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Summary
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 Following
is focused on
Delaware law
Business
and affairs are managed
by or under direction of the Board of Directors
subject to the Board's satisfying its fiduciary duties
To
satisfy their fiduciary duties Directors must
- Exercise reasonable diligence
in gathering and considering
all material information
- Understand and weigh alternative
courses of action
- Weigh benefits versus potential
harm when considering specific courses of action
- Secure independent expert
advice, and fully understand experts' findings
Fiduciary
duties include
 How
many duties are there?
- Earlier cases speak of
the duty of care and duty of loyalty
- Duty of disclosure
and duty of candor are facets of
the duty of care
and the duty of loyalty
- Case law and commentary
have created confusion about whether the duty of
good faith is itself a separate duty or subsumed
in one or both of the
duty of care
and the duty of loyalty
- Distinction can affect
application of DGCL §102(b)(7)
-
In re Walt Disney (Del Ch 2005) at footnote 400
- One recent commentator
has suggested there's really only fiduciary duty
- Good Faith Business Judgment:
A Theory of Rhetoric in Corporate Law Jurisprudence
Cited by
In re Walt Disney (Del Ch 2005) at footnote 402
Notable Cases
 State
general principle
Board
abdication
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Recent Notable Delaware Cases
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Blackmore
Partners v Link Energy Del Ch 2005
In
re CompuCom Systems Del Ch 2005
- Dismisses plaintiff's
claims over acquisition of company
- Including claims that
directors were dominated by a controlling majority shareholder
Disney
directors not liable for Ovitz severance
- Litigation began in 1997
over Disney's firing COO Ovitz
in a way that entitled him to $140 million severance
- Chancery initially dismissed
complaint
by invoking business judgment rule
1998
- Supreme Court affirmed
but allowed plaintiffs to file an amended complaint
2000
- Plaintiffs filed an amended
complaint 2002
- Chancery denied directors
motion to dismiss 2003
and held a trial for nine months 2004 - 2005
- Chancery ultimately found
that Disney directors didn't violate their fiduciary
duties 2005
In
re The Walt Disney Company (Del Ch 2005)
- Ruling by Chancellor
Chandler 8.09.05
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Opinion
- Disney directors
didn't violate their fiduciary duties by ratifying
CEO Eisner's decision to fire COO Ovitz in a way
that entitled Ovitz to $140 million severance
- While the directors'
conduct "fell significantly short of the best practices
of ideal corporate governance," board members did
not violate their duties or waste Disney resources
- "The redress for
failures that arise from faithful management must
come from the markets, through the action of shareholders
and the free flow of capital, and not from this
Court."
In
re The Walt Disney Company (Del Ch 2003)
- Ruling by
Chancellor Chandler
825 A.2d 275
- Derivative claim
asserted breach of directors' fiduciary duty over
Michael Ovitz' employment agreement and its termination
- Complaint survives
motion to dismiss
- "cognizable question
whether the defendant directors should be held
personally liable for a knowing or intentional
lack of due care"
Pleaded
facts were outside protection of
DGCL § 102(b)(7) exculpatory charter provision
- When a director consciously
ignores duties,
thereby causing injury to the corporation,
director's actions are either "not in good faith"
or
"involve intentional misconduct",
making DGCL § 102(b)(7) exculpation unavailable
- Note: this decision followed
revelation of scandals at Enron, WorldCom and other
companies and passage of Sarbanes-Oxley Act
Brehm
v Eisner (Del 2000) 746 A 2d 244
- Opinion
- Affirms 1998 Chancery
decision
but allows plaintiffs too refile an amended complaint
In
re Walt Disney (Del Ch 1998) 731 A 2d 342
- Opinion
- Dismissed complaint
for failure to set forth particularized facts creating
a reasonable doubt that the director defendants
were disinterested and independent and that their
conduct was protected by the business judgment rule
3rd
Circuit rules on pleading Delaware fiduciary duties
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In re Tower Air 8.03.05
- Trustee in bankruptcy
brought action in Delaware federal court claiming mismanagement
of a troubled airline
- 3rd
Circuit reverses Delaware federal district
court which had applied Delaware state standard of pleading
- Instead, applies more
lenient federal standard
- Allows some claims to
survive motion to dismiss
- In effect, a weakened
business judgment rule applies to actions in
the 3rd Circuit
Delaware
allows duty of disclosure claims to proceed
Delay
in closing tender offer could violate director duties
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Tooley v AXA Financial (Del Ch 5.13.05)
- DLJ agreed to delay the
closing of its acquisition
- Minority shareholders
claimed the delay was for benefit of DLJ's controlling
shareholder and to their detriment
- Sufficient facts were
plead to support a claim that DLJ directors violated
their duty of loyalty
Delaware
allows LLC duty of loyalty claims to proceed
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Blackmore Partners v Link Energy (Del Ch 11.10.04)
- Transaction rendered
equity units worthless
- All the proceeds went
to creditors, who received more than their claims
- Raised a sufficient inference
to survive a motion to dismiss
Fiduciary
duties don't apply before assumption of office
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In re Walt Disney (Del Ch 2004)
9.10.04
- Rejects claims that Michael
Ovitz had fiduciary duties when negotiating terms of
his joining Disney as its president
- Wasn't a fiduciary until
he assumed position of president
- No material changes were
made to his employment agreement after he became president,
even though it wasn't finalized until after he joined
Disney
- Motion for summary judgment
granted in part, denied in part
Director
held to a different standard because of expertise
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In re Emerging Communications (Del Ch 2004)
5.06.04
- "Going private" merger
failed enhanced scrutiny test
- Non-independent, conflicted
directors were held liable for breaching their duty
of loyalty
- One independent director
was also held liable because of his financial expertise
- Should have known that
price was unfair
- Other independent directors
weren't liable
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Duties
of Directors
Duty of Care
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Directors
must fully inform themselves
of all material information reasonably available
Directors
must monitor and oversee corporate officers
Must
act with due care in the discharge of their duties
Breach
of duty, if directors are found
grossly negligent
- If recklessly indifferent
to, or deliberately disregard, interests of stockholders
- Take actions outside
bounds of reason
Director
liability for breach of duty of care
can be limited by corporate charter
Cases
SEC_CODE_REF_0090001192884
- In re Walt Disney (2005)
at page 112
- Brehm v Eisner, 746 A
2d at 259;
Cede
& Company v Technicolor (Del 1993)
- Breach of duty of
care leads to entire fairness review
- Not required to show
injury to rebut
presumption of business judgment rule
Smith
v Van Gorkom (Del 1985)
- Held directors to
be personally liable after the transaction in question
was completed
- Established gross
negligence as the test
- Followed dictum of
Aronson v Lewis (Del 1984)
- While grossly negligent,
the directors acted in good faith
Hanson
Trust PLC v ML SCM Acquisition (2nd Cir 1986)
- Granted preliminary
injunction under New York law
enjoining a lock-up option in a takeover battle
- Directors violated
their duty of care,
even though not grossly negligent
- Applied an ordinary
prudent person standard
- "the concept of gross
negligence is also the proper standard for determining
whether a business judgment reached by a board of directors
was an informed one."
- Dismissed stockholder
derivative claim of gross negligence for failure to
make pre-suit demand
McMillan
v Intercargo 768 A 2d 492 (Del Ch 2000)
- "[s]econd-guessing
about whether a board's strategy was 'reasonable'
or 'appropriate'" is not sufficient to show gross
negligence; rather a plaintiff must "set forth facts
from which one could infer that the defendants'
lack of care was so egregious as to meet Delaware's
onerous gross negligence standard."
- "gross negligence
means 'reckless indifference to or a deliberate
disregard of the whole body of stockholders' or
actions which are 'without the bounds of reason'"
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Duty of Loyalty
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Directors
must act in the best interest of the company
- Refrain from conduct such
as fraud, self-dealing and actions that serve to entrench
themselves in office
Directors
must act without personal or private motive
- Even if non-financial in
nature
Directors
must be independent
- So that their decisions are
based on the merits of the matter, without outside influence
Cases
- In re Walt Disney (2005)
at page 115
Cede
& Company v Technicolor (Del 1993)
- Claim that a director
is self-interested, standing alone without evidence
of disloyalty, does not rebut the business judgment
rule presumption
- Not required to show
injury to rebut
presumption of business judgment rule
Parnes
v Bally Entertainment (Del Ch 2001)
- 2001 Del Ch LEXIS
34 (Del Ch 02.23.01)
- To overcome the presumption
of the business judgment rule, plaintiff had to
prove that "a majority of the directors will receive
a personal benefit from a transaction that is not
equally shared by the stockholders . . . [or] where
a corporate decision will have a materially detrimental
impact on a director, but not on the corporation
and the stockholders" or "that a majority of the
directors were 'beholden' to an interested party
or so under the influence of aninterested party
that the directors' discretion would be sterilized."
- Following a trial,
the court found that the outside board members were
"completely disinterested and independent" and dismissed
the claims
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Duty of Good Faith
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Directors
must act in good faith
- In honest belief that the
action taken was in the best interests of the Company and
its stockholders
Bad
faith implies more than bad judgment or negligence
- Directors do not act in good
faith when they know they are making material decisions
without adequate information and without adequate deliberation,
and simply do not care if their decisions cause injury or
loss
A
separate duty?
- Case law and commentary
have created confusion about whether the duty of good
faith is a separate duty or subsumed in one or both
of the duty of care and duty of loyalty
- In re Walt Disney (2005)
at page 119
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Standards of Review
Business Judgment Rule
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General
standard
- "Not actually a substantive
rule of law"
but instead a presumption
Presumes
directors have satisfied their fiduciary duties
- That they acted on an informed
basis, without self-interest, in good faith, and in the
honest belief that the actions taken are in the best interests
of the Company
- Imposes burden on plaintiff
to prove otherwise
Presumption
applies when there is no evidence of
fraud, bad faith, or self-dealing
- Upholds boards decision
unless it cannot be
"attributed to any rational business purpose"
and thus constitutes waste
Notable Cases
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Entire Fairness
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If
plaintiff rebuts business judgment rule presumption, heightened
entire fairness standard applies
Applies
if
- Controlling or dominating
stockholder is on
both sides of the transaction, or
- Majority of directors are
personally interested in transaction, or
- Court determines that Board
did not satisfy its duty of care
Directors
have burden of proving entire fairness
of their actions, both as to dealing and price
- Fair dealing focuses
on how transaction was initiated, structured and negotiated
- Fair price is not
necessarily the highest price that an acquirer could afford
to pay
- In non self-dealing context,
is the price which .....
Notable Cases
- Breach of duty of care
leads to entire fairness review
- Not required to show
injury to rebut
presumption of business judgment rule
- Conflicted insiders have
the burden to satisfy the court that the transaction
is entirely fair to stockholders or the corporation,
both as to fair dealing and fair price
- "Entire fairness remains
the proper focus of judicial analysis in examining an
interested merger."
- Delaware Supreme Court
has directly ruled that target directors generally must
justify defensive measures that favor one suitor over
others before they can obtain dismissal of a suit challenging
their conduct
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Enhanced Scrutiny
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Intermediate
standard between
the business judgment rule and
the entire fairness standard
Applied
to assure that Board conduct is reasonable,
in special circumstances, such as
- sale of control transactions
(Revlon)
- anti-takeover defensive measures
(Unocal)
- voting contexts (Blasius)
Under
enhanced scrutiny
- Board is entitled to the
presumptions of the business judgment rule only
if the board is able to establish, as a threshold matter,
that its actions were reasonable
- Once the board has shown
reasonableness,
then business judgment rule presumptions apply
- If, however, Board fails
to shown reasonableness,
then the entire fairness standard will apply, and
the burden of proving entire fairness will be on the board
Enhanced
scrutiny involves judicial review of
- The decision-making process
- The information on which
directors acted
- Reasonableness of the director's
actions
- Where Board thwarts a stockholder
vote, whether there was compelling justification
Special
instances
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Commentary
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Law
firm mailings
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Related Topics
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