New Developments in the Law
Directors and Officers Liability and the Fiduciary Duty Owed to the Corporation and its Shareholders Under New York Law
By Adam H. Koblenz, Esq.

     Directors and officers play a critical role in the management of the business affairs of a corporation. Under New York law, �the business of a corporation is to be managed by its board of directors.� COR Marketing & Sales, Inc. v. Greyhawk Corp., 994 F. Supp. 437, 441 (W.D.N.Y. 1998); N.Y. Business Corporation Law � 701 (McKinney 1997). It is well established under New York law that �officers, directors and majority shareholders of a corporation stand in a fiduciary relationship to the corporation and owe their undivided and unqualified loyalty to the corporation.� Young v. Chiu, 49 A.D.3d 535, 536 (2d Dep�t 2008); Alpert v. 28 Williams Street Corp., 63 N.Y.2d 557, 568 (1984).

     In New York, �[a] fiduciary relationship arises where �one party�s superior position or superior access to confidential information is so great as virtually to require the other party to repose trust and confidence in the first party,� and the defendant was �under a duty to act for or to give advice for the benefit of another upon matters within the scope of the relation.�� Anwar, et al. v. Fairfield Greenwich Ltd., et al., 728 F. Supp. 2d 372, 415 (S.D.N.Y. 2010) (quoting Pension Comm., 446 F. Supp. 2d 163, 195 (S.D.N.Y. 2006)).

     New York law provides the statutory mechanism for a shareholder to sue individually �when the wrongdoer [corporate director] has breached a duty owing to the corporation wronged.� Anwar, 728 F. Supp. 2d at 400-01 (citing Fraternity Fund Ltd. v. Beacon Hill Asset Mgmt. LLC, 376 F. Supp. 2d. 385, 409 (S.D.N.Y. 2005) (quoting Abrams v. Donati, 66 N.Y. 2d 951, 498 N.Y.S.2d 782, 489 N.E.2d 751, 751-52 (1985)) (holding that a direct action was allowed because the �principal wrong� was a valuation fraud, in which the defendants concealed declines in the value of fund assets that injured the Plaintiffs rather than the funds and the fiduciary duty was owed independently to the plaintiffs).

     To state a cause of action, the elements of a claim for breach of fiduciary duty are �breach by a fiduciary of a duty owed to plaintiff; defendant�s knowing participation in the breach; and damages.� Anwar, 728 F. Supp. 2d at 415 (citation omitted). �Whether the [fiduciary] duty exists is a fact-specific inquiry� for a trier of fact. Id.

     Notwithstanding the above, �[u]nder New York law, the business judgment rule �bars judicial inquiry into actions of corporate directors taken in good faith and in the exercise of honest judgment in the lawful and legitimate furtherance of corporate purposes.� � RSL Comm. v. Bildirici, 649 F. Supp. 2d 184, 198 (S.D.N.Y. 2009) (citing In re 1st Rochdale Co-op Group, Ltd., No. 07 Civ. 7852(DC), 2008 WL 170410, at *1 (S.D.N.Y. Jan. 17, 2008) (quoting Auerbach v. Bennett, 47 N.Y.2d 619, 419 N.Y.S.2d 920, 926, 393 N.E.2d 994 (1979)); see also Stern v. Gen. Elec. Co., 924 F.2d 472, 476 (2d Cir.1991) (�[U]nder the New York business judgment rule, the actions of corporate directors are subject to judicial review only upon a showing of fraud or bad faith.�).

     Moreover, �[u]nder the business judgment rule, there is �a presumption that in making a business decision, the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company.�� In the Matter of Bear Stearns Litigation, 870 N.Y.S.2d 709 (N.Y. Cty, Dec. 4, 2008) (citation omitted). �The rule operates to preclude a court from imposing itself unreasonably on the business and affairs of a corporation.� Id. (citation omitted). To this end, �the board of directors� decisions �will not be disturbed if they can be attributed to any rational business purpose.�� Id. (citation omitted).

     �At the same time, to earn the protection of the business judgment rule, directors must do more than merely avoid fraud, bad faith, and self-dealing,� however. RSL Comm., 649 F. Supp. 2d at 199 (citing In re 1st Rochdale Co-op Group, Ltd., 2008 WL 170410, at *1 (citing Hanson Trust PLC v. ML SCM Acquisition, Inc., 781 F.2d 264, 274 (2d Cir.1986)). �It is not enough that directors merely be disinterested and thus not disposed to self-dealing or other indicia of a breach of the duty of loyalty. Directors are also held to a standard of due care. They must meet this standard with �conscientious fairness.� � Hanson Trust, 781 F.2d at 274 (quoting Alpert v. 28 Williams St. Corp., 63 N.Y.2d 557, 483 N.Y.S.2d 667, 674, 473 N.E.2d 19 (1984)).

     Consequently, a director �does not exempt himself from liability by failing to do more than passively rubber-stamp the decisions of the active managers.� RSL Comm., 649 F. Supp. 2d at 199 (citing Barr v. Wackman, 36 N.Y.2d 371, 381, 368 N.Y.S.2d 497, 329 N.E.2d 180 (N.Y.1975). Nor does the business judgment rule �protect directors in �omission� cases where an injury results from the inaction of a director.� Frater v. Tigerpack Capital, Ltd., No. 98 Civ. 3306(SAS), 1999 WL 4892, at *4 (S.D.N.Y. Jan. 5, 1999).

     Indeed, the business judgment rule serves an important role in the protection and insulation of directors from liability for the business decisions made on behalf of the corporation. However, as the case law demonstrates, this rule is not insurmountable, where directors veer from their fiduciary duties to their shareholders and the corporation. 

     We will continue to provide further updates if any changes occur in this area of the law.