Fiduciary Duties - Corporations

Disinterested Shareholder Approval

The material facts as to the director's interest in the transaction are disclosed or are known to the stockholders entitled to vote thereon, and the contract or transaction is specifically approved in good faith by vote of the stockholders. If a transaction is cleansed by a majority vote of the disinterested shares, IT CANNOT LATER be challenged. more likely to be used in a closely held corp Requirements- 1. Full disclosure of all material facts 2. Shareholder vote in good faith by a majority of the DISINTERESTED shares

policy for Safe Harbor statute like CA 310

1. better use of judicial resources 2. promotes certainty and predictability - transaction would be set aside

Self-Dealing

A self-dealing transaction occurs when a director or officer uses his position within the corporation to further a private interest, potentially adverse to the corporation - between company where you are a director and the director individually. Such transactions are valid as long as the director's private interests are exactly in line with that of the corporation's Tomaino case - Tomaino bought 3 properties and then paid $1 to acquire underground tanks for Concord and when they couldn't sell land bc of tanks he sued Concord for not removing the tanks self-dealing transaction: Tomaino's leasing of the land to Concord and selling the equipment (underground tanks) to Concord Newport BUT negotiated with Newport Oil before he joined Concord AND before he joined he told them he was in talks with people at Newport Oil = DISCLOSURE Corporation suing to set aside transaction for breach of duty of loyalty Corporation said it was interested director transaction but NOT breach bc transaction, at time it was entered into, was fair to corporation HMG, Shapiro

Fiduciary Duties

As agents of the corporation, directors and officers owe certain fiduciary duties to the corporation, including the duty of care, the duty of loyalty, and, encompassed in the duty of loyalty, the duty of good faith.

Special Litigation Committee (SLC)

BoD appoints to determine whether litigation is in company's best interest (PSE&G case)

executive compensation

BoD determines compensation for directors and senior officers compensation committee - fixes salary of senior officers - usually senior officers cannot participate in that process

Corporate Opportunity Doctrine

The Corporate Opportunity Doctrine arises when directors/officer use information/business opportunity for company that comes to them in their corporate capacity and misappropriate opportunity for their personal advantage, and in doing so deprive the corporation of a profitable transaction. Usually corporation suing one of it's own officers - COA - breach of duty of loyalty on grounds that officer seized business opportunities that belonged to corporation (Brewer case) Questions in Brewer: (1) did opportunity belong to corporation at all? No opportunity = No liability (all-or-nothing proposition) (2) was corporation financially able to take on opportunity?

Entire Fairness Standard

The Entire Fairness standard is used to determine whether a self-dealing transaction was fair to a corporation. The entire fairness standard has two parts: (1) fair dealing and (2) fair price. HMG case: Board of 5. HMG was going to sell property to NAF Associates (owned by director, Feeber, and relatives of another director, Gray). Gray negotiated K - Feeber's interest on behalf of Board member disclosed in transaction and he abstains from voting. 10 years later HMG becomes aware that Gray had buy-side interest NAF that was not disclosed. HMG sues for recession of K. Applied Entire Fairness Test and not BJR bc directors were on both sides and need to protect corporation's interests. Not fair dealing bc Gray's interest not disclosed and had BoD known, they would've been skeptical about whether they were getting best deal possible Fair price bc if Gray hadn't been negotiating, they could've gotten higher price and potential issues with appraisals Interested party (Gray) has burden of showing transaction was fair Gray and Feeber liable - Feeber knew that Gray was interested

Uninformed Decision - BJR

To show that the directors' decision was uninformed, P must show that the directors acted with GROSS NEGLIGENCE (for directors to be personally liable) by failing to inform themselves all material information reasonably available to them prior to making the business decision. Ordinarily negligence doesn't work bc BoD elected to take risks to make $$ for shareholders - risk-taking decisions should be adequately informed and not "stupid" Smith v Van Gorkom: Court said bc board only took 20 minutes to review a merger, that they were not adequately informed in their decision to merge (uninformed of intrinsic value of company, no prior notice, nothing to justify fast-paced meeting = GROSSLY NEGLIGENT, should have postponed decision)...Different than the Shlensky (Wrigley) case bc a merger is a much bigger decision than deciding whether or not to include baseball stadium lights. Look at facts when analyzing under BJR. Damages =

derivative action

action brought by SH on behalf of corp. - fiduciary duties owed to corp two instances: 1. breach of K by third party 2. breach of fiduciary duty by officer/director

Approaches to Corporate Opportunity cases - ALI (American Law Institute) Test

A corporate opportunity is one that is closely related to a business in which the corporation is engaged or one that the fiduciary acquires as a result of her position within the corporation. A fiduciary may take advantage of a corporate opportunity IF he makes a full and adequate disclosure of all material facts prior to taking advantage of any corporate opportunity. The corporation must then formally reject the opportunity and at that point the officer can take opportunity for himself (up-for-grabs). A good faith but defective disclosure may be ratified after the fact only by an affirmative vote of the disinterested directors or shareholders. In deciding whether opportunity is corporate opportunity pay special attention to HOW he/she learned of opportunity AND if opportunity to engage in business activity in company's business or would reasonably be of interest to company or closely related to business activity that the business is considering undertaking Golf course case Remedy was constructive trust under officer so equitable/beneficial ownership belonged to corporation - any gain from sale of property would go to corporation

Rebutting the Presumption - BJR

A plaintiff (shareholder) may rebut the presumption afforded by the business judgment rule, by showing that the director/officer's decision was either uninformed, made in bad faith, FRAUD/ILLEGALITY, or there was a conflict of interest/self-dealing.

Demand excused

concern is that BoD may not be able to live up to fiduciary duty and make objective decision as to whether to initiate litigation - SH has to show demand would be futile - Martha Stewart case P's attorney runs litigation if shows demand would be futile P proceeds with lawsuit

dependent

decision being influenced or controlled by another

interested

director has interest in transaction when director receive benefit from the corporation transaction that is of material significance as to make reasonable question whether director can consider transaction objectively

Interested v. Disinterested Director

A director is considered an interested director if they personally benefit from the specific transaction OR because of that director's relationship to an interested party, it would reasonably be expected that the director's exercise of professional judgment is compromised. More attenuated = less likely to be interested?

8.30 - BJR

Conduct meets 8.30 = no liability Conduct does not meet 8.30 = does NOT necessarily mean the BoD is personally liable for actions

Standards of Review for Derivative Litigation

DE: - demand required: BJR - trustworthy decision-maker, SH conceding that BoD is trustworthy so only need to look at whether investigation was informed, in good faith - enormous deference - demand excused: (1) corp has burden of showing that SLC entitled to BJR and (2) court applies modified version of BJR - court uses its own judgment NY: most management-friendly approach - look at process by which board arrived at decision whether to pursue litigation - informed decision and trustworthy -making SO courts will then defer NC: - SLC has burden of proof to show committee's process is entitled to BJR MA: - SLC has burden to show it is entitled to BJR - THEN, court must determine that SLC's decision was in best interest of corp.- protects SH's interest against mismanagement - rely on court whether it is the right thing to do to dismiss SH's lawsuit NJ: - burden on corp. to show reasonable steps were taken - in better position to show decision-making was informed than the court

Entire Fairness Std: Fair price

Economic considerations - relates to the economic and financial considerations of the proposed merger, including all relevant factors: assets, market value, earnings, future prospects, and any other elements that affect the intrinsic or inherent value of a company's stock. a. The question is not necessarily whether the corp. received a fair price, the question is would it have taken the deal or would it have bargained for a better price had it been privy to all material facts.

Duty of Good Faith - NOT SEPARATE DUTY!

Gives rise to breach of duty of loyalty = NO RAINCOAT duty that directors act with reasonable diligence in exercising corporate managerial powers. Occurs when: 1. intentionally neglect duties as corps. managers 2. bad faith OR 3. Failure to exercise reas. oversight of the corp. (asleep at the wheel) - knowingly, utter disregard *different than duty of loyalty bc no personal benefit here BoD's duties: reporting system in place (that you use - Stone v. Ritter), CEO in place Araneta - closely held corp.

Raincoat Protection Provision MBCA 102(b)(7)

OPT-IN APPROACH IN AIC - to amend, need absolute majority of shareholders entitled to vote Most Corporations contain a raincoat provision in their AiC, which shields directors from personal liability for a breach of their fiduciary duties (duty of care). HOWEVER, such a raincoat provision CANNOT protect directors from a breach of their duty of loyalty, which encompasses their duty of good faith (Injunctive relief not prohibited, just personal director liability- money damages) 1. also can't eliminate conduct that are acts or omissions of bad faith that involves intentional violations of the law, or if director receives improper personal benefit

demand refused

SH makes demand to BoD to initiate litigation. Business entitled to BJR.

Cleansing Self-Dealing Transaction CA 310

Safe Harbor Statutes allow a self-dealing transaction to be cleansed if it is approved by a valid vote by either disinterested directors or disinterested shareholders. Vote. BURDEN SHIFT: Challenger can sue later on but they will have burden of showing transaction wasn't fair to corporation If transaction subject to being set-aside bc no sufficient vote, interested director has burden to show transaction is fair to corporation **can send vote to committee to review transaction if multiple conflicting directors' interests

Duty of care

The duty of care requires that officers and directors of a corporation act in a manner they REASONABLY BELIEVE to be in the best interest of the CORPORATION. Wrigley case (lights for stadium)

Duty of Loyalty

The duty of loyalty requires that such fiduciaries place the interest of the corporation ahead of their own interests. The duty of loyalty can be breached either by making a self-interested transaction or taking a corporate opportunity. FACT PATTERNS that trigger duty of loyalty 1. Corporate Opportunity 2. Self-dealing

Entire Fairness Std: Fair dealing

The fair dealing prong deals with whether the transaction was procedurally fair. The ct. considers when the transaction was timed, how it was initiated, structured, negotiated, disclosed to the directors, and how the approvals of the directors and the stockholders were obtained.

Disinterested Board Approval

The material facts as to the director's interest as to the transaction are disclosed or are known to the board of directors, AND the board in good faith authorizes the transaction by the affirmative votes of a majority of the disinterested directors, even though the disinterested directors be less than a quorum. If a self-dealing transaction is cleansed by the BOD it can still challenged, BUT the burden of showing it is unfair is on the challenger. i. Requirements - 1. Full disclosure of all material facts 2. Good faith approval by disinterested directors a. Although the votes of Interested directors do NOT count, interested directors CAN be counted for purposes of determining whether there is a quorum. 3. By a vote sufficient w/o counting vote of interested directors Court will likely defer to this decision

Business Judgment Rule (BJR)

When a director is sued based for breach of a fiduciary duty, the director is generally entitled to the protection of the business judgment rule. Under the Business judgment rule, it PRESUMED that in making a business decision, the directors of a corporation acted: (1) on an informed basis, (2) in good faith and (3) in the honest belief that theaction taken was in the best interests of the company. **not prescriptive, just says we will presume board acts reasonably and in good faith unless P can show illegality, bad faith, uninformed decision - defer to business's decision Policy - exists to protect and promote the full and free exercise of the managerial power granted to directors. The rule itself "is a presumption." A judge is not in the best position to determine whether a business decision is good or bad. The court does not have the business expertise. Shareholders do not run the business, the BOD does

Approaches to Corporate Opportunity cases - Line of Business Test (DE)

i. A corporate officer or director may NOT take a business opportunity for his own IF:(1) the corporation is financially able to exploit the opportunity; (2) the opportunity is within the corporation's line of business; (3) the corporation has an interest or expectancy in the opportunity; AND (4) by taking the opportunity for his own, the corporate fiduciary will thereby be placed in a position inimical to his duties to the corporation. ii. A directory or officer MAY take a corporate opportunity IF: (1) the opportunity is presented to the director or officer in his individual and not this corporate capacity; (2) the opportunity is not essential to the corporation; (3) the corporation holders no interest or expectancy in the opportunity; AND (4) the director or officer has not wrongfully employed the resources of the corporation in pursuing the opportunity.