What Is a Shareholder Derivative Action?

A derivative action is a lawsuit a shareholder or LLC member files on behalf of the company itself, asserting claims the company owns but its management refuses to pursue, usually because the wrongdoers are the management. Any recovery belongs to the company, not the suing shareholder personally.

The gatekeeping requirement is demand: before suing, the shareholder must demand that the board pursue the claim, or plead with particularity why demand would have been futile. California's requirements for corporations appear in Corporations Code section 800, with parallel rules for LLCs. Courts police the line between derivative claims, which belong to the company because the injury hit the company, and direct claims, which a shareholder owns personally, such as being cut out of distributions owed specifically to them. Getting the classification wrong can sink a case.

Derivative suits are the standard vehicle when insiders loot the company, divert its opportunities, or entrench themselves at its expense. In closely held companies they often travel alongside involuntary dissolution and buyout proceedings as part of a broader business divorce.