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Unintentional Irony in Landmark Decisions of the Delaware Supreme Court Regarding Corporate Law

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Unintentional Irony in Landmark Decisions of the Delaware Supreme Court Regarding Corporate Law Michigan Business & Entrepreneurial Law Review Volume 8 Issue 2 2019 Unintentional Irony in Landmark Decisions of the Delaware Supreme Court Regarding Corporate Law Steven J. Cleveland University of Oklahoma Follow this and additional works at: https://repository.law.umich.edu/mbelr Part of the Business Organizations Law Commons, Courts Commons, and the State and Local Government Law Commons Recommended Citation Steven J. Cleveland, Unintentional Irony in Landmark Decisions of the Delaware Supreme Court Regarding Corporate Law, 8 MICH. BUS. & ENTREPRENEURIAL L. REV. 173 (2019). Available at: https://repository.law.umich.edu/mbelr/vol8/iss2/2 This Article is brought to you for free and open access by the Journals at University of Michigan Law School Scholarship Repository. It has been accepted for inclusion in Michigan Business & Entrepreneurial Law Review by an authorized editor of University of Michigan Law School Scholarship Repository. For more information, please contact [email protected]. UNINTENTIONAL IRONY IN LANDMARK DECISIONS OF THE DELAWARE SUPREME COURT REGARDING CORPORATE LAW Steven J. Cleveland* TABLE OF CONTENTS I. ................................................................................................... 175 A. ............................................................................................ 176 B. ............................................................................................ 180 1. .................................................................................... 180 2. .................................................................................... 185 C. ............................................................................................ 190 1. .................................................................................... 191 2. .................................................................................... 195 II. ................................................................................................... 201 A. ............................................................................................ 201 1. .................................................................................... 202 2. .................................................................................... 204 B. ............................................................................................ 205 1. .................................................................................... 205 C. ............................................................................................ 212 1. .................................................................................... 212 2. .................................................................................... 213 III. ................................................................................................... 226 A. ............................................................................................ 228 B. ............................................................................................ 230 1. .................................................................................... 231 2. .................................................................................... 234 C. ............................................................................................ 236 1. .................................................................................... 237 2. .................................................................................... 239 IV. ................................................................................................... 243 “[S]tandards . should be clearly articulated, and then candidly and consistently applied. Whatever it is to be, the standard . , once announced, should be ad- hered to in fact as well as in rhetoric.”1 * Thomas P. Hester Presidential Professor & Alfred P. Murrah Professor of Law, Universi- ty of Oklahoma. 1. William T. Allen, Jack B. Jacobs & Leo E. Strine, Jr., Realigning the Standard of Review of Director Due Care with Delaware Public Policy: A Critique of Van Gorkom and its Progeny as a Standard of Review Problem, 96 NW. U. L. REV. 449, 460 (2002). 173 174 Michigan Business & Entrepreneurial Law Review [Vol. 8:173 Three landmark decisions of the Delaware Supreme Court exhibit uninten- tional irony: Beam v. Stewart, Smith v. Van Gorkom, and Paramount Communi- cations Inc. v. Time Inc. In Beam, the court concluded that, regarding the deci- sion of whether to seek remedy against Martha Stewart, her fellow directors would not have jeopardized their reputations for the minimal gain of continuing their business and personal relationships with her.2 Ironically, the court failed to acknowledge that Martha Stewart—in trading on material nonpublic infor- mation, which gave rise to the corporate claim against her—jeopardized her reputation (ultimately losing hundreds of millions of dollars and her freedom) for minimal gain (less than $50,000). Having failed to acknowledge that inter- nal inconsistency and unintentional irony, the court offered no explanation why some directors would jeopardize their reputations for minimal gain, but others would not do so. Part I attempts to fill the void and suggests that Stewart suf- fered from cognitive biases, which would not have affected her fellow directors. In Van Gorkom, the court famously concluded that the plaintiff carried his burden of proving that the board was grossly negligent in informing itself when selling the corporation, although, during a multi-month period, no bidder stepped forward with a superior proposal.3 The irony of the court’s conclusion is virtually self-evident. Part II further discusses subsequent precedent, which suggests that, viewed in retrospect, the board could have carried its burden that it reasonably informed itself, turning the conclusion of Van Gorkom on its head, and furthering the irony. In Time, the court held that Time’s board did not preclude Paramount from hostilely acquiring Time when it affected an acquisition of Warner.4 According to the consensus, Time’s board in fact precluded Paramount, so the Time court could not have meant what it wrote. As described in Part III, examining for the presence of preclusive action sometimes may enlighten the ultimate inquiry of reasonableness, but other times, an examination into preclusion proves mislead- ing. In dicta, the Delaware Supreme Court has acknowledged that preclusive conduct may be reasonable.5 As the inquiry into preclusion has yielded mis- leading, if not ironic, results, and as the Delaware Supreme Court has indicated that preclusive action may be reasonable, the court should re-examine the utility of the preclusion inquiry as an outcome-determinative filtering device regarding the ultimate inquiry of reasonableness. 2. Beam v. Stewart, 845 A.2d 140, 1052 (Del. 2004) (en banc). 3. Smith v. Van Gorkom, 488 A.2d 858, 881, 888 (Del. 1985) (en banc). 4. Paramount Commc’ns, Inc. v. Time Inc., 571 A.2d 1140, 1155 (Del. 1990). 5. See, e.g., Mills Acquisition Co. v. Macmillan, Inc., 559 A.2d 1261, 1284 (Del. 1989) (“If the grant of an auction-ending provision is appropriate, it must confer a substantial benefit upon the stockholders in order to withstand exacting scrutiny by the courts.”); Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., 506 A.2d 173, 184 (Del. 1986) (“Favoritism for a white knight to the total exclusion of a hostile bidder might be justifiable when the latter’s offer adversely affects sharehold- er interests . .”). Spring 2019] Unintentional Irony 175 In these foundational decisions of corporate law, the Delaware Supreme Court could not have meant what it wrote. Each section incorporates clarifying concepts for consideration, and Part IV briefly concludes. I. The law acknowledges several key characteristics of corporations. First, as a corporation is a legal fiction,6 a natural person or persons must make deci- sions on its behalf. For a corporation, the decision-maker generally is the board of directors, not the investor-shareholders.7 Second, decisions of the board of directors generally are shielded from challenge by the shareholders by the busi- ness judgment rule.8 The protections of the business judgment rule extend to the decision of whether to pursue a cause of action on behalf of the corpora- tion.9 However, if the board members breached a duty that they owe to the cor- poration, giving rise to a cause of action by the corporation against those board members, then we would expect that neither the corporation—which is a legal fiction incapable of acting for itself—nor the board members—who would be unlikely to sue themselves—to seek to remedy the wrong.10 In such situations, the law empowers shareholders to step into the shoes of the corporation to initi- ate a cause of action on behalf of the corporation against the board members.11 Such suits are termed derivative, as the shareholders’ claim derives from the claim belonging to the corporation. However, if a shareholder pursues a derivative suit, it is legally insufficient for the shareholder to simply name board members as defendants; otherwise, shareholders would too easily supplant the board’s authority to manage the cor- poration. In Aronson, the Delaware Supreme Court articulated an inquiry to balance (1) the shareholder’s right to remedy wrongs committed by board members against the corporation, and (2) the overarching principle that the board of directors, not shareholders, makes decisions on behalf of the
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