Biz Org Fiduciary Duties
VAN GORKOM'SECONOMIC COSTS?
"But the elaborate procedures that now shroud the board's deliberative process impose costs on the vast majority of firms that are under the management of competent, honest, well-meaning directors and officers. Of course, the deliberations required by Smith v. Van Gorkom will still be efficient from an economic perspective if the benefits outweigh the costs. It is possible that large benefits from the increased deliberation in the small universe of pathological firms compensates for what may be relatively small administrative costs imposed on a very large number of honest firms. "
Policy Van Gorkum
"one universally acknowledged ramification of Smith v. Van Gorkom is an increase in demand for the services of lawyers and investment bankers who advise Delaware corporations. The decision tells managers that they can insulate their decisions from subsequent attack, but only if they hire investment bankers and Delaware counsel to structure the appropriate procedural framework for the decisional process. From an economic perspective, this result is the functional equivalent of imposing a transaction tax on major corporate decisions in Delaware, with the proceeds from the tax being paid to lawyers and investment bankers. These lawyers and investment bankers find this result beneficial and, thus they have strong incentives to recommend Delaware as a situs of incorporation to their clients." •Macey, supra.
Van Gorkum
--Van Gorkom was CEO of Trans Union, a publicly traded corporation. He approached financier Jay Pritzker to see whether Pritzker would be interested in acquiring TransUnion. --Stock is selling for $35 a share --Operating mainly on his own, Van Gorkom arranges a sale to Jay Pritzker's company for $55 a share. The board approved the sale of TransUnion because it suffered accelerated depreciation and a reduced income; in other words, it had more tax credits than income. --They concluded that the deal would be a cash-out merger; Van Gorkom suggested that each share of Trans Union would be purchased by Pritzker for $55, which represented a premium over the mkt price of $38. (Van Gorkom was in his late 60s and near retirement, raising an insinuation by some that he might not have the incentive to push Pritzker for top dollar). --The board approved the sale of TransUnion because it suffered accelerated depreciation and a reduced income; in other words, it had more tax credits than income. --TransUnion shareholders sue, claiming breach of the duty of care. No allegation of conflict of interest, but claim that the board did not act in an informed manner in agreeing to the deal.
Business Judgment Rule
-screening mechanism that the law puts into effect to create delineation between business judgments and legal judgments. A court will not second-guess a management decision unless there is fraud, illegality or conflict of interest." Shlenskyv. Wrigley •Policy -leave business decisions to business people. Judges are lawyers not businessmen. They have neither the power nor the training and expertise to second-guess business decisions.
GUTHUSURPATION TEST (COROLLARY) (DUTY OF LOYALTY ONE WAY TO BREACH)
A director MAY take a corporate opportunity if: •The opportunity is presented to the director or officer in his individual and not his corporate capacity; •The opportunity is not essential to the corporation; •The corporation holds no interest or expectancy in the opportunity; AND •The director or officer has not wrongfully employed the resources of the corporation in pursuing or exploiting the opportunity.
DUTY OF CARE: Infromed Decision
According to the Delaware Supreme Court, the duty of care can only be breached by gross negligence. •The BJR protects "informed" decisions. •Directors have a duty to inform themselves of all material information reasonably available to them. •Here, the court reviews the facts and concludes that the decision by the Trans Union board was grossly negligent and thus not informed. •Therefore, BJR does not apply; and a breach of the duty of care resulted. •The court made clear that not being informed is a breach of a director's fiduciary duty of care owed to shareholders.
Third, the court held that the business judgment rule also protected the Disney directors from claims that they had violated their duty of good faith.
After Van Gorkom, many states began to allow corporations to include exculpation provisions in their articles. The Delaware statute says that these clauses cannot be used to exculpate acts "not in good faith." •Seizing on this, many plaintiffs started eschewing (avoiding) claims for duty of care (which can be exculpated). The Delaware statute says that these clauses cannot be used to exculpate acts "not in good faith." Thus, many plaintiffs started alleging claims of lack of good faith rather than / in addition to the duty of care.
SELF INTERESTED TRANSACTIONS (DUTY OF LOYALTY---ONE WAY TO BREACH)
An officer or director isn't allowed to enter into a transaction or deal where they have a self-interest/financial stake in the deal unless two conditions are met: •The transaction was approved by a majority of directors who had no personal direct or indirect financial stake in the deal. Self-interested director must: •Disclose all material facts of the transaction to the board of directors and; •Disclose all material facts to the shareholders and have a majority of them approve the deal. •The transaction must also be considered "fair" to the corporation; that is, the self-dealing director or officer does not profit at the expense of the corporation. •Was there an adequate review process? •Was the price of the deal fair to the corporation
Northeast Harbor analysis
At first blush, the line of business test makes some sense: something is a corporate opportunity if it is in the company's business line. But there are issues with it: •First, a company's business line is not self-defining. In this case, for instance, is nearby realty within the business line of a golf club? Well, the golf course could use it, or seek to prevent its development, but real estate is not the same as recreation. •Second, the Delaware test's inclusion of the corporation's financial ability to pay for the opportunity is counterproductive. Fiduciaries should be given every incentive to help their corporation get financing or otherwise acquire a corporate opportunity. Thus, they should not be able to say "I can take this opportunity because the corporation doesn't have enough money with which to buy it." So essentially the Maine court thinks the corporate opportunity test lets the usurper off the hook too easily. So they replace the test with that found in the ALI Principles of Corporate Governance section 5.05, laying out the entire section verbatim. •The court stresses that the requirement that the fiduciary make full disclosure before obtaining the opportunity. It notes that Ms. Harris did not do so. It also stresses the broad ALI definition of what constitutes a corporate opportunity. •Something is a corporate opportunity, for instance, if it is presented to the fiduciary as a result of her position in the corporation. So the court noted that the Gilpin property could qualify since Harris was approached specifically in her capacity as president
Why is it difficult to make such a showing?
Because the corporation might have lost money even if Andrews had inquired and followed up. The problem may have been bigger than Andrew's ability to fix it. •Under MBCA 8.30(b) and 8.31(a) and (b)(1), the burden is on the plaintiff --shareholders--to show that the defendant's breach of the duty of care proximately caused damage to the corporation or its shareholders.
HMG Analysis
Because there was no disclosure, the transaction can only be rendered non-voidable if they were "fair as to HMG as of the time they were authorized." •In duty of loyalty cases, the burden is on the defendant to show "entire fairness." •Because there was no disclosure, the transaction can only be rendered non-voidable if they were "fair as to HMG as of the time they were authorized." •In duty of loyalty cases, the burden is on the defendant to show "entire fairness." •Entire fairness consists of two parts -fair dealing and fair price. . •Although the price was not unfair, the court notes that had there been disclosure of Gray's interest, the corporation might have pulled out of the deal or negotiated a better one.
BROZ V. CELLULAR INFO SYSTEMS, INC. -FACTS •
Broz is a director of CIS, which is just emerging from bankruptcy, has jettisoned some of its license areas, and no longer has business operations in the Midwest. Broz is also the owner of RFBC, which competes with CIS. •Mackinac holds a Michigan-2 FCC cellular phone license, effective for an area adjacent to that served by RFBC. •Mackinac approaches Broz to see if RFBC would like to acquire the license. •It does not approach CIS, because CIS is not operating in the Midwest. •Yet another company, PriCellular, is attempting to acquire CIS, and would be interested in the license. •Broz acquires the license from Mackinac without formally informing the CIS board.
DELAWARE'S DUTY OF CARE ANALYSIS
Burden shifting test (no causation required). 1.Plaintiff must show that the defendant breached the duty of care (overcome business judgment rule). 1.BJR "is a presumption that in making a business decision, the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company." 2.Standard to be used: gross negligence as to whether directors were informed. 2.If breach is shown, the burden shifts to the defendant to show that their actions satisfy the "entire fairness test." 1.The process used to approve the deal was fair. 2.The terms of the deal were fair.
HMG-HOLDING
Defendants failed to convince judge that the NAF transactions were fairly negotiated and ratified. •As to fair dealing: •Gray, as primary negotiator, had buy side interests / lacked seller-side incentive, so may have affected his negotiating process. •No disclosure of interest, so board unwittingly ratified. •As to fair price: •Price seemed in the range of fairness, but that proof does not satisfy burden. •HMG may have gotten a higher value for properties had Gray disclosed. •The appraisals of the properties—Wallingford and Grossman portfolio—seemed undervalued. •Skilled negotiator could have done better than "Leased Fee Value
USURPATION OF CORPORATE OPPORTUNITY
Defined: director takes a corporate opportunity for self, in other words "usurps a corporate opportunity." •General Rule: A director or officer is barred from taking a business opportunity that belongs to the corporation unless either: •The opportunity is fully disclosed to the corporation and the corporation decides not to pursue it; or •The corporation could not have taken the opportunity because it would have been financially unable to do so.
JOY V. NORTH -DERIVATIVE ACTIONS
Derivative actions are suits brought on behalf of corporations by shareholders where those shareholders are indirectly harmed. •May involve: •Action against the corporation for failing to bring a lawsuit against itself; or •An action on behalf of the corporation "for harm to it identical to the one which the corporation failed to bring."
Informed decision precautions:
Didn't want investors to think he was in trouble financially. At a minimum, outside inside marking up merger agreement. A more regulated decision process is still compatitable with a entrepreneurian focus not underwined, business is about the numbers, great focus on numbers would increase enterpreneurial success
COMPETING WITH THE COMPANY (DUTY OF LOYALTY)
Does not involve a blanket ban on an officer or director competing with the corporation. •If there is competition, it must be in good faith. •Unrelated business = generally ok •Corporation sells scotch tape; officer/director wants to open a restaurant •Related business = generally not ok •E.g., officer/director opens competing coffee shop in same neighborhood as corporation
Duane Jones v. Burke
Duane Jones Co Inc. was a leading advertising agency that had many important clients, including Heublein, Wesson Oil, and Borden. However, the company began to falter after its founder, Duane Jones, began to behave erratically with various "behavior lapses at his office, at business functions and during interviews with actual and prospective customers." •Like rats leaving a sinking ship, several of the company's officers and directors secretly set up a new agency that would compete with Duane Jones Co. They set up Scheideler, Beck & Werner, while they were still employees of Duane Jones Co. Once the officers and directors had set up the new agency, they quit Duane Jones Co and began the new agency's operations. •Immediately, the new agency was representing many of Duane Jones major clients: the implication is that, while still working for Duane Jones, the officers and directors had convinced the clients to move to the new agency. The officers and directors also lured may of Duane Jones' other employees to the new agency. Duane Jones then sued the officers and directors who had formed the new agency.
Shareholders can sue for
Duty of Care (herein Business Judgment Rule) •Duty of Loyalty •Duty of Good Faith
DUTY OF LOYALTY
Duty of Loyalty -involves conflicts of interest. Fiduciary duties of officers and directors require that they be loyal to the corporation and not promote their own interests to the disadvantage of those other parties. •3 forms: •Director competes with the company •Director usurps (takes for themselves) a corporate opportunity; and/or •The director has some personal financial interest in the corporation's decision.
AMERICAN LAW INSTITUTE (ALI) SECTION 5.05 USURPATION TEST
Focus is on DISCLOSURE to the Board. •ALI 5.05(b) defines a corporate opportunity as a business opportunity that the director or officer becomes aware of in their corporate capacity or through the use of corporate information or property which the director or officer: •Should reasonably know is being offered to the corporation or reasonably believes would be of interest to the corporation; or •Should reasonably be expected to believe would be of interest to the corporation. •--if there is a corporate opportunity, then the question becomes whether taking the opportunity was approved in the manner fixed by Section 505(a), which generally requires that the officer or director makes full disclosure and gives the corporation the chance to take or reject the opportunity.
GUTH V. LOFT (DEL. S CT. 1939)
Guth, who was the defendant, was president of Loft, Inc. a manufacturer of candy, syrup and beverages. Magargil, who was at the time the CEO of Pepsi, informed Guth of the opportunity to buy the assets of Old Pepsi, which was in bankruptcy. The assets of Old Pepsi at the time consisted mainly of its secret formula for making Pepsi-Cola and the Pepsi trademarks. •So Guth and Megargel formed a new company ("New Pepsi) which bought the assets of Old Pepsi and produced and marketed the soft drink known as Pepsi-Cola. Guth also used Loft's facilities and resources to improve the Pepsi-Cola formula. Loft, Inc. sued claiming that Guth had usurped a corporate opportunity. The Delaware Supreme Court held that Guth had breached his fiduciary duty to Loft and ordered him to transfer his stock in New Pepsi to Loft. •The opinion stated that since the opportunity acquired by Guth was so close to the business of Loft, Guth's acquisition of the opportunity was prohibited, notwithstanding the fact that the opportunity originally came to Guth in his individual rather than in his corporate capacity. •The court also indicated that it would have so ruled even if Guth had not used Loft's facilities and resources in developing the opportunity
GUTH USURPATION TEST (DUTY OF LOYALTY--ONE WAY TO BREACH)
GuthTest -director/officer may not take a business opportunity if: •The corporation is able to financially exploit the opportunity; •The opportunity is within the company's business line; •The corp has an interest or expectancy in the opportunity; and •By taking it, the fiduciary is placed in "a position inimical [tending to obstruct or harm] to his/her duties in the incorporation. •Focus is on whether opportunity is in same LINE OF BUSINESS.
FRANCIS V. BARNES
How do you square the two cases? •Here there was an illegality as to Lillian's sons. They weren't just not producing stuff, like in Barnes, but there was active corruption. •Other reasons?
Disney lawsuit
Instead, the only possibly was a "non-fault termination (NFT) as described in Ovitz's contract. The contract had been approved by Disney's compensation committee, and then Ovtiz's hiring was approved by a unanimous vote of Disney's directors. The contract described exactly what Ovitz would be paid if he was fired without cause. •The amount that Disney paid Ovitz when he was fired was stunning: cash and stock options worth more than 130 million. And Ovitz received this after working for barely over a year. He got paid 130 million dollars to fail. •The shareholders were PISSED. •Launched this derivative lawsuit, asserting that the Disney directors and others had violated their fiduciary duties by approving both Ovitz' hiring and his contract. The trial court concluded that, although the process by which they were approved was imperfect, it was good enough to warrant the protection of the business judgment rule.
IN RE THE WALT DISNEY COMPANY DERIVATIVE LITIGATION
Issue: can gross negligence by itself constitute the bad faith necessary to violate the duty of good faith? NO! •Involves the Disney Company, its leader Michael Eisner, and Michael Ovitz, the head of Hollywood's leading talent agency. •The case involves the blundering both in the underlying decision to hire Michael Ovitz and in the process that was used to hire him. •Although in the end, the Delaware Supreme Court does not find the Disney directors liable, the opinion repeatedly points out the flaws in the process they used.
NORTHEAST HARBOR -ANALYSIS
It's important that the two parcels be considered separately. •The Gilpin property became available in 1979, when Mr. Sumins by informed Harris about the land. He approached her expressly because she was president of the corporation and he thought the corporation would be interested in the purchase to maintain a buffer around the club and the development. •The Smallidge property came to Harris attention in 1984, apparently because the postmaster of the town told her about it. Harris then had her lawyer find and contact the owners and work out a deal.
Barnes v Andrew Holding:
Judge Learned Hand ultimately holds for Andrews, despite the fact that Andrews breached the duty of care. There needs to be some link between the director'[s bad behavior—Andrews laziness—and the corporate loss—that the thing never got off the ground. •This decision hinges on a lack of causation. The director's / officer's incompetence and the bad result needed to be connected. •Barnes imposes a tort standard of causation. Now, MBCA 8.31(b) requires the plaintiff to show proximate causation in evaluating a breach of the duty of care.
COOKIES FOOD PRODUCTS, INC. V. LAKES WAREHOUSE DISTRIBUTING, INC. (SUP. CT. IOWA 1988)
L.D. Cook founded Cookies, which makes BBQ sauce (not cookies!) in 1975. •He sold stock to 35 locals, one of whom was Speed Herrig. •Herrig had a grocery distribution business and an auto parts business. •Cookies sales were lousy until the corporation asked Herrig to distribute the products. Then Sales went through the roof! •In 1981, Herrig bought Cook's stock and that of others, and became the majority shareholder; he then replaced the majority of directors with his choices. •Then the corporation (1) extended the term of Herrig's exclusive distribution deal and entered a deal with Herrig to store additional product; (2) had Herrig become involved in product development, for which he was paid a royalty; and (3) increased Herrig's compensation. Cookies is now fabulously successful under Herrig, it pays no dividends to minority shareholders, who are thus disgruntled because they are getting no return on their investment The minority shareholders bring a derivative lawsuit, claiming that Herrig's deals are interested director transactions in which he did not make full disclosure of the benefits he would receive. lower court held that Herigg had breached no duties to the corporation or to minority shareholders; and the Iowa Supreme Ct. affirms.
FRANCIS V. UNITED JERSEY BANK (N.J. 1981) -FACTS
Lillian Pritchard inherited 48 percent of the stock in the family reinsurance brokerage business from her husband. •The husband had founded and run the corporation; employed two sons. •When husband died, two sons took over and allegedly stole large sums of clients' money. •The two sons and Lillian made up the three directors of the corp. •Lillian did nothing to fulfill the duties of being a director; drank heavily. •The sons allegedly misappropriated so much money that the company filed a bankruptcy petition.
DUTY OF GOOD FAITH
MBCA Section 8.30(a)(1): Each member of the board of directors, when discharging the duties of a director, shall act: (1) in good faith. To violate the duty of good faith, a director's conduct must be much more egregious than that required to violate the duty of care. •To constitute bad faith, the director must have acted in "intentional dereliction of duty, a conscious disregard of one's responsibilities." •A failure to act in good faith may be shown, for instance, where the fiduciary intentionally acts with a purpose other than that of advancing the best interests of the corporation, where the fiduciary acts with the intent to violate applicable positive law, or where the fiduciary intentionally fails to act in the fact of a known duty to act, demonstrating a conscious disregard of her duties. •After Van Gorkom, state legislatures enacted statutes permitting corporations to place exculpation provisions in the articles which eliminated director and officer liability for breaching the duty of care. Yet these statutes do not permit a corporation to eliminate liablity for "acts or omissions not in good faith." So now plaintiffs assert that officers or directed did not act in good faith to get around the exculpatory clauses. This is in accordance with Delaware's Section 102(b)(7).
DUTY OF CARE
MBCA Section 8:30—Standards of Conduct for Directors: •(a) Each member of the board of directors, when discharging the duties of a director, shall act: (1) in good faith, and (2) in the manner the director reasonably believes to be in the best interests of the corporation. •(b) The members of the board of directors or a committee of the board, when becoming informed in connection with their decision-making function or devoting attention to their oversight function, shall discharge their duties with the care that a person in a like position would reasonably believe appropriate under the circumstances
Wrigley Case Facts
Mr. Wrigley held ~80% of the stock of the Chicago Cubs. even after every other major league team had done so. He was convinced that baseball was meant to be played in the daylight and refused to install lights at Wrigley Field, •Shlensky was a minority stockholder in the team, and brought a derivative suit against the directors, trying to force them to install lights and have the team play night games. He marshalled evidence to show that night baseball was more profitable than day baseball. •Mr. Wrigley and the other directors are of the opinion, though, that night baseball will harm the neighborhood by allowing increased crime., and "that baseball is a 'daytime sport'".
Francis Holding
NJ Supreme Ct. held Lillian's estate liable for her breach of the duty of care. •Sons "spawned their fraud in the backwater of neglect." •"reasonable to conclude that the failure to act would produce a particular result and that result has followed, causation may be inferred." •Even if Lillian's objection had not stopped the illegal conduct of her sons, her consultation with an attorney and the threat of suit would have deterred them. Liilian caused the spiral downward, whereas no connection in Maynard case.
Cookies dissent
No evidence of the local going rate for distribution contracts or storage fees outside of a very limited amount of self-serving testimony. •Did not show the fair market value of his services or expense for freight, advertising or storage cost. •Did not show that taco sauce royalty rate was fair
SHLENSKY -ANALYSIS
Plaintiff argues directors are acting for reasons unrelated to the financial interests / welfare of the Cubs. •Court is not persuaded that the decision not to have night games is contrary to the best interests of the corporation as a whole. •"it appears to us that the effect on the surrounding neighborhood might well be considered by a director who was considering the patrons who would or would not attend the games if the park were in a poor neighborhood." •"the long run interest of the corporation in its property value at Wrigley Field might demand all efforts to keep the neighborhood from deteriorating."
EXCULPATORY PROVISIONS
Provisions in articles/bylaws allowing for a release of liability for a breach of the duty of care or loyalty (but not good faith) will generally be upheld except in the following circumstances: •The receipt of a personal benefit which the director was not entitled. •E.g., the director him or herself profited such as selling his own property to the corporation for a greatly inflated price. •The director intentionally harmed or sought to harm the corporation or its shareholders. •The director approved unlawful distributions to shareholders; or •There was a crime committed intentionally.
Self-Dealing Transactions
Rebuts presumption (PROVES FALSE) of Business Judgment Rule and invokes Entire Fairness Review. •Elements: •Approval by disinterested directors; •Approval by shareholders; and •Proof that the transaction was fair. (Fair in procedure and fair in substance)
JOY V. NORTH -SPECIAL LITIGATION COMMITTEES
Shareholders must first make a demand on the directors to bring the action themselves. •If the directors refuse, courts apply the business judgment rule to the action of the directors (the refusal). •Directors/officers may then appoint a special litigation committee (SLC)—typically made up of two or more disinterested / independent directors—tasked with investigating the allegations made by the shareholders against the targeted officers and directors. •If the investigation is conducted properly, and the SLC concludes that it is not in the best interest of the company to pursue the lawsuit, the decision can operate as a complete defense to the pending shareholder derivative suit. Exception: where the directors are themselves defendants. Generally the court will defer to the special litigation committee's recommendation, but that's not always the case, and here it wasn't the case.
STONE V. RITTER(2006)
Stone involved claims similar to Caremark, that the board had failed to monitor the activities of corporate officers and employees. The court held that a plaintiff making such a claim must show either that the directors failed completely to implement a reporting system or that they consciously failed to monitor the operation of such a system. Doing so would state a claim for breach of the duty of loyalty and of good faith. •The court also said that the requirement of good faith is not a separate fiduciary duty, but is a component of the duty of loyalty. Yet there is a separate analysis for good faith so it's sort of unclear...
BJR -ELEMENTS
THE DECISION WILL NOT BE SECOND GUESSED BY A COURT IF THE OFFICER/DIRECTOR: •1. ACTED IN GOOD FAITH •II. WITH THE CARE THAT AN ORDINARILY PRUDENT PERSON WOULD EXERCISE IN A LIKE POSITION •III. IN A MANNER THAT THE DIRECTOR REASONABLY BELIEVED TO BE IN THE BEST INTERSTS OF THE CORPORATION.
Van Gorkum dissent
The $55 a share offer price was almost $18 a share more than what a share of Trans Union was selling for; and •Under the terms of the deal, the offer would be rescinded if not approved by the board by the end of the next day; and •A Trans Union attorney advised the directors that they might be sued if they failed to accept the deal; and •69.9% of the outstanding shares of Trans Union were voted in favor of the merger; and only 7.25% were voted against the merger.
JOY V. NORTH -TAKEAWAYS
The BJR does not insulate every business decision. This is the rare case where plaintiff overcomes the business judgment rule. •We do not know however that the directors will be liable; just that there is a triable issue •The court predicts that the plaintiff would win in the underlying action. •There was no logical basis for the business decision: The Katz loan put the bank in a "No win" situation given its risk -"By continuing extensions of substantial amounts of credit the bank subjected the principal to those risks although its potential gain was no more than the interest it could have earned in less risky, more diversified loans."
Disney Holding
The Disney court holds that, to violate the duty of good faith, a director's conduct must be much more egregious than that required to violate the duty of care. •To constitute bad faith, the director must have acted in "intentional dereliction of duty, a conscious disregard of one's responsibilities." •The court noted, that "a failure to act in good faith may be shown for instance where the fiduciary intentionally acts with a purpose other than that of advancing the best interests of the corporation, where the fiduciary acts with the intent to violate applicable positive law, or where the fiduciary intentionally fails to act in the face of a known duty to act, demonstrating a conscious disregard for his or her duties."
VAN GORKOM -
The Trans Union directors approved the proposed merger at a meeting lasting a total of two hours. Only two of the ten directors had a clue that the purpose of the meeting was a merger. Only 2 members of senior management attended the meeting, and they learned of the proposal only one hour before the meeting. General counsel also attended and also had not been informed much in advance. •Van Gorkom made a 20 minute oral presentation, with no written summary. The board received no documentation that the 55 figure was adequate. The board approved the proposal. The Trans Union shareholders (voting because the merger is a fundamental corporate change) approved the deal overwhelmingly. The merger was consummated at 55 per share.
Van Gorkum Analysis
The board lacked valuation information adequate to reach an informed business judgment as to the fairness of $55 per share for the sale of Trans Union. •Additionally, the court criticized the directors for failing to obtain financial analysis and for failing to consider a recess to obtain such analysis. •The board did not push Pritzker for an extension of time in which to decide. •Some directors attempted to invoke Section 141(e), which allows directors to rely on reports and information presented by officers or others. The statute was of no avail because the reliance was not in good faith. If the directors had pushed, they would have learned that the $55 figure was arrived at by Van Gorkom pretty much by the seat of his pants.
BARNES V. ANDREWS (S.D.N.Y. 1924) (HAND, J.) -FACTS
The corporation was formed to manufacture engine starters for Ford motors and aircraft. About a year after its formation, in October 1919, Andrews became a director. He served until resigning in June 1920. By the spring of 1921, the corporation was given over to Barnes, as receiver, who found that the corporation had no assets. ' •What had happened? The company had a facility, had personnel in place, "hired at substantial salaries," but never got around to making any starts. Apparently the management was engaged in in-fighting that paralyzed the corporation. Andrews went on the board as a favor to his friend Maynard, who was president. Maynard and Andrews would drive into the city together. During his 9 months of service, however, Andrews never bestirred himself to ask why the company was not producing any product. Barnes, as receiver, sued Andrews to recover for breach of the duty of care. Receivership is a process in which a legally appointed receiver acts as custodian of acompany'sa ssets or business operations.
COOKIES -ANALYSIS
The court sets out the Iowa disinterested director transaction statute by saying that it establishes "circumstances under which a director may engage in self-dealing without clearly violating the duty of loyalty. •Provides same kind of 3 part test as the Delaware statute does. •The court notes that some commentators assert that satisfaction of any of the 3 prongs insulates the defendant from liability., but rejects this interpretation by holding that the defendant has the additional burden of showing good faith, honesty, and fairness (in other words, ratification under the statute is not a "safe harbor") •This requirement of showing good faith, honesty and fairness is an additional requirement, apparently, applicable even if there is ratification by shareholders or disinterested directors or even if the defendant shows the deal was "fair and reasonable to the corporation" under paragraph 3 of the statute.
Duty of Care
The duty of care encompasses a duty "in general to keep advised of the conduct of corporate affairs." Judge Hand recognizes that this duty is difficult to put into meaningful words, but holds that Andrews breached it. Basically, Andrews seems lazy. Although he attended one of the two meetings called during his incumbency (and had an excuse for attending the other), Andrews accepted what Maynard told him and never inquired—even thought the plant was producing nothing. •Note Judge Hand's statement that although Andrews breached the duty of care, "his integrity is unquestioned." •"Having accepted a post of confidence, he was charged with an active duty to learn whether the company was moving to production, and why it was not, and to consider, as best he might, what could be done to avoid the conflicts among the personnel, or their incompetence, which was slowly bleeding it to death Andrews is not liable. The burden is on the plaintiff to show not only that Andrews breached the duty of care, but that his doing so caused a loss to the corporation. He must show that "the performance of the defendant's duties would have avoided loss as a result (causation)
VAN GORKOM'SENTREPENEURIALCOSTS? Policy Van Gorkum
The entrepreneurial, swashbuckling, seat-of-the-pants decision-makers who feel comfortable making spontaneous decisions likely will be uncomfortable or unhappy in the bureaucratized environment created by Smith v. Van Gorkom. By contrast, those who enjoy operating within the slow-moving, carefully scripted, decisional environment that the majority in Smith v. Van Gorkomfavored will find the job of corporate director more enticing than before. This "selection effect" could undermine the entrepreneurial focus of U.S. business." •Macey, supra.
CAREMARK -HOLDING
The level of detail required in a monitoring system is a matter of business judgment. •Note that "only a sustained or systematic failure of the board to exercise oversight—such as an utter failure to attempt to assure that a reasonable information and reporting system exists—will establish the lack of good faith that is a necessary condition to liability." •On the record, there is no showing that the board breached the obligation imposed. Thus, the court approves the settlement, which basically has Caremark promise to do a better job of centralizing its supervisory system.
Caremark analysis
The opinion notes that directors can be held liable for breach of the duty of care essentially in two ways: •by making an ill-advised decision or •by "an unconsidered failure of the board to act in circumstances in which due attention would, arguably have prevented the loss." •Although this case involves the latter scenario, the court reviews both director's obligation includes a duty to attempt in good faith to assure that a corporate information and reporting system, which the board concludes is adequate, exists. •A failure to do so under some circumstances may, in theory at least, render a director for losses caused by non-compliance with applicable legal standards. •But, simply because liability resulted as a violation of criminal law alone does not create a breach of fiduciary duty by the directors.
First, the court upheld the lower court's decision that the members of Disney's compensation committee had not breached their duty of care in approving the OEA, with its lucrative severance provisions.
The plaintiff's claim was that the defendant's had been insufficiently informed when they approved the OEA (trying to bring the case within Van Gorkom). The court disagreed, noting that the compensation committee's members had considered several reports that described in some detail that Ovitz would be paid a very large amount if he were fired without cause. And they also had been informed that provisions for the large severance payments were necessary to induce Ovitz to quit his lucrative job at CAA and join Disney. Although the defendants were not perfectly informed, they were informed sufficiently to be protected by the business judgment rule. What they did was not consonant with best practices, but it was good enough.
Second, the text includes the court's discussion that upholds the trial court's conclusion that the directors had not violated their duty of care when they unanimously approved the hiring of Ovitz.
The plaintiffs had argued that because it became clear so quickly after Ovitz stared work that it was a disaster. The opinion rejects the assertion, and indicates that the directors had indeed been informed of Ovitz's skill and qualifications; they had discussed Ovitz with Eisner, and they had considered much information about him and his proposed contract
Caveats in Broz Analysis
Two other points are worth noting: •The fact that PriCellular ultimately acquired CIS (and had enough wherewithal to acquire the license) is irrelevant. Broz is required to consider the facts as they existed when he acquired the license; at that time, PriCellular's deal was speculative •The trial court was wrong to hold that Broz was liable because he failed to present the opportunity to the CIS board. Such presentation is a "safe harbor" but is not a requirement to avoid liability
VAN GORKOM-AFTERMATH •
Van Gorkomhas been described as "one of the worst decisions in the history of corporate law." •Less than a year later, the Delaware legislature decided to permit corporations to to limit their directors liability for money damages for breach of fiduciary duty. •However, it has led to major impact on board behavior. Third party advisors providing expert opinions. More elaborate decision-making procedures involving lengthy meetings, voluminous documentation and the like.
BJR POLICY
approach of the BJR reflects three basic policies. •Shareholders choose to invest in particular corporations and voluntarily undertake a risk by doing so. •Ex post facto (after the fact) litigation is not a very good device for evaluating decision-making. •Overzealous judicial review would cause corporate managers to be excessively timid; they should be bold. •Thus, the BJR is not always a bar to judicial intervention; it extends only as far as the reasons which justify its existence, e.g., does not apply in cases in which the (1) "corporate decision lacks a business purpose"; (2) "is tainted by a conflict of interest"; or (3) "is so egregious as to amount to a no-win situation"; (4) or "results from an obvious and prolonged failure to exercise oversight or supervision." (MEANING THESE DECISIONS ARE NOT PROTECTED BY BJR)
Entire Fairness Test
two components are(1) fair dealing and (II) fair price. •Fair dealing -embraces questions of 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. •Fair Price-relates to t he 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
broz analysis
• CIS sues Broz for usurpation of corporate opportunity. The trial court (chancellor) holds for CIS. •Here, the Supreme Court of Delaware reverses. •It pays tribute to Guth v. Loft as the leading opinion, although it admits in footnote 7 that the case's language about line of business is "less than clear." -the corporation must be financially able to exploit the opportunity; --the opportunity must be within the company's business line; -the company's must have an interest or expectancy in the opportunity; and -by taking it, the fiduciary is placed in "a position inimical [tending to obstruct or harm] to his duties to the corporation." Court also says that fiduciary may take opportunity if: •Presented to him/her in individual capacity; •Is non-essential to the company; •The company holds no interest or expectancy; AND •The fiduciary did not wrongfully use any corporate resources in exploiting the opportunity. •On the facts of the case, Broz is not liable. •He learned of the opportunity in his individual capacity (Mackinac did not consider CIS a viable candidate for the acquisition of Michigan-2). •CIS is not financially able to exploit the license (although the license is in CIS's business line) •CIS has no expectancy in it -CIS was divesting its cellular license holdings; its business plan did not involve new acquisitions. •Acquiring it does not put Broz in an inimical situation vis-à-vis CIS, which was aware of his conflicting duties.
IN RE CAREMARK INT'L, INC. V. DERIVATIVE LITIGATION (DEL. CHANCERY CT. 1996)
• Caremark provides healthcare. There are federal laws against such companies' paying doctors to refer business to them. Caremark was charged with violating these laws by providing illegal kickbacks to doctors. It settled various actions against it by the government and private plaintiffs for about 250 million. Here, plaintiff shareholders brought a derivative suit against the directors to recover that sum. Their theory is that the defendants failed to monitor the business sufficiently; had they monitored correctly, the argument goes, the directors would have avoided the problem. •Claim: Directors allowed a situation to develop and continue which exposed the corporation to enormous legal liability and that in doing so violated a duty to be active monitors of corporate performance. •The parties settled this case, and it is before the court for review and approval.
JOY V. NORTH (2ND CIR. 1982) -PROCEDURAL HISTORY
• Derivative suit by shareholders against officers and directors. •In response, the corporation appointed a "special litigation committee" (SLC) •Issued a report recommending that the suit be dismissed as to "outside" directors. •The corporation then moved for summary judgment based on the report by the special litigation committee. •Deference to SLC: The trial court granted the motion for SJ, holding that the BJR "limits judicial scrutiny of its recommendations to the good faith, independence, and thoroughness of the Committee." •Second Circuit reverses
HMG/COURTLAND PROPERTIES, INC V. GRAY
• Gray and Fieber are two of five directors of HMG, which deals in commercial real estate. •Gray negotiates deals where HMG sells real estate to NAF Associates. •Gray and Fieber each own an interest in NAF, which makes the deal an interested director transaction as to each of them. •When HMG's board considered this deal, Fieber disclosed his interest; Gray did not so disclose. •Fieber did not take part in the vote.' •10 years later, HMG becames aware of the Gray interest, and 10 years later, HMG becames aware of the Gray interest, and brought this suit against both Gray and Fieber.
Katz facts
• North was CEO and a dominant force in Citytrust Bank. North called all the shots; the directors were not given agendas or materials before board meetings. (that's an important fact, remember that.) Citytrust made loans to Katz for a real estate venture. The Katz deal spiraled downhill and Citytrust kept lending more and more money in what clearly was a loser deal. The deal had little upside and large downside potential . •Joy, a shareholder of Citytrust, brings a derivative suit, claiming breach of the duty of care by having the corporation get into a "no-win" situation with the Katz loan. At some point, the board should have seen that it was throwing good money after bad.
HMG -ANALYSIS
• The Delaware court holds both directors liable for breach of a fiduciary duty. •Delaware Section 144 seems to exonerate Fieber. He disclosed the facts and his interest and the disinterested directors approved the deal. But Fieber failed to disclose to the disinterested directors the fact that Gray had an interest in the transaction, so the court lumps him in for the same treatment as Gray. •Failure to comply with section 144 removes the case from the protection of the BJR and subjects the defendants to the entire fairness doctrin Compliance with section 144 "should be a minimum ree.quirement to retain the protection of the business judgment rule. The important point is that the BJR plays no role in cases in which the director has an unratified conflict of interest. •That is, if "1 or more of [corporation's] directors or officers ... have a financial interest in a transaction," we need entire fairness standard in lieu of BJR.
Wrigley Holding
• The court does not suggest that the directors' decision was the correct one' just that it won't pass judgment under the business judgment rule. •That would be beyond its jurisdiction. •The decision rather is just one properly before the board and there is no bordering on fraud, illegality, or conflict of interest. •No negligence either: "Plaintiff made no allegation that these teams' night schedules were unprofitable or that the purpose for which night baseball had been undertaken was fulfilled. •The directors of the Cubs are not required to follow the crowd into night baseball: they can make their own decisions.
DUANE -HOLDING
•By forming the new competitor agency while still employees of the old agency, the officer-employees had breached their fiduciary duty of loyalty to the old agency. •It didn't matter that the defendants actually received the profits from the new agency only after they had quit the old one; they had arranged everything for the new agency while they were still employees of the old one.
