Filed 11/26/14 McCoy v. Kazi Foods CA2/2

                  NOT TO BE PUBLISHED IN THE OFFICIAL REPORTS
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              IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA
                                     SECOND APPELLATE DISTRICT
                                                  DIVISION TWO

PENNY MCCOY et al.,                                                     B247475

                Plaintiffs and Appellants,                              (Los Angeles County
                                                                        Super. Ct. No. BC461679)
         v.

KAZI FOODS, INC., et al.,

                Defendants and Respondents.




         APPEAL from a judgment of the Superior Court of Los Angeles County. Mark V.
Mooney, Judge. Affirmed.


         Rosen & Associates, Robert C. Rosen and John B. Wallace for Plaintiffs and
Appellants.


         Gareeb Law Group, Alexander S. Gareeb and Fadi K. Rasheed for Defendants and
Respondents Kazi Foods, Inc. and Kazi Management VI, LLC.


         Wilson, Elser, Moskowitz, Edelman & Dicker, Carey B. Moorehead, Laura P.
Kelly, and Robert Cooper for Defendant and Respondent Zubair Kazi.
       In this shareholder derivative action, plaintiffs and appellants Penny McCoy
(McCoy) and Chandrashekhar Joshi (Joshi) (collectively, plaintiffs) appeal from the
judgment dismissing their claims, brought on behalf of nominal defendant Cryobanks
International, Inc. (Cryobanks) against defendants and respondents Zubair Kazi (Kazi),
Kazi Foods, Inc. (KFI), and Kazi Management VI, LLC (KMVI) (collectively,
defendants), after the trial court sustained, without leave to amend, defendants’ demurrers
to plaintiffs’ third amended complaint. We affirm the judgment.
                                     BACKGROUND
The parties
       Cryobanks, the nominal defendant in this action, is a Delaware corporation that
collected, processed, and stored umbilical cord blood stem cells. It is no longer an
operating company. Plaintiffs are shareholders of Cryobanks.
       Kazi was on the board of directors of Cryobanks from 2001 until September 2008.
He is also the managing member of KMVI and the sole shareholder of KFI.
Procedural history
       Plaintiffs filed a total of four complaints in this action. They filed the original
complaint on May 19, 2011, and a first amended complaint on December 7, 2011. A
second amended complaint was filed on May 9, 2012, after defendants’ demurrer to the
first amended complaint was sustained with leave to amend.
       Second amended complaint
       Plaintiffs’ second amended complaint alleged 20 causes of action: (1) breach of
written contract, (2) breach of implied contract, (3) breach of the covenant of good faith
and fair dealing, (4) breach of fiduciary duties, (5) fraud, (6) fraudulent inducement, (7)
suppression and concealment, (8) false promise, (9) fraudulent inducement to enter
contract, (10) constructive fraud, (11), negligence, (12) negligent misrepresentation, (13)
gross negligence, (14) violation of the Corporations Code, (15) unjust enrichment, (16)
negligent interference with economic advantage, (17) declaratory relief, (18) unfair
competition, (19) usurping corporate opportunity, and (20) misappropriation of trade
secrets. Plaintiffs further alleged that it would have been futile for them to make a


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demand on Cryobanks’s board of directors to correct the alleged wrongdoing for various
reasons, including the absence of any board of directors at the time the complaint was
filed, Kazi was the sole director who controlled the board “[a]t all times mentioned in this
Complaint,” and “[p]ast Board members appointed by KAZI were primarily long term
friends and business colleagues of KAZI.”
        Defendants filed demurrers and motions to strike, arguing that the second
amended complaint failed to state sufficient facts to constitute a cause of action and failed
to state sufficient facts to show that a demand on Cryobanks’s board would have been
futile. Defendants also filed a request for judicial notice of Cryobanks’s April 28, 2011
annual report filed with the Florida Secretary of State showing that there were at least
two board members at the time plaintiffs filed their original complaint.
        The trial court granted the motions to strike, with leave to amend, on the ground
that plaintiffs’ allegations of demand futility were not sufficiently pled. The court noted
that the sufficiency of plaintiffs’ demand futility allegations had been challenged
previously and pointed out the deficiencies that remained uncured in the second amended
complaint: “[L]et me tell you some of the problems I have with it still, and that is, on the
one hand plaintiffs say that, well, there was no board to make a demand to, on the other
hand they say the board members were all friends of Mr. Kazi, so was there a board or
not?”
        The trial court then referred plaintiffs to the corporate documents that were the
subject of defendants’ request for judicial notice, noting that those documents showed the
existence of a board of directors consisting of at least two members, and advised
plaintiffs of the need to identify the specific board members: “[I]n order for the court to
really be able to assess this futility argument, you’ve got to identify who the board
members were, and if there were really only two at the time . . . that shouldn’t be, you
know, too hard to do.” The trial court granted plaintiffs leave to amend and then gave
them detailed guidance regarding the pleading deficiencies in each of the 20 causes of
action asserted in the second amended complaint.



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       Third amended complaint
       In their third amended complaint, the operative pleading in this appeal, plaintiffs
elected to proceed with only three causes of action -- breach of written contract, breach of
fiduciary duty, and unjust enrichment/restitution. Plaintiffs again alleged that any presuit
demand on Cryobanks’s board of directors would have been futile and claimed (1) they
were excused from making such a demand because they had never been given notice of
the identity of the directors because Kazi had unilaterally dispensed with corporate
governance requirements, including providing notice of shareholder meetings to elect
directors; (2) defendants were estopped from complaining about the absence of any
demand because Cryobanks had in the past denied written requests by other shareholders
seeking access to corporate books and records and would have denied any such request
by plaintiffs; (3) Cyrobanks had no board of directors at the time the original complaint
was filed; and (4) Kazi controlled and dominated Cryobanks’s board by appointing his
friends and business colleagues as directors.
       Plaintiffs’ breach of written contract cause of action is based on alleged breaches
of stock purchase agreements governing purchases of Cryobanks stock by Kazi and
KMVI and a conversion agreement governing KMVI’s exercise of warrants for
Cryobanks shares. Plaintiffs allege that each acquisition of Cryobanks stock by Kazi and
KMVI was accompanied by a written contract, “generally titled Warrant Agreement,
Stock Purchase Agreement and/or Loan Agreement.”
       Plaintiffs did not allege the dates of the stock purchase agreements, nor did they
identify the parties to those agreements. Plaintiffs did not attach the stock purchase
agreements to their third amended complaint, nor did they include the relevant terms of
the stock purchase agreements in the complaint, but alleged that because they were not
parties to the agreements, they “cannot quote each contract term or attach each of those
Contracts.” Plaintiffs nevertheless alleged that each of the stock purchase agreements
contained a provision prohibiting Kazi and KMVI from selling their Cryobanks shares
and that this prohibition was also “implied by law” into each of the agreements. They



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claim that Kazi breached the agreements by transferring his shares to KMVI and that
KMVI breached the agreements by selling those shares to others.
       Plaintiffs further allege that KMVI and Cryobanks entered into a conversion
agreement pursuant to which KMVI exercised warrants for 74 million shares of
Cryobanks stock at a price of $.10 per share. Although the third amended complaint
states that a copy of the conversion agreement is attached as an exhibit to the complaint,
the record on appeal does not include a copy of the agreement. Plaintiffs allege that
KMVI breached the conversion agreement by failing to pay Cyrobanks $7.4 million for
the exercise of 74 million warrants.
       In their breach of fiduciary duty cause of action, plaintiffs allege that certain
defendants improperly sold their own shares of Cryobanks stock to third parties, thereby
preventing Cryobanks from selling its shares directly to those same third parties; that
Kazi engaged in self-dealing in the conversion agreement; and that Kazi prevented
Cryobanks from obtaining other valuable financing opportunities.
       Plaintiffs’ unjust enrichment claim is based on the allegations that KMVI obtained
74 million shares of Cryobanks stock pursuant to the conversion agreement without
paying for those shares.
       In their third amended complaint, plaintiffs also allege that the statute of
limitations had not run as to any of their claims because the applicable limitations periods
were equitably tolled during a federal court action plaintiffs had pursued against
defendants, the delayed discovery doctrine applied to toll the limitations periods, and
defendants’ fraudulent conduct and misrepresentations precluded them from asserting a
statute of limitations defense.
       Defendants demurred to the third amended complaint, arguing that plaintiffs’
allegations of demand futility were insufficient, that the claims for breach of contract and
breach of fiduciary duty were barred by the statute of limitations, and that plaintiffs had
failed to state a claim for relief under any of the alleged causes of action. Defendants
again asked the trial court to take judicial notice of the April 28, 2011 annual report



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Cryobanks had filed with the Florida Secretary of State indicating that Cryobanks had at
least two directors at the time plaintiffs commenced the instant action.
       At a December 6, 2012 hearing, the trial court found plaintiffs’ allegations of
demand futility to be insufficient, stating: “I think when you were here last time I was
pretty clear about, okay, make it crystal clear as to . . . whether there was a board, no
board, why it was futile, if there is a board, who these board members are . . . . It still
isn’t any better. The complaint is still internally inconsistent and contradictory on this
whole issue of . . . demand on the board.” The trial court noted that plaintiffs had been
accorded “plenty of opportunities to plead this” and sustained the demurrers without
leave to amend.
       A judgment of dismissal was entered on January 22, 2013. This appeal followed.
                                       DISCUSSION
I. Standard of review
       “On appeal from a judgment dismissing an action after sustaining a demurrer
without leave to amend, the standard of review is well settled. The reviewing court gives
the complaint a reasonable interpretation, and treats the demurrer as admitting all
material facts properly pleaded. [Citations.] The court does not, however, assume the
truth of contentions, deductions or conclusions of law. [Citation.] The judgment must be
affirmed ‘if any one of the several grounds of demurrer is well taken. [Citations.]’
[Citation.] However, it is error for a trial court to sustain a demurrer when the plaintiff
has stated a cause of action under any possible legal theory. [Citation.] And it is an
abuse of discretion to sustain a demurrer without leave to amend if the plaintiff shows
there is a reasonable possibility any defect identified by the defendant can be cured by
amendment. [Citation.]” (Aubry v. Tri-City Hospital Dist. (1992) 2 Cal.4th 962, 966-
967.) The legal sufficiency of the complaint is reviewed de novo. (Montclair
Parkowners Assn. v. City of Montclair (1999) 76 Cal.App.4th 784, 790.)




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II. Demand futility
       A. Applicable legal principles
       Under both Delaware and California law, a shareholder cannot initiate a derivative
action without first informing the directors about the action and making an effort to
induce them to commence the lawsuit themselves or to redress the alleged wrongs, unless
such an effort would be futile. (Corp. Code, § 800, subd. (b); Del. Ct. of Chancery Rules,
rule 23.1(a).)1 Because Cryobanks is incorporated in Delaware, we apply Delaware law
to determine whether plaintiffs sufficiently alleged, in the third amended complaint, the
reasons why a demand on Cryobanks’s board would have been futile. (Charter Township
of Clinton Police & Fire Retirement System v. Martin (2013) 219 Cal.App.4th 924, 934.)
       Under Delaware law, “directors are entitled to a presumption that they were
faithful to their fiduciary duties. In the context of presuit demand, the burden is upon the
plaintiff to overcome that presumption.” (Beam v. Stewart (Del. 2004) 845 A.2d 1040,
1048-1049 (Beam).) To rebut that presumption, a plaintiff must plead with particularity
facts establishing that it would have been futile to make a demand. (In re Citigroup Inc.


1       Corporations Code section 800, subdivision (b) provides in relevant part: “No
action may be instituted or maintained in right of any domestic or foreign corporation by
any holder of shares . . . of the corporation unless . . . [t]he plaintiff alleges in the
complaint with particularity plaintiff’s efforts to secure from the board such action as
plaintiff desires, or the reasons for not making such effort, and alleges further that
plaintiff has either informed the corporation or the board in writing of the ultimate facts
of each cause of action against each defendant or delivered to the corporation or the
board a true copy of the complaint which plaintiff proposes to file.”
        Delaware Court of Chancery Rule 23.1 provides in pertinent part: “In a derivative
action brought by one or more shareholders or members to enforce a right of a
corporation or of an unincorporated association, the corporation or association having
failed to enforce a right which may properly be asserted by it, the complaint shall allege
that the plaintiff was a shareholder or member at the time of the transaction of which the
plaintiff complains or that the plaintiff’s share or membership thereafter devolved on the
plaintiff by operation of law. The complaint shall also allege with particularity the
efforts, if any, made by the plaintiff to obtain the action the plaintiff desires from the
directors or comparable authority and the reasons for the plaintiff’s failure to obtain the
action or for not making the effort.”


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S’holder Derivative Litig. (Del. Ch. 2009) 964 A.2d 106, 120.) “The Court must
determine whether a plaintiff has alleged particularized facts creating a reasonable doubt
of a director’s independence to rebut the presumption at the pleading stage. [Citation.]”
(Beam, supra, at p. 1049.) Because director “[i]ndependence is a fact-specific
determination made in the context of a particular case” the plaintiff must undertake a
director by director analysis showing that there is a reasonable doubt that a majority of
the board was incapable, either because of a material personal interest, or as the result of
domination and control by another interested director, of objectively evaluating a
demand. (See Beam, at pp. 1049-1051.)
       The test of demand futility is a two-pronged one under Delaware law. (Brehm v.
Eisner (Del. 2000) 746 A.2d 244, 256 (Brehm).) The first prong is “whether, under the
particularized facts alleged, a reasonable doubt is created that . . . the directors are
disinterested and independent.” (Aronson v. Lewis (Del. 1984) 473A.2d 805, 814
(Aronson), overruled on another ground by Brehm, supra, 746 A.2d at p. 253 [holding
that Court of Chancery decisions on demand futility are reviewed de novo and not
reviewed under deferential abuse of discretion standard].) “The second prong is whether
the pleading creates a reasonable doubt that ‘the challenged transaction was otherwise the
product of a valid exercise of business judgment.’ [Citation.]” (Brehm, supra, 746 A.2d
at p. 256.) If either prong is satisfied, then a plaintiff has met the demand futility
requirement, and a demand on the board is excused. (Ibid.)
       B. Plaintiffs’ allegations are insufficient
       In their third amended complaint, plaintiffs make various conflicting allegations
about the existence and composition of the Cryobanks board. They allege that Cryobanks
had no board of directors, that Kazi was the sole board member, and that the board
included other unidentified individuals who were friends and business colleagues of Kazi.
Plaintiffs’ allegation that Kazi was the sole member of Cryobanks’s board of directors is
contradicted by their allegation that Kazi resigned as a board member on September 8,
2008 -- long before they filed their initial complaint in this action.



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       Plaintiffs allege that after Kazi resigned as a Cryobanks director, he continued to
control the board by causing his friends and business colleagues to be elected as board
members. Plaintiffs further allege that these unidentified board members were not
independent, but were loyal to Kazi. Plaintiffs fail, however, to identify any other
director whose independence is in question, or to allege any facts that raise a reasonable
doubt concerning that director’s independence. “Allegations of mere personal friendship
or a mere outside business relationship, standing alone, are insufficient to raise a
reasonable doubt about a director’s independence. [Citation.]” (Beam, supra, 845 A.2d
at p. 1050.)
       Plaintiffs claim that Cryobanks’s failure to comply with corporate governance
requirements such as sending notice of shareholder meetings for the election of directors
prevented them from knowing the identity of any member of Cyrobanks’s board of
directors, or whether a board existed at all. They admit, however, that they never sought
such information from Cryobanks because they never requested access to any corporate
books or records. The trial court took judicial notice of a publicly filed document
showing that Cryobanks had two directors, neither of whom was Kazi, at the time
plaintiffs filed their initial complaint. Plaintiffs were aware of the existence and identity
of these two directors before they filed their third amended complaint. The trial court had
previously taken judicial notice of the same publicly filed document when defendants
filed demurrers and motions to strike the second amended complaint and at that time
admonished plaintiffs of the need to identify the individual directors. Plaintiffs
nevertheless fail to identify any Cryobanks board member apart from Kazi. They also
fail to allege any facts that would create a reasonable doubt about any director’s
independence. Plaintiffs accordingly fail to satisfy the first prong of the test for demand
futility under Delaware law. (Aronson, supra, 473A.2d at p. 815.)
       Plaintiffs’ third amended complaint also fails to satisfy the second prong of the
demand futility test, which requires allegations that create a reasonable doubt that the
“challenged transaction was the product of a valid exercise of business judgment.”
(Aronson, supra, 473 A.2d at p. 815.) To satisfy this second prong, a plaintiff must plead


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particularized facts that “raise (1) a reason to doubt that the action was taken honestly and
in good faith or (2) a reason to doubt that the board was adequately informed in making
the decision.” (In re Walt Disney Co. Derivative Litig. (Del. Ch. 2003) 825 A.2d 275,
286.) The directors are presumed to have acted on an informed basis and in the honest
belief that the decisions were in the best interests of the corporation, and the burden is on
the party challenging the decision to establish facts rebutting that presumption. (Aronson,
supra, 473 A.2d at p. 812.) Demonstrating demand futility under this second prong has
been described as a “heavy burden” for a shareholder plaintiff. (White v. Panic (Del.
2001) 783 A.2d 543, 551.)
       Plaintiffs’ demand futility allegations contain no facts whatsoever as to whether
the directors were adequately informed or acted honestly and in good faith when making
their decisions on the challenged transactions. The third amended complaint contains no
allegations whatsoever concerning any individual director’s decision regarding the stock
purchase agreements pursuant to which Kazi and KMVI acquired Cryobanks shares,
alleged offers from potential Cryobanks investors, or the conversion agreement.
Although plaintiffs allege that Kazi “tricked” certain directors into resigning from the
board shortly before Cryobanks entered into the conversion agreement “because KAZI
did not want any Board member to oppose the Conversion Agreement,” there are no
allegations that the unidentified directors who remained on the board were not adequately
informed or did not act in good faith when presented with the conversion agreement.
       Because plaintiffs have failed to establish demand futility under either prong of the
applicable test under Delaware law, the trial court did not err by sustaining defendants’
demurrer on that basis.2


2       Because we hold that plaintiffs’ claims are barred as the result of their failure to
establish that a prelawsuit demand on Cryobanks’s board would have been futile, we
need not address defendants’ arguments that plaintiffs’ claims are also barred by their
failure to designate a reporter’s transcript as part of the record on appeal and because they
failed to allege facts stating a cause of action. (Aubry v. Tri-City Hospital Dist., supra, 2
Cal.4th at pp. 966-967 [judgment must be affirmed “‘if any one of the several grounds of
demurrer is well taken’”].)

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III. Plaintiffs’ arguments regarding the second amended complaint
       Plaintiffs claim the trial court erred by granting, without leave to amend,
defendants’ motions to strike various causes of action in the second amended complaint.
The trial court did not deny plaintiffs leave to amend any of the causes of action asserted
in the second amended complaint. Rather, the record shows that the trial court not only
granted plaintiffs leave to amend, but also provided detailed guidance to correct the
pleading deficiencies in each cause of action. When plaintiffs filed their third amended
complaint, they chose to assert only three of the 20 causes of action they had asserted in
the second amended complaint. Plaintiffs accordingly abandoned the remaining 17
causes of action and forfeited any claim of error with regard to those causes of action.
(Cochran v. Cochran (1997) 56 Cal.App.4th 1115, 1119; see also Las Lomas Land Co.,
LLC v. City of Los Angeles (2009) 177 Cal.App.4th 837, 861.)
IV. Denial of leave to amend
       Plaintiffs fail to suggest how they would amend their third amended complaint to
correct the defects discussed above. The burden of proving a reasonable possibility of
amending the complaint to state a cause of action “is squarely on the plaintiff.” (Blank v.
Kirwan (1985) 39 Cal.3d 311, 318.) The trial court therefore did not abuse its discretion
by sustaining the demurrer without leave to amend.
                                     DISPOSITION
       The judgment is affirmed. Defendants are awarded their costs on appeal.
       NOT TO BE PUBLISHED IN THE OFFICIAL REPORTS.

                                                  ____________________________, J.
                                                  CHAVEZ

We concur:

__________________________, P. J.
BOREN

__________________________, J.
ASHMANN-GERST


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