did not

appeal the denial of his motion to intervene, but rather

appealed from the district court’s entry of a final decree

approving the settlement. On appeal, the plaintiff share-

holder moved to dismiss on “the ground that appellant is not

a party to this cause and hence has no standing in this court.”

127 F.2d at 724. The court of appeals deemed “not decisive”

the fact that the objecting shareholder had been denied the

right to intervene. “Appellant appeared in court in answer

to the court’s notice to show cause why the settlement

should not be approved. This being the case, he was ‘like a

defendant who is summoned by process of court and after an

adverse ruling has the right to appeal. bid. In reaching

7

that conclusion, the court noted that “[tjhis ruling was spe-

cifically approved in Johnson v. Manhattan Ry. Co., 289 U.S.

479, 495. Appellant is entitled as of right to prosecute the

appeal.” Ibid. (parallel citations omitted).

The Cohen court thus reasoned that because Federal Rule

of Civil Procedure 23 created a specific mechanism for

directed notice to all shareholders that they could appear in

the district court proceedings for the limited purpose of

showing cause why the proposed settlement should not be

approved, the objecting shareholder became a “party” for

that limited purpose. 127 F.2d at 724. The requirement of

formal intervention under Rule 24 did not speak te- the

question raised by the shareholder’s objection, which was

“whether the compromise recommended did in fact protect

the interest of the corporation and of the stockholders.” Id.

at 725. See also J. Moore & E. Levi, Federal Intervention,

Part I: The Right to Intervene and Reorganization, 45 Yale

L.J. 565, 592 (1936) (noting that a stockholder typically can-

not intervene in a lawsuit because litigation decisions are

controlled by the directors and officers of the corporation).

2. The Cohen court appropriately drew from this Court’s

analogous decision in Johnson. In that case, the Court

addressed whether a separate shareholder derivative suit

could be brought by a minority shareholder on behalf of a

company that, in a prior non-derivative suit, had been the

subject ofan order appointing a temporary receiver. The

object of the minority shareholder’s subsequent suit was also

the appointment of a receiver. In ruling that the minority

shareholder and another plaintiff could not bring that suit,

Cohen also cited Pianta v. H. M. Reich Co., 77 F 2d 888, 890 (2d Cir.

1935), in which the court found “no merit in appellees’ contention that the

appellant has no standing to appeal because it was not an original party to

the suit and has not sought to intervene. The appellant, having appeared

in opposition to the order to show cause, is ‘like a defendant who is

summoned by process of court and after an adverse ruling has the right to

appeal.’”

8

the Court noted that both had been ordered in the prior

proceeding to show cause “why the temporary receivership

should not be continued.” 289 U.S. at 495. They could have

objected on a variety of grounds, “and had the receivership

been continued without giving effect to these objections they

would have been entitled to appeal.” Jbid. Although the

Court cited as support for that conclusion a number of court

of appeals decisions, see ibid. n.4, it could as easily have

relied upon numerous of its own prior decisions that the

courts of appeals had cited, which permitted limited appeals

in discrete circumstances by certain “quasi parties” to the

underlying lawsuit.“

2 In particular, see Christian v. R. Hoe & Co., 68 F.2d 218, 218 (2d

Cir. 1983) (upholding appeal of a “class A stockholder who appeared on the

return day of the order to show cause why the receivership of the

defendant should not be made permanent. He opposed the application

unsuccessfully and appeals. He is rightfully here, like a defendant who is

summoned by process of court and after an adverse ruling has the right to

appeal.”); Mitchell v. Lay, 48 F.2d 79, 84-85 (9th Cir. 1980) (“It is true that

the appellant is not a party to the original action, but when he was brought

into court by the process of the court at the instigation of the parties to

the action or of the receiver he became a party to the ancillary pro-

ceedings and entitled to appeal from the judgment rendered against him.

The judgment therein rendered was as to him final and appealable as

such.”); see also Blake v. District Court, 59 F.2d 78, 79 (9th Cir. 1932)

(holding that a person aggrieved by appointment of receiver should file

objections in the district court and then appeal an adverse decision rather

than petition for an original writ in the court of appeals).

Although the phrase “quasi parties” typically was not utilized by

mid-twentieth century courts in the shareholder and receiver contexts,

the holdings of the later courts relied on this Court’s decisions from the

nineteenth and early twentieth centuries establishing rights of appeal for

persons termed “quasi parties” in particular actions analogous to share-

holder derivative suits. See, e. g., West v. Radio-Keith-Orpheum Corp., 70

F.2d 621, 623-624 (2d Cir. 1934) (L. Hand, J.) (citing Blossom v. The

Milwaukee R. R., 68 U.S. (1 Wall.) 655 (1863); Williams v. Morgan, 111

U.S. 684 (1884); Kneeland v. American Loan & Trust Co., 186 U.S. 89

(1890)); Christian, 63 F.2d at 218 (citing Hinckley v. Gilman, Clinton &

In Blossom v. The Milwaukee Railroad, 68 U.S. (1 Wall.)

655 (1863), for example, the Court addressed the issue, “Is

the appellant so far a party to the original suit that he can

appeal?” Jd. at 655. In that case Blossom had made a bid for

property in response to a decree foreclosing a mortgage and

ordering a sale. The sale was suspended and Blossom sought

to have the sale completed and confirmed. After the district

court refused his request, he appealed. The railroad moved

to dismiss the appeal on the ground that Blossom was not a

party to the suit in the district court and therefore not

entitled to prosecute an appeal. This Court rejected the

railroad’s argument and upheld Blossom’s appeal. In a

passage that would be much quoted and cited in later

decisions, the Court explained:

It is certainly true that Blossom] cannot appeal from

the original decree of foreclosure, nor from any other

order or decree of the court made prior to his bid. It,

however, seems to be well settled, that after a decree

adjudicating certain rights between the parties to a suit,

other persons having no previous interest in the liti-

gation may become connected with the case, in the

course of subsequent proceedings, in such a manner as to

subject them to the jurisdiction of the court, and render

them liable to its orders; and that they may in like man-

ner acquire rights in regard to the subject-matter of the

litigation, which the court is bound to protect. Sureties,

signing appeal bonds, stay bonds, delivery bonds, and

receipters under writs of attachment, become quasi par-

ties to the proceedings, and subject themselves to the

jurisdiction of the court, so that summary judgments

Springfield R.R., 94 U.S. 467 (1876)). See also United States v. Seigel, 168

F.2d 143, 145-146 (D.C. Cir. 1948) (distinguishing Supreme Court quasi

party cases because appellant had not participated in distiict court

proceedings and thus had no basis for appealing without formally inter-

vening as a party).

10

may be rendered on their bonds or recognizances. So in

the case of a creditor’s bill, or other suit, by which a fund

is to be distributed to parties, some of whom are not

before the court; these are at liberty to come before the

master after the decree, and establish their claims to

share in the distribution.

Id. at 655-656.

Blossom was not an anomalous decision. In Williams v.

Morgan, 111 U.S. 684 (1884), the Court held that objectors to

trustee charges were “quasi parties” entitled to appeal an

adverse decision without formally intervening through the

filing of a complaint: “Williams and Thomson had such an

interest [in the trustee charges], and were so situated in the

cause, that they had a right, by leave of the court, to except

and object to the charges and allowances presented by the

trustees and receivers, and that they had a right to appeal

from the decree of the Circuit Court to this court.” 111 U.S.

at 700. As support for that holding, the Court drew on a line

of cases starting with Blossom that had upheld the right of

quasi parties “to come into this court, or to be brought here

on appeal, when a final decision of their t or claim has

been made by the court below.” Id. at 699." The Court also

See Blossom, 68 U.S. (1 Wall.) at 656 (purchaser of property subject

to foreclosure decree permitted to appeal as a quasi party), Minnesota Co.

v. St. Paul Co., 69 U.S. (2 Wall.) 609, 633-634 (1864) (holding that “nominal

parties” could not evade appellate review of an order decreed in their

favor on the ground that they were not formal parties in the district

court), Hinckley, 94 U.S. at 469 (receiver allowed to appeal from a decree

against him to pay a sum of money in the cause to which he was appointed

receiver but was not a party); Sage v. Railroad Co., 96 U.S. 712, 714 (1877)

(quasi parties interested in order confirming a sale permitted to appeal);

Trustees v. Greenough, 105 U.S. 527, 531 (1881) (allowing appeal by trus-

tees from an order awarding costs and expenses to a complainant suing on

behalf of a trust fund); Hovey v. McDonald, 109 U.S. 150, 155-156 (1883)

(pern..tting appeal to be brought against a receiver from an order made in

11

relied upon prineiples of equity that recognized the rights

and interests of quasi parties to partieipate in trial pro-

ceedings without formal intervention and to appeal decisions

that would bind their subsequent rights.’ Decades earlier,

Justice Story had recognized the rights of class members in

representative suits to appear in court “as quasi parties to

the record, at least for the purpose of taking the benefit of

the decree, and of entitling themselves to other equitable

relief, if their rights are jeoparded.” West v. Randall, 29 F.

Cas. 718, 722-723 (C. C. D. R. I. 1820) (No. 17,424). See also J.

Story, Commentaries on Equity Pleadings § 409, at 353 (9th

ed. 1879) (noting that “other persons in interest” who are not

parties may bring a bill of review “as far as their own

interests are concerned”). Thus, as the doctrine of quasi

parties developed, it included only a narrow range of appel-

lants, but it did include objecting members in a class suit.

During the same era in which the Court was developing

the narrow right of quasi parties to appeal in limited cir-

cumstances, it was also considering numerous cases in-

volving the “well settled maxim of the law, that ‘no person

can bring a writ of error to reverse a judgment who is not a

party or privy to the record. Bayard v. Lombard, 50 U.S.

(9 How.) 529, 551 (1850). Rather than calling into question

his favor notwithstanding receivers contention that he was not a “party”

to the underlying law suit).

5 See, ., F. Calvert, A Treatise Upon The Law Respecting Parties

To Suits In Equity 55-66 (1847). See also Minnesota Co., 69 U.S. (2 Wall.)

at 634 n. f (citing Calvert’s treatise); Blossom, 68 U.S. (1 Wall.) at 656 n.

(same).

See, ¢.g, Litchfield v. Goodnow, 128 U.S. 549, 551-552 (1887)

(holding that administrator of lands distinct from those at issue in

underlying suit was “in law a stranger to the proceedings, and in no way

bound thereby,” and thus was not a party or in privity to afford a right of

appeal); Indiana S. R. R. v. Liverpool, London & Globe Ins. Co., 109 US.

168, 173 (1883) (where leave to join suit as a party is denied, person cannot

appeal from final decree); Ex parte Cockcroft, 104 U.S. 578, 579 (1881)

12

the general principle that only a party or a privy to the

record may appeal, the doctrine of quasi parties com-

plemented—indeed exemplified—that rule. In more recent

years, the Court has invoked the general principle that only

parties may appeal without mentioning (and, presumably,

without intending to cast doubt on) its quasi party cases.

See, eg., Marino v. Ortiz, 484 U.S. 301, 304 (1988) (per

curiam).

3. In the shareholder context, Cohen and similar cases

suggest that adoption of the Federal Rules of Civil Pro-

cedure was not intended to affect adversely the rights of

objecting shareholders as quasi parties to appeal approval of

a settlement of a derivative action over their objections. As

the owners of the corporation for whose benefit the de-

rivative action is brought, shareholders are not strangers to

the action.’ Indeed, the relationship of the shareholder to

the court’s decision to approve a settlement is characteristic

of a quasi party, as that phrase was used in this Court’s

cases.

When a particular shareholder brings a derivative action

on behalf of the corporation, that shareholder becomes the

(creditor heard in district court as a matter of favor not permitted to

appeal where he was not a party and never asked to be one); Ex parte

Cutting, 94 U.S. 14, 21-22 (1876) (stockholders could not appeal as parties

where they had been denied leave to intervene and where the appeal

sought a discretionary writ of mandamus); Stacy v. Thrasher, 47 U.S. (6

How.) 44, 49-50 (1848) (person not in privity can neither be bound by

judgment nor appeal from it); Ford v. Douglas, 46 U.S. (6 How.) 148, 160

(1847) (same).

In taking a contrary view, the court below opined that, since a

derivative action is actually an action brought on behalf of the corporation,

the decision to compromise the corporation's claim is not the share-

holders’, who “have no more right to speak for the firm or control its

litigation decisions than bondholders or banks or landlords, all of whom

have contractual interests that may be affected by litigation.” Pet. App.

3a. The court also likened a corporation's shareholders to its “employees,

vendors, and lawyers.” /bid.

13

representative of the corporation and all its shareholders in

vindicating the rights of the corporation. Hawes v. Oakland,

104 U.S. 450, 460 (1881). See also Cohen v. Beneficial Indus.

Loan Corp., 387 U.S. 541, 548 (1949). Although the named

plaintiff in a derivative action sues on behalf of the cor-

poration, the shareholders necessarily benefit from whatever

recovery the corporation may realize on its claims by the

resulting enhancement of the value of their property. See 5

Moores Federal Practice § 23. 1. 0213 Hh (D. Coquillette et

al., eds., 3d ed. 1997) (“As an owner of securities in the

corporation, the suing shareholder, along with all other

shareholders, is harmed by an injury to the corporation.”).

That principle is reflected in three provisions in Federal

Rule of Civil Procedure 23.1. First, Rule 23.1(1) contains a

“contemporaneous ownership” requirement that only a per-

son who was a shareholder when the injury occurred may

bring a derivative action. That requirement ensures that

only a shareholder who has suffered an injury (by reason of

stock ownership at the time the alleged injury occurred) may

press the elaim, and establishes a necessary pre-condition

of the shareholders generally. See 5 Moore’s Federal Prac-

tice, supra, at § 23.1.02[3}[b]. Ownership of the corporation’s

stock, therefore, gives both the objecting shareholder and

the plaintiff shareholder a shared interest in the outcome of

the case.

Second, Rule 23.1 provides that a “derivative action may

not be maintained if it appears that the plaintiff does not

fairly and adequately represent the interests of the

shareholders * * * similarly situated in enforcing the right

of the corporation.” That provision recognizes that the

named plaintiff in a derivative action may only assert the

8 See, %., Daily Income Fund, Inc. v. Fox, 464 U.S. 523, 581 n.6

(1984); 70 C. Wright et al., 7C Federal Practice & Procedure: Civil § 1828

at 60 (2d ed. 1986).

14

corporation’s claim for the sole benefit of the shareholders,

the owners of the corporation. See Cohen v. Beneficial

Indus. Loan Corp., 887 U.S. at 549 (A stockholder sues in a

derivative action, “not for himself alone, but as repre-

sentative of a class comprising all who are similarly

situated.”).

Most critically, Rule 23.1 provides that a shareholder

derivative action “shall not be dismissed or compromised

without the approval of the court, and notice of the proposed

dismissal or compromise shall be given to shareholders or

members in such manner as the court directs.” The

requirements are complementary. By ensuring that notice is

given to all shareholders before a proposed dismissal or

compromise settlement is entered by the court, Rule 23.1

sets in motion a process by which all shareholders must

either formally participate in the proceedings or be bound by

the decree without having given the court the benefit of

their views on whether the court should enter the settle-

ment.

The Rule requires fair notice to shareholders so that they

may object in court to the proposed settlement. See, g.,

Maher v. Zapata Corp., 714 F 2d 436, 451 (6th Cir. 1983). By

longstanding practice, objecting shareholders “must be

allowed to have meaningful participation at a settlement

hearing,” including “certain rights to discovery and cross-

examination on issues pertaining to the settlement.” 5

Moores Federal Practice, supra, at § 23.1. 10[ r Hel. The

requirements of notice and an opportunity to object arise

from the recognition that individual shareholders have a per-

sonal stake in the presentation of the claim on the

corporation’s behalf, and that settlement of the case will

foreclose both the corporation and its shareholders from

later pursuing the corporate claim, since entry of a

settlement decree will have a preclusive effect on both the

corporation and the shareholders with respect to that claim.

See, e.g., Matsushita Elec. Indus. Co. v. Epstein, 516 U.S.

—

15

367, 379 (1996).’ The settlement hearing constitutes the only

opportunity for a corporation’s owners to exercise any

measure of control over a corporate claim that, by definition,

is not directed by the corporation’s shareholder-elected man-

agers. Rule 23.1 accordingly prevents a corporation’s claim

from being compromised without an opportunity for the

corporation’s owners to participate in the decision. Thus,

because their underlying claim is the same as the named

plaintiff-shareholders, notice is directed to them to show

cause why the settlement shouid not be approved, under

pain of losing their right to object at all yet being bound by

the judgment. Once the Rule 23.1 notice is given, the

judgment of the court approving the settlement has claim-

preclusive effect on the objecting shareholders. In light of

the foregoing specific factors, objecting shareholders may

properly be regarded as quasi parties to the district court

proceedings.

4. Although this Court’s decisions recognize the rights of

quasi parties to appeal, in only limited circumstances may a

person who is not formally a named party to a case be

regarded as a quasi party. In our view, in light of the

Notice also protects against due process concerns. See, ¢.g., Jones

v. Nuclear Pharmacy, Inc., 741 F.2d 322, 325 (10th Cir. 1984) (citing

Baldwin v. Hale, 68 U.S. (1 Wall.) 223, 233 (1863)) (“Parties whose rights

are to be affected are cntitled to be heard; and in order that they may

enjoy that right they must first be notified.”); Maher, 714 F.2d at 451

(holding that the “essential purpose of the notice [under Rule 23.1], with

regard to the shareholders’ due process rights, * is to] fairly apprise

the prospective members of the class of the terms of the proposed

settlement and of the options that are open to them”). Cf. Phillips

Petroleum Co. v. Shutts, 472 U.S. 797, 811-812 (1985) (holding that to bind

an absent plaintiff in class action, State must provide “minimal procedural

due process protection” including “notice plus an opportunity to be heard

and participate in the litigation”); Risen v. Carlisle & Jacquelin, 417 U.S.

156, 178 (1974) (notice to class members under Rule 23 “is designed to

fulfil) requirements of due process to which the class action procedure is of

course subject”).

16

importance of the regularity and certainty provided by the

Federal Rules of Civil and Appellate Procedure and the

potential for uncertain application of this Court’s quasi party

cases in other contexts, recognition of quasi party status in

situations not covered in the federal rules of procedure

should be sparing indeed.” Nonetheless, the Court’s quasi

party precedents do furnish significant support for the right

of appeal in the objecting shareholder settlement context,

because: Rule 23.1 specifically recognizes the shareholder’s

personal rights; this Court’s cases arising prior to adoption

of the Federal Rules of Civil Procedure involved similar

types of interests, objections, and proceedings; and, until the

decision below, the consistent practice since the adoption of

the Federal Rules of Civil Procedure has been that objecting

shareholders in a derivative action need not intervene before

appealing the district court’s decision to overrule their

objections to the settlement.

Furthermore, persons recognized as being quasi parties

for a particular purpose (here, objecting to a settlement) do

not have unlimited rights of participation and appeal without

formal intervention. First, under this Court’s quasi party

cases generally, the subject of the appeal may encompass

only that aspect of the ancillary litigation over which the

quasi party had a specific and recognized interest and as to

which he actually participated in the district court. Thus, in

Kneeland v. American Loan & Trust Co., 136 U.S. 89, 94

(1890), the Court limited the scope of the “right of appeal *

* * to all matters adjudicated after [the quasi party’s] bid

which affect the terms of that bid, or the burdens which he

assumes thereby, and which are not withdrawn from his

challenge by the terms of the decree under which he

10 In a class action, for example, a question may arise whether an

objector has standing as a class member to participate in the process. The

parties presumably would have an opportunity to test that standing, just

as they do when a motion to intervene is filed.

17

purchases.” See also Sage v. Railroad Co., 96 U.S. 712, 714

(1877); J. Story, swpra, at 353. In the Rule 23.1 context, an

objecting shareholder would have the right to appeal the

district court’s judgment only to the extent it overruled the

objections and entered the settlement decree as a result. An

objecting shareholder wishing to participate more expan-

sively in the litigation would have to intervene formally as a

party.

Second, the quasi party must have been the subject of an

order or directed notice to appear in the district court proc-

eedings and must have asserted a personal right that was

merged into the court’s ruling. See, e.g., Blossom, 68 U.S. (1

Wall.) at 656. That assertion need not involve a formal

intervention motion,“ but it must be personal to the quasi

party and be grounded in a cognizable legal interest.” Here,

the objecting shareholder has a personal stake in the

1! It is clear from this Court’s cases concerning participation by

persons deemed to be quasi parties that the Court often used the term

“intervene” in the sense of participation in the district court proceedings,

and not formal intervention through the filing of a complaint. See, e. g.,

Davis v. Mercantile Trust Co., 152 U.S. 590, 593 (1894) (describing how

quasi party “was not a party to the record, either plaintiff or defendant;

was never substituted for either; filed no bill, cross-bill, or answer, but

was simply permitted to intervene, with liberty to be heard upon any and

all proceedings for the protection of his interests as bondholder and

stockholder”); Williams v. Morgan, 111 U.S. at 698-699 (describing how

quasi parties “incidentally interested in some branch of a cause have been

allowed to intervene for the purpose of protecting their interest”);

Trustees v. Greenough, 105 U.S. 527, 586 (1881) (describing how, in the

“vast amount of litigation which has arisen in this country upon railroad

mortgages, where various parties have intervened for the protection of

their rights, * * * it has been the common practice * * * to make fair

and just allowances for expenses and counsel fees to the trustees” and to

allow quasi parties to object to such awards).

12 Thus, for example, a party’s attorney sanctioned by a district court

is a quasi party entitled to appeal that order without formal intervention,

see, ¢.g., Collier v. Marshall, Dennehey, Warner, Coleman & Goggin, 977

F.2d 98, 94-95 (3d Cir. 1992), cert. denied, 510 U.S. 977 (1998).

18

outcome of a derivative action settlement, is notified to show

cause why the settlement should not be approved, and is

entitled by law to object to settlement. He therefore may

appeal without intervening. By contrast, a citizen who

objects to entry of a government-sponsored settlement de-

cree may not. And a quasi party may not appeal an order

1 See, e.g., Antitrust Penalties and Procedure Act, 15 U.S.C. 160

(Tunney Act). Tunney Act proceedings afford an opportunity to the public

to comment on settlements, and differ significantly from shareholder

derivative suits. First, derivative suits are prosecuted on behalf of the

corporation by a shareholder who otherwise stands on equal footing with

. allether-shareholders, whereas the antitrust laws give the United States

special status as champion of the public interest. Compare 15 U.S.C. 4, 25

(duty of government to institute proceedings to restrain antitrust viola-

tions) with 15 U.S.C. 15 (damage suits by persons injured in their business

or property by antitrust violations), 26 (injunctive relief for persons

threatened with toss-or damage from antitrust violations). Moreover, a

court’s review of the Attorney General’s exercise of discretion in reaching

a settlement in such a case is necessarily deferential, in part to avoid

constitutional questions that might otherwise arise. Massachusetts School

of Law at Andover, Inc. v. United States, 118 F.3d 776, 783 (D.C. Cir.

1997). And unlike absent shareholders in derivative actions, those who are

not formal parties to a government antitrust decree are not bound by it.

See id. at 781; United States v. LTV Corp., 746 F.2d 51, 58-54 & nn. 5 & 6

(D.C. Cir. 1984) (per curiam) (concept of “privy to the record” includes

absent shareholders in a derivative action who are bound by judgment;

distinguishing non-parties in Tunney Act proceedings). Finally, non-

parties who participate in Tunney Act proceedings without intervening do

so pursuant to specific statutory authorization providing for such

participation. Sve 15 U.S.C. 160008). Intervention would be required as a

prerequsite to a Tunney Act appeal. See, eg, LTV Corp,, 746 F.2d at 54

(“those who object to the entry of a consent judgment must seek to

intervene in the proceedings * * * as a condition of taking an appeal”).

Like the antitrust enforcement settlement process, many environ-

mental suits involving the government represent the public interest at

large (as opposed to a corporation’s financial interest), and thus courts

afford deference to settlements reached between the government and a

private party. Such cases routinely provide notice and an opportunity for

public comment to the government before entry of a settlement by a court,

19

that does not have a binding effect on its actions or

otherwise is not a final order. See, e., Webster Coal & Coke

Co. v. Cassatt, 207 U.S. 181, 187 (1907) (noting that It here

was here no attachment for contempt, no judgment on

default, and no independent and collateral proceeding, the

order disposing of which could be considered as a final

decree”).

B. Upholding The Rights Of Objecting Shareholders

To Appeal District Court Decisions Approving

Settlements Furthers The Purposes Under

Rule 23.1 :

Rule 23.1 protects absent shareholders from settlements

that unfairly compromise their interests by providing them

with notice of and an opportunity to object to settlements

and by requiring court approval of settlements. Affording

objecting shareholders the narrow right to appeal the

overruling of their objections furthers that important pur-

pose.

1. Prior to the adoption of Rule 23 in 1938 (in which the

notice and court-approval requirements were first provided),

but would not afford persons who comment quasi party status. See, e. g.,

Comprehensive Environmental Response, Compensation, and Liability

Act of 1980 (CERCLA), 42 U.S.C. 9622(d\(2); Solid Waste Disposal Act

(SWDA), 42 U.S.C. 6973(d); see also 28 C. F. R. 50.7 (Department of Justice

policy providing for public notice and comment on settlements of environ-

mental claims seeking to abate the discharge of pollutants). Those

situations are quite different from the derivative suit settlement at issue

here. In environmental settlements, members of the general public are

given an opportunity to make their views known but are not the subjects

of a show cause order or a directed notice and thus are not given a direct

right to participate as litigants without first intervening to become a

party; the general rule is that one must intervene in order to litigate

(including appeal). Indeed, the federal statutes involved generally contain

provisions concerning intervention. See CERCLA, 42 U.S.C. 9613(i);

SWDA, 42 U.S.C. 6972(b\1) & 6972(bX2\E); see also 28 C. F. R. 50.7 (DOJ

policy reserves right to oppose intervention).

20

some courts allowed the named stockholder unilaterally to

dismiss or compromise the derivative action without notify-

ing the other stockholders and without approval of the court.

See C. McLaughlin, Capacity of Plaintiff-Stockholder to

Terminate a Stockholder’s Suit, 46 Yale L.J. 421, 430-432

(1937)."* Equity Rule 27 then in effect did not require notice

to stockholders or court approval in the event of a dismissal

or compromise. McLaughlin recommended that to protect

the absent stockholders, the court should be required to

approve the settlement. Id. at 433-35.

The 1938 drafters of Rule 23 agreed with McLaughlin,

citing his article in support of the new requirement of notice

to absent shareholders and court approval of any proposed

dismissal or compromise of a stockholder derivative action.

See Rule 23 Advisory Committee Notes, note to subdivision

(c) (1937). As Professor Moore stated in explaining the pur-

pose of Rule 23(c), “notice will tend to lessen strike suits by

shareholders, since a shareholder and his counsel will not be

able to sue and settle in the dark; and it will prevent un-

righteous compromise of a just shareholders’ action.” J.

Moore & M. Cohn, Federal Class Actions—Jurisdiction and

Effect of Judgment, 32 Ill. L. Rev. 555, 556 (1938). The 1966

amendments to Rule 23, which separated out derivative

actions for treatment in a new Rule 23.1, did not make any

change to the notice and approval process in shareholder

derivative actions.

14 As McLaughlin explained, It jo allow a single stockholder or group

of stockholders the power to make a private compromise of the corporate

cause of action places a heavy reliance upon their judgment,” which raises

the problem that the corporation's claim is “at the mercy of individuals

who have no hope of personal recovery even if the suit is prosecuted

successfully, and who stand to suffer considerable losses in costs if

unsuccessful; obviously a wide door is opened to strike suits and collusive

payments to stockholders which may rarely, if ever, be recovered by the

corporation.” 46 Yale LJ. at 430.

21

Rule 23.1 thus embodies the historical recognition that,

although plaintiffs and their counsel ordinarily strive to act

conscientiously in the best interests of the shareholders, self-

designated shareholder plaintiffs and their counsel do not

invariably further those interests. A derivative plaintiff may

misapprehend the strength of the case or the value of the

settlement; plaintiffs’ counsel may lack the strength of will to

see a case to conclusion; and in rare instances a settlement

may even involve faithlessness, dishonesty, or collusion

among the parties. “There can be no blinking at the fact that

the interests of the plaintiff in a stockholder’s derivative suit

and of his attorney are by no means congruent.” Saylor v.

Lindsley, 456 F. 2d 896, 900 (2d Cir. 1972) (Friendly, J.). See

also Bell Atlantic Corp., 2 F.3d at 1309 (“Courts and

commentators have long recognized the ‘agency costs’ in-

herent in class and derivative actions where the client, as

principal, is neither well-situated nor adequately motivated

to closely monitor and control the attorney, his agent.”)

(footnotes omitted).

2. Notice directed to shareholders informs them of a

proposed settlement so that they may assess its adequacy

and affords them an opportunity to object to a settlement

that does not protect their interest. The requirement of

10 The notice informs shareholders of the substantive terms of the

proposed settlement and orders them to show cause why the settlement

should not be approved as fair, reasonable and adequate to the

corporation. The notice specifies that shareholders may object (usually in

writing), informs them of the time and place for a hearing on whether the

settlement should be approved, and warns the shareholders that approval

of the settlement will bar all future claims. See, ¢.g., Maher v. Zapata

Corp., 714 F.2d 436, 450-453 (5th Cir. 1983); White v. Auerbach, 500 F.2d

822, 823 (2d Cir. 1974); Greenspun v. Bogan, 492 F.2d 375, 378 (Ist Cir.

1974); Bernstein v. Mediobanca Banca di Credito Finanzario-Societa Per

Azioni, 78 F. R. D. 1, 3 (S. D. N. V. 1978); Boggess v. Hogan, 410 F. Supp.

433, 442-443 (N. D. Ill. 1975); In re National Student Marketing Litig., 68

F.R.D. 151, 152 (D.D.C. 1974); Glicken v. Bradford, 35 F.R.D. 144, 148

(S. D. N. V. 1964). See also Manual for Complex Litigation 3d §$§ 30.41,

22

court approval of any settlement is intended to protect

further the interests of absent shareholders. “It is well

established that a court should not merely rubber stamp

whatever settlement is proposed by the parties to a

shareholder derivative action. A court must, instead, exer-

cise judgment sufficiently independent and objective to

safeguard the interests of shareholders not directly involved

in the action.” Greenspun v. Bogan, 492 F.2d 375, 378 (Ist

Cir. 1974). Cf. In re Jiffy Lube Securities Litig., 927 F.2d

155, 158 (4th Cir. 1991) (“The primary concern addressed by

Rule 23(e) is the protection of class members whose rights

may not have been given adequate consideration during the

settlement negotiations.”). The court may not approve a

settlement without finding it to be “fair, reasonable and

adequate.” Jones v. Nuclear Pharmacy, Inc., 741 F.2d 322,

324 (10th Cir. 1984); see also Granada Investments, Inc. v.

DWG Corp., 962 F 2d 1208, 1205 (6th Cir. 1992)."°

The objecting shareholders play a pivotal role in the

settlement approval process, since they alone have the

incentive to attempt to stop a process that builds momentum

from the moment a deal is struck between the derivative

83.36 (“Objections may be raised not only by class members but also by

parties seeking to intervene under Fed. R. Civ. P. 24.”). The order in this

case conformed to those general types, providing that “[aJny shareholder

of record of ADM as of May 29, 1997, may appear and show cause * * *

why the proposed settlement of the derivative claims embodied in the

Stipulation should or should not be approved as fair, reasonable and

adequate.” Order, No. 95-C V-2279 (C.D. Ill. May 30, 1997).

16 The Seventh Cireuit's statement that the only purpose of notice

under Rule 23.1 is so “that other investors may contest the faithfulness or

honesty of the self-appointed plaintiff” is belied by the established focus of

a district court’s inquiry in determining whether the substantive terms of

settlement are fair to shareholders and the corporation. The proper scope

of the inquiry at the settlement hearing also is demonstrated by what is

set forth in the notice under Rule 23.1, which does not restrict objectors to

contesting the good faith of the representative. See supra note 15.

plaintiff and the defendant."’ Once the derivative plaintiff

and the defendant have come to terms, they are advocates

for their settlement, a development that deprives the court

of the benefit of an adversarial presentation on the question

Rule 23.1 directs the court to decide: whether the settlement

is in the best interests of all shareholders, named and absent

alike. When the once-adversaries, now prospective settling

parties, present an agreement to the court, “[aljll the

dynamics conduce to judicial approval of such settlements.”

Alleghany Corp. v. Kirby, 383 F.2d 327, 347 (2d Cir. 1964)

(Friendly, J., dissenting), aff'd en bane by equally divided

court, 340 F.2d 311 (2d Cir. 1965), cert. dismissed, 384 U.S.

28 (1966). Objecting shareholders, therefore, serve a critical

function because they alone have the incentive to inform the

court that a proposed settlement is deficient, disadvanta-

geous, or unfair to all shareholders.”

3. The opportunity to challenge settlements of those

private disputes in the district court without the cor-

responding right to appeal is not sufficient when there is a

natural tendency among trial courts to favor approving

settlements to which the named parties have agreed. In that

sense, “[j)udicial approval of the settlement is an imperfect

safeguard.” J. Coffee, Jr., The Unfaithful Champion: The

Plaintiff as Monitor in Shareholder Litigation, Law &

Contemp. Probs., Summer 1985, 5, 31.

7 By contrast, such concerns are significantly less pronounced under

statutory regimes that provide for settlement of actions brought by the

government to enforce various laws because of the broader public interest

the government is entrusted to protect. See supra note 13.

8 See Bell Atlantic Corp., 2 F.3d at 1310 (objectors give court access

to information on the settlement’s merits); Papilsky v. Berndt, 466 F. 2d

251, 258 (2d Cir. 1972) (notice is essential to ensure resolution in best

interest of corporation and absent shareholders); Cohen, 127 F.2d at 724-

725 (court benefits from broader view of the settlement provided by

objectors).

24

An unfettered, though narrowly tailored, right to appeal

the district court’s decision to approve the settlement will

further the purposes underlying Rule 23.1 by ensuring the

opportunity for appellate scrutiny of what otherwise would

be largely unreviewable proceedings. In that sense, normal

intervention may not be a viable alternative for the share-

holder whose objections are overruled. The district court

may be too readily disposed to find that an objecting

shareholder was adequately represented within the meaning

of Federal Rule of Civil Procedure 24, and thus deny

intervention, if it also concludes that the settlement was fair,

reasonable and adequate within the meaning of Rule 23.1.

Moreover, the standards for objecting under Rule 23.1 are

different from intervention under Rule 24, and it was

precisely that point that the Cohen court recognized in

ruling that an objecting shareholder had a limited right to

appeal without demonstrating that the standards for

intervention had been satisfied. See 127 F.2d at 724-725; see

also Bell Atlantic Corp., 2 F.3d at 1310 (cautioning against

the erection of “obstacles to challenging derivative action

settlement agreements”).

C. The Court Of Appeals’ Contrary Reasoning Is

Unpersuasive

The court of appeals concluded that if the objecting

shareholders wished to appeal, they must first intervene as

parties. As a practical matter, that conclusion imposes an

unnecessary requirement. By appealing the district court’s

approval of the settlement, the objecting shareholders are

merely seeking to persuade the court of appeals that the

district court erred in rejecting the arguments they were

required to make if they hoped to avert the imposition of a

binding judgment adverse to their interests. Requiring

intervention as a party for the purpose of making an

appearance in the court of appeals threatens to interpose an

unwarranted obstacle to what historically has been an

essentially automatic right that comparably situated quasi

parties have had to pursue their appeals.”

As a matter of law and precedent, the court of appeals’

reliance on this Court’s decision in Marino v. Ortiz, 484 U.S.

301 (1988), is misplaced. In Marino, a class action had been

brought by groups representing minority police officers who

challenged promotion practices by the New York City Police

Department. The lawsuit was settled by consent decree.

The decree was appealed, not by minority officers who were

members of the class, but by a group of white officers, who

had objected to the decree in district court but had not

sought to intervene as parties in the case. This Court held

that they could not appeal the consent decree without

intervening. Observing that It he rule that only parties to a

lawsuit, or those that properly become parties, may appeal

an adverse judgment,” the Court explained that “because

petitioners were not parties to the underlying lawsuit, and

because they failed to intervene for purposes of appeal, they

1% We are particularly concerned about the Seventh Cireuit's

suggestion that absent shareholders must demonstrate that the named

representative has been dishonest or unfaithful in order to intervene for

purposes of appeal. If that view were correct, even if the shareholders

were interested only in objecting to the fairness of a settlement, they

nonetheless would have to meet the heavier burden of proving bad faith

by the class representative before being permitted to appeal. The fairness

of a settlement does not turn simply on the good faith of the

representative. Other courts, moreover, have held that a represented

party must intervene prior to the settlement process. See Walker v. City

of Mesquite, 858 F.2d 1071, 1074 (Sth Cir. 1988) (describing motion to

intervene after entry of consent decree as “untimely”); Guthrie v. Evans,

815 F.2d 626, 628 (11th Cir. 1987) (class member may intervene as a

matter of right “in the course of the class action” to monitor repre-

sentation of his rights). We disagree with such a requirement because

judicial administration is ill-served by requiring absent class members or

shareholders to submit formal intervention motions simply to preserve

their right to appeal a settlement that has yet to be proposed or accepted.

See American Pipe & Constr. Co. v. Utah, 414 U.S. 538, 560-561 (1974).

may not appeal from the consent decree approving that

lawsuit’s settlement.” Marino, 484 U.S. at 304.

Marino is distinguishable from this case. Although the

interests of the white police officers were affected in some

sense by the consent decree in Marino, the action did not

involve any legal claim on their behalf; they were otherwise

strangers to the lawsuit; and they were not precluded by the

judgment from subsequently litigating any claims they

might have. See Martin v. Wilks, 490 U.S. 755, 763 (1989).

Thus, the non-party police officers in Marino were quite

different from the quasi-party objecting shareholders in this

case.” Here, the shareholders’ personal interests in their

corporation’s claim have been asserted on the shareholders’

behalf by the named plaintiff; the appealing shareholders

have appeared in district court in response to a show cause

notice to litigate the propriety of the settlement; and the

appealing shareholders will be foreclosed by the judgment

from pursuing those claims henceforth.”

2 Congress, of course, can limit challenges to a consent decree by

individuals whose claims were not asserted in the original action but

whose rights, nevertheless, are affected by the decree. For example, after

Martin v. Wilks, in 1991 Congress amended Title VII, 42 U.S.C. 2000e et

seq., to provide that any person who is given actual notice of a proposed

decree and who might be affected by it must state his or her objections to

the court reviewing the settlement at that time and may not file a later

challenge to the decree. See 42 U.S.C. 2000e-2(n). Thus, in a situation like

that presented in Marino, white officers with notice of a decree that might

affect their rights would have to appear in that court to file their

objections. Section 2000e-2(n) does not purport to change the rule in

Marino that such a person must intervene in order to appeal. The pre-

chasive effect of the judgment, however, may give substantia] support to a

motion to intervene.

21 In neither Marino itself nor the sole decision cited on the issue,

United States ex rel. Lowisiana v. Jack, 244 U.S. 397 (1917), did the Court

call into question the many prior cases in which it had upheld the rights of

quasi parties to appeal. Rather, the Court simply invoked the long-

standing general rule that only a party or a privy to the record may

27

The court of appeals also based its holding on Federal

Rule of Appellate Procedure 3(c), which provides: “A notice

of appeal must specify the party or parties taking the appeal

by naming each appellant in either the caption or the body of

the notice of appeal.” See Pet. App. 2a (emphasis added by

Seventh Circuit decision). That rule, however, addresses the

contents of the notice and does not limit the “parties” on

appeal to only those persons who were formally made

“parties” in the district court proceedings. The court of

appeals appears to have read “party or parties” to mean only

those listed in the district court’s caption. Such a reading

conflicts with well-settled case law allowing appellants who

were not parties below to be listed in the notice of appeal

and to prosecute their appeal. See, e.g., United Airlines, Inc.

v. McDonald, 432 U.S. 385 (1977) (permitting non-party to

appeal denial of a motion for leave to intervene); Collier v.

Marshall, Dennehey, Warner, Coleman & Goggin, 977 F.2d

93, 94-95 (3d Cir. 1992) (attorney appealing order in which he

is sanctioned must be listed in notice of appeal); Mylett v.

Jeane, 879 F.2d 1272, 1275 (5th Cir. 1989) (per curiam)

(same); FTC V. Amy Travel Serv., Inc., 875 F.2d 564 (7th

Cir. 1989) (same); De Lucu v. Long Island Lighting Co., 862

F. 2d 427, 429-430 (2d Cir. 1988) (same). See also Miltier v.

Downes, 935 F 2d 660, 662-663 & n.1 (4th Cir. 1991) (same);

Aetna Life Ins. Co. v. Alla Medical Servs., 855 F.2d 1470,

1473 (9th Cir. 1988) (allowing counsel to appeal sanction

order even though not a party below and not explicitly listed

as a party to the appeal). See generally 15A C. Wright et ul.,

Federal Practice and Procedure Jurisdiction § 3902.1 (2d ed.

1992). Plainly, then, “the party or parties taking the appeal”

cannot be limited to the named parties below. The far more

natural reading of Federal Rule of Appellate Procedure

3(c)—consistent with its notice-serving function—is that a

appeal. See Marino, 484 U.S. at 587; Jack, 244 U.S. at 402 (quoting

Bayard v. Lombard, 50 U.S (9 How.) 530, 551 (1850)).

“notice of appeal must specify [who is] taking the appeal.”

And that reading offers no support for the Seventh Circuit’s

position.”

Finally, the court of appeals also based its decision on the

conclusion that allowing shareholder objectors to appeal the

settlement without intervention would “fragment the

control” of the action. Pet. App. 4a. That reasoning dis-

regards Rule 23.1’s recognition that other shareholders are

entitled to participate in the district court to object to a

settlement proposed by the named-plaintiff shareholder.

The Federal Rules plainly do not evince a concern that that

limited degree of participation by persons other than the

named plaintiff will unduly disrupt the litigation or render it

unmanageable. In any event, an appeal by a quasi-party

objecting shareholder would not raise those issues, since the

appeal would be confined to the discrete legal issue whether

the district court abused its discretion in approving the

settlement. See In re Pacific Enterprises Sec. Litig., 47 F.3d

373, srt (9th Cir. 1995); Bell Atlantic Corp., 2 F.3d at 1305-

1306.

#2 On December 1, 1998, the new Federal Rules of Appellate

Procedure will take effect. The new Rule & e) is similar to the old rule in

that it does not specify that a “party” must be a named party in the

district court. New Rule 3(c)(3), however, does contain a new provision

for class actions, providing that “the notice of appeal is sufficient if it

names one person qualified to bring the appeal as representative of the

class.”

If, contrary to our submission, the Court were to conclude that the

historical practice concerning quasi parties and the explicit confirmation of

individual shareholder interests in Rule 23.1 are insufficient, absent

intervention, to allow an objecting shareholder to take an appeal of a

district court judgment approving a settlement, the Court should make

clear that Rule 24 should be interpreted and applied in this special setting

in a way that ensures that intervention will be routinely granted so as to

effectuate fully the purposes of Rule 23.1 (and the quasi party cases) of

facilitating objections in the district court in matters directly affecting

shareholders’ interests and appeal of district court judgments that reject

CONCLUSION

The judgment of the court of appeals should be reversed.

Respectfully submitted.

SETH P. WAXMAN

HARVEY J. GOLDSCHMID Solicitor General

General Counsel EDWIN S. KNEEDLER

DAVID M. BECKER Deputy Solicitor General

Deputy General Counsel DAVID C. FREDERICK

PAUL GONSON Assistant to the Solicitor

Solicitor General

JacoB H. STILLMAN

Associate General Counsel

ERIC SUMMERGRAD

Principal Assistant General

Counsel

Hope HALL AUGUSTINI

Special Counsel

Securities and Exchange

Commission

NOVEMBER 1998

those objections. See Bryant v. Yellin, 447 U.S. 352, 366 (1980) (con-

cluding that intervention after judgment by affected residents was

permissible for the purpose of taking appeal where government suing on

behalf of public interest decided to forgo appeal). In the alternative, the

Federal Rules of Civil and Appellate Procedure could be amended to

address the problem.