Following the release of a highly publicized list of companies, including CNET, “at risk” for options backdating and CNET’s announcement that it had appointed a special committee of independent directors to investigate its stock option practices, Plaintiffs filed a derivative action alleging claims under sections 10(b), 14(a), and 20(a) of the Exchange Act of 1394 and section 304 of Sarbanes-Oxley. CNET moved to dismiss the complaint based upon plaintiffs’ failure either to make a demand upon the Board prior to filing the lawsuit or to plead with sufficient particularity that making a demand would have been “futile.”
Applying Delaware law (the State of CNET’s incorporation) to determine if the “futility” exception applied, the Court ruled that the demand requirement is only excused if “under the particularized facts alleged, a reasonable doubt is created that (i) the directors are disinterested and independent and (ii) the challenged transaction was otherwise the product of a valid exercise of business judgment.” Plaintiffs argued that the exception applied, alleging that none of CNET’s directors were disinterested because each received and ratified backdated options and because certain of the directors were on CNET’s Compensation Committee.
After finding that plaintiffs could only satisfy the lack of director “disinterest” prong if three or more of CNET’s six directors were disinterested, the Court carefully examined the circumstances of each of the eight instances of alleged backdating. The Court ruled that only three of the grants sufficiently pled facts supporting an inference of backdating and that only one director on the CNET Board at the time of the demand requirement had received options pursuant to these grants. The Court further ruled that mere service on the Compensation Committee did not establish a lack of disinterest, especially where CNET’s options plan permitted the Compensation Committee to delegate decisions to CNET executives and where no allegations were made that the directors on the Committee had chosen the date of the grant. Accordingly, the Court dismissed the complaint because plaintiffs failed to plead with particularity that a majority of the Board was not disinterested. (In re CNET Networks, Inc., 2007 WL 1089690 (N.D.Cal. Apr. 11, 2007))