The fiduciary duties of loyalty and care require corporate fiduciaries to be responsible for making informed decisions that are in the best interests of the corporation. Directors and officers are expected to act in accordance with an implied third duty – the duty of good faith. So long as fiduciaries make corporate decisions while exercising these duties, a plaintiff will have difficulty challenging a corporate action. Specifically, fiduciaries are protected by the presumption that they conducted themselves properly in making decisions pertaining to the corporation. This is referred to as the business judgment rule.
When a claimant suspects that an improper or fraudulent activity has occurred, the court will review the Board’s action to determine if it has undertaken reasonable procedures with respect to the transaction. In doing so, courts analyze whether the Board and officers acted: (i) with the level of care that an ordinary person would exercise in similar circumstances and (ii) in the best interests of the corporation. Moreover, these actions must be undertaken in good faith.
The presumption in favor of the board contained in the business judgment rule assumes that when corporate offices make decisions relating to the corporation they have acted in good faith and with proper discretion and information. In essence, the board and officers should not be penalized for making a business decision that does not wind up being profitable or successful. This conclusion shields fiduciaries from liability unless the transaction obviously involved in fraud or blatant waste. In general, courts will defer to the choices made by the directors and officers by upholding the business judgment rule. Thus, even if harm results, directors and officers will not be held responsible if they properly exercised their duties.
In the course of litigation, the business judgment rule can be refuted with evidence that the decision made by board was not informed and not made in the best interests of the corporation. If the claimant can establish this position, then the defendant has the burden of demonstrating that his actions were undertaken in good faith and were reasonable. In practice, directors typically can establish a reason for their actions, thereby avoiding liability.
Contact Shane Coons at 949-333-0900 or visit his website at www.ShaneCoonsLaw.com to find out more about his practice.