BizOrgs—Fiduciary Duties – Flashcards

American Express suffered $25 million loss on stock in DLJ. Board distributed the stocks to shareholders as special dividend so as to hide from books to maintain AE stock price. Two shareholders sued for breach of fiduciary duties, citing $8 million loss in tax savings due to not simply taking the loss Summary judgment for D Clear case of fraud, oppression, arbitrary action, or breach of trust required. Mistaken judgment by board is not actionable if done in good faith. Here: (1) special meeting to consider shareholders' claim, (2) reasoning for going with distribution anyway. Only bad faith inkling: (1) executive compensation improved by not having loss on books

Citytrust CEO is North. Exercised much control over board. North proposed loan to Katz for building. North's son worked for Katz 1971-1976, so he kept from voting for conflict of interest. Still, actively involved in transactions with Katz. Over 1970s, despite many worrying signs of Katz's finances, North continued extending loans. Evidence that urgency of situation hidden from board. Eventually, loan exceeded 10% of Citytrust's equity. Eventually defaulted, causing huge reputation and morale failure for Citytrust. Shareholders sued for violation of fiduciary duties. Special Litigation Committee report concluded (1) no possibility of liability for outside directors and (2) only possibility of liability for inside For P *Generally*: Business judgment rule keeps courts from punishing unsuccessful business decisions, but certain exceptions like (1) conflicts of interest and (2) no-win situations. *Instant case*: High likelihood of breach liability for someone, because classic no-win situation (high risk, normal returns). *Outsiders*: possibility of liability because lack of knowledge may constitute actionable abdication of directorial responsibility. *Insiders*: More than possibility of liability because high likelihood of liability generally, and outsiders may be exonerated due to fact that insiders hid information from them

Corporation that operates (1) Chicago Cubs and (2) Wrigley Field refused to put up lights out of opinion of president that it would (1) hurt neighborhood and (2) baseball is daytime sport. P is shareholder. Sues for breach of fiduciary duties Dismissal affirmed -Must show fraud, illegality, or conflict of interest, and pleading must show conduct at least *bordered* on one of these. P failed because: D's reasoning may have been related to shareholder benefit. Neighborhood concerns might have been (i) for property values or (ii) for people who wouldn't come to games in bad neighborhood -Must show damage. P failed because: (1) No evidence of net benefit to corporation, (2) losses may be due to factors other than attendance, (3) operating costs may outweigh benefits

If failure to research proposed major business decision (like merger) meets gross negligence standard, then it can constitute a breach of fiduciary duties CEO about to retire. Wants leveraged buyout to increase tax benefits. Makes up price of $55 despite stock price of $38. Shops it around, gets buyer in Pritzker. Option for agreement, but expires in two days. CEO calls special board meeting, they agree based on short oral statement and without seeing agreement. Stockholders agreed. Senior Management pissed, so CEO gets amendments for "market period" to allow other offers to determine if price fair. Pritzker undercuts the amendments, leaving very short window for offers, and none succeed. Still, board agrees to amendments on only CEO's uninformed presentation. So Pritzker obtains company, and shortly afterward, due to railcar glut, prices drop massively. No protection by business judgment rule if *uninformed decision*, based on *gross negligence standard*. In original agreement meeting, board approved merger (1) without notice, (2) based solely on oral presentation without seeing agreement, and (3) without learning that $55 price was entirely arbitrary and not necessarily fair. In amendment meeting, board approved (1) sight unseen, based on oral presentation, and (2) without realizing major changes that undercut freedom of market check period. *Conclusion*: The board breached fiduciary duties by failing to inform itself of reasonable and relevant information

Board is highly experienced, so they should be trusted to make on-the-spot business decisions

Similar to Van Gorkom, but decided for defendant director CEO negotiated merger deal. Board approved it quickly, without much information. Shareholders sued For CEO Transaction passed entire fairness analysis. CEO bargained hard, achieved very high price, was better informed about strengths and weaknesses of company, and there was no indication that better deal could be found elsewhere.

Response to *Smith v. Van Gorkom* to allow limitation of director liability for breach of duty of care as provision in certificate of incorporation

Protects directors who in the performance of their duties rely in good faith on the advice of experts

Earlier decision in *Walt Disney* litigation When case involves directors relying on expert testimony, higher standard for motion to dismiss under Rule 23.1 because of DGCL § 141(e)

Disney's president died. Hired Ovitz. Because he came from CAA, where he had massive benefits saved up, his "downside protection" constituted massive non-fault termination (NFT) package of cash and stock options that added up to $140 million. He did not fit with company, so CEO fired him and he received package. Shareholders sued for breach of fiduciary duties from (1) signing employment contract with NFT provision, (2) hiring Ovitz as president, and (3) terminating Ovitz without cause Summary judgment for D -Claims against Ovitz fall away because not *de facto fiduciary* because he hadn't assumed or taken on duties -Claims against Disney (1) Duty of care (A) Okay that Compensation Committee, not board, considered employment contract: Board can delegate duties to committees (B) Compensation Committee did not fail to exercise due care: Had plenty of sources showing they knew how large the NFT was (C) Directors exercised due care in hiring Ovitz: Came from successful business, and Eisner advocated for him heavily (2) Good faith: For breaches between negligence and disloyalty in severity of culpability (A) NFT (i) Cert. of Inc. ambiguous on whether CEO could terminate, but evidence shows it was so intended (ii) Ovitz could not have been terminated for cause, since no evidence of misconduct (iii) New board protected from relying on Eisner's and counsel's testimony in approving termination without cause

Historical rule for director supervision: Must be grounds of suspicion for directors to have affirmative duty of investigation/supervision Historical antitrust practices by lower employees prior to directors administrations. FTC had brought consent orders. 3 of directors find out, but through their own investigations, are satisfied that there had been no misconduct. Further antitrust indictment because of lower employees, causing financial penalties, so shareholders sue directors for failure to supervise. For D Since only 3 members of board knew of consent decrees, they did not put board on notice. Directors are entitled to rely on the honesty and integrity of subordinates until evidence otherwise. No evidence otherwise in this case

Advances in dicta what Stone v. Ritter approved into law Medical provider company indicted for alleged misconduct by lower employees related to remunerating doctors for referring Medicare/Medicaid patients. Shareholders sue on failure to supervise. Settlement reached. Seeks court approval. For D Two types of liability for directorial misconduct: (1) Negligence: Protected by business judgment rule as long as good faith effort to be informed (2) Failure to monitor: *Allis-Chalmers* should be narrowly interpreted. There is a duty to attempt in good faith *information and reporting system*. Failure to do so requires showing of *sustained or systematic failure of the board to exercise oversight*

Approves *Caremark* supervision standard into law AmSouth Bank branch failed to file Suspicious Activity Report relating to Ponzi scheme, resulting in $50 million in penalties. Shareholders sued directors for failure to supervise Dismissed (1) Caremark standard approved: Consistent with *Disney* definition of good faith. Duty of good faith is subset of duty of loyalty. Conditions: (i) Failure to implement any reporting or information system OR (ii) Having implemented, consciously failed to monitor (2) Complaint properly dismissed because reasonable reporting system existed in AmSouth. *Director liability for employee action is possibly the most difficult theory in corporate law*

Failure to monitor is failure to monitor *lower employees*, not aspects of business like risk Citigroup experienced huge losses from subprime mortgage crisis. Shareholders sued for failure to monitor business risk despite red flags: newspaper articles and other public information. For D: No breach of fiduciary duties (1) Failure to monitor risk is just an attempt to hold directors liable for bad business decisions. High bar for this sort of claim because of hindsight bias. (2) Monitoring mechanisms in place (3) No demonstrated bad faith

Two corporations. One existed merely to own land rented by the other. Shared directors and owners. Rent was vastly undervalued. Shareholder of landowning company sued for breach of fiduciary duties, alleging waste of corporate assets For P: Breach If conflict of interest (as here), then burden of proof on defendant to show fairness of transactions. Did not meet burden here: no effort to determine fair rent value.

Deferred compensation plan for officers and employees. Included component calculated by difference in value of common stock between start date and termination date. Shareholders sued for waste For D: Compensation plan reasonable (1) Compensation plan valid only if consideration for company -Ensuring retention of employees is sufficient (2) Reasonable relation between value of benefit to employee and company -No more liable to attack than ordinary stock option plan -Unlimited liability not a fact: Directors can terminate plan -Courts could strike down if particular compensation package value became egregious

Company started radio ad. President's opera-singing wife sang in ad. Shareholders sued for waste, alleging conflict of interest For D: No breach (1) With conflict of interest, burden on D to prove good faith and inherent fairness: legitimate and useful corporate purpose. No evidence of excessive price, and singers were inferior to message of ad. Therefore, no breach. (2) Not approved at formal meeting of directors. However, close-knit board, and approved individually. Plus, later renewed formally by board, which ratifies the contract in the first place

Before person invokes refusal to deal as a reason for diverting a corporate opportunity he must unambiguously disclose that refusal to the corporation to which he owes a duty, together with a fair statement of the reasons for that refusal Porter to apply for DOE funding on behalf of ERCO with two Howard professors. Professors decide not to work with ERCO, but would work with Porter alone, since he's black, and a minority subcontractor would increase funding. Porter creates EEE to do this, while still working as VP of ERCO and not disclosing what happened. DOE awarded grant, and Porter left ERCO to pursue the project, lying to ERCO about his reason for leaving For P: Breach of fiduciary duties (1) Porter had a fiduciary duty not to divert business from company (2) Should have told company of Howard professors' unwillingness to allow company to try to persuade them otherwise, or work out a deal. Also, shouldn't have actively lied about reason for leaving

Broz is president and sole stockholder of RFBC (cellular company), plus outside director for CIS (competitor). Michigan cellular license becomes available for purchase. CIS not interested, because terrible money troubles is causing it to divest of licenses. PriCellular gets option on it, and it is in talks to acquire CIS. Broz acquires license for RFBC over PriCellular. PriCellular acquires CIS and sues Broz for breach of fiduciary duties as director of CIS For D: No breach of fiduciary duties (1) CIS not financially able to take on (2) No interest or expectancy: Board not interested, business plan was to divest licenses at time (3) No conflict between Broz's self-interest and companies interest: PriCellular was *outside entity* at time. CC concluded its interests were merged with CIS. No, its interests were separate, because its plans were contingent

Opportunity is one which: (1) Corporation is financially able to undertake (2) In line of corporation's business (3) Of practical advantage to it (4) Has interest or reasonable expectancy (5) By embracing, self-interest of director will be brought into conflict with that of the corporation

Sinven is Venezuelan subsidiary of Sinclair Oil Corp. Sinven pays out dividends to stockholders. Shareholders sue, alleging that Sinclair kept the company from expanding by (1) paying excess dividends and (2) taking expansion opportunities in Alaska, Paraguay, elsewhere Sinclair does business. For Sinclair: While it owed fiduciary duty, no self-dealing, so business judgment rule Parent has fiduciary duty to subsidiary, but intrinsic fairness standard triggered only when there's self-dealing, i.e. when the parent causes the subsidiary act in such a way as to benefit parent *to the exclusion of, and detriment to, minority shareholders* (1) Dividend payments not self-dealing: shared proportionately with minority shareholders (2) No usurping of opportunities, because Sinven was Venezuelan arm, traditionally Sinclair did business in a given country via its subsidiary there, so expansion opportunities in other countries came to Sinclair, not Sinven. Therefore, no usurping, and business judgment rule

Contract/transaction between corporation and (a) one of its directors or officers or (b) another company in which one of its directors has financial interest cannot be voided for this reason if: (1) Material facts of relationship disclosed to board, and a majority of the disinterested directors votes to approve (2) Material facts of relationship are disclosed to shareholders, and shareholders vote in good faith to approve (3) K/T is fair, and directors/shareholders approve

Stock may be issued to employees or officers according to charter. In absence of actual fraud, business judgment rule

Whether shareholder has basis for direct action is determined by nature of wrong and to whom relief should go. The injury must be independent of alleged injury to corporation. DLJ to be transferred from AXA to Credit Suisse, then merge. Credit Suisse uses contract provisions to delay by 22 days. Minority shareholders of DLJ sue Is this direct or derivative action? Dismissed: neither (1) Proper standard for direct action is looking into nature of the wrong and to whom relief should go. Must be independent of alleged injury to corporation. *In this case*, no individual rights that have been injured, because contractual rights did not ripen until merger was fulfilled, and this period *included* any extensions. "Special injury" doctrine overturned (2) Derivative action: no asserted injury to the corporate entity

P minority shareholder in FT. FT created subsidiary, FTC. FTC created subsidiary, FTL. FTL merged into FT, dissolving FT. Eisenberg sued because this deprived him of voting right in original company. FTL moved to dismiss since a derivative suit requires P to post security under NY law. DC granted motion. Reversed: Individual, not derivative suit (1) General test: If injury is to P as stockholder individually and not to corporation, then suit is individual (2) *Gordon* test is bad law: Derivative if to compel good faith corporate acts in order to fulfill duty to corporation, and through it, to shareholders (3) Individual because: (1) Stronger than general merger suit, because P completely deprived of voice in original company and (2) prior suit against company that effectively deprived him of voice found representative suit by NY Court of Appeal