• Supreme Court upholds The “Nerve Center” Test To Determine A Corporation’s “Principal Place of Business” For The Purposes Of Diversity Jurisdiction And Rejects The Ninth Circuit’s Amount Of “Business Activities” Test
  • March 30, 2010 | Authors: William K. Enger; Diana M. Estrada; Laura P. Kelly
  • Law Firm: Wilson Elser Moskowitz Edelman & Dicker LLP - Los Angeles Office
  • Overview

    On February 23, 2010, the United States Supreme Court in Hertz Corp. v. Friend, et. al., unanimously held that a corporation’s “principal place of business” for the purposes of federal diversity jurisdiction shall be determined by the “nerve center” test.  This refers to the corporation’s center of direction, control and coordination, as opposed to the “business activities” test used in the Ninth Circuit and elsewhere.

    In so deciding, the court emphasized the increasingly complex tests being used throughout the circuits to determine a corporation’s “principal place of business” and the lack of uniformity in interpreting the statutory language.  The court denounced the Ninth Circuit’s “business activities” test, stating it was too complex and “can lead to strange results.”  The court placed primary weight on the need for a more simple approach stating “administrative simplicity is a major virtue in a jurisdictional statute” and leads to more predictability.  The court decided that the “nerve center” test was supported by the language in the statute and, importantly, was simpler to apply “comparatively speaking.”  This decision is a victory for business entities and will allow for greater certainty in litigation.

    Background

    In Hertz Corp. v. Friend, et. al., two California citizens brought a class action lawsuit against Hertz Corporation in California state court, claiming violations of California’s wage and hour laws.  Hertz sought to remove the case to federal court under diversity jurisdiction claiming it was a “citizen” of New Jersey, not California.  The federal diversity jurisdiction statute provides “a corporation shall be deemed to be a citizen of any State by which it has been incorporated and of the State where it has its principal place of business.”  28 U.S.C. §1332(c)(1).  In support of its argument, Hertz submitted a declaration by an employee relations manager outlining the amount of business activity Hertz conducts in California in comparison to Hertz’s business as a whole.  The declaration also stated that Hertz’s corporate headquarters was located in New Jersey and its “core executive and administrative functions” are carried out in New Jersey and, to a lesser extent, Oklahoma.

    The District Court applied Ninth Circuit precedent which requires a comparison of the amount of corporate business activity in each state on a state-by-state basis.  If the amount of activity is “significantly larger” or “substantially predominates” in one state, that state is deemed the corporation’s “principal place of business.”  If no such state exists, then the “principal place of business” is the corporation’s “nerve center, i.e., the place where the majority of its executive and administrative functions are performed.”  The District Court, in applying this “business activities” test, found that the “plurality of each of the relevant business activities” was in California and was significantly greater that the activities in the next closest state.  The District Court determined Hertz to be a “citizen” of California and, consequently, diversity jurisdiction was lacking.  The court remanded the case to state court.  Hertz appealed and the Ninth Circuit affirmed the District Court’s ruling.  Hertz then filed a petition for certiorari with the Supreme Court.  The Supreme Court granted the writ to determine the proper test for corporate citizenship, which can be more consistently applied among the different circuits.

    New Law

    In a unanimous decision, the Supreme Court ruled that the “nerve center” approach, while imperfect, is superior to the “business activities” approach used in the Ninth Circuit and elsewhere.  The court agreed with the Seventh Circuit stating that the “‘principle place of business’ is best read as referring to the place where the corporation’s officers direct, control, and coordinate the corporation’s activities.”  The court recognized that this place has been referred to by the Court of Appeals as the “nerve center” and should generally be where a corporation maintains its headquarters.

    The court examined the legislative history of diversity jurisdiction and found that Congress originally added the “principal place of business” language to the “state of incorporation” test to “prevent corporations from manipulating federal-court jurisdiction.”  Recognizing that a corporation could manipulate the system by filing incorporation papers in one state and conducting nearly all its business in another state, many circuits focus their attention on finding where a corporation’s actual business activities are located.  However, the court examined the statute and decided that the statutory language supported the “nerve center” approach more than a “business activities” approach.  The court explained that the statute requires a court to pick the “main” or “prominent” place within a state, not the state itself.  A corporation’s business activities can, and often do, lack a single place in which they are carried out especially if the corporation has several factories, sales locations or employees located in different places.  A court applying the rejected “business activities” test will incorrectly look at the cumulative amount of activity throughout a state rather than at a singular location within a state.

    The court also emphasized the need for administrative simplicity in a jurisdictional statute, stating “[c]omplex jurisdictional tests complicate a case, eating up time and money as the parties litigate, not the merits of their claims, but which court is the right court to decide those claims.”  The highly general, multi-factor “business activities” test has led to the circuits highlighting different factors or emphasizing similar factors differently.  While the “nerve center” test might not be perfect, it at least directs courts to a single location - the overall center of direction, control and coordination.

    Finally, to safeguard against attempts at manipulation, the court instructed that if the record reveals “for example, that the alleged ‘nerve center’ is nothing more than a mail drop box, a bare office with a computer, or the location of the annual executive retreat,” courts should locate the actual center of control rather than attempt to determine where the majority of its business activities are carried out.

    Applying this test, the Supreme Court vacated the Ninth Circuit’s judgment and remanded the case for further proceedings to allow the respondents a fair opportunity to argue Hertz’s “nerve center” is actually located in California. 

    Comment

    The Supreme Court’s holding will increase the federal jurisdiction removal opportunities of corporations carrying on substantial business activities in several states that have been sued in state court.  The decision will also give corporations more predictability in the result of those removal petitions, which is valuable when making business and investment decisions.

    One area where we can predict a great impact is the rising number of wage and hour employment class actions being brought against large out-of-state corporations in California state courts.  The Ninth Circuit has consistently used a varied form of the complex “business activities” test to find a corporation’s “principal place of business” is somewhere other than the location of its corporate headquarters (see e.g., Tosco Corp. v. Communities for a Better Env't, 236 F.3d 495 (9th Cir. Cal. 2001)), namely, California.  As the Supreme Court in Hertz recognized, in applying the Ninth Circuit’s previous “business activities” test, if a “corporation may be deemed a citizen of California on the basis of the activities that roughly reflect California’s larger population...nearly every national retailer - no matter how far flung its operations - will be deemed a citizen of California for diversity purposes.”  (internal citations omitted).  This test proves especially problematic for out-of-state corporations with factories, store-front sales offices or other locations in California at which a high volume of business activity takes place because non-exempt employees are likely to work at those locations.  California labor laws and employment class action procedures are highly favorable to employees.  The result is, as in Hertz, California citizens bringing wage and hour class actions against out-of-state corporations but still getting to reap the benefits of California’s employee-centered laws and procedures.  Now, more corporations will have the ability to remove these class actions to federal court.