United States 6th Circuit Court of Appeals Reports

McCARTHY v. MIDDLE TENN. ELECTRIC MEMBERSHIP, 05-6477 (6th
Cir. 10-17-2006) JOHN McCARTHY ET AL.,
PLAINTIFFS-APPELLANTS, v. MIDDLE TENNESSEE ELECTRIC
MEMBERSHIP CORPORATION ET AL., DEFENDANTS-APPELLEES. No.
05-6477. United States Court of Appeals, Sixth Circuit.
Argued: July 26, 2006. Decided and Filed: October 17,
2006. Pursuant to Sixth Circuit Rule 206. Corrected
October 31, 2006.

APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE
MIDDLE DISTRICT OF TENNESSEE AT NASHVILLE. No. 04-00312
– William J. Haynes, Jr., District Judge.

ARGUED: Gerald E. Martin, BARRETT, JOHNSTON & PARSLEY,
Nashville, Tennessee, for Appellants.

J. Richard Lodge, Jr., BASS, BERRY & SIMS, Nashville,
Tennessee, Harriet A. Cooper, TENNESSEE VALLEY AUTHORITY,
Knoxville, Tennessee, for Appellees.

ON BRIEF: Gerald E. Martin, George E. Barrett, Edmund L.
Carey, Jr., Timothy L. Miles, BARRETT, JOHNSTON & PARSLEY,
Nashville, Tennessee, for Appellants.

J. Richard Lodge, Jr., Russell S. Baldwin, BASS, BERRY &
SIMS, Nashville, Tennessee, Harriet A. Cooper, Frank H.
Lancaster, Maria V. Gillen, TENNESSEE VALLEY AUTHORITY,
Knoxville, Tennessee, for Appellees.

Before: MOORE, CLAY, and GRIFFIN, Circuit Judges.

OPINION

KAREN NELSON MOORE, Circuit Judge.

Plaintiffs-Appellants appeal from the district court’s
dismissal of claims brought against electric cooperatives
and the Tennessee Valley Authority (together,
“defendants”). Members of the electric cooperatives
(“plaintiffs”) brought an action against the defendants,
claiming that the cooperatives (“Cooperatives”) refused to
distribute refunds or to reduce electricity rates as
required when electric cooperatives have excess revenue.
The Cooperatives were prohibited from distributing the
refunds on the basis of their contracts with the Tennessee
Valley Authority (“TVA”), which supplies the Cooperatives
with electricity. The plaintiffs also asserted that the
Cooperatives failed to keep adequate records. The district
court dismissed the plaintiffs’ state-law claims without
prejudice because these claims should have been filed as a
derivative suit, and it dismissed the plaintiffs’
federal-law claims with prejudice. For the reasons
discussed below, we AFFIRM the judgment of the district
court.

I. BACKGROUND

The Tennessee General Assembly has stated “that rural
electric cooperatives . . . have proved to be ideal
business organizations in providing adequate and reliable
electric services at reasonable rates throughout the rural
communities of Tennessee.” TENN. CODE ANN. §
65-25-201(b)(1). The defendants include 22 electric
cooperatives that supply electricity to over 700,000
cooperative members in Tennessee. The Cooperatives are
non-profit corporations organized pursuant to Tennessee’s
Rural Electric and Community Services Cooperative Act
(“RECSCA”). TENN. CODE ANN. § 65-25-203.[fn1] The
Cooperatives purchase electricity from the Tennessee Valley
Authority, which is “the nation’s largest public power
producer.”[fn2] Joint Appendix (“J.A.”) at 83 (TVA 2002
Annual Report at 2).

If electric cooperatives accrue excess revenue beyond what
is necessary to cover specified expenses, these funds must
be distributed in one of the following three ways: “(A) As
patronage refunds prorated in accordance with the patronage
of the cooperative by the respective patrons paid for
during or with respect to such fiscal year;[fn3] (B) By way
of general reductions of rates or other charges; or (C) By
any combination of methods in (b)(1)-(3).” TENN. CODE ANN.
§ 65-25-212(a). Section 65-25-212(b) provides as
follows:

(b) With respect to the supplying or furnishing of
services in pursuance of one (1) or more secondary
purposes, the revenues of a cooperative shall, as
separately accounted for and determined for each such
service, be first applied as provided in subdivisions
(a)(1)-(6) and then distributed to the patrons of each
such service in the manner provided for in the bylaws,
either:

(1) As patronage refunds prorated in accordance with the
patronage of the cooperative by the respective patrons
paid for during or with respect to such fiscal year;

(2) By way of general reductions of rates or other
charges;

(3) By crediting patrons with having furnished the
cooperative capital in amounts equal to the amounts of
their patronage not refunded pursuant to subdivision
(b)(1) and not used for general reduction of rates or
other changes pursuant to subdivision (b)(2), all or any
portion of such capital to be redeemable and be retired at
such later time as the board in its sole discretion
determines that such will not impair the cooperative’s
financial condition and will be in the cooperative’s best
interests; or

(4) By any combination of methods in subdivisions
(b)(1)-(3).

However, “[n]othing contained in subsection (a) or (b) shall
be construed to prohibit the payment by a cooperative of
all or any part of its indebtedness prior to the date when
the same shall become due.” § 65-25-212(c). The
Cooperatives’ contracts with the TVA prohibited the
distribution of patronage refunds.[fn4] The plaintiffs
claim that the Cooperatives wrongfully withheld patronage
capital and failed to maintain properly records of each
member’s patronage capital.[fn5]

On April 12, 2004, the plaintiffs filed a complaint against
the Cooperatives and the TVA in federal district court.
The plaintiffs’ complaint included the following claims:
violation of the Sherman Act, 15 U.S.C. § 1;
violation of the Tennessee Trade Practices Act, TENN. CODE
ANN. § 47-25-101; violation of the Tennessee
Consumer Protection Act, TENN. CODE ANN. §§
47-18-104(b)(27) and 47-18-109; breach of fiduciary duty;
and failure to refund patronage capital or to reduce rates
as required by Tennessee Code Annotated §
65-25-212(a). The TVA and the Cooperatives each filed
motions to dismiss the plaintiffs’ claims against them. The
plaintiffs filed an amended complaint in July 2004 that
included a Fifth Amendment takings claim and a Fifth and
Fourteenth Amendment due process claim.

The district court issued an order on August 4, 2004,
staying discovery and seeking a response from the
plaintiffs as to the following issues raised in the
Cooperatives’ motion to dismiss: “(1) Whether Plaintiffs’
claims are derivative claims; (2) if Plaintiffs’ claims are
deemed derivative claims, whether the Plaintiffs complied
with State law to assert these claims; and (3) whether the
Plaintiffs have standing to sue cooperatives of which
Plaintiffs are not members.” J.A. at 322 (Dist.Ct. Order).
The plaintiffs filed a response to this order on August 19,
2004, and they also filed a motion for leave to file a
second amended complaint expanding the plaintiff class to
include members of additional cooperatives. The district
court never ruled on the plaintiffs’ motion for leave to
file a second amended complaint.

On December 3, 2004, the district court granted the
defendants’ motions to dismiss;[fn6] it dismissed the
plaintiffs’ state-law claims without prejudice, and it
dismissed the plaintiffs’ federal-law claims with
prejudice. The plaintiffs filed a motion to alter or amend
the district court’s judgment, claiming that there was no
basis for dismissing their constitutional claims or for
finding that their state-law claims were derivative in
nature. The district court denied the plaintiffs’ motion on
July 29, 2005; in addressing the plaintiffs’ constitutional
claims, the district court concluded that there was no
state action and that the plaintiffs had an adequate remedy
under state law. The plaintiffs timely appealed from the
district court’s December 2, 2004 and July 29, 2005 orders.

II. ANALYSIS

A. Standard of Review

We review de novo the district court’s grant of the
defendants’ motions to dismiss pursuant to Federal Rule of
Civil Procedure 12(b)(6). Downie v. City of Middleburg
Heights, 301 F.3d 688, 693 (6th Cir. 2002). We “treat[] all
well-pleaded allegations in the complaint as true, and . .
. find[] dismissal proper only if it appears beyond doubt
that the plaintiff[s] can prove no set of facts in support
of the claims that would entitle [them] to relief.” Id.
(internal quotation marks omitted).

B. Judicial Review

The TVA characterizes the case as “a judicial challenge to
the level of rates set by the TVA Board of Directors for
the sale of TVA power at retail and to the terms and
conditions for the sale of that power.” TVA Br. at 22. As a
result of this, the TVA argues that we should affirm the
district court’s dismissal of the plaintiffs’ claims
because these claims are not subject to judicial review.
The plaintiffs expressly state in their reply brief that
“this lawsuit is not about rate making.” Appellants Reply
Br. at 23. Instead, they argue that they are seeking an
accounting of the patronage accounts. Id. However, because
the plaintiffs also argue that they were improperly denied
patronage capital, Appellants Br. at 14, we believe it is
necessary to address the question of judicial review.

“A long line of precedent exists establishing that TVA
rates are not judicially reviewable.” Matthews v. Town of
Greeneville, No. 90-5772, 1991 WL 71414, at *2 (6th Cir. May
2, 1991) (unpublished opinion), cert. denied, 502 U.S. 938
(1991); see also 4-County Elec. Power Ass’n v. TVA, 930 F.
Supp. 1132, 1137 (S.D. Miss. 1996) (“Plaintiff acknowledges
that by virtue of TVA’s having been granted by Congress
full discretionary authority with respect to setting rates,
TVA’s rate-making decisions are beyond the scope of
judicial review under the APA.”); Carborundum Co. v. TVA,
521 F. Supp. 590, 593 (E.D. Tenn. 1981) (noting the “well
established legal princip[le] that the setting of power
rates under the Tennessee Valley Authority Act is not
subject to judicial review”); Mobil Oil Corp. v. TVA, 387
F. Supp. 498, 506-07 (N.D. Ala. 1974) (“[T]he judgment or
expertise of the Authority in setting the electric power
rates is a matter committed to its discretion by law and is
not subject to judicial review.”) (citation and footnote
omitted); Ferguson v. Elec. Power Bd. of Chattanooga,
Tenn., 378 F. Supp. 787, 789 (E.D. Tenn. 1974) (“[T]he
matter of rate setting under the Tennessee Valley Authority
Act is not subject to judicial review.”), aff’d, 511 F.2d
1403 (6th Cir. 1975).

The plaintiffs’ claims “against the TVA must be evaluated
under the provisions of the Administrative Procedure Act
(APA).” Matthews, 1991 WL 71414, at *2. Parties may seek
judicial review of agency action[fn7] unless the relevant
statute precludes such review, 5 U.S.C. § 701(a)(1),
or the “agency action is committed to agency discretion by
law,” 5 U.S.C. § 701(a)(2). “If it is determined
that either situation exists, then a court must decline to
exercise jurisdiction over the matter.”[fn8] Madison-Hughes
v. Shalala, 80 F.3d 1121, 1124 (6th Cir. 1996).[fn9] The
TVA Act authorizes the TVA to enter into contracts to sell
its surplus power, and the Act provides that: “the Board is
authorized to include in any contract for the sale of power
such terms and conditions, including resale rate schedules,
and to provide for such rules and regulations as in its
judgment may be necessary or desirable for carrying out the
purpose of this chapter.” 16 U.S.C. § 831i. Courts
have acknowledged that “the TVA Act accords the TVA a great
amount of discretion in its contractual relations with
municipalities.” Matthews, 1991 WL 71414, at *3. The TVA
acted within the scope of its authority under the TVA Act
in entering into contracts with the Cooperatives. The
contractual provisions that prevent the Cooperatives from
distributing patronage refunds were created within the
TVA’s authority to set “resale rate schedules” pursuant to
§ 831i, because “determinations about the level of
rates necessary to recover the various costs of operating
TVA’s power system, as well as the terms and conditions of
TVA’s power contracts, . . . are part of TVA’s unreviewable
rate-making responsibilities.” 4-County, 930 F. Supp. at
1138; see also Carborundum Co., 521 F. Supp. at 594
(holding that a contractual “minimum bill provision” was
“simply an integral portion of the rates which TVA has
fixed, pursuant to express congressional authority”). To
the extent that Tennessee law imposes additional
constraints on the TVA’s authority, it is preempted by the
TVA Act’s express grant of discretion and the APA’s
prohibition on judicial review. See Millsaps v. Thompson,
259 F.3d 535, 538 (6th Cir. 2001) (“[F]ederal law preempts
state law when the two actually conflict.”). We thus
decline to review any of the plaintiffs’ challenges to the
contractual term prohibiting the distribution of patronage
refunds.

Our decision not to review the TVA’s contract also extends
to the Cooperatives’ enforcement of that contract. See
Allen v. Elec. Power Bd., 422 F. Supp. 4, 6 (M.D. Tenn.
1976) (“By parity of reasoning, the imposition of the rate
adjustment schedules by TVA’s distributors pursuant to
their contracts with TVA are likewise not reviewable.”).
Federal law preempts Tennessee law on this point as well.
See Millsaps, 259 F.3d at 538 (stating that federal law
preempts state law “when a state law `stands as an obstacle
to the accomplishment and execution of the full purposes
and objectives of Congress'” (quoting Hines v. Davidowitz,
312 U.S. 52, 67 (1941))). If we were to review the
Cooperatives’ actions in enforcing the contract, we would
still be reviewing the TVA’s actions and thus ignoring the
APA’s prohibition on judicial review.

This does not end our inquiry. The plaintiffs’ claims under
the Tennessee Consumer Protection Act, Tennessee Code
Annotated § 65-25-212, and for breach of fiduciary
duty are based in part on the Cooperatives’ failure to
issue patronage refunds; the Cooperatives failed to issue
the refunds as a result of their contracts with the TVA,
which are not subject to review. However, we will still
proceed to review these claims to the extent that they are
also based upon the Cooperatives’ failure to reduce rates
and to maintain records properly. We will also proceed to
review plaintiffs’ constitutional claims, which are not
limited by the TVA Act or the APA. Finally, we will review
those aspects of plaintiffs’ antitrust claim that are not
based on the terms of the contracts between the TVA and the
Cooperatives.

C. Derivative Nature of Plaintiffs’ State-Law Claims

“A derivative action is an extraordinary, equitable remedy
available to shareholders when a corporate cause of action
is, for some reason, not pursued by the corporation
itself.” Lewis v. Boyd, 838 S.W.2d 215, 221 (Tenn.Ct.App.
1992). Tennessee “requires the shareholder to first make a
written demand on the corporation’s directors requesting
them to prosecute the suit or to take other suitable
corrective action. This precondition is commonly known as
the demand requirement.” Id. (internal quotation marks
omitted). The demand requirement serves several purposes:
“to allow the directors to occupy their normal status as
the conductors of the corporation’s affairs, to encourage
informal resolution of intracorporate disputes, and to
guard against misuse of the derivative remedy.” Id.

The district court held that the plaintiffs’ state-law
claims[fn10] were derivative rather than direct[fn11] and
that the plaintiffs’ failure to make a pre-suit demand to
the Cooperatives could not be excused on the basis of
futility.[fn12] The plaintiffs challenge both the precedent
upon which the district court relied as well as the
district court’s application of that precedent to the facts
of this case.[fn13]

1. Tennessee standards for determining whether a suit is
derivative or direct

The district court cited the following rule from Cato v.
Mid-America Distribution Centers, Inc., No.
02A01-9406-CH-00149, 1996 WL 502500, at *5 (Tenn.Ct.App.
Sept. 6, 1996) (unpublished opinion): “Stockholders may
bring an individual action to recover for an injury done
directly to them that is separate and distinct from any
injury incurred by the corporation or other shareholders.”
Cato, 1996 WL 502500, at *5, cited Hadden v. City of
Gatlinburg, 746 S.W.2d 687, 689 (Tenn. 1988), which in turn
stated that “[s]tockholders may bring an action
individually to recover for an injury done directly to them
distinct from that incurred by the corporation and arising
out of a special duty owed to the shareholders by the
wrongdoer.” The district court also discussed Davis v.
Appalachian Electric Co-Operative, Inc., 373 S.W.2d 450
(Tenn. 1963), a 1963 case involving an analogous effort by
plaintiffs to obtain patronage refunds from an electric
cooperative. In Davis, the Tennessee Supreme Court held
that the plaintiffs were required to “show that [their]
remedies permitted within the corporate structure have been
exhausted, or that such an attempt to exhaust said remedies
would be a useless gesture.” Davis, 373 S.W.2d at 452.

The plaintiffs argue that the Tennessee courts no longer
apply the test set forth in Cato for determining whether an
action is direct or derivative; rather, they argue,
Tennessee precedent reflects recent changes in Delaware’s
approach to this issue.[fn14] The Delaware Supreme Court
explained:

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