UPDATES & ANALYSIS

Judge Colloton warns of Twombly and Iqbal embellishment

by Ryan Koopmans | September 12, 2013

By Ryan Koopmans

Twombly and Iqbal aligned the case law with the Federal Rules’ pleading standards, they didn’t change them (nor could they).  That was Judge Colloton’s message last week in Horras v. American Capital Strategies, Ltd., an Iowa case about minority shareholder rights.

Thomas Horras owned a minority interest in a home healthcare business and the majority shareholder purported to sell out without telling him.  So Horras sued.  He claimed that the majority shareholder had a duty to disclosure the sale to him, especially because the majority shareholder represented that it was selling all of the company’s shares, not just a controlling interest.

The district court dismissed the lawsuit, and last week an Eighth Circuit panel affirmed that ruling 2-1. The majority of the panel, Judge Gruender writing, concluded that if given the chance, the Iowa Supreme Court would not require majority shareholder to tell the minority shareholder that he intended to sell the majority interest.  While the Iowa Supreme Court might very well recognize such a claim for a closely held company, Horras hadn’t pled that this was a closely held company.  And according to Judge Gruender (joined by Judge Benton) Twombly and Iqbal require that he plead it.

As for Horras’s claim that the majority shareholder purported to sell all of the company’s shares, Judge Gruender wrote that Horras hadn’t properly pled that either.  The breach-of-fiduciary-duty count stated only that the majority shareholder failed to notify Horras of “corporate activity [a]ffecting his shares.”  The part about purporting to sell off the shares was in a separate breach-of-contract count, which the district court also dismissed.  (That dismissal was unanimously affirmed.).

Judge Colloton dissented. In an interesting opinion about what Twombly and Iqbal do and what they don’t, Judge Colloton–who served on the Advisory Committee on Civil Rules from 2008-2013– concluded that Horras said enough to get by the motion to dismiss.  Here’s the relevant portion of his dissent:

The majority does not suggest that the Iowa courts would find no breach of duty in that situation, but affirms the dismissal on the ground that Horras did not adequately plead the scenario that he argues. In my view, this conclusion overstates the effect of Ashcroft v. Iqbal, 556 U.S. 662 (2009) and Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007). To be sure, Twombly, 550 U.S. at 561-63, overruled Conley v. Gibson, 335 U.S. 41 (1957), and the old “no set of facts” standard under which virtually any complaint survived a motion to dismiss unless the plaintiff affirmatively pleaded himself out of court. E.g., Thomas v. Farley, 31 F.3d 557, 558-59 (7th Cir. 1994). Twombly makes clear that a plaintiff must plead “more than labels and conclusions,” and “[f]actual allegations must be enough to raise a right to relief above the speculative level.” 550 U.S. at 555. Rule 8(a) requires that there must be “enough facts to state a claim to relief that is plausible on its face.” Id. at 570.

This is an important development, but we must be careful not to embellish it. The Court pointedly reminded us in a summary reversal issued two weeks after Twombly that the federal rules require only notice pleading through “‘a short and plain statement of the claim showing that the pleader is entitled to relief.’” Erickson v. Pardus, 551 U.S. 89, 93 (2007) (quoting Fed. R. Civ. P. 8(a)(2)). “Specific facts are not necessary; the statement need only give the defendant fair notice of what the . . . claim is and the grounds upon which it rests.” Id. (internal quotation omitted). Iqbal says that Twombly applies to all civil actions, 556 U.S. at 684, but Swierkiewicz v. Sorema, N.A., 534 U.S. 506 (2002), reaffirmed by Twombly, 550 U.S. at 555-56, provides that the simplified notice pleading standard of Rule 8(a) likewise applies to all civil actions (with limited exceptions not applicable here), and “relies on liberal discovery rules and summary judgment motions to define disputed facts and issues and to dispose of unmeritorious claims.” 534 U.S. at 512.

Horras’s complaint alleged that ACS controlled Auxi at the time of its sale in 2007, initiated the sale of Auxi to HHC, and received payment for its shares, but failed to notify Horras of corporate activity affecting his shares or to pay Horras for his shares. The majority’s footnote three deems this pleading insufficient notice of the claim outlined above, because it did not specifically allege that Auxi was closely held (only that it was “a Delaware corporation”) and did not specifically assert that ACS purported to sell “all” shares of Auxi. The complaint was insufficient on this view, because Horras’s Count I on breach of fiduciary duty said only that ACS initiated “corporate activity [a]ffecting his shares,” even though Count II on breach of contract alleged that ACS “represented all shares of Auxi would be sold to HHC.” So the defendant supposedly was not on fair notice that Count I alleged a purported sale of all shares or that Auxi was closely held.

These criticisms of the complaint bring to mind the technical requirements of the code pleading regime that was superseded by the federal rules and the simplified notice pleading approach. See Charles E. Clark, The Influence of Federal Procedural Reform, 13 Law & Contemp. Probs. 144, 154-55 (1948); Charles E. Clark, Simplified Pleading, 2 F.R.D. 456, 458-60 (1943). Since 1948, after all, it has been sufficient to allege a negligence claim in one sentence: “On date, at place, the defendant negligently drove a motor vehicle against the plaintiff.” Fed. R. Civ. P. 84 & App., Form 11. Would the majority say that this “singular allegation” fails to state a claim because it does not specify that the defendant ran through a red light? Under the simplified pleading standard of Rule 8(a), I think the complaint here was sufficient to give ACS fair notice of the fiduciary duty claim that Horras has amplified in his briefing.

The availability of information in this case is asymmetrical. ACS presumably knows what happened in the sale of Auxi shares to HHC; Horras evidently does not know much. The litigation likely would entail simple, relatively inexpensive discovery about the Auxi corporation and the transaction with HHC, after which a motion for summary judgment may well be in order if there is insufficient evidence to support Horras’s theory. But at this early stage of the proceeding, I would reverse the judgment dismissing the fiduciary duty claim and remand for further proceedings.

Tags: Eighth Circuit, Judge Steven Colloton