Director resignation and fiduciary duties: a court decision raises questions about when directors cannot resign--i.e., 'run away' from problems.

• Author: Raymond, Doug
• Position: LEGAL BRIEF

WHILE IT IS A commonplace that directors owe fiduciary duties to the corporation on whose board they serve, and to its stockholders, the decision of a director to resign from the board has generally not been regarded as subject to these duties. In general, a director has been free to resign from the board, so long as the corporation is not as a result left entirely without leadership.

This principle, which has sometimes resulted in a rush to the exits, resembling a game of musical chairs, was recently discussed in a bench opinion by Delaware Chancery Court Judge Leo Strine, in the case In re: Puda Coal, Inc. Stockholders Litigation. In this case the decision to resign was reviewed under the analysis adopted in the Caremark line of cases, and has special application to directors serving on boards of corporations with significant offshore operations.

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Puda Coal Inc. was a Delaware corporation whose assets and operations were located in China. Puda Coal's chairman, who was a member of the board, allegedly had sold the corporation's assets without any payment to the corporation and had also engaged in other misdeeds. This theft was discovered by the corporation's audit committee roughly 18 months later, at which point the other directors, all of whom were independent, resigned. As a consequence, the resigning directors left the chairman, who they believed may have committed significant harm to the corporation, entirely in control.

Stockholder plaintiffs then brought a derivative action against the three independent directors, alleging that in resigning they had breached their fiduciary duty of loyalty. Under the Caremark line of cases, directors can breach their duty of loyalty if they fail to exercise sufficient oversight over the corporation to have confidence that it has acceptable resources and reporting systems to ensure that information necessary for directors to fulfill their obligations is provided in a timely and adequate manner. A knowing failure to exercise this oversight can result in a breach of the directors' fiduciary duties.

In a bench opinion, Chancellor Strine rejected the directors' motion to dismiss, citing their failure to monitor the corporation's insiders, as well as their decision to "run away" upon learning of the alleged misdeeds. The chancellor was particularly critical of the directors' decision to resign, noting that "there are some circumstances in which running away does not immunize you,"...