During the last five years, while plaintiffs and the Delaware courts have been expanding the litigation risks for the compensation decisions of non-employee directors, the Delaware courts also have been expanding their scrutiny of the disinterested status of directors. Seasoned* executive compensation professionals may recall—in the days before this Blog—attempts to characterize certain non-employee directors as lacking independence because of their friendship or personal relationship with the company’s CEO. Most notably, in Beam v. Stewart, 845 A.2d 1040, 1048 (Del. 2004) [Martha Stewart Omnimedia], the Delaware courts rejected this approach, finding that “mere allegations that they move in the same business and social circles, or a characterization that they are close friends, is not enough to negate independence for demand excusal purposes.”

I previously blogged on this issue in November 2015, describing the decision in Delaware County Employees Retirement Fund v. Sanchez, 124 A.3d 1017, 1020 (Del. 2015) Some Clarification on Director Independence in Litigation. In Sanchez, the Delaware Supreme Court distinguished the case from Stewart and found that close personal and financial relationship between a non-employee director and the Chairman of the Board, who was the beneficiary of a related-party transaction, could create an inference that a director lacks independence for the purpose of demand excusal. In Sanchez, the director in question not only was a friend of 50 years, but his full-time job (and the job of his brother as well) “was as an executive at a subsidiary of a corporation over which Chairman Sanchez has substantial influence, as the largest stockholder, director, and the Chairman of an important source of brokerage work.”

More recently, in December 2016, the Delaware Supreme Court, sitting en banc reversed the decision of the Delaware Court of Chancery, which had dismissed a shareholder derivative suit for the failure to satisfy the demand requirement. In Sandys v. Pincus, the Court found that at least five of the non-employee directors were not necessarily independent, and therefore, the burden to prove independence shifted to the defendants. Of these, two had been involved in the transaction that was the subject of the lawsuit (these two were easy), one was the co-owner of a private airplane and “close family friends” with Pincus (the controlling stockholder and former Chairman and CEO), and two were partners at a large private equity firm that had “a mutually beneficial network of ongoing business relations with Pincus and (another director named in the lawsuit) that they are not likely to risk by causing Zynga to sue them.” With respect to these last two, the Court also found it persuasive that the company’s own public disclosures stated that the board had determined that they do not qualify as independent directors under the NASDAQ Listing Rules.

None of these cases involved executive or director compensation. However, in many (and, probably, soon to be more) of the recent cases that involve executive or director compensation, the independence of non-employee directors is at the core of many of the defendants’ motions to dismiss.

Might be a good time to review the “independence” of your directors more closely.

* That sounds better than “old folks like me,” doesn’t it?