Directors and officers are considered fiduciaries of corporations. As fiduciaries, the directors and officers must comply with specific fiduciary duties including the duty of care and the duty of loyalty. Based on the business judgment rule, as long as directors and officers comply with these fiduciary duties in guiding corporate management and making corporate decisions they will not be liable to the corporation or its shareholder, even though certain business decisions may not lead to success. However, as corporate fiduciaries, directors and officers should try to maximize corporate profits and the wealth of their stockholders.
Question:
Read the scenario below. Then, discuss whether you believe the business judgment rule would apply to each of the corporate directors and the president discussed within the scenario, should shareholders of the corporation decide to file a lawsuit. Explain why. State any assumptions you have made.
Scenario:
John, Mary, and Bart are directors of the Health-Tech Corporation, which is a small company specializing in the design, manufacture, and sale of geriatric equipment including walkers, wheelchairs, and lift chairs. These are unpaid director positions. The corporation has seen weak growth over the last five years, and shareholders have received dividends on their stock for only two of the last five years. John is an accountant who has several clients in the health equipment business, Mary is a registered nurse involved with purchasing of geriatric equipment at a local nursing home, and Bart is Vice President of a local bank that often loans money to the corporation.
The corporation has been suffering from heavy employee turn-over in the design division of the company and needs to find qualified people to replace the employees that have left. The corporate President has presented the directors with a proposal to authorize college scholarships to mechanical engineering students who agree to work for the company for five years after graduation. By granting the scholarships, the corporation is not likely to have money available to provide dividends to shareholders for the next four years.
The President has assumed, based on analysis by the corporate finance department, that once the students receiving the scholarships begin working at the corporation profits will increase and dividends will once again be made. The corporate President recommends a favorable vote, but does not tell the directors that he hopes to obtain one of the scholarships for his child who will be entering college as a mechanical engineering student. John just returned from a European trip and rushed to the meeting as soon as his plane landed. John did not have time to review the corporate finance department analysis before the meeting, but he is buddies with the President and respects his opinion, so he votes yes.
Mary hopes that by continuing as an unpaid director of the corporation and voting yes that she will be able to capitalize on her favorable decision-making and receive discounts on the purchase of geriatric equipment she may make in the future on behalf of the nursing home. Although Bart secretly hopes that the corporation will borrow more money from his bank in order to provide the scholarships, Bart is concerned that the shareholders will not receive dividends for the next four years and states his concern at the meeting. Bart votes no. The vote is 2-1 and the scholarships are authorized. The shareholders are threatening to sue.