Oversight and Good Faith Oversight

Question 1

What are the two main kinds of functions that a board of directors performs?

Answer 1

The board makes decisions and oversees the corporation’s business

Question 2

Chancellor Allen’s test for whether the Caremark directors breached their duty of care (by failing adequately to control Caremark’s employees) requires the shareholder plaintiffs to show that:

1. the directors knew or should have known that violations of law were occurring
2. the directors made no good faith efforts to prevent or remedy violations of law that they knew or should have known about
3. the directors’ failure to prevent or remedy the employees’ violations proximately resulted in losses to the corporation
4. all of the above
5. 1 and 3 only

Answer 2

4. all of the above

Question 3

Under the Model Business Corporations Act, the standard of care for board of directors’ oversight of a corporation involves:

Answer 3

participatory performance over a period of time

Question 4

A Caremark Claim is one in which shareholders allege:

Answer 4

that directors breached their fiduciary duty by allowing employees to violate the law and exposing the corporation to liability

Question 5

With respect to board oversight, the key holding in Graham v. Allis-Chalmers is: absent cause for suspicion there is no duty upon the directors to _________________.

Answer 5

install and operate a corporate system of espionage to ferret out wrongdoing which they have no reason to suspect exists

Question 6

Under Caremark, only a ______________________ will establish the lack of good faith necessary for liability

Answer 6

sustained or systematic failure of the board to exercise oversight-such an utter failure to attempt to assure reasonable information systems exist

Question 7

Which of the following things did the Francis v. United Jersey Bank court include in a director’s duty of care?

1. be familiar with the fundamentals of the business
2. keep informed about the activities of the corporation on an ongoing basis
3. go to board meetings
4. object if you find a problem
5. all of the above

Answer 7

5. all of the above

Question 8

Big, Inc. borrows money from X and is unable to pay him back because the Big, Inc., board of directors has made some bad, but not negligent, business decisions. Big, Inc., has followed all of the requisite corporate formalities. When the loan becomes due, Big, Inc., does not pay X. Whom can X successfully sue?

1. Big, Inc., only
2. Big, Inc., and the members of its board of directors personally
3. Big, Inc., and its shareholders personally
4. Big., Inc., and the members of its board of directors personally and its shareholders personally
5. Big, Inc., and the members of its board of directors who are also shareholders, personally

Answer 8

1. Big, Inc., only

Question 9

D is a board member of Washburn Industries, Inc. D never attends board meetings and never reads the corporate reports. As a result, D is unaware that the Washburn Industries, Inc., treasurer entered into a contract to sell one of Washburn Industries, Inc.’s, key technologies to a competitor. A Washburn Industries, Inc., shareholder who is upset about the transaction sues everyone on the board. D, who is sued for a breach of her duty of care relating to the transaction,

1. Is not protected by the business judgment rule and would therefore not be liable
2. is liable for a violation of her oversight duty of material benefit
3. is not protected by the business judgement rule, but still may not be liable
4. will not be liable unless the shareholder plaintiff can show criminal intent
5. is protected by the business judgment rule

Answer 9

3. is not protected by the business judgment rule, but still may not be liable

Question 10

Under both Caremark and Stone, what is necessary to establish the lack of good faith that is a necessary condition to liability on the part of directors?

Answer 10

a sustained or systematic failure of the board to exercise oversight - such as an utter failure to attempt to assure a reasonable information and reporting system exists

Question 11

What does a corporation’s “Section 102(b)(7)” do?

Answer 11

exculpates directors for breaches of their duty of care

Question 12

When filing a derivative suit, shareholders must

Answer 12

have made a pre-suit demand on the board of directors or be prepared to show that such a demand would have been futile

Question 13

How does the Stone v. Ritter court describe the interaction between, on one hand, the Delaware law conception of directors’ roles, and on the other hand, derivative actions?

Answer 13

the right of shareholders to pursue derivative actions is limited because they may impinge on the managerial freedom of the directors (a fundamental principle of corporations law)

Question 14

According to Stone v. Ritter, when might directors be unable to exercise their business judgment in considering a pre-suit demand by shareholders contemplating a derivative action?

Answer 14

when directors face the possibility of personal liability as a result of the derivative

Question 15

What is a “Caremark claim”?

Answer 15

a claim of directors’ liability for corporate loss based on their ignorance of liability-creating activities within the corporation

Question 16

Which of the following statements reflects the holding in Stone v. Ritter?

1. absent cause for suspicion there is no duty to install and operate a corporate system of espionage
2. the directors ignored red flags in pursuit of short term profits in residential mortgage backed securities
3. where directors fail to act in the face of a known duty to act, thereby demonstrating a conscious disregard for their responsibilities, they breach their duty of loyalty by failing to discharge that fiduciary duty in good faith
4. the business judgment rule may protect directors from liability for simple negligence for board decisions
5. the directors’ breach their fiduciary duty to their stockholders by their failure to inform themselves of all information reasonably available to them and relevant to their decision to recommend the merger

Answer 16

3. where directors fail to act in the face of a known duty to act, thereby demonstrating a conscious disregard for their responsibilities, they breach their duty of loyalty by failing to discharge that fiduciary duty in good faith

Question 17

What did the shareholders allege in the Citibank case?

1. that the directors breached their fiduciary duties
2. that the directors failed to monitor and manage the risks the company faced from problems in the subprime lending market
3. that the directors ignored red flags in pursuit of short-term profits and at the expense of the company’s long-term viability
4. all of the above
5. none of the above

Answer 17

4. all of the above

Question 18

How can a shareholder in a derivative action get pre-suit demand excused?

1. make particularized factual allegations in the derivative stockholder compliant that create a reasonable doubt that, as of the time the complaint is filed, the board of directors could have properly exercised its independent and disinterested business judgment in responding to a demand
2. show that the defendant directors face a substantial likelihood of liability that renders them personally interested in the outcome of the decision on whether to pursue the claims asserted in the complaint
3. show that the directors’ behavior included the elements of bad faith that constitute a violation of their duty of loyalty, and that the directors were therefore ineligible for exculpation under the company’s “Section 102(b)(7)” clause
4. all of the above
5. none of the above

Answer 18

4. all of the above

Question 19

Washburn Corp. (WS Corp.) is responsible for the construction of several buildings in downtown Topeka. A few WS Corp. employees use faulty materials in constructing the buildings and, during a tornado, a few of the WS Corp. buildings are badly damaged. The City of Topeka sues WS Corp. for several million dollars and wins. Subsequently, a WS Corp. shareholder, X, files a derivative lawsuit against the directors of WS Corp. for failure to take, or even to consider taking, action sufficient to oversee the WS Corp. employees or sufficient to prevent the type of misconduct that resulted in the Topeka wrongdoing. In X’s lawsuit against WS Corp. …

1. The WS Corp directors would need to show that they had obtained shareholder approval to cleanse the conflict of interest created by the fact that the use of cheaper, faulty materials made WS Corp. more profitable and therefore made the board look better
2. The WS Corp. directors would not have the protection of the business judgment rule
3. the WS Corp. directors would have the protection of the business judgment rule since there was no conflict of interest
4. X would want to show that the lack of adherence to corporate formalities and the injustice involved would justify piercing the WS Corp. veil
5. X’s suit would be dismissed, since it is more properly filed as a direct suit

Answer 19

2. The WS Corp. directors would not have the protection of the business judgment rule