May 24, 2013
BA Summer Reading: Independent directors
Posted by Usha Rodrigues

Some interesting cases on the duties of independent directors coming out of Delaware...I have yet to read either of them, but there's a holiday weekend coming up, and its sounds like they'll make for some excellent beach reading for the corporate faithful.  They are Rich v. Chong, C. A. No. 7616-VCG  (Del. Ch., April 25, 2013) and In re Puda Coal Stockholders’ Litigation C.A. No. 6476-CS (Del. Ch. Feb. 6, 2013) (bench ruling).

David A. Katz of Wachtell and Laura A. McIntosh connect the cases by posing an intriguing question on the CLS Blue Sky Blog: Can an independent director just resign from the board of a troubled company?  Answer: No, you lily-livered slacker.  You've got to stay put and make things right.  Or, as they put it:

    In both of the cases discussed above, the Delaware Chancery Court was critical of the independent     directors’ decision to resign.  Chancellor Strine observed: “[T]here are some circumstances in which running away does not immunize you.  It in fact involves breach of duty….  If these directors are going to eventually testify that at the time that they quit they believed that the chief executive officer of the company had stolen the assets out from under the company, and they did not cause the company to … do anything, but they simply quit, I’m not sure that that’s a decision that itself is not a breach of fiduciary duty.”[22]  Similarly, Vice Chancellor Glasscock commented in a footnote in Rich v. Chong, “It may be that some of the former independent directors … attempted to fulfill their duties in good faith…. Nonetheless, even though [two of them] purported to resign in protest against mismanagement, those directors could still conceivably be liable to the stockholders for breach of fiduciary duty….  I do not prejudge the independent directors before evidence has been presented, but neither are those directors automatically exonerated because of their resignations.”[23]  Both decisions found it “troubling that independent directors would abandon a troubled company to the sole control of those who have harmed the company.”[24] 

There's more on Rich v. Chong from Francis Pileggi.  The oddest thing about the case for me, based on Francis' summary, is that the plaintiffs made a demand on the board.  What was that about?  You never made a demand on the board, because then you're stuck with near-impossible wrongful refusal standard: you concede the board's independence and capacity to evaluate the demand.  The board gets business judgment rule protection, and you lose.  Which is why everyone pleads demand futility, to the sorrow and confusion of BA students each year.

But the Rich v. Chong plaintiffs made a demand.  Who does that?  Next to no one, right?  And yet plaintiffs lucked out because the defendants sat on the demand for 2 years.  They not only failed to respond, but started an investigation, uncovered evidence of mismanagement, didn't do anything about it, and abandoned the investigation.  So plaintiffs survive a motion to dismiss on Caremark claims, which also never happens.

See?  Told you it sounded interesting...

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