Delaware Back to Sturdy Doctrine; Good Faith in Coma
Last week, the Delaware Supreme Court backed off any notion that directors owe their corporations any special duties of good faith (or absence of bad faith) and retreated to the more traditional standards of corporate duties. In a refreshingly lucid and terse (easily edited to 5 pages of casebook text) opinion, Justice Carolyn Berger, for the Court en banc, clarifies that directors do not have to follow any specific steps when deciding to sell corporate control and that reasonable steps to that end are enough to reject any claim that they failed to act in good faith—even on a motion for summary judgment.
This decision, Lyondell Chemical Co. v. Ryan, is noteworthy because in two other noted opinions in 2006 (Disney and Stone v. Ritter), the Delaware Supreme Court suggested, in dicta, that there were potentially recurring contexts in which directors might fail to act in good faith such that, apart from any other duty, they may be personally liable for that. Delaware’s latest marks return to more familiar doctrinal terrain. The role of good faith, ultimately, is to prevent fiduciaries who engage in particularly egregious conduct, or “conscious disregard of duty,” from avoiding liability for money damages or enjoying corporate indemnification, both under Delaware statutory law.
Of course, given Delaware’s notoriously shifting corporate law, what Justice Berger settles in Lyondell could change in Delaware’s next big case. After all, Delaware courts, consciously seeing themselves as judges in equity, may, on egregious facts, revive the notion of good faith as an independent fiduciary duty or some vital aspect of obligation, such as a component or cognate of the duty of loyalty. But, for now, Lyondell puts the notion of good faith in something of a coma. Not dead, but nary alive.
Where that leaves Delaware corporate fiduciary duty doctrine is on more familiar terrain. The following is a snap shot of that terrain for directors and officers.
Following is a simple thumbnail sketch of Delaware corporate director and officer duties and how to discharge them:
Duty of Care. Make ordinary business decisions as a reasonably prudent person would.
Business Judgment Rule. Ordinary business decisions are presumed valid, so very few decisions breach the duty of care.
Charter Exculpation. For the very few decisions that can breach the duty of care (such as by ignorance or incapacitation), Delaware lets corporations have charter provisions eliminating director personal liability for money damages for those breaches (so long as taken in good faith).
Duty of Loyalty. Proponents of business decisions involving officers and directors with an interest in them must show that they are fair to the corporation.
Special Committees. For business decisions implicating the duty of loyalty, Delaware authorizes a separate board committee made up solely of disinterested and informed directors to make the decision so that any resulting claim of breach can be easily dismissed.
Anti-Waste. Decisions may not constitute a waste of corporate assets.
Rationality Standard. The only way that a decision will be second-guessed as waste is if no rational person could possibly make it, so virtually no such decisions are so second-guessed.
Defenses Against Control Threats. Special reasonableness rules apply when directors make decisions attempting to defend against an unwanted overture to gain corporate control.
Reasonableness. The special rules applicable to defensive decisions require directors to show that they reasonably perceived a threat to corporate policy and effectiveness and their responsive actions were reasonable in relation to that threat.
Sale of Control. A special rule applies when directors make decisions that result in a sale of corporate control, requiring them to obtain the best price reasonably available to stockholders.
Best Price Reasonably Available. No particular steps are required when selling control, only enough of a showing suggesting reasonableness in the process and result in obtaining the best price reasonably available.
Whither Good Faith? As noted, Delaware statutes say directors can’t be exculpated for actions not taken in good faith (and also say that indemnification for such actions is limited). Disney (2006) flirted with the possibility that failure to act in good faith could, in itself, be a route shareholders could take to hold directors personally liable for money damages; Stone v. Ritter (2006) purported to endorse Disney but also said any such failure would be part of a claim for breach of the basic duty of loyalty. Lyondell puts the good faith doctrine back in its erstwhile box, operative mainly to implement the statutory exculpation and indemnification provisions.
For a round up of corporate law commentary on Lyondell, see: Steve Bainbridge; Jeff Lipshaw; Gordon Smith; and this interesting paper on the broader subject of good faith in Delaware corporate by Andrew Lund.