337 U.S. 541, 548-549 (1949)
In 1943 a stockholder owning 100 shares of Beneficial Industrial Loan Corporation, a Delaware corporation doing business in New Jersey, filed a derivative action in the United States District Court for the District of New Jersey against the corporation and its managers and directors.1 The complaint alleged that since 1929 the individual defendants had engaged in a continuing conspiracy to enrich themselves at the corporation’s expense, wasting or diverting assets exceeding $100,000,000.2 The plaintiff had demanded that the corporation institute proceedings for recovery, but the individual defendants’ control prevented it from doing so.3
The plaintiff was one of 16,000 stockholders and held only 100 of the corporation’s more than two million outstanding shares; together with 150 shares held by an intervenor, the combined interest approximated 0.0125 percent of the stock and had a market value that had never exceeded $9,000.4 The action remained pending when, in 1945, New Jersey enacted a statute requiring a plaintiff with so small an interest to post security for the reasonable expenses, including attorney’s fees, of the defense if unsuccessful and making the plaintiff liable for those expenses.5 The corporate defendant moved to require a bond of $125,000, pointing to its bylaws that might obligate it to indemnify the individual defendants.6
The District Court held the state statute inapplicable to the federal action.7 The Court of Appeals reversed.8 The Supreme Court granted certiorari.9
Whether the District Court’s order refusing to require security under the New Jersey statute was an appealable final decision?10
An order is appealable under 28 U.S.C. § 1291 if it finally determines a claim of right separable from and collateral to the rights asserted in the action.11 The claim must be too important to be denied review and too independent of the cause itself to require that appellate consideration be deferred until the whole case is adjudicated.12
Yes. The District Court’s order refusing to apply the New Jersey statute finally disposed of the claimed right to security before appeal was taken.13 That right is separable from the merits of the derivative action and will not merge into any final judgment on the conspiracy claims.14 When final judgment is entered it will be too late to review the order effectively and the rights conferred by the statute will have been lost irreparably.15
The order therefore falls within the small class of appealable collateral orders.16
The order is appealable.17
Whether the New Jersey statute is valid under the Federal Constitution?18
A state has plenary power over stockholder derivative actions and may impose liability for reasonable expenses plus security for their payment without violating the Due Process Clause, Equal Protection Clause or Contract Clause.19 The statute regulates fiduciary litigation and employs reasonable classifications based on the percentage or market value of stock owned.20
Yes. The New Jersey statute imposes liability only for reasonable expenses and requires security only from plaintiffs holding less than five percent or fifty thousand dollars in market value of stock.21 This classification is a permissible means of deterring strike suits while leaving larger shareholders unregulated.22 The statute creates no impairment of contract rights because the plaintiff possesses no contract rights on which to base an action at law.23
Its application to pending cases affects only future expenses and therefore does not constitute unconstitutional retroactivity under the Due Process Clause.24
The statute is valid under the Federal Constitution.25
Whether the New Jersey statute must be applied by a federal court sitting in diversity jurisdiction to a pending stockholder’s derivative action?26
Under the Rules of Decision Act and the Erie doctrine a state statute that creates a new liability for expenses in stockholder derivative actions and conditions maintenance of the action on posting security is substantive in nature.27 It must be applied by federal courts in diversity cases because it affects the outcome of the litigation and is not merely a rule of procedure.28
Yes. The New Jersey statute creates a new liability where none existed before by making a small shareholder liable for the corporation’s reasonable expenses if unsuccessful and requires a bond to secure that liability before outlay is incurred.29 This goes beyond mere procedure and conditions the right to maintain the action.30 Federal Rule of Civil Procedure 23 addresses verification and collusion but does not conflict with the state statute’s substantive requirements.31
The federal court therefore must apply the statute.32
The statute must be applied by the federal court.33
Related opinions on this issue
The cause of action on which this suit is brought is a derivative one that belongs to the corporation.34 Stockholders are entitled under state law to enforce it.35 The New Jersey statute does not add one iota to nor subtract one iota from that cause of action.36
This New Jersey statute regulates only the procedure for instituting a particular cause of action and hence need not be applied in this diversity suit in the federal court.37 Rule 23 of the Federal Rules of Civil Procedure defines that procedure for the federal courts.38
Justice Rutledge joined the dissenting opinion of Justice Douglas.39 He agreed that the New Jersey statute regulates only the procedure for instituting a derivative action and therefore need not be applied in federal diversity cases under Rule 23.40
He further contended that the Court was extending the Erie doctrine too far by submitting control of diversity litigation to the states rather than to Congress.41 In his view the gloss placed on Erie by decisions such as Guaranty Trust Co. v. York impairs Congress’s power to govern the incidents of litigation in federal courts.42 Matters such as security for costs lie within Congress’s authority, not state control, and Rule 23 remains valid and governs the Cohen case.43 He would therefore reverse the judgment of the Court of Appeals.44