The Delaware legislature has enacted a number of amendments to the Delaware General Corporation Law (“DGCL”) relating to the governance of Delaware corporations. These new amendments address current corporate governance issues concerning: 

• proxy access and expense reimbursement; 
• director indemnification and advancement of expenses; 
• judicial removal of directors; and 
• flexibility in setting record dates by providing that the record date for mailing the notice of meeting need not be the same as the record date for determining stockholders entitled to vote. 

The effective date of the amendments is August 1, 2009. 

Of primary importance to the readers of this blog should be the amendment to Section 145(f) of the DGCL and its impact on director indemnification.

Director Indemnification and Advancement of Expenses

The Delaware legislature amended Section 145(f) of the DGCL in response to concerns raised by practitioners and directors following the highly publicized decision in Schoon v. Troy Corp., 948 A.2d 1157 (Del. Ch. 2008). As you may remember from our earlier Acredula article on the Schoon decision, the court held that, under the indemnification bylaw in question, a former director’s expense advancement rights did not vest until the director was named as a defendant in a suit in which an indemnifiable claim was asserted. In doing so, the Schoon court upheld a bylaw amendment that eliminated a former director’s right to advancement of expenses, despite the fact that the director served under the company’s previous bylaws and left the company’s board prior to the bylaw amendment that eliminated the right of advancement. The bylaw in question did not provide that the director was serving in reliance on the bylaw, that the right to indemnification was a contract right or language that stated any repeal, modification, or amendment to the indemnification or advancement provisions will not adversely affect any right in respect to acts or omissions of any indemnified person occurring prior to such repeal, modification, or amendment.”

With the amendment, the Delaware legislature makes clear that a director’s right to indemnification or advancement of expenses under a company’s bylaws or certificate of incorporation vests at the time of the act or omission that is the subject of the indemnification or advancement of expenses. Further, the amendment provides that such rights may not be eliminated or impaired by amendments to the bylaws or certificate of incorporation after the occurrence of the act or omission for which indemnification or advancement of expenses is sought, unless the provision in effect at the time of the act or omission authorizes the elimination or limitation of indemnification or advancement rights.

While best practices still suggests director and corporations should enter into written indemnification agreements this action by the Delaware legislature does alleviate the concerns raised by the Schoon decision.

Judicial Removal of Directors

The Delaware legislature also amended Section 225, which governs contested election of Directors, to add a new subsection (c), which authorizes the Court of Chancery to remove a director, upon application by the corporation or derivatively in the right of the corporation by any stockholder or member of a nonstock corporation, who has been convicted of a felony or found by a court to have committed a breach of the duty of loyalty in connection with his or her duties to the corporation as a Director. The new section requires a corporation or its stockholders to overcome a substantial evidentiary burden of proving that the director did not act in good faith in performing the acts underlying the conviction or judgment and that the removal of the director is necessary to avoid irreparable harm to the corporation.

The Supreme Court of Delaware announced its much anticipated decision in Lyondell Chemical Company v. Ryan, C.A. 3176 (Del. Mar. 25, 2009) concerning whether the independent directors of a target company’s board were entitled to summary judgment on claims that they failed to act in good faith in conducting the sale of their company. 

The Court of Chancery had denied summary judgment in order to obtain a more complete record before determining whether the directors had acted in bad faith. The Supreme Court reversed that decision and remanded the matter for entry of judgment in favor of the Lyondell directors. In doing so, the Supreme Court held the trial court reviewed the existing record before it under a mistaken view of the applicable law. The Supreme Court indicated that three factors contributed to the trial court’s mistake.

“First, the trial court imposed Revlon duties on the Lyondell directors before they either had decided to sell, or before the sale had become inevitable. Second, the court read Revlon and its progeny as creating a set of requirements that must be satisfied during the sale process. Third, the trial court equated an arguably imperfect attempt to carry out Revlon duties with a knowing disregard of one’s duties that constitute bad faith.” 

It is important to recall from our posting on the trial court’s decision in Lyondell that the offer the board accepted, and forwarded on to shareholders for approval, included:

• A 45% premium over the company’s stock price; 
• 3% break-up fee; 
• A “no-shop” clause (with typical “fiduciary out” language and matching rights for the acquirer); and 
• A fairness opinion 

Yet the trial court was troubled by “the Board’s decision to grant considerable protection to a deal that may not have been adequately vetted under Revlon.”

However, the Supreme Court in its decision confirms that Revlon duties do not arise simply because a company was “in play” and could be potentially acquired. The duty to seek the best available price, under Revlon, applies only when a company “embarks on a transaction – on its own initiative or in response to an unsolicited off – that will result in a change of control.” Additionally, the Supreme Court held that there is only one Revlon duty- to “[get]the best price for the stockholders at a sale of the company.” And, that “[n]o court can tell directors exactly how to accomplish that goal, because they will be facing a unique combination of circumstances, many of which will be outside their control.” 

The foundation of the Supreme Court’s decision was its focus on the effect of the exculpatory provision in Lyondell’s charter precluding director liability for duty of care claims, which allows for only duty of loyalty claims for failure to act in good faith and requires a fiduciary to intentionally fail “to act in the face of a known duty to act, demonstrating a conscious disregard for his duties.” The decision is clear that any question about whether directors should have done something differently or more is not sufficient to create post-transaction personal liability. “Directors’ decisions must be reasonable, not perfect. ‘In the transactional context, [an] extreme set of facts [is] required to sustain a disloyalty claim premised on the notion that disinterested directors were intentionally disregarding their duties.’ . . . Only if they knowingly and completely failed to undertake their responsibilities would they breach their duty of loyalty.”

In overturning the trial court’s decision, the Supreme Court has shown that disinterested, independent directors will not be exposed to personal liability in responding to acquisition offers and affirming the board’s discretion in managing a sales process. 

The Delaware Supreme Court’s decision can be read here.

Often, the most ignored governing documents for any organization with a governing board are the committee charters. The charter of any committee should be discussed, if not negotiated, between the directors who are on the committee and the remaining directors who will rely on the committee on an annual basis. 

A charter not only protects non-committee members from liability but also imposes that liability on the committee members. For directors, one of the most important protections from liability is the state-law right of reliance of directors upon committees of directors of which they are not members. 

However, a director may rely upon a committee only for matters within the committee's designated authority for which the director reasonably believes merits confidence. The committee to which such authority is delegated has a legal duty of care to carry out that authority as an ordinarily prudent person in a like position would do under similar circumstances and a legal duty of loyalty to do so only in, and not opposed to, the best interest of the organization. 

Accordingly, committee charters should be in writing. More importantly, these charters should be periodically reviewed and discussed by directors. At a minimum, committee charters should be reviewed annually by the board. Therefore, care should be taken in reviewing, discussing and drafting any committee charter to balance both: 

1. the interest of non-committee members to be protected from liability for the matters delegated; and 
2. the competing interest of committee members not to be subjected to unreasonable risk of liability. 

Someone familiar with the legal rights and obligations of directors should lead the review and discussion of charters. This is often a regular function of a governance committee (which if not a standing committee is typically part of an organization's nominating committee). An organization and its individual directors should review the charters of committees with the following questions in mind: 

Is the legal nature (i.e., executive, oversight, recommendation or advisory) of the committee clear from the writing or charter? 

Each committee charter should establish the committee's legal nature or type, which is often in a purpose clause. Committees may be executive, oversight or recommendation. The most common of the three being oversight. 

• An executive committee has all authority to act on behalf of the board during intervals between meetings of the board. For the charter of an executive committee, typical language in a purpose or similar clause would read, "the executive committee will have and exercise the authority of the board in the management of the organization during the interim between meetings of the board, subject to any restrictions established by the board." Typically, any action or authorization by an executive committee is to be effective for all purposes as the act or authorization of the board, unless the board otherwise determines or directs. Executive committees are very common in nonprofit organizations but less common in publicly-held and privately-held for profit corporations. 

• An oversight committee, such as the audit, compensation or nominating/governance committee, generally "carries out" all authority of the board with respect to their matters of responsibility. The carry-out oversight committee is the result of the Sarbanes-Oxley Act and subsequently SEC, NYSE and Nasdaq rules requiring that oversight of the financial statement preparation and audit process and of executive compensation be by a committee composed of, or otherwise by, independent directors. For the charter of a carry-out oversight committee, typical language in a purpose or similar clause would read, "the audit committee will carry out the board's oversight responsibilities for the integrity of the organization's financial statements and reports." As a result, the actions of these two committees are effective for all purposes as the act or authorization of the board, unless the board otherwise determines or directs by not less than majority vote of those directors having no financial or personal interest in such matter. 

• A recommendation committee assists the board in reviewing certain matters but only makes recommendations to the board as to appropriate action. For the charter of a recommendation committee, typical language in a purpose or similar clause would read "the committee will assist the board by reviewing ... and recommending some action for the board's consideration." Accordingly, any act of the committee is not the act or authorization of the board unless the board affirmatively approves or authorizes such action. 

• An advisory committee is not a statutory committee of the board but only advisory to it. 

If the committee is properly composed, the right of reliance entitles non-committee directors to rely upon an executive, oversight or recommendation committee, but not an advisory committee because advisory committees are not statutory. 

Is it clear who the committee's voting members are, and, if so, are they directors? 

Under most states' laws, directors are entitled to rely upon committees only if the committee is composed of directors. This does not mean there cannot be non-voting members of committees, such as non-director officers, but only those members who are directors may have the right to vote. Voting members, accordingly, must have all rights to receive notice, attend, present and consider matters, vote and otherwise participate in any proceedings of the committee. Non-voting members can be entitled to be present in person, to present matters for consideration and to take part in consideration of any business by the committee at any meeting of the committee, but non-voting members cannot be counted for purposes of a quorum nor for purposes of voting or otherwise in any way for purposes of authorizing any act or other transaction of business by such committee. 

Is it clear who can call meetings, what notice is required, how meetings can be held, and what constitutes actions of the committee? 

Although not legally required, it is recommended that each committee's charter contain provisions as to how it conducts its proceedings, such as who can call meetings, the notice requirements for meeting and how meetings can be held (including written consents in lieu of meetings), etc. 

Are specific responsibilities of the committee stated, and, if so, do the stated responsibilities reflect the balance of both (I) the interest of noncommittee members to be protected from liability for the matters delegated and (2) the competing interest of committee members not to be imposed with unreasonable liability? 

The most important provisions of a committee's charter are the committee's responsibilities. These should be written in terms of what is expected of the committee keeping in mind the balance of both (I) the interest of non-committee members to be protected from liability for the matters delegated and (2) the competing interest of committee members not to be imposed with unreasonable liability. 

An example of responsibilities of an executive committee include: transacting all of the business of the organization and exercising the authority of the board in the management of the organization during the interim between meetings of the board, subject to any restrictions established by the board. 

An example of responsibilities of a "carry-out" oversight committee, such as an audit committee, include: carrying out the board's oversight responsibilities for the integrity of the organization's financial statements and reports, including (I) retaining and terminating the organization's public accounting firm responsible for auditing and providing an audit report on the organization's financial statements; and (2) approving the scope of all auditing services and the compensation and other terms of engagement of the external auditor. 

An example of responsibilities of a recommendation committee, such as a finance committee, include: periodically before each fiscal year or other appropriate period review making changes in proposed operating and capital budgets of the organization and recommending to the board adoption of those budgets for such period. 

Is it clear whether the committee has authority to have, at the organization's expense, independent advisors? 

One of the most important authorities of any oversight committee is the right to retain, at the organization's expense, such independent counsel or other advisors as it deems appropriate. This is particularly important for "carry-out" oversight committees. Typically, this may not be an express authority of an executive or recommendation committee and is infrequently an express authority of an advisory committee. 

Is the committee required to evaluate itself, its composition, the performance of its members and the provisions of its charter? 

Self-evaluations by the committee of its proceedings, as well as the skills and experience of its members, are important to the governance of not only the committee but also the board and the organization itself. Typically, a committee should conduct a periodic evaluation of the provisions of its charter, its performance under those provisions and each committee member's contribution to the committee's performance. 

How can the charter be amended? 

Finally, each committee charter is a governing document of the board as a whole, and it may not be amended except by the board. Accordingly, any considerations of the board in its self evaluation become recommendations to the board. The board may defer to such recommendations for consideration of a governance committee. 

Evaluating and answering these questions at the beginning of each year will ensure that all committee charters are current and properly structured. Further, such a review will ensure that all directors are aware of the authority that is delegated to each committee and to understand whether he or she may rely on that committee for an a particular issue that the board is facing.

With a new year upon us, it is incumbent on all boards to step back, take a critical look and assess their structure, composition, committee charters and past performance and determine whether the board is prepared for the current challenges and the challenges and risks associated with its organization's strategic plans. 

This year, we will address the topics below in a series of articles all with the goal of creating the best possible board for your organization. 

• Annual review of the Roles and Responsibilities of board committees and committee charters 
• Board best practices audit 
• Board evaluations and individual director evaluations
• Board succession planning; and 
• Board education/training. 

For any organization to be successful it must commit to improvement. To improve, an organization must look at its current practices and make changes where necessary. This includes changes to the board's composition and practices. While some boards may be instilling new members this year through election or to fill a vacancy, the majority of the directors on your board today are your organization's team that will lead it over the next year. To get the most out of this team your organization should consider the following: 

Annual Review of the Roles and Responsibilities of Board Committees and Committee Charters

All organizations need to review their committee charters, annually at minimum, to ensure that such committees have the requisite authority necessary to complete their delegated tasks and additionally to ensure that such committees do not have authority greater than what the full board desires to grant. Committee charters are often the most ignored governing document for any organization. The charter of any committee should be discussed, if not negotiated, between the directors who are on the committee and the remaining directors who will rely on the committee on an annual basis. 

A charter not only protects non-committee members from liability but also imposes that liability on the committee members. For directors, state law allows them to rely upon a committee of directors of which they are not members. However, a director may rely upon a committee only for matters within the committee's designated authority and the committee has a legal duty of care to carry out that authority as an ordinarily prudent person in a like position would do under similar circumstances and a legal duty of loyalty to do so only in, and not opposed to, the best interest of the organization. Thus, it is imperative that the authority of a specific committee is properly and clearly designated in its charter. 

Best Practices Audit 

Most organizations, either by choice or regulation, have their financial statements audited on an annual basis. However, very few conduct an audit, either formal or informal, of their corporate governance practices. An annual audit of governance practices goes a long way in creating a productive board. 

Board Evaluations/Individual Director Evaluations

"If you want one year of prosperity, grow grain

If you want ten years of prosperity, grow trees

If you want one hundred years of prosperity, grow people" 

Boards must strive for commitment to excellence in their corporate governance and not just adhering to minimum standards prescribed by law. This requires a goal of continuous improvement. Similar to evaluating the organization's chief executive officer and management for the organization's performance, the board must evaluate itself to constantly improve. A yearly board evaluation will allow an organization to: 

• Check progress against mission and goals 
• Give directors a meaningful measure of accountability 
• Allow for a check of strengths and weaknesses 
• Emphasize the accomplishments of the board 
• Provide a yardstick with which the goals of the coming year can be measured
• Encourage team work approach to decision making; and 
• Give a feeling of accomplishment 

Board Composition/Succession Planning 

Succession is critical to the life of any organization, and as such, one of a board's most important responsibilities is succession of management and the board. A good succession plan helps to prevent staleness on the board. Preventing staleness or "institutionalization" of thought on the board is in the best interests of the company. However, adding directors with fresh or non-institutional thoughts comes with a price, whether accomplished through traditional approaches such as term limits or age restrictions or by involving the board in making itself an "expertise" board. Getting your board to buy into a succession plan helps create a multi-generational board that is future oriented and prepared of emergency absences.

Board Education/Training 

"A board's effectiveness depends on the competency and commitment of its individual members, their understanding of the role of a fiduciary and their ability to work together as a group [including] an understanding of the fiduciary role and the basic principles that position directors to fulfill their responsibilities of care, loyalty, and good faith." See "III. Director Competency & Commitment" of the "NACD Key Agreed Principles."  Boards will be measured by their least common denominator, so it is important that all members are knowledgeable not only with the policies and governance of the organization but also educated on how to be better directors. Such education sessions can be reserved for one or two day board retreats or part of a board's regularly scheduled meetings. Either way, it is important that all boards know what it means to be a board and how to fulfill their duties as board members. 

Commitment to continuous improvement requires work.  Committing to accomplishing any of the above five topics, if not all, will lead to improvement with your board. In turn such commitment adds to the growth and performance of the board's organization.