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Prudent Corporate Director Conduct

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James Irving
BKK Business Law Newsletter
July 2009

As discussed in our March 2009 newsletter, the Business Judgment Rule insulates corporate directors from liability for informed, good faith decisions made in the regular course of business and with the honest belief that the decision was in the best interest of the company. Similarly, corporate directors can avoid liability based on a failure of oversight if they adhere to a pattern of prudent conduct.

Statutorily, corporate officers are charged with the duty of managing the day to day affairs of the corporation. The directors’ role should be oversight, not management. In fulfilling this obligation, directors should diligently seek information essential to understanding the risks to the business and should be willing to solicit views, not only from outside the board, but from beyond the officers as well. Thoughtful inquiries directed to shareholders, employees or outside advisors or consultants, particularly when analyzing complex business plans and proposals, are consistent with diligent oversight. In fulfilling their duty, directors must be willing to hold management accountable and should not shy away from the tough questions. A healthy degree of skepticism is appropriate, particularly when it comes to financial accounting and executive compensation matters. Executive sessions are appropriate if management’s presence inhibits free deliberation among the Directors.

Directors must carefully oversee management’s assessment and handling of strategic, financial, operational, and compliance risks and should require periodic briefings by management on compliance threats. Corrective steps must be taken to address identified risks. Such oversight depends on the establishment of strong internal systems and controls.

In today’s corporate environment, directors should confirm the existence of certain programs and policies, including a crisis management plan, strong whistleblower protections for employees who properly report compliance violations, and a records management policy that covers paper and electronically stored records. Securing emails and similar records is particularly critical should the corporation anticipate involvement in a law suit.

Finally, directors should carefully consider the qualifications of those they elevate to officer positions. Casually electing officers without due concern for the background, history, and integrity is a quick and easy path to possible lack of oversight liability.

Particularly in mid-sized or emerging businesses, or in closely held corporations in which directors and officers are often synonymous, the obligation of thorough oversight can be subsumed by the jumble of day to day business. But as successful businesses grow, careless practices become bad habits that are hard to break. Attention to careful business practices is always good policy.