By now everyone knows the gory details of the debacle that was Disney's hiring and firing of Michael S. Ovitz. His 15-month tenure as president of the company was marred by botched deals, interpersonal squabbles and a struggle for power with the long-time friend who had engineered his hiring, Disney CEO Michael Eisner. By all accounts, Ovitz brought nothing but gloom to the Magic Kingdom–he was under-qualified, difficult to work with and accomplished little.

His disastrous reign at the company ended in 1996 with the board's approval of a plan to give him what many call an outrageous severance package of $140 million– about $2 million for every week he worked. Despite the amicable spin Disney tried to put on the split, the company's stock was sluggish in the wake of the termination. Naturally, shareholders were more than a little dissatisfied with the board's management of the Ovitz affair. They brought a shareholder derivative suit in January 1997 seeking to hold Disney's board liable for the losses the company sustained.

The corporate world watched as the case took an unpredictable eight-and-a-half-year rollercoaster ride. When Delaware Chief Chancery Court Judge William Chandler III finally decided the case Aug. 9, many were surprised by the result: He found the board members were exercising protected “business judgment” and were not grossly negligent in approving the severance.

But although Disney's board was in the clear, Chandler made a point of saying their conduct “fell significantly short of the best practices of ideal corporate governance,” and that the case might have gone differently had it occurred in a post-Sarbanes-Oxley world.

“Applying 21st century notions of best practices in analyzing whether those decisions were actionable would be misplaced,” Chandler wrote.

The decision leaves corporate America wondering where the standards for director liability lie in the wake of Disney. Whether directors should be breathing sighs of relief or watching their backs remains to be seen.

Off The Hook

According to the plaintiffs' counsel, this ruling practically absolves directors of all responsibility for making irresponsible business decisions.

“There is no duty of due care in Delaware,” says Steven Schulman, the partner at Milberg Weiss Bershad & Schulman who represented the shareholders. “Under the reasoning of this decision, it is legally and logically impossible to get a finding of gross negligence. You would have to prove the board members acted criminally to get any liability.”

Others see the decision as more nuanced, and not a vast departure from the way the law regarding director liability has functioned in the past. Directors are free to make the business decisions they see fit, even risky decisions that might turn out poorly, so long as they do so in “good faith” and consider all relevant information in making their decisions. That isn't a new standard.

“Courts have always given managers broad latitude to exercise business judgment and discretion,” says Bob Owen, partner and co-head of the litigation practice at Fulbright & Jaworski in New York. “This decision doesn't change that. It's still difficult for plaintiffs to prevail.”

True as that may be, observers still think Disney got off the hook fairly easily. Not all boards may be as lucky. The definition of “good faith” is hazy and subject to interpretation. No one can say for sure how badly a decision has to play out or how grossly a board has to overcompensate an executive before it will be held liable for breaching its duties to the shareholders.

“By all accounts hiring Ovitz was a horrible idea that didn't work and cost the company hundreds of millions of dollars,” says John Bielema, partner in the corporate and fiduciary litigation practice at Powell Goldstein in Atlanta. “But to get a finding that a director breached his or her duties, you need to show more than ordinary negligence and just making a dumb decision. You'd need to show the board intentionally made a decision that was not in the shareholders' best interest, or willfully made an uninformed decision.”

As comforting as that may sound to board members and GCs, the precedent-setting strength of the Disney decision is much diminished by the reference to the tougher standards boards are expected to adhere to today. Some of the language in Chandler's decision could give plaintiffs' attorneys in future shareholder derivative suits leverage to hold directors liable.

Limited Comfort

The first thing future shareholder plaintiffs will seize upon in the decision is that Chandler went out of his way to mention that the standards to which courts hold directors today are more stringent than those under which Disney's board operated.

“I don't know if it will cause plaintiffs to file more claims, but it will give them an easy way to distinguish this decision from cases arising from more recent conduct,” Bielema says. “Simply because this case was decided in the defendant's favor, plaintiffs won't shy away from filing suits to hold directors liable.”

And the Disney plaintiffs' failure may simply serve as a lesson for future plaintiffs. Instead of seeking to hold directors liable for breaching their duty of good faith–the definition of which is notoriously ephemeral–plaintiffs may now look to other sources to delineate a stricter standard of care.

“The next challenge we'll see from plaintiffs is taking the charters of board committees and trying to hold directors liable for breaching responsibilities contained in those documents,” says Sarah Wolff, chair of the litigation department at Sachnoff & Weaver in Chicago.

In addition, corporations can't look at this trial, as high profile as it was, as representative of shareholder derivative litigation in general. Delaware is a unique jurisdiction in that chancery court judges–not juries–hear shareholder claims of this nature. Having a bench trial may have worked to Disney's advantage, as juries are becoming increasingly critical of businesses and may have less of an understanding of (and sympathy for) such concepts as “the business judgment rule.”

“In virtually every other state and in the federal courts, this case would have been heard by a jury,” Schulman says. “You can't predict how a jury would rule, but we may have had a different result.”

Finally, plaintiffs may look to avenues other than litigation to make companies do their bidding. As the rising success rate of shareholder activism through proxy votes and other initiatives has shown, shareholders will find a way to flex their muscles.

“Lawsuits will be less effective than pressure on boards from the pension funds and large institutional investors,” Owen says.

The GC's Role

Regardless of Disney's win, it's inevitable that shareholders of public companies are going to seek retribution when they believe a board is behaving in a way that does not serve their best interests. But there are several steps GCs can take to avoid raising shareholders' ire in the first place and limiting the company's liability in the event they sue.

First, general counsel should serve as a conduit of information to the board in regard to both what its legal duties are and also in regard to substantive information board members need to make good business decisions that will benefit the company.

“Boards are pressing general counsel to advise them as to their responsibilities and best practices and give them the tools to implement them,” Wolff says. “The GC should help the board identify experts or outside counsel to advise them and brief the board about legal changes.”

Second, the general counsel should be present at all board meetings and monitor the board's practices and procedures for making significant decisions.

“The in-house counsel needs to be at the board meetings and help the directors get informed and consider material information,” Bielema says. “That's their duty. The in-house counsel should be there to make sure the board doesn't make snap decisions.”

Finally, the general counsel should leave a detailed paper trail about how the board reached a decision. A record of how long its meetings lasted, who advised the board and what information and analysis it took into account will be invaluable in the event that the company has to prove the board put in the requisite consideration in making a decision.

“The business judgment rule isn't about the decision directors came to, it's about the process they followed in coming to that decision,” Bielema says. “Boards must be able to prove they carefully considered everything material to the issue in question. The more you can paper the process the better.”

Ultimately, that's how Disney's directors managed to stay out of hot water. Despite the fact that the company was plagued by infighting and discontentment throughout Ovitz's employment, the board apparently did have the presence of mind to keep records of the meetings in which they discussed the terms of Ovitz's termination. And at least this time, that passes muster.

Other companies might not get off so easy, but the take-away lesson of Disney is that if the board makes an effort to become well informed on pertinent information, its decisions will not be subject to judicial criticism after the fact.

“It is easy, of course, to fault a decision that ends in a failure, once hindsight makes the result of that decision plain to see,” Chandler wrote. “But the essence of business risk [is] the application of informed belief to contingencies whose outcomes can sometimes be predicted, but never known.”

By now everyone knows the gory details of the debacle that was Disney's hiring and firing of Michael S. Ovitz. His 15-month tenure as president of the company was marred by botched deals, interpersonal squabbles and a struggle for power with the long-time friend who had engineered his hiring, Disney CEO Michael Eisner. By all accounts, Ovitz brought nothing but gloom to the Magic Kingdom–he was under-qualified, difficult to work with and accomplished little.

His disastrous reign at the company ended in 1996 with the board's approval of a plan to give him what many call an outrageous severance package of $140 million– about $2 million for every week he worked. Despite the amicable spin Disney tried to put on the split, the company's stock was sluggish in the wake of the termination. Naturally, shareholders were more than a little dissatisfied with the board's management of the Ovitz affair. They brought a shareholder derivative suit in January 1997 seeking to hold Disney's board liable for the losses the company sustained.

The corporate world watched as the case took an unpredictable eight-and-a-half-year rollercoaster ride. When Delaware Chief Chancery Court Judge William Chandler III finally decided the case Aug. 9, many were surprised by the result: He found the board members were exercising protected “business judgment” and were not grossly negligent in approving the severance.

But although Disney's board was in the clear, Chandler made a point of saying their conduct “fell significantly short of the best practices of ideal corporate governance,” and that the case might have gone differently had it occurred in a post-Sarbanes-Oxley world.

“Applying 21st century notions of best practices in analyzing whether those decisions were actionable would be misplaced,” Chandler wrote.

The decision leaves corporate America wondering where the standards for director liability lie in the wake of Disney. Whether directors should be breathing sighs of relief or watching their backs remains to be seen.

Off The Hook

According to the plaintiffs' counsel, this ruling practically absolves directors of all responsibility for making irresponsible business decisions.

“There is no duty of due care in Delaware,” says Steven Schulman, the partner at Milberg Weiss Bershad & Schulman who represented the shareholders. “Under the reasoning of this decision, it is legally and logically impossible to get a finding of gross negligence. You would have to prove the board members acted criminally to get any liability.”

Others see the decision as more nuanced, and not a vast departure from the way the law regarding director liability has functioned in the past. Directors are free to make the business decisions they see fit, even risky decisions that might turn out poorly, so long as they do so in “good faith” and consider all relevant information in making their decisions. That isn't a new standard.

“Courts have always given managers broad latitude to exercise business judgment and discretion,” says Bob Owen, partner and co-head of the litigation practice at Fulbright & Jaworski in New York. “This decision doesn't change that. It's still difficult for plaintiffs to prevail.”

True as that may be, observers still think Disney got off the hook fairly easily. Not all boards may be as lucky. The definition of “good faith” is hazy and subject to interpretation. No one can say for sure how badly a decision has to play out or how grossly a board has to overcompensate an executive before it will be held liable for breaching its duties to the shareholders.

“By all accounts hiring Ovitz was a horrible idea that didn't work and cost the company hundreds of millions of dollars,” says John Bielema, partner in the corporate and fiduciary litigation practice at Powell Goldstein in Atlanta. “But to get a finding that a director breached his or her duties, you need to show more than ordinary negligence and just making a dumb decision. You'd need to show the board intentionally made a decision that was not in the shareholders' best interest, or willfully made an uninformed decision.”

As comforting as that may sound to board members and GCs, the precedent-setting strength of the Disney decision is much diminished by the reference to the tougher standards boards are expected to adhere to today. Some of the language in Chandler's decision could give plaintiffs' attorneys in future shareholder derivative suits leverage to hold directors liable.

Limited Comfort

The first thing future shareholder plaintiffs will seize upon in the decision is that Chandler went out of his way to mention that the standards to which courts hold directors today are more stringent than those under which Disney's board operated.

“I don't know if it will cause plaintiffs to file more claims, but it will give them an easy way to distinguish this decision from cases arising from more recent conduct,” Bielema says. “Simply because this case was decided in the defendant's favor, plaintiffs won't shy away from filing suits to hold directors liable.”

And the Disney plaintiffs' failure may simply serve as a lesson for future plaintiffs. Instead of seeking to hold directors liable for breaching their duty of good faith–the definition of which is notoriously ephemeral–plaintiffs may now look to other sources to delineate a stricter standard of care.

“The next challenge we'll see from plaintiffs is taking the charters of board committees and trying to hold directors liable for breaching responsibilities contained in those documents,” says Sarah Wolff, chair of the litigation department at Sachnoff & Weaver in Chicago.

In addition, corporations can't look at this trial, as high profile as it was, as representative of shareholder derivative litigation in general. Delaware is a unique jurisdiction in that chancery court judges–not juries–hear shareholder claims of this nature. Having a bench trial may have worked to Disney's advantage, as juries are becoming increasingly critical of businesses and may have less of an understanding of (and sympathy for) such concepts as “the business judgment rule.”

“In virtually every other state and in the federal courts, this case would have been heard by a jury,” Schulman says. “You can't predict how a jury would rule, but we may have had a different result.”

Finally, plaintiffs may look to avenues other than litigation to make companies do their bidding. As the rising success rate of shareholder activism through proxy votes and other initiatives has shown, shareholders will find a way to flex their muscles.

“Lawsuits will be less effective than pressure on boards from the pension funds and large institutional investors,” Owen says.

The GC's Role

Regardless of Disney's win, it's inevitable that shareholders of public companies are going to seek retribution when they believe a board is behaving in a way that does not serve their best interests. But there are several steps GCs can take to avoid raising shareholders' ire in the first place and limiting the company's liability in the event they sue.

First, general counsel should serve as a conduit of information to the board in regard to both what its legal duties are and also in regard to substantive information board members need to make good business decisions that will benefit the company.

“Boards are pressing general counsel to advise them as to their responsibilities and best practices and give them the tools to implement them,” Wolff says. “The GC should help the board identify experts or outside counsel to advise them and brief the board about legal changes.”

Second, the general counsel should be present at all board meetings and monitor the board's practices and procedures for making significant decisions.

“The in-house counsel needs to be at the board meetings and help the directors get informed and consider material information,” Bielema says. “That's their duty. The in-house counsel should be there to make sure the board doesn't make snap decisions.”

Finally, the general counsel should leave a detailed paper trail about how the board reached a decision. A record of how long its meetings lasted, who advised the board and what information and analysis it took into account will be invaluable in the event that the company has to prove the board put in the requisite consideration in making a decision.

“The business judgment rule isn't about the decision directors came to, it's about the process they followed in coming to that decision,” Bielema says. “Boards must be able to prove they carefully considered everything material to the issue in question. The more you can paper the process the better.”

Ultimately, that's how Disney's directors managed to stay out of hot water. Despite the fact that the company was plagued by infighting and discontentment throughout Ovitz's employment, the board apparently did have the presence of mind to keep records of the meetings in which they discussed the terms of Ovitz's termination. And at least this time, that passes muster.

Other companies might not get off so easy, but the take-away lesson of Disney is that if the board makes an effort to become well informed on pertinent information, its decisions will not be subject to judicial criticism after the fact.

“It is easy, of course, to fault a decision that ends in a failure, once hindsight makes the result of that decision plain to see,” Chandler wrote. “But the essence of business risk [is] the application of informed belief to contingencies whose outcomes can sometimes be predicted, but never known.”