Delaware Courts: An Ongoing Saga Of Excellence

Monday, May 4, 2009 - 01:00

Editor: Has the volume of litigation faced by Delaware courts been affected by the current economic and financial crisis? What is the nature of such litigation?

Steele : We've had a few cases to date, one involving AIG which passed summary judgment and is on its way to trial and one involving Citigroup, which did not pass a motion to dismiss. But as far as headliner cases or a large volume of cases, that is about the extent of it.

Editor: How will the present budgetary crisis in Delaware affect the courts?

Steele: We look for 10 percent less funding next fiscal year than we had the year before. We've had a hiring freeze since March of last year. Judges and all personnel will likely take an 8 percent pay cut July 1. As far as the crisis' impact on court functioning, we won't know with certainty until June 30 where we will stand, but processing cases is likely to slow down because we will undoubtedly see some early retirements. I don't mean judicial retirements because any empty judicial seats have to be filled within 60 days under the Constitution. But, I am talking about retirements of the support people who are the boots-on-the-ground case processors. Despite our attempt to divert other resources to the task, we are going to see a temporary slowdown in moving cases.

Editor: One of the characteristics of the Delaware judiciary is the personal effort its judges have made to stay in touch with those who are most affected by the courts as well as to acquaint foreign companies with the advantages offered by Delaware.

Steele: The judges along with people from the Division of Corporations of the Secretary of State's Office spend time going to meetings of shareholder groups like the International Corporate Governance Network. We also talk to regional groups of the National Association of Corporate Directors to make sure that we are sending a balanced message to both shareholders and directors. As far as foreign outreach, I will be in Vancouver in April; I will be in Hong Kong and Shanghai in June and in Australia in September. In China, the various entities to which I will be speaking are business groups, bar associations, and state officials who are involved in decisions affecting the expansion of Chinese corporations into other countries and how they will be chartered. We will be explaining the advantages of chartering in Delaware, including the use of alternative business organizations. We are seeing more interest in alternative business entities than in the typical traditional corporation.

Editor: Do you feel that the proposed amendments to the Delaware Corporation Code with respect to shareholder nomination of directors are consistent with Delaware's preference for enabling legislation and maintaining maximum flexibility for corporations?

Steele: Absolutely. Some people have lost sight of the fact that these amendments are only enabling acts. They don't mandate any particular approach to corporate governance. They give corporations an opportunity to experiment if they choose to do so - and in so doing are absolutely consistent with the enabling nature of the Delaware General Corporation Law. They simply encourage thoughtful discussion between shareholders and boards about internal governance mechanisms. With respect to the SEC's consideration of stockholder nomination of directors, I think it would be a mistake to mandate any particular internal process that limits the ability of a corporation and its shareholders to select the process that best fits its particular business culture.

Editor: You were ranked 9th by Ethisphere Magazine in its list of the 100 most influential people in business ethics in 2008. What are some of the elements that you feel may have gone into that decision?

Steele : I don't think the focus is on me personally. It stems undoubtedly from the fact that there are several Delaware Supreme Court and Court of Chancery decisions that comment on what are good or best practices in corporate governance in situations where we are reviewing the actions of directors or of controlling shareholders in a particular context. In this way, these cases become blueprints for future conduct. I believe what the magazine is saying is that overall the Delaware cases promote ethical conduct because they guide people to the right path.

Editor: Have the Delaware courts had an opportunity to focus on lawyers' conduct?

Steele: Other than by dicta, the Delaware cases have not focused on lawyers' conduct in the business workplace. We follow what we believe to be the correct practice, and that is to decide the case that is presented to us - the issues that are actually before us. So, while you can from dicta or by inference surmise that there are occasions where lawyers could have and should have stepped up to the plate with careful, helpful advice, they have not been directly before us in actions against them that could result in a judgment against them or give rise to any direct criticism of their conduct. Inferentially lawyers should be helping directors to understand their oversight responsibilities. These include being satisfied that adequate compliance systems and monitoring controls are in place and advising officers and directors of the steps they need to take to comply with their fiduciary duties.

Editor: Do you have any observations about the decision of the Chancery Court in the Citigroup case?

Steele: The plaintiffs did not allege that the directors were self-interested either in terms of having an interest financially in the outcome or were not independent in the sense they couldn't exercise objective judgment. What the plaintiffs did claim, as I understand the case, is that directors acted in bad faith, which means a conscious disregard of an obligation to be informed about the business and its risks or that they consciously disregarded their duty to monitor and oversee the business. The Chancellor held in this case that the plaintiffs failed to plead what was necessary to establish a bad faith case. He distinguished this case from the AIG case which did get beyond motion practice. In AIG, the conclusion that the Vice-Chancellor reached was that the allegations were sufficient for the case to go to trial on the issue of whether the directors had failed to exercise reasonable oversight to prevent pervasive fraudulent and criminal conduct - circumstances not pleaded in Citi .

Editor: As a general proposition, do the same fiduciary standards apply to officers as would apply to directors, and are their actions also protected by the business judgment rule?

Steele: Well, there is a complication with respect to officers. There is not a lot of case law because Delaware didn't have personal jurisdiction over officers until two years ago, so you don't have the 100 years of case law that you have with directors. Gantler v. Stephens is the first Delaware Supreme Court case that explicitly says that the same fiduciary duties apply to officers of Delaware Corporations as apply to directors. But, it is not as open and obvious as that because we don't have case law that describes how officers should carry out those duties in particular factual situations. One of the issues that will come up is that many officers have contracts with the corporation that may modify traditional fiduciary duties. It would be difficult to argue, I think, that officers have breached their fiduciary duties if by contract the corporation has authorized them to take or omit particular acts. Because directors do not customarily have contracts, this is going to be a developing area of the law.

One would assume that since Delaware law says that the same fiduciary duties apply to officers as apply to directors that the same defenses and the same presumptions would apply. The intuitive answer is yes, the business judgment rule would also apply, because it would be difficult to develop a different construct for the application of fiduciary duties having said that the same duties apply to one as to the other. But I think the important and critical factor is that most of these officers, if not all of them, will have a contract that describes their duties, and I would predict that this will have a significant effect on how one decides whether an officer has breached the traditional duties of loyalty or care.

Editor: Is there another aspect of the Gantler case that also deserves our readers' attention?

Steele: Yes, Gantler also clarifies the circumstances under which shareholders can ratify a breach of fiduciary duty in the M&A context. Some believe that it has been Delaware law for 80 years that, if there is full disclosure when a shareholder vote confirms the acquisition or merger, then that ratifies any breach of fiduciary duty and in fact eliminates any cause of action that may arise out of it. Gantler says you can't count on that ratification anymore unless you have both full disclosure of the breach of fiduciary duty and you ask specifically for the shareholders to ratify that breach. In other words, just a straight vanilla vote to approve the merger without more won't be enough. It is controversial because in past years, so long as there was adequate disclosure, you didn't have to ask a specific question of the shareholders directed to ratifying alleged breaches of fiduciary duty. You could argue that Gantler represents a move towards a shareholder perspective in ratification and away from director autonomy. That, for reasons that are fairly obvious, may not cause some M&A lawyers to dance in the streets. The shareholder community likes it because it means that they are going to get fuller disclosure and they are going to get an opportunity to comment by voting on a specific issue and not just by general approval of the merger. Some people think it is a radical shift, some people think it should have been that way for a long time. We'll see how it plays out in context.

Editor: I should also ask you about the decision of the Supreme Court in the Lyondell case, which has gotten a lot of attention and commentary.

Steele: Re-argument time has not expired on Ryan v. Lyondell , so you'll excuse me for not being completely open in commenting on it. It is our attempt to state the current interpretation of the application of the principle of good faith to the duty of loyalty. It is a natural outgrowth of Stone v. Ritter, and to the extent it clarifies Revlon in this factual context, we thought it was important. But, it is still subject to re-argument.