March 07, 2007
"Unconsidered Inaction"
Posted by Gordon Smith

In a recently published article, David Rosenberg of the Zicklin School of Business at Baruch College cited this blog while noting that I had changed my mind about Disney. He's right, and I actually use that point to argue for the value of blogs and blogging in my forthcoming essay from the Bloggership Conference.

Here I go again.

In commenting on Stone v. Ritter, I expressed some confusion about the need to place the "fiduciary duty of good faith" under the duty of loyalty, but I didn't object to the notion that Caremark was essentially a "good faith" case, as that concept had been defined under Disney. Later, in a separate post on Caremark, I characterized the facts underlying a recent decision by Vice-Chancellor Strine (ATR-Kim Eng Financial Corp. v. Araneta) as a "model Caremark claim (failure of oversight)." I was wrong. Caremark has been distorted.

This is how Vice-Chancellor Strine described the standard of liability in Araneta:

Under Delaware law, it is fundamental that a director cannot act loyally towards the corporation unless she tries -- i.e., makes a genuine, good faith effort -- to do her job as a director. One cannot accept the important role of director in a Delaware corporation and thereafter consciously avoid any attempt to carry out one's duties.

That case was decided in December 2006, so it is no accident that the language at the end sounds like a combination of "bad faith" under Disney ("consciously and intentionally disregarded their responsibilities" (2003) or "intentional dereliction of duty, a conscious disregard for one's responsibilities" (2005)) and lack of oversight under Caremark ("only a sustained or systematic failure of the board to exercise oversight –- such as an utter failure to attempt to assure a reasonable information and reporting system exists –- will establish the lack of good faith that is a necessary condition to liability"). After all, Stone v. Ritter taught us the month before Vice-Chancellor Strine's opinion that Disney and Caremark were roughly equivalent standards: "a showing of bad faith conduct, in the sense described in Disney and Caremark, is essential to establish director oversight liability."

Here's the problem: the oversight duty described in Caremark did not require a conscious disregard of duty. Quite the opposite, in fact. This is what Chancellor Allen wrote in Caremark:

[This case belongs to a] class of cases in which director liability for inattention is theoretically possible [when] a loss eventuates not from a decision but, from unconsidered inaction.

I am fine with the notion that "consciously avoid[ing] any attempt to carry out one's duties" constitutes "bad faith," and if the Delaware courts are more comfortable treating "bad faith" as a form of disloyalty rather than as a separate breach of duty, that's ok, too. But why did they need to drag a distorted view of Caremark into this?

Do plaintiffs still have a Caremark claim under the duty of care for "unconsidered inaction"? Given the success rate of such claims (zero), maybe it doesn't matter.

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