Cardinal Value Equity Partners ... claims the board "comfortably settled into its role as rubber stamping the self-dealing transactions conceived by Black ... to the point where they did not mind being relegated to providing their approval after the fact".
The claim focuses on numerous deals struck by and within Lord Black's labyrinthine empire - among them the sale of some assets to Canadian media group CanWest for $1.8bn in 2000. According to minutes of a board meeting four months earlier, directors were told Lord Black and others would receive a total of $53m in non-compete fees and that further payments would go to Ravelston, his private company. Cardinal claims there was never any independent analysis of the size or need for these payments. The claim .... alleges that investors lost out through "misappropriation of corporate assets as well as self dealing - arrangements, for example, where company executives sold company assets to other companies where they had an interest".
In self-dealing claims such as this one, the shareholders have a cause of action against the directors or officers who misappropriate corporate assets or pursue conflicted interest transactions. The claim against the non-participating directors is more complex. Most self-dealing transactions do not require director approval as a matter of law, although many corporate conflict of interest policies go beyond what the law requires. Instead, approval by the disinterested directors provides a partial safe harbor if the transaction is challenged by a shareholder (such approval shifts the burden of proof from the director with the conflict of interest to the shareholder). Ordinarily, the failure of the directors to make an informed decision in this regard is invoked merely to vitiate the safe harbor rather as grounds for an independent cause of action against the approving directors. Yet, under Smith v. Van Gorkom, directors' duty of care requires that when they make a decision they do so on an informed basis. Likewise, the Caremark decision plausibly could be interpreted as imposing an affirmative duty on directors to investigate conflict of interest transactions and to ensure that the conflicted directors do not take advantage of the corporation.
The Hollinger lawsuit thus could be distinguished from the recently dismissed case against Martha Stewart (blogged here). In the Stewart case, the shareolders' suit alleged that Martha Stewart Omnimedia's disclosure documents routinely stressed the importance of Martha Stewart to the company's success. After the controversy over Stewart's trading in ImClone stock broke, MSO's stock price dropped precipitously, ultimately bottoming out at a 65% loss. The suit alleged Caremark violations by MSO directors and execs (click here for a discussion of Caremark), who allegedly failed to "ensure that Stewart would not conduct her personal, financial, and legal affairs in a manner that would harm the Company, its intellectual property, or its business." In dismissing, Chancellor Chandler explained that: (1) plaintiff had failed to allege facts that would have put the board on notice of potential wrongdoing; and (2) the Delaware precedents speak to wrongdoing in a corporate capacity, not in an exec's personal life. Based on what we know thus far about the suit against the Hollinger board, it sounds like both of those criteria will be satisfied. Because the alleged misconduct involved self-dealing with corporate assets and because it is alleged the directors were aware - even approved ex post - of some of the transactions, a strong case is already made out that the board had a duty to investigate and make an informed decision as to the proper course of action.
This is not to say that the board necessarily should have invalidated these transactions. Self-dealing transactions are allowed provided they are fair to the corporation (and for very good reasons discussed here). It is only to say that the board was obliged to make an informed decision as to whether to allow the transaction to go forward.
