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In re Tivity Health, Inc. Stockholder Derivative Litigation

United States District Court, M.D. Tennessee, Nashville Division

October 21, 2019




         This is the second time in the last six months where the Court has been called upon to address United Health Care Inc.'s entry into the fitness and health improvement market, and its impact on Tivity Health Inc.'s flagship SilverSneakers program. In an earlier case, Weiner v. Tivity Health, Inc., 365 F.Supp.3d 900 (M.D. Tenn. 2019), the Court found that a putative class of shareholders had adequately pled materiality and scienter for purposes of the Private Securities Litigation Reform Act of 1995 (“PSLRA”), and hence refused to dismiss a complaint brought under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78j(b) and 78t(a).

         Most of the underlying factual background for this suit is the same as that set forth in this Court's earlier opinion, 365 F.Supp.2d at 904-07, familiarity with which is assumed. This case differs, however, because it is a derivative action brought by two shareholders who purport to bring claims on Tivity's behalf against certain current and former officers and directors.

         In a nutshell, Plaintiffs allege the following:

Tivity is a fitness benefit program broker: it enters into contracts with gym and fitness centers, then offers access to members of health insurance plans. The health insurance companies that run these plans in turn pay Tivity a fee. One of Tivity's largest customers is also one of the largest health insurance companies in the country, UHC. UHC alone contributed $94.6 million to Tivity's revenues in fiscal year 2017.
The Company focuses on consumers aged 50 and older through its SilverSneakers senior fitness program. The SilverSneakers program is the Company's largest and most profitable: fees paid from SilverSneakers clients constitute more than 80% of Tivity's annual revenues. But Tivity's business model is fragile. Its clients could, at any time, become its competitors, running their own fitness benefit programs.
This risk became a reality when, on November 6, 2017, UHC announced that it would offer its own fitness benefit program, Optum Fitness Advantage (“Optum”), to its members with a rollout to 11 states in January 2018. Industry analysts, including at Oppenheimer and Jeffries, immediately noted that UHC would in-source or convert members from SilverSneakers to UHC's Optum fitness program and convert or terminate UHC's contract with Tivity. Tivity felt the impact of losing one of its largest customers immediately. Tivity's stock dropped 34% the day this news was disclosed, wiping away over $650 million of market capitalization in one day. By early 2019, Tivity admitted that UHC's Optum program had a continuing detrimental effect on Tivity's revenues, downgrading its 2019 earnings guidance due to “reduction” in enrollees from UHC.

(Doc. No. 45 at 3-4) (internal citations omitted). Plaintiffs contend that, notwithstanding “their known fiduciary duties to be accurate and forthright in their communications with the public and to act in the Company's best interests, the Individual Defendants approved and permitted public disclosures that misrepresented material facts about Tivity's contract renewal rates, future growth, and sustainability of its revenue stream.” (Id. at 1.). Put even more simply, “[w]hile continuously affirming supposed ‘client penetration' and ‘lots of momentum and lots of opportunity,' Defendants knew that Tivity would lose its major client, UHC[.]” (Id. at 1-2.).

         The Amended Complaint (Doc. No. 35) asserts six causes of action against the individual Defendants, each of whom was a Tivity Board Member. Those claims are alleged violations of Section 10(b) (Count I), Section 14(a) (Count II), and Section 29(b) (Count III) of the Securities Exchange Act of 1934; breach of fiduciary duties (Count IV); waste of corporate assets (Count V); and unjust enrichment (Count VI). Defendants move for dismissal of the Amended Complaint in its entirety. That Motion (Doc. No. 39) will be granted.

         I. Derivative Actions - Applicable Rules

         Derivative actions are governed by Rule 23.1 of the Federal Rules of Civil Procedure. So far as relevant, the rule provides:

(a) Prerequisites. This rule applies when one or more shareholders or members of a corporation or an unincorporated association bring a derivative action to enforce a right that the corporation or association may properly assert but has failed to enforce. The derivative action may not be maintained if it appears that the plaintiff does not fairly and adequately represent the interests of shareholders or members who are similarly situated in enforcing the right of the corporation or association.
(b) Pleading Requirements. The complaint must be verified and must:
(1) allege that the plaintiff was a shareholder or member at the time of the transaction complained of, or that the plaintiff's share or membership later devolved on it by operation of law;
(2) allege that the action is not a collusive one to confer jurisdiction that the court would otherwise lack; and
(3) state with particularity:
(A) any effort by the plaintiff to obtain the desired action from the directors or comparable authority and, if necessary, from the shareholders or members; and
(B) the reasons for not obtaining the action or not making the effort.

Fed. R. Civ. P. 23.1.

         Although Rule 23.1 provides the pleading standard for derivative actions in federal court, the substantive rules for determining whether a plaintiff has satisfied that standard “is determined by state law.” Kamen v. Kemper Fin. Servs., 500 U.S. 90, 105 (1991); see also, McCall v. Scott, 239 F.3d 808, 816 (6th Cir. 2001) (“The pleading requirement of Fed.R.Civ.P. 23.1 is the procedural embodiment of the substantive principle that a stockholder's right to prosecute a derivative suit is limited to situations in which demand is excused[.]”).” Defendants argue that, under controlling Delaware law where Tivity is incorporated, Plaintiffs fail to meet the standing requirements of subsection 23.1(b)(1), and the demand requirements of subsection (b)(3).

         II. Rule 23.1(b)(1) - Contemporaneous Ownership Requirement

         “Federal Rule of Civil Procedure 23.1 requires that the plaintiff in a derivative action demonstrate possession of an ownership interest in the company it seeks to represent that is contemporaneous with the conduct for which it seeks recovery.” In re Facebook, Inc., Initial Pub. Offering Derivative Litig., 797 F.3d 148, 157 (2d Cir. 2015). “Failure to satisfy the contemporaneous ownership requirement of Rule 23.1 does not, of course, raise a jurisdictional issue under Article III.” Id. “Rather, it means that the putative derivative plaintiff does not have standing to represent the interests of the nominal defendant in a derivative capacity.” Id. (citing Berni v. Int'l Gourmet Rests. of Am., Inc., 838 F.2d 642, 646 (2d Cir.1988)).

         In a one-page argument, Defendants assert that Plaintiffs lack standing to pursue their claims because they became Tivity stockholders in June 2017, but the conduct they complain of dates back to the beginning of 2017. “Because Plaintiffs were not Tivity shareholders at the time of each of the alleged wrongful acts of which they complain, ” Defendants submit, “their Complaint should be dismissed on this basis alone.” (Doc. No. 40 at 10).

         In an equally short response, Plaintiffs concede that they did not purchase stock until June 2017, but assert that “[t]he misrepresentations occurred from February 23, 2017 through October 26, 2017, ” and they have standing to sue for the misrepresentations that occurred after they purchased stock. (Doc. No. 47 at 9). They also argue that they have standing to challenge all of the misrepresentations because Tivity engaged in “continued wrongdoing.”

         Section 327 of the Delaware Code requires that the plaintiff be “a stockholder of the corporation at the time of the transaction of which [he or she] complains.” Del. Code. Ann., Title 8 § 327. The statute was enacted to “restrict[] a stockholder's ability to sue for fiduciary wrongs that pre-dated his stock ownership, ” Quadrant Structured Prod. Co. v. Vertin, 102 A.3d 155, 178 (Del. Ch. 2014), and is intended “to prevent what has been considered an evil, namely, the purchasing of shares in order to maintain a derivative action designed to attack a transaction which occurred prior to the purchase of the stock, ” Parfi Holding AB v. Mirror Image Internet, Inc., 954 A.2d 911, 942 n.115 (Del. Ch. 2008). See also, Brambles USA, Inc. v. Blocker, 731 F.Supp. 643, 652 (D. Del. 1990) (“As a matter of policy, one who buys shares with knowledge of a purported wrongdoing should not be permitted to bring suit to challenge that wrongdoing.”).

         Defendants rely on Desimone v. Barrows, 924 A.2d 908 (Del. Ch. 2007) for the proposition that “under governing Delaware law, each stock transaction is looked at individually, and ‘mere allegations' that conduct ‘of the same nature' continued when plaintiff did not own stock ‘do not suffice to invoke the narrow continuing wrong exception to the clear statutory mandate that a derivative plaintiff must have owned stock at the time the transaction he attacks occurred in order to have standing to challenge that transaction on the corporation's behalf.'” (Doc. No. 52 at 3-3 (quoting Desimone, 924 A.2d at 913). However, the complaint in Desimone “actually challenge[d] a number of discrete stock option grants - transactions that were completed the moment the grants were issued, ” and “[t]hose transactions did not continue into the time period of plaintiff's stock ownership.” Desimone v. Barrows, 924 A.2d 908, 913 (Del. Ch. 2007). Here, ...

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