Boardroom Justice: The Chandler Era

Boardroom Justice: The Chandler Era

Originally published to NACD. America’s leading corporate jurist, Delaware Chancellor William B. Chandler III, explains his legal philosophy, concerns about liability,…

Originally published to NACD. America’s leading corporate jurist, Delaware Chancellor William B. Chandler III, explains his legal philosophy, concerns about liability, where he sees the line drawn between the federal branch and the Delaware Court, the impact of the Disney case on director behavior, the powerful new mediation alternative and more. Loosely translated from Old French, “chandler” refers to “one who lights the way” and he does so here for both the role his Court plays on behalf of directors and investors and how it is enhancing the enviable and unique 200-year-old tradition of Delaware corporate law.

Directors get sued. Why does the venue matter?

Well, of course no one wants to be sued, but unfortunately those are facts of business life. But if directors find themselves in the Court of Chancery, at least they are assured they will get a judge who specializes in corporate law and who will give a reasoned decision in a timely way, and the director will know exactly the basis for the decision. Parties to litigation in Delaware are assured of totally impartial judges who have no reason to favor one side or the other. Delaware judges are strongly incentivized not to give home field advantage to any party, and instead to assure all litigants not only an expert’s perspective but complete objectivity and impartiality—that should make a director or any litigant feel a little better about going into this environment.

Is this unique among American courts?

The reason Delaware is viewed as the center of the universe for corporate law is that a defendant (or a plaintiff) can be guaranteed—no matter which judge you get—to have a jurist acutely familiar with this body of law; a judge who works with corporate law issues day in and day out, seven days a week. That’s the uniqueness of the Court of Chancery. Of course, litigants also have an automatic right of appeal to an equally expert Supreme Court, with jurists equally versed in our corporate law and equally poised to offer prompt decisions.

Are there practical reasons as well?

Many, but perhaps most importantly, the Delaware Court of Chancery’s culture ensures that we are sensitive to the speed of business in terms of timely judicial procedures designed to assure decisions in real time. My Court is very sensitive to the importance of deciding matters in an expedited manner to assure the business world that litigation will not cause business decisions to become moot due to delay.

Is precedent under Delaware law applicable in other venues?

Yes it is. If you are a Delaware company, no matter where you are sued, whether Texas, California, New York or Virginia, and the case involves an issue that we call the internal affairs of the corporation—the relationship between directors, management and stockholders—the Delaware corporate law will apply. The courts in all American jurisdictions follow and apply what is known as the internal affairs doctrine, which means that the law of the state of incorporation applies to internal corporate governance disputes, no matter the venue. For example, I recently spoke by telephone with a judge in Virginia who has a case involving a Delaware corporation and a former chief executive officer of the company who lives in Virginia; and there’s a parallel case here in Delaware involving the same parties. It’s a fight about compensation. In the interest of judicial economy and to save the parties’ costs, we agreed that the judge in Virginia would go forward with the case because his case was more advanced, but also because the Virginia judge is very familiar with Delaware law. Interestingly, he told me that he was familiar with my Disney decision and he will be applying that decision to this case. So, whether you are sued in Delaware or some other venue, the likelihood is that the Delaware corporation law will be applied to the dispute.

What cases will define your legacy as Chancellor?

To me, the most important case I have worked on is the one I’m working on right now. Whether it’s Disney or the dissolution of a failed start-up company—all of my cases are equally important. Some of the smaller disputes involving micro-cap companies frequently generate some of the most important principles and ideas in our jurisprudence. I will have to leave it to others to assess which cases define my legacy. Delaware Chancery Court is a uniquely American court.

How global is your reach?

My colleagues and I travel abroad occasionally to give lectures to law classes and to conferences. The work of my Court is known and admired around the globe. Indeed, many times my colleagues and I are asked to speak to judges in other countries about the procedures and substance of our corporate law. There is keen international interest in the work of my Court and our state’s judicial system in general.

Let’s get into specifics. What makes litigation different in Delaware?

I think some of the important factors include the specialist approach, the specialized court with a limited jurisdiction and the historical tradition of deciding disputes, one at a time, with a judge writing an opinion that explains in detail the rationale for the decision. As a consequence, the judge feels a special responsibility or obligation to apply venerable equitable principles, and especially fiduciary duty concepts, to often-complex factual scenarios in a way that results in a fair and just solution to the problem. In this manner, an equity judge “owns” the decision because he is personally responsible for the result, rather than a jury, for example, which is not accountable and not really personally responsible for the decision in the same way a judge in a court of equity is.

Has the court shifted the balance of power toward shareholders and is this in any way related to the profound shift in public anti-business sentiment?

Well, my hope is that the Court is never viewed as deciding cases based on perceptions of public opinion; our job is to decide cases based on the facts and the law. That is, the members of the Delaware courts try to make decisions based on the legal and well- known equitable principles that have been developed over time. The Court of Chancery has the luxury of a rich body of decisional law and the five members on this court have a shared background and legal experiences that help ensure an even and coherent body of decisions. The other special characteristic is that decisions are offered in a candid manner, describing precisely what is improper so that there is certainty about what corporate planners can or cannot do in the future. So, you can rely on the fact that this Court will not be swayed by public sentiment of the moment; our job is to provide a dispassionate and objective answer. That, I think, is and should be the defining characteristic of court.

Why not be swayed by public opinion?

Litigation is not a referendum on popular opinion. Our job— the job of any tribunal—is to apply the law fairly and impartially to the facts of a dispute. That’s the definition of the Delaware Court of Chancery. Our law holds directors and managers responsible or accountable for their decisions and establishes the right of stockholders to have a role in holding directors accountable— either through exercise of the stockholder franchise or via the litigation process. Plainly speaking, an enormous body of law defines our law and that law will not shift based upon public opinion polls. That is the certainty and predictability that Delaware law and the Court of Chancery uphold as part of the contract with investors and with directors.

Can you relate that to a more specific instance, the Disney case?

Disney encouraged directors to consider best practices but pointed out that directors cannot be held liable for not following a particular best practice. Our fiduciary law is a floor for director conduct, essentially a standard below which they may not fall without risking liability. It would be unfair and counterproductive to hold directors to a standard of care or liability that doesn’t exist at the time they make a decision or at the time a director decided not to take an action. Holding a director to a standard that didn’t exist at the time would be a perverse rule, and no doubt would cause any rational person to reconsider serving in such a capacity.

Is there a bright line here for directors?

What I was hoping to say in Disney is merely that it’s highly unlikely that they would ever be found liable if directors followed a path of best practices. You could look at these best practices similar to a safe harbor provision. But best practices in any endeavor constitutes an aspirational norm rather than a requirement, which hopefully will inspire as well as guide and inform directors in their decision-making.

Which is more important to you, the process directors use to make decisions or the qualifications they bring?

It can be both and it depends on the circumstances. By and large, I would say we focus most on the process that directors use to make a decision. Even more so we focus on the actions and decisions taken by directors at the time they took them. We don’t allow hindsight bias to influence us by judging what they did by facts or circumstances that came to light later and then use those to judge someone based on things they didn’t know about at the time. We look very carefully at what they knew and how they knew it when making a decision. As for a director’s qualifications or special expertise, ordinarily that has no bearing on our review, unless particular circumstances suggest that the expertise or special knowledge speak to a potential conflict we are reviewing.

Are today’s cases too complex or ambiguous to be relevant to traditional case law, so we should look for legislative rather than judicial remedies?

The beauty of the common law system is that we can respond instantly to context and circumstance and changed conditions. That’s what gives the common law system the ability to be nuanced and to be specific to the circumstances. The risk of legislation, by its very nature, is going to be forcing everyone into one-size-fits-all paradigms; it cannot respond to circumstances that might differ from case to case, resulting in unforeseen consequences from efforts to impose broad, uniform rules on a wide array of different circumstances, different situations and different companies. That’s what yields unpredictability and unforeseen consequences, often with serious implications for our free-market economy. That’s also why the common law decisions, on a case-by-case basis, provide standards and principles by which people can assess for themselves what conduct, what actions, may be properly taken and what cannot. It offers flexibility and does not hinder creativity; that is the genius of our common law system of making corporate law.

What about a case before the Court for which there is not much case law?

You borrow or analogize from related areas of our law and bring to your decision-making the equitable principles that have evolved over centuries. But not in a fashion that is so wildly astray from the way they were originally applied as to be arbitrary. You do rely on the fact that general fiduciary concepts apply to one area and may be applied to a new one, such as, for instance, options backdating. The case law is rich enough and malleable enough to be able to be used in that context today. Journalists are playing up the turf battle between the federal branch and the Delaware courts.

Are we in a new Federalist era?

I don’t have any crystal ball as to whether we are on the cusp of a new Federalist era. I do know that whenever there dare major economic crises, there always follows a legislative response in Congress. I like to think that both the federal government and the states are trying to do the right thing and the so-called “turf battle” is merely a part of the larger episodic back-and-forth of the federal and state systems that has marked our history for over 200 years. Now at times, the pendulum can swing a bit too far in one direction, but generally the balance has worked well for America. There is great respect on both sides of the equation from the federal government to Delaware and likewise from Delaware to the federal government and to the SEC. I think we work together in a remarkably cooperative and synergistic manner. We at Chancery try to make sure our decisions don’t intrude on the rightful domain of the SEC or the stock exchanges, and the same I think is true of the SEC and the exchanges.

What if there is an issue about what is accurate under Delaware law?

Our experience has been that the federal branch and the agencies such as the SEC are in turn always respectful and ask our opinion for guidance on issues so that they don’t make decisions that are not accurate under our law. This is a “mutual respect” type of relationship that continues to grow and develop. One way it works is that the SEC, as well as other courts, may certify a question of law to the Delaware Supreme Court. The Court then brings in all the lawyers on both sides of the question who appear and argue before the Court, and the Court then provides an answer, as it did most recently in the CA versus AFSCME case as to whether shareholders could propose a bylaw and require the company to reimburse stockholders for expenses incurred nominating someone for election to the board. If the insurgents succeeded, they would be entitled to receive payment for their expenses, and the SEC asked the Supreme Court if such a bylaw was valid under Delaware law. And the Court responded that the bylaw as a general matter was valid, but in the way it was drafted it was not, so CA could not put it on its proxy for a vote at the shareholder meeting in that particular case. Directors are concerned about liability and the enormous leverage that can be exerted by the plaintiff bar.

Is the system broken?

I understand the fear of liability on the part of directors, but I hasten to add that I personally would not be fearful about liability if I was serving on a public company board. My experience is that the overwhelming majority of directors are good, decent people trying hard to do a good job, to do the right thing. The instances in which we’ve held a director liable are extremely rare, and that is as it should be when people are trying in good faith to do what is right for the company and for its investors. So long as you avoid conflicts of interest, the risks are very low.

But your question may be more nuanced, and be alluding to the risk of being sued?

Of course, you can get sued in this country whether you’ve done anything wrong or not; that is unfortunately the way things are. You may have the unpleasantness of being deposed by, or spending more time than you’d like to with, lawyers to review your actions. Ultimately, however, the actual risk or threat of personal liability is not significant—if it were otherwise, there would be a woeful shortage of people willing to serve in these critical positions.

What about frivolous lawsuits?

Yes, it is a problem. Frivolous litigation operates as a dead weight loss on the system. The means of deterring frivolous litigation is not perfect, but we do have sanctions such as shifting attorney fees, Rule 11 sanctions and the like. The risk of frivolous filing in Delaware is low, however, because of the vigilance of our judiciary. There used to be an old saying that if you had a weak case, you would not want to file in Delaware, because the courts in Delaware would be quick to dismiss and perhaps to shift fees in the right circumstances. That is still true, and I think it explains why you do not encounter much frivolous litigation in Delaware.

In your opinion, is liability influencing director behavior?

I’ve talked to a lot of directors who tell me that they spend more time worrying about the influence of proxy advisors like ISS, Glass Lewis and Governance Metrics, rather than the risk of liability. They complain that a director must constantly figure out how such proxy advisory firms are ranking their company and what they’re going to say about their company. That strikes me as having significant leverage over director behavior.

Your thoughts on Vice Chancellor Laster’s cases about Ronald Perelman and the dispute resolution process.

Vice Chancellor Laster is the newest member of the Court of Chancery, replacing Stephen P. Lamb. Laster had been a highly respected Delaware corporate law practitioner and we are extremely fortunate to have him as a colleague. I think you may be referring to a couple of recent decisions where Vice Chancellor Laster commented on the conduct of the attorney and the importance of local Delaware counsel in making sure that our local rules and procedures are followed, whether in the discovery process or at trial. We have a very small bar in absolute numbers and even smaller if you include only those lawyers who practice in the corporate field. And the Delaware tradition of civility, cordiality and courtesy still exists and is important to the administration of justice. Occasionally, but not often, you will see an opinion from my Court that seeks to remind lawyers of that tradition of zealous advocacy within the bounds of civility. We expect our high standards to be maintained, and fortunately the quality of lawyers, both Delaware lawyers and the extremely talented lawyers from other states that regularly appear in Chancery, meets or exceeds that standard in almost all instances.

What can you tell our readers about alternative dispute resolution in the Court of Chancery?

I can tell you that it is a very successful program that is, to my knowledge, unique in the United States. We have a mediation rule that allows parties in pending litigation to request mediation by another member of the Court (not the judge who is handling the dispute). We guarantee no contact or communication between the presiding judge and the mediating judge. The parties then have the benefit of a member of the Court providing candid advice about the strengths and weaknesses of the lawsuit, which can be invaluable to clients as well as attorneys. They get to hear a judge on the same court explain in detail the obstacles they face in prevailing on or defending against a claim. In addition, we have a mediation-only program where you do not even have to have a case pending in Chancery. Any dispute, so long as it involves a Delaware entity and over $1 million dollars in controversy, can petition the Chancellor to appoint a member of the Court as a mediator. The proceeding is completely confidential and is placed on an accelerated track. Again, the parties get the benefit of a judge to assess the dispute and suggest how it might be resolved, perhaps in a way that will not only avoid the expense of litigation, but might also preserve a strategic or contractual relationship of the involved entities. Finally, we recently adopted rules implementing a new arbitration procedure, by which parties can opt to have a member of the Court of Chancery arbitrate a dispute in an expedited fashion and with truncated discovery— which will save time and expenses associated with full-blown litigation. We have not yet had an arbitration request, as these will be the result of contractual provisions and the rules were adopted less than a year ago. But our success rate with mediation strongly suggests that arbitration will be a very popular alternative to conventional litigation. We believe there are opportunities for Delaware entities to save significant costs, maintain the confidentiality of important relationships and have the guidance of an expert judiciary in the process—all of which we view as another aspect of the “value-added” features of being a corporate citizen of Delaware.

If you were having a meeting with your successor, what would you tell him or her about your time on the bench as Chancellor, and what you tried to accomplish?

First, I would congratulate him or her because it is a special privilege to serve as Chancellor of the Delaware Court of Chancery. I’m grateful to three different governors for this high honor— Governor Mike Castle, Governor Tom Carper and Governor Jack Markell. Second, I would emphasize that whatever success I have enjoyed as Chancellor is really the result of all of the wonderfully talented and loyal people who work with me in the Court, from law clerks to legal assistants to the staff in our clerk’s office. It has been a privilege to work with so many loyal and dedicated people. And I would emphasize too the benefit we derive from so many skilled attorneys who practice and appear in this Court, and who help us, in a real sense, continue the tradition of excellence for which we are known. My advice to any successor would be to enjoy the special privilege of service on this unique Court and to always remember and respect all the wonderful people in the Court who are there to help you succeed and who are the ones who truly make this Court such an amazing institution. My only hope is that when I ultimately leave this Court, I will be able to look back and say I left the institution in as good a condition or better than when I came to it and that I have no regrets. I’m optimistic I will be able to do that.