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The Corporate CounselorLJN NewslettersNewsSections

Courts Turn Up Corporate Heat

By Robert Reder and Scott Edelman

The highly publicized accounting scandals at Enron, WorldCom and other large corporations have prompted a concerted legislative and regulatory response from Congress, the Securities and Exchange Commission (SEC), and the national securities exchanges. While there has been little in the way of legislative reaction at the state level, several recent court decisions reflect that state corporate law is not immune from the impact of these scandals. Using existing judicial doctrine, but applying it in a fashion that appears to indicate an increasing toughness with respect to corporate directors and officers who do not live up to their obligations, the judiciary has turned up the heat on corporate fiduciaries.

This heightened level of scrutiny is highlighted in several recent court decisions: In Re The Walt Disney Company Derivative Litigation, C.A. No. 15452 (Del. Ch. May 28, 2003), In Re Abbott Laboratories Derivative Shareholders Litigation, 325 F.3d 795 (7th Cir. March 28, 2003) and John S. Pereira, as Trustee of Trace International Holdings, Inc. and Trace Foam Sub, Inc. vs. Marshall S. Cogan et al., 294 B.R. 449 (S.D.N.Y. May 7, 2003). Significantly, each of these decisions potentially limits the scope of the protections provided to directors by the business judgment rule, as well as the protections afforded by “exculpatory” provisions that are expressly provided for by state corporate statutes in order to shield directors from liability for breaches of their duty of care. Under these exculpatory provisions, director liability can generally be limited only to those actions constituting 1) a breach of the duty of loyalty (eg, a theft of corporate opportunity or an improper self-dealing transaction), or 2) acts or omissions that are not in good faith or which involve intentional misconduct or a knowing violation of the law.

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