A director’s responsibilities in serving on a corporate board are attended by substantial personal financial risks—not least of which is the specter of shareholder litigation. Exculpatory charter provisions, such as Section 102(b)(7) of the Delaware General Corporation Law, provide a basis for dismissal of certain breach of fiduciary duty claims brought derivatively by shareholders.
On May 14, 2015, in In re Cornerstone Therapeutics Inc. Stockholder Litigation,1 the Delaware Supreme Court considered interlocutory appeals from two cases2 and held that a plaintiff bringing a damages action challenging an interested transaction subject to entire fairness review must plead a non-exculpated claim against disinterested, independent directors. Indeed, this pleading standard is required “regardless of the underlying standard of review for the board’s conduct—be it Revlon, Unocal, the entire fairness standard, or the business judgment rule.”3
Specifically, if a director is protected by Section 102(b)(7)’s exculpatory charter provision, then a plaintiff must plead facts “supporting a rational inference that the director harbored self-interest adverse to the stockholders’ interests, acted to advance the self-interest of an interested party from whom [the director] could not be presumed to act independently, or acted in bad faith” in order to survive a motion to dismiss.4
Chief Justice Leo Strine, writing for the court, reasoned that Malpiede v. Townson should control, which held that “in the analogous context of review under the Revlon standard, plaintiffs seeking damages must plead non-exculpated claims against each individual director or risk dismissal.” 5 In addition, the opinion clarified that the seminal Emerald Partners v. Berlin6 decision must be understood in the context of the complicated fact pattern of that case, and should not be construed to preclude dismissal of claims even when plaintiffs have failed to plead non-exculpated claims.7 Accordingly, the Court reversed and remanded these cases to the Delaware Chancery to determine whether plaintiffs have sufficiently pled non- exculpated claims.8
In its analysis the Court acknowledged that the stringent entire fairness standard, which is applied when a board makes a decision under actual conflicts of interest, has a “powerful pro-plaintiff effect against interested parties.”9 Yet, application of the entire fairness standard “does not relieve plaintiffs seeking damages of the obligation to plead non-exculpated claims against each of the defendant directors.”10 In addition, the Court declined to accept the plaintiffs’ assertion that they were entitled to an automatic inference that a director facilitating an interested transaction is disloyal.11 Such an inference would not only contravene both a director’s right to be considered individually and the presumption of director loyalty, but it would also compromise minority stockholders’ rights in practice, as independent directors in conflicted transactions tend to negotiate more favorable deals for the minority.12
The Court took care to note the legislative purpose of Section 102(b)(7)13 and declined to validate an analytical framework, such as that adopted by the Chancery, that would incentivize independent directors to avoid serving on special committees considering transactions or to reject transactions for fear of personal involvement in protracted litigation.14
Expansively-written shareholder derivative complaints continue to entangle disinterested, independent directors. Yet the Delaware Supreme Court’s Cornerstone decision underscores the legislative purpose of exculpatory clauses by requiring, at the very least, the pleading of facts that create an inference that a director acted out of self-interest or in bad faith. Absent this pleading, individual directors will be entitled to dismissal of claims asserted against them. Cornerstone will cause courts to examine pleadings against individual directors and should provide some small measure of comfort to directors looking for an escape hatch from shareholder suits.