Lawsuits & Board Liability: Company policies to cover related costs can curb the hit to directors' wallets.

• Author: Raymond, Doug
• Position: Legal BRIEF

Directors--and particularly directors of public companies--are frequently sued. When misfortune strikes, the directors typically are the first targets of the ensuing investigations and lawsuits. In the past year, lawsuits against directors and officers have been based on a number of claims, including such familiar topics as conflicts of interest and self-dealing, as well as more topical issues like failure to prevent data breaches or tolerance of illegal discrimination or sexual harassment.

The board of directors is responsible for the oversight of the management of the corporation, so the proverbial buck stops with them.

Even when the board is not aware of a particular problem, the directors are often sued for allegedly having turned a blind eye to the issue, failing to ensure that the company had in place sufficient procedures to prevent the trouble. The claims brought against directors often re late to asserted violations of their fiduciary duties to stockholders or of a specific law, such as certain provisions of the federal securities laws (which can subject directors to personal liability).

But company policies that cover upfront litigation costs, known as advancement, could help directors cover some of the lawsuit expenses.

Why is this so important?

Many corporations have included provisions in their articles of incorporation and bylaws that can limit directors' potential liability. The risk of liability, and of significant and expensive litigation, however, cannot be entirely eliminated.

If a director incurs legal or other fees, or has to pay damages related to legal or administrative proceedings arising out of actions in their corporate capacity, he or she has certain rights to be reimbursed by the company. For example, a Delaware corporation is permitted to indemnify its directors and officers against losses incurred by them as long as they had acted in good faith and in a manner they reasonably believed to be in the best interests of the corporation.

On the other hand, a Delaware corporation must indemnify directors if a court has ruled in their favor based on the facts presented and the applicable law. However, such indemnification rights can be cold comfort to a director who has to pay substantial ongoing defense fees for months or years before there is a final determination justifying indemnification.

Fortunately, the corporate law of most states allows a corporation to cover in advance the legal and other expenses incurred by...