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Northstar Financial Advisors, Inc. v. Schwab Investments

United States Court of Appeals, Ninth Circuit

March 9, 2015

NORTHSTAR FINANCIAL ADVISORS INC., on behalf of itself and all others similarly situated, Plaintiff-Appellant,
v.
SCHWAB INVESTMENTS; MARIANN BYERWALTER, DONALD F. DORWARD, WILLIAM A. HASLER, ROBERT G. HOLMES, GERALD B. SMITH, DONALD R. STEPHENS, MICHAEL W. WILSEY, CHARLES R. SCHWAB, RANDALL W. MERK, JOSEPH H. WENDER and JOHN F. COGAN, as Trustees of Schwab Investments; and Charles Schwab Investment Management, Inc., Defendants-Appellees

Argued and Submitted, San Francisco, California: May 17, 2013.

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[Copyrighted Material Omitted]

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Appeal from the United States District Court for the Northern District of California. D.C. No. 5:08-cv-4119-LHK. Lucy H. Koh, District Judge, Presiding.

SUMMARY[**]

Mutual Funds

The panel reversed in part and vacated in part the district court's dismissal of a shareholder class action on behalf of investors who alleged that the managers of the Schwab Total Bond Market Fund, a mutual fund, failed to adhere to the Fund's fundamental investment objectives of seeking to track a particular index and not over-concentrating its investments in any one industry. The Fund was created by Schwab Investments (" Schwab Trust" ), a " Massachusetts trust," and its investment adviser was Charles Schwab Investment Management, Inc. (" Schwab Advisor" ).

The named plaintiff was Northstar Financial Advisors, Inc., a registered investment advisery and financial planning firm that managed accounts on behalf of investors and had over 200,000 shares of the Fund under its management. The panel held that Northstar had standing because it filed a supplemental pleading under Federal Rule of Civil Procedure 15(d) after obtaining an assignment of claim from an investor in the Fund.

The panel reversed the district court's dismissal of breach of contract claims. It held that the Fund shareholders' adoption of the investment objectives added a structural restriction on the power conferred on the Fund trustees that could only be changed by a vote of the shareholders, and was subsequently reflected in the Fund's registration statements and prospectuses, and thus created a contract between the trustees and Fund investors.

Vacating the dismissal of fiduciary duty claims, the panel held that the operative complaint stated a claim that the Schwab defendants breached their fiduciary duties by failing to ensure that the Fund was managed in accordance with the fundamental investment objectives and by changing the Fund's fundamental investment objectives without obtaining required shareholder authorization. The panel held that the trustees owed a fiduciary duty to the shareholders, rather than the Fund, and so Northstar was not required to proceed by way of a derivative action.

The panel reversed the dismissal of a third-party beneficiary breach of contract claim. It held that Northstar adequately alleged that the investors were third-party beneficiaries of the Investment Advisory and Administration Agreement between Schwab Trust and Schwab Advisor.

The panel declined to address the effect of the Securities Litigation Uniform Standards Act on the various common law causes of action. It remanded the case to the district court.

Dissenting, Judge Bea wrote that Northstar lacked standing because, at the commencement of the action, it did not own any fund shares, nor did it own any claims of others who had suffered losses the defendants had allegedly caused.

Robert C. Finkel (argued), Wolf Popper LLP, New York, New York; Joseph J. Tabacco, Jr., Christopher T. Heffelinger, and Anthony D. Phillips, Berman DeValerio, San Francisco, California; Marc J. Gross, Greenbaum Rowe Smith & Davis LLP, Roseland, New Jersey, for Plaintiff-Appellant.

Karin Kramer and Arthur M. Roberts, Quinn Emanuel Urquhart & Sullivan, LLP, San Francisco, California; Richard Schirtzer (argued), Susan R. Estrich, and B. Dylan Proctor, Quinn Emanuel Urquhart & Sullivan, LLP, Los Angeles, California, for Defendants-Appellees.

Before: Richard R. Clifton and Carlos T. Bea, Circuit Judges, and Edward R. Korman, Senior District Judge.[*] Opinion by Judge Korman; Dissent by Judge Bea.

OPINION

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KORMAN, District Judge:

The Investment Company Act (" ICA" ) establishes a comprehensive federal regulatory framework applicable to mutual funds. See 15 U.S.C. § 80a-1 et seq. More specifically, it provides that a mutual fund's registration statement must recite all investment policies that can be changed only by shareholder vote. 15 U.S.C. § 80a-8(b). Deviation from policies so designated violates § 13(a) of the ICA. 15 U.S.C. § 80a-13(a)(3). This appeal arises out of a class action on behalf of investors who allege that the managers of the Schwab Total Bond Market Fund (" Fund" ) failed to adhere to two of the Fund's fundamental investment objectives; namely, that it seek to track a particular index and that it not over-concentrate its investments in any one industry. These objectives, which could only be changed by a vote of the shareholders, were adopted by a shareholder vote and subsequently incorporated in the Fund's registration statement and prospectuses.

On a previous interlocutory appeal, we rejected the argument that this conduct gave rise to an implied private right to enforce § 13(a) of the ICA. Northstar Fin. Advisors, Inc. v. Schwab Invs., 615 F.3d 1106 (9th Cir. 2010). On this appeal from an order granting a motion to dismiss a Third Amended Complaint, the principal issues are whether the investors have stated valid causes of action for breach of contract, breach of fiduciary duty, and breach of an agreement to which the investors claim to be third-party beneficiaries.

BACKGROUND

Schwab Investments (" Schwab Trust" ) is an investment trust organized under Massachusetts law. Such a trust, which is often referred to generically as a " Massachusetts trust," even when not created under Massachusetts law, is an unincorporated business organization created by an instrument of trust by which property is to be held and managed by trustees for the benefit of persons who are or become the holders of the beneficial interests in the trust estate. See Hecht v. Malley, 265 U.S. 144, 146-47, 44 S.Ct. 462, 68 L.Ed. 949, 1924-1 C.B. 489, T.D. 3595 (1924).[1] Thus, the Schwab Trust's Agreement and Declaration of Trust states that " the Trustees hereby declare that they will hold all cash, securities and other assets, which they may from time to time acquire in any manner as Trustees hereunder IN TRUST to manage and dispose of the same . . . for the pro rata benefit of the holders from time to time of Shares in this Trust." Schwab Investments, Registration Statement (Form N-1A), Agreement and Declaration of Trust 1 (Ex. 1) (Dec. 29, 1997) [hereinafter " Agreement

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and Declaration of Trust" ]. Such a " trust today is a preferred form of organization for mutual funds and asset securitization." Dukeminier, Sitkoff & Lindgren, Wills, Trusts, and Estates 556.

One of the significant features that distinguishes a Massachusetts trust from the ordinary or private trust " lies in the manner in which the trust relationship is created; investors in a business trust enter into a voluntary, consensual, and contractual relationship, whereas the beneficiaries of a traditional private trust take their interests by gift from the donor or settlor." Herbert B. Chermside, Jr., Modern Status of the Massachusetts or Business Trust, 88 A.L.R.3d 704, 720 (1978); see also Berry v. McCourt, 1 Ohio App.2d 172, 204 N.E.2d 235, 240 (Ohio Ct.App. 1965) (" By an underlying contract, or in the provisions of a business trust instrument, or both, the parties agree on the operations of the venture." ). Thus, the Agreement and Declaration of Trust at issue here states at the very outset that it was made " by the Trustees hereunder, and by the holders of shares of beneficial interest to be issued hereunder." Agreement and Declaration of Trust 1. Moreover, it continues that " [e]very Shareholder by virtue of having become a Shareholder shall be held to have expressly assented and agreed to the terms hereof and to have become a party hereto." Agreement and Declaration of Trust 4.

Because this case involves the relationship between investors and a mutual fund, the trust which created the fund and the investment adviser which manages the fund, it is helpful to have a clear understanding of the relationships among these parties. We begin with a useful, if oversimplified, description of a mutual fund:

T, an investment professional, approaches A, B, C, and others like them and agrees to pool certain of their assets in a common fund to be managed by T. A, B, C, and the other investors each receive tradable shares in the fund in an amount proportional to their investment. By structuring their collective investment in this way, A, B, C, and the others are able to take advantage of economies of scale, obtain professional portfolio management, and achieve a more diversified portfolio than each could have individually. In managing the portfolio, T is subject to a fiduciary obligation to A, B, C, and the other investors in the fund.

Dukeminier, Sitkoff & Lindgren, Wills, Trusts, and Estates 556.

This simple description does not adequately discuss perhaps the most important party to this arrangement, namely, the investment adviser, whose " main role is to supervise and manage the fund's assets, including handling the fund's portfolio transactions." Clifford E. Kirsch, An Introduction to Mutual Funds, in Mutual Fund Regulation § 1:2.2 (Clifford E. Kirsch ed., 2d ed. 2005). The investment adviser is not a mere employee, contractor, or consultant. Instead, it is " more often than not also the creator, sponsor, and promoter of the mutual fund." Charles E. Rounds, Jr. & Charles E. Rounds, III, Loring and Rounds: A Trustee's Handbook 955-56 (2012 ed.); see also Kamen v. Kemper Fin. Servs., Inc., 500 U.S. 90, 93, 111 S.Ct. 1711, 114 L.Ed.2d 152 (1991) (Mutual funds " typically are organized and underwritten by the same firm that serves as the company's 'investment adviser.'" ); Daily Income Fund, Inc. v. Fox, 464 U.S. 523, 536, 104 S.Ct. 831, 78 L.Ed.2d 645 (1984) (Mutual funds are " typically created and managed by a pre-existing external organization known as an investment adviser." (citing Burks v. Lasker, 441 U.S. 471, 481, 99 S.Ct. 1831, 60 L.Ed.2d 404 (1979))).

Thus, while " [i]n theory, the [trust] is able to choose any adviser it deems appropriate to invest the fund's portfolio, based

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on the adviser's investing style, track record and fees," in practice, the investment adviser picked to manage the portfolio is most often self-selected and unlikely to be removed. John Shipman, So Who Owns Your Mutual Fund ?, Wall St. J., May 5, 2003, at R1, available at http://online.wsj.com/news/articles/SB105207969873142900. Because " a typical fund is organized by its investment adviser which provides it with almost all management services . .., a mutual fund cannot, as a practical matter sever its relationship with the adviser." Burks, 441 U.S. at 481 (quoting S. Rep. No. 91-184, at 5 (1969), reprinted in 1970 U.S.C.C.A.N. 4897, 4901).

Consistent with this description of the structure of a mutual fund and its relationship with its investment adviser, the Schwab Trust selected Charles Schwab Investment Management, Inc. (" Schwab Advisor" ) as its investment adviser. Indeed, Charles R. Schwab is alleged to have been chairman and trustee of the Schwab Trust and a member of the board of the Schwab Advisor. Third Am. Compl. ¶ 38. The latter is a subsidiary of the Charles Schwab Corporation, of which Mr. Schwab has served as " CEO at various times, including from 2004 through October 2008." Third Am. Compl. ¶ 36. Moreover, the complaint alleges that all " [d]efendants and their affiliates held themselves out as one Schwab entity[.]" Third Am. Compl. ¶ 167.

The mutual fund at issue here, one of several operated by the Schwab Trust, is the Schwab Total Bond Market Fund. Reflecting the terms of a proxy statement proposed by the Schwab Trust in 1997, and subsequently adopted by the shareholders by majority vote, the prospectuses that the Fund issued during the relevant period stated that the Fund was " designed to offer high current income by tracking the performance of the Lehman Brothers [U.S.] Aggregate Bond Index [(" Lehman Index" )]" and was " intended for investors seeking to fill the fixed income component of their asset allocation plan." Specifically, the Lehman Index included " investment-grade government, corporate, mortgage-, commercial mortgage- and asset-backed bonds that [were] denominated in U.S. dollars and ha[d] maturities longer than one year." Northstar Fin. Advisors, Inc. v. Schwab Invs., 609 F.Supp.2d 938, 945 (N.D. Cal. 2009).[2] Nevertheless, the Fund is not itself an index fund and, according to the Fund's prospectus, it was " not required to invest any percentage of its assets in the securities represented in the [Lehman] Index." Decl. of Kevin Calia in Support of Motion to Dismiss Second Amended Class Action Complaint, Ex. A at 14, Nov. 10, 2010.

The Fund disclosed in its registration statement, and reiterated in prospectuses issued thereafter, that its policy of tracking the Lehman Index was " fundamental," which means that it " cannot be changed without approval of the holders of a majority of the outstanding voting securities (as defined in the [ICA])." Schwab Investments, Registration Statement 5, 14 (Form N-1A) (Jan. 16, 1998), Prospectus 10 (Form N-1A, Part A) (Nov. 1, 1997, as amended Jan. 15, 1998); see also Michael Glazer, Prospectus Disclosure and Delivery Requirements, in Mutual Fund Regulation § 4:3.6 (Clifford E. Kirsch ed., 2d

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ed. 2005). The Fund was also precluded from investing twenty-five percent or more of the Fund's total assets in any one industry, unless necessary to track the Lehman Index. Schwab Investments, Registration Statement 41 (Form N-1A) (Jan. 16, 1998), Statement of Additional Information 11 (Form N-1A, Part B) (Nov. 1, 1997, as amended Jan. 15, 1998).

Northstar Financial Advisors, Inc. (" Northstar" ) is a registered investment advisery and financial planning firm that manages discretionary and non-discretionary accounts on behalf of investors and had over 200,000 shares of the Fund under its management. In August 2008, Northstar filed this shareholder class action against the defendants, alleging that they deviated from the Fund's fundamental investment policies and exposed the Fund and its shareholders to tens of millions of dollars in losses.

Northstar has identified two classes of potential plaintiffs: (1) a " Pre-Breach" class, consisting of those who purchased shares of the Fund on or prior to August 31, 2007, and who continued to hold their shares as of August 31, 2007, and (2) a " Breach" class, consisting of those who purchased shares of the Fund during the period September 1, 2007 through February 27, 2009. Northstar alleges that August 31, 2007 was the last day of the fiscal year preceding the one during which the Fund first began deviating from its required fundamental investment policies, and that on February 27, 2009, the Fund reverted back to the required policies.

This case has a lengthy and complicated procedural history that includes the dismissal of successive amended complaints for failure to state a cognizable cause of action. Specifically, the Third Amended Complaint, which is based on the Fund's unauthorized deviation from its fundamental investment objectives, alleges five causes of action on behalf of each of the two identified classes, for a total of ten claims: breach of fiduciary duty against the Trustees[3] (counts one and six); breach of fiduciary duty against Schwab Advisor (counts two and seven); aiding and abetting breach of fiduciary duty against the Trustees (counts three and eight); aiding and abetting breach of fiduciary duty against Schwab Advisor (counts four and nine); breach of the Investment Advisory and Administration Agreement (" IAA" ) between Schwab Trust and Schwab Advisor. The last cause of action is based on the allegations that the investors are third-party beneficiaries of the IAA. The Third Amended Complaint also incorporates by reference a breach of contract cause of action against the Schwab Trust that was alleged in the Second Amended Complaint, but dismissed with prejudice on an earlier motion to dismiss. The incorporation by reference was included to preserve Northstar's right to appeal from the dismissal of this cause of action with prejudice.

STANDARD OF REVIEW

We review de novo the district judge's order granting a motion to dismiss. Manzarek v. St. Paul Fire & Marine Ins. Co., 519 F.3d 1025, 1030 (9th Cir. 2008). On a motion to dismiss, " [w]e accept factual allegations in the complaint as true and construe the pleadings in the light most favorable to the non-moving party." Id. at 1031. " [W]e may consider materials incorporated into the complaint or matters of public record." Coto Settlement v. Eisenberg, 593 F.3d 1031, 1038 (9th Cir. 2010).

Page 1043

We may also consider " documents 'whose contents are alleged in a complaint and whose authenticity no party questions, but which are not physically attached to the [plaintiff's] pleading.'" Knievel v. ESPN, 393 F.3d 1068, 1076 (9th Cir. 2005) (alteration in original) (quoting In re Silicon Graphics Inc. Sec. Litig., 183 F.3d 970, 986 (9th Cir. 1999)); see also Ecological Rights Found. v. Pac. Gas & Elec. Co., 713 F.3d 502, 511 (9th Cir. 2013). This is sometimes referred to as the " incorporation by reference" doctrine. Knievel, 393 F.3d at 1076; see also Lapidus v. Hecht, 232 F.3d 679, 682 (9th Cir. 2000).

Among the documents we consider pursuant to that doctrine are three sets of the Schwab Trust's filings with the Securities and Exchange Commission: (1) the Registration Statement of December 29, 1997; (2) the Registration Statement of January 16, 1998, which was filed with the Prospectus and Statement of Additional Information of November 1, 1997, as amended January 15, 1998; and (3) the Prospectus and Statement of Additional Information of November 15, 2004. While all of these documents are referred to in the complaint, the entire content of each document does not appear to be part of the record. Nevertheless, " [i]t is appropriate to take judicial notice of this information, as it was made publicly available by [the SEC], and neither party disputes the authenticity of the [documents] or the accuracy of the information displayed therein." Daniels-Hall v. Nat'l Educ. Ass'n, 629 F.3d 992, 998-99 (9th Cir. 2010) (citing Fed.R.Evid. 201); see also Dreiling v. Am. Express Co., 458 F.3d 942, 946 n.2 (9th Cir. 2006) ( We " may consider documents referred to in the complaint or any matter subject to judicial notice, such as SEC filings." ). Indeed, defendants, who might otherwise be aggrieved by their use, created and filed them with the SEC. Under these circumstances, it is appropriate for us to consider them here. See 1 Christopher B. Mueller & Laird C. Kirkpatrick, Federal Evidence § 2:8 at 359-61 (4th ed. 2013).

DISCUSSION

I. Standing

We pause before addressing the merits to discuss the issue of whether Northstar has standing. Northstar filed its initial class action complaint on behalf of investors in the Fund on August 28, 2008. Northstar owned no shares of the Fund, but it brought the action in its own name, without obtaining an assignment of claims from an investor in the Fund. Subsequently, in a comparable case brought by an asset management firm, the Second Circuit held that " the minimum requirement for injury-in-fact is that the plaintiff have legal title to, or a proprietary interest in, the claim." W.R. Huff Asset Mgmt. Co. v. Deloitte & Touche LLP, 549 F.3d 100, 108 (2d Cir. 2008). On December 8, 2008, after W.R. Huff was decided, Northstar obtained an assignment of claim from a client-shareholder.

Defendants argue that because standing must be determined at the time a complaint is filed, and because Northstar did not obtain an assignment of claim until several months after the original complaint was filed, the assignment could not cure Northstar's original lack of standing. The district judge (Susan Illston, J.), to whom the case was then assigned, dismissed Northstar's complaint for lack of standing with a suggestion that this defect could be cured by filing an amended complaint. Northstar Fin. Advisors, Inc. v. Schwab Invs., 609 F.Supp.2d 938, 942 (N.D. Cal. 2009). Northstar followed her suggestion. After Schwab renewed its motion to dismiss the amended complaint, the district court judge to whom the case had been reassigned (Lucy Koh, J.) declined to order the dismissal of the complaint because

Page 1044

to do so would have " elevate[d] form over substance" and thus she treated the prior order as granting plaintiff leave to file a supplemental pleading under Rule 15(d) instead of an amended complaint pursuant to Rule 15(a). Northstar Fin. Advisors, Inc. v. Schwab Invs., 781 F.Supp.2d 926, 932-33 (N.D. Cal. 2011). In so doing, she observed that, " [a]lthough there is no published Ninth Circuit authority on this point, courts in other circuits have found that parties may cure standing deficiencies through supplemental pleadings." Id. at 933 (citing, inter alia, Travelers Ins. Co. v. 633 Third Assoc., 973 F.2d 82, 87-88 (2d Cir. 1992)). We review this ruling de novo, Renee v. Duncan, 686 F.3d 1002, 1010 (9th Cir. 2012), and we agree with Judge Koh's application of Fed.R.Civ.P. 15(d).

Rule 15(d) permits a supplemental pleading to correct a defective complaint and circumvents " the needless formality and expense of instituting a new action when events occurring after the original filing indicated a right to relief." Wright, Miller, & Kane, Federal Practice and Procedure: Civil 3d § 1505, pgs. 262-63. Moreover, " [e]ven though [Rule 15(d)] is phrased in terms of correcting a deficient statement of 'claim' or a 'defense,' a lack of subject-matter jurisdiction should be treated like any other defect for purposes of defining the proper scope of supplemental pleading." Id. at § 1507, pg. 273. Indeed, in Mathews v. Diaz, 426 U.S. 67, 96 S.Ct. 1883, 48 L.Ed.2d 478 (1976), the Supreme Court addressed the issue in a case in which an applicant for Medicare had failed to file his application until after an amended complaint had been filed joining him as an additional complainant in an as-yet uncertified class action. In holding that this jurisdictional defect could be cured by a supplemental pleading, the Supreme Court observed:

Although 42 U.S.C. § 405(g) establishes filing of an application as a nonwaivable condition of jurisdiction, Espinosa satisfied this condition while the case was pending in the District Court. A supplemental complaint in the District Court would have eliminated this jurisdictional issue; since the record discloses, both by affidavit and stipulation, that the jurisdictional condition was satisfied, it is not too late, even now, to supplement the complaint to allege this fact.

Id. at 75 (internal citations omitted). This holding is consistent with Rockwell Int'l Corp. v. United States, in which the Supreme Court subsequently held that " when a plaintiff files a complaint in federal court and then voluntarily amends the complaint, courts look to the amended complaint to determine jurisdiction." 549 U.S. 457, 473-74, 127 S.Ct. 1397, 167 L.Ed.2d 190 (2007).

We add here a brief discussion of the thoughtful holding of the Court of Appeals for the Federal Circuit that summarizes the case law addressing supplemental pleadings. There, " [a]s an initial matter, the parties dispute[d] whether the allegations in [the plaintiff's] Amended Complaint that concern actions taken after the filing of the initial complaint can be used to establish subject matter jurisdiction." Prasco, LLC v. Medicis Pharm. Corp., 537 F.3d 1329, 1337 (Fed. Cir. 2008). Relying on Rule 15(d) and Mathews v. Diaz, the Court of Appeals treated the complaint as a supplemental complaint and held that it was sufficient to cure the original complaint's jurisdictional defect:

Thus, while " [l]ater events may not create jurisdiction where none existed at the time of filing," the proper focus in determining jurisdiction are " the facts existing at the time the complaint under consideration was filed." GAF Bldg. Materials Corp. v. Elk Corp., 90 F.3d 479, 483 (Fed.Cir.1996) (emphasis added) (quoting Arrowhead Indus. Water, Inc. v. Ecolochem Inc.,

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846 F.2d 731, 734 n. 2 (Fed. Cir. 1988)); see also Rockwell Int'l Corp. v. United States, 549 U.S. 457, 127 S.Ct. 1397, 1409, 167 L.Ed.2d 190 (2007) (" [W]hen a plaintiff files a complaint in federal court and then voluntarily amends the complaint, courts look to the amended complaint to determine jurisdiction." ); Connectu LLC v. Zuckerberg, 522 F.3d 82 (1st Cir. 2008). As the district court accepted Prasco's Amended Complaint, it is the Amended Complaint that is currently under consideration, and it is the facts alleged in this complaint that form the basis for our review.

Id. See also Feldman v. Law Enforcement Assocs. Corp., 752 F.3d 339, 347 (4th Cir. 2014) (" [W]e construe the present complaint as a supplemental pleading under Rule 15(d), thereby curing the defect which otherwise would have deprived the district court of jurisdiction under Rule 15(c)." ); Black v. Sec'y of Health and Human Servs., 93 F.3d 781, 790 (Fed. Cir. 1996) (" Nonetheless, a defect in the plaintiff's case, even a jurisdiction defect, can be cured by a supplemental pleading under Rule 15(d) in appropriate circumstances." ); United Partition Sys., Inc. v. United States, 59 Fed.Cl. 627, 644 (Fed. Cl. 2004) (" The Supreme Court has interpreted Fed.R.Civ.P. 15(d) to permit supplemental pleadings in which a plaintiff may correct a jurisdictional defect in its complaint by informing the court of post-complaint events." ).

Judge Koh's holding is also consistent with the approach to the Federal Rules of Civil Procedure taken by Judge Clark, " the principal architect of the Federal Rules of Civil Procedure." Zahn v. International Paper Co., 414 U.S. 291, 297, 94 S.Ct. 505, 38 L.Ed.2d 511 (1973). Thus, in Hackner v. Guaranty Trust Co. of New York, 117 F.2d 95 (2d Cir. 1941), the complaint was subject to dismissal because the plaintiffs did not allege damages sufficient to satisfy the minimum amount required to invoke subject-matter jurisdiction on the basis of diversity of citizenship. An amended complaint was then filed which added a plaintiff, Eunice Eastman, whose alleged damages were " well over the requirement." Id. at 98. Speaking for the Second Circuit, Judge Clark wrote that subject-matter jurisdiction was proper notwithstanding the fact that it was first established by the addition of Eastman as a plaintiff in the amended complaint:

Since [Eastman] alleges grounds of suit in the federal court, the only question is whether or not she must begin a new suit again by herself. Defendants' claim that one cannot amend a nonexistent action is purely formal, in the light of the wide and flexible content given to the concept of action under the new rules. Actually she has a claim for relief, an action in that sense; as the Supreme Court has pointed out, there is no particular magic in the way it is instituted. So long as a defendant has had service reasonably calculated to give him actual notice of the proceedings, the requirements of due process are satisfied. Hence no formidable obstacle to a continuance of the suit appears here, whether the matter is treated as one of amendment or of power of the court to add or substitute parties, Federal Rule 21, or of commencement of a new action by filing a complaint with the clerk, Rule 3. In any event we think this action can continue with respect to Eastman without the delay and expense of a new suit, which at long last will merely bring the parties to the point where they now are.

Id. (quotations and citations omitted); see also Fed.R.Civ.P. 1 (which provides that the Rules of Civil Procedure " should be construed and administered to secure the just, speedy, and inexpensive determination of every action and proceeding" ).

Page 1046

Our dissenting colleague relies on Morongo Band of Mission Indians v. California State Board of Equalization, 858 F.2d 1376 (9th Cir. 1988), for the proposition that " where the district court does not have subject matter jurisdiction over a matter at the time of filing, subsequent events do not confer subject matter jurisdiction on the district court." Dissent at 66-67. We find this argument inapposite because, unlike the present case, Morongo did not involve a ...


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