Offices and Directors Category Archives — Kang Haggerty News Published By Kang Haggerty LLC

Kang and Kovalsky Present CLE for Strafford Publications: D&O Indemnification Provisions in Corporate Governance Documents: Implementing 2020 DOJ Guidance

Kang Haggerty LLC — Tue, 17 Nov 2020 18:00:05 +0000

This CLE webinar will provide corporate counsel with guidance for drafting director and officer (D&O) indemnification provisions in bylaws, LLC operating agreements, limited partnership agreements, and other governance documents as well as contractual indemnification agreements. The panel will also discuss how indemnification provisions interact with a company’s D&O insurance policies. Panelists include Kang Haggerty managing member Edward T. Kang and Kang Haggerty member Kandis L. Kovalsky, with Brian H. Mukherjee, Counsel, Goodwin Procter.

D&O Indemnification Provisions in Corporate Governance Documents: Implementing 2020 DOJ Guidance is presented by Strafford Publications. The webinar will take place Tuesday, November 17^th from 1-2:30 pm EST.

Legal Intelligencer: Do Directors of a Board Have Access to the Company’s Privileged Materials?

Edward T. Kang — Thu, 16 May 2019 18:41:11 +0000

What happens when a dispute is between or among directors of the same company? Can the company use the attorney-client privilege to shield corporate materials, including any attorney-client privileged materials against a director?

Shareholder disputes often implicate a director’s right to the company’s privileged materials.

In many business divorce cases involving close corporations (or closely held corporations), a shareholder who brings an action is often also a director of the company. The shareholder/director who brought the lawsuit frequently faces resistance from the other shareholders/directors and company about the limits of his access to the privileged materials. Compared to his rights as a shareholder (who has limited rights of inspection), however, a director has almost unlimited rights to access all company materials, including all privileged materials. With two exceptions limiting a director’s access—a situation involving specific agreements by shareholders (e.g., carve-out provision in the shareholders’ agreement) that limits a shareholder/director’s access or a dispute over the director’s access to the privileged communications between counsel and a special committee formed by the board to deal with the director’s demand or action—the director has unlimited access to all privileged materials. In other words, a dissident director who brings a lawsuit against the controlling shareholders/directors (or the company) has equal access to the privileged materials as the controlling shareholders/directors.

Delaware follows joint client approach for directors.

Under Delaware law, a corporation cannot assert the attorney-client privilege to deny the former director access to legal advice furnished to the company during the director’s tenure, as in Moore Business Forms v. Cordant Holdings, C.A. No. 13911, (Del. Ch. June 4, 1996). Under Delaware law, all directors should be treated as a “single client” when legal advice is rendered to the corporation. This is because “the directors are all responsible for the proper management of the corporation, and it seems consistent with their joint obligations that they be treated as the ‘joint client’ when legal advice is rendered to the corporation through one of its officers or directors,” as in Kirby v. Kirby, C.A. No. 8604 (Del. Ch. July 29, 1987). “Because the attorney-client privilege belongs to the client, it would be perverse to allow the privilege to be asserted against the client.”

As one court explained, “the rationale for Delaware’s rule is that the board of directors, in its capacity as the governing entity for a corporation, is equivalent to the corporation. Thus, a privilege proper to the corporation cannot be asserted against a person who, at the time, was himself properly representing and, indeed, in some sense, was the corporation,” see Dow Chemical v. Reinhard, (E.D. Mich. May 30, 2008). Compare Schnatter v. Papa John’s International, (Del. Ch. Feb. 25, 2019) (noting a “recognized limitation on a director’s ability to access privileged information” where “a board can act pursuant to 8 Del. C. Section 141(c) and openly with the knowledge of [the excluded director] to appoint a special committee,” in which case “communications with that counsel would be properly protected, at least to the extent necessary for the committee’s ongoing work.”).

Accordingly, for Delaware corporations, with the very limited exceptions as noted above, a director has unfettered access to all privileged materials between the company and counsel during his tenure as a director of the company.

Pennsylvania federal courts follow a similar approach..

In Pennsylvania, too, while not as protective of directors as Delaware law, case law has provided some insight as to the extent of attorney-client privilege where a director seeks the privileged materials of the company in a shareholder dispute. In Gregory v. Correction Connection, (E.D.Pa. Nov. 20, 1990), a shareholder-director, Dick Gregory, brought suit against other shareholders/directors Larry D. Depte and Sandra L. Henderson, for trying to dilute Gregory’s majority share, coercing him to sell his stock back to the company, and attempting to gain and consolidate control of the company. Gregory moved to compel the defendants to disclose the contents of their communications with corporate counsel; while the defendants “did not contest the relevancy of the discovery that Gregory sought,” they argued that the nature of the communications protected them under attorney-client privilege. The court found in favor of Gregory—where inanimate entities, like corporations, were concerned, “the power to waive the corporate attorney-client privilege rests with the corporation’s management and is normally exercised by its officers and directors.” Gregory, as a member of the board of directors, was “entitled to be privy to communications between CCI’s management and CCI’s counsel,” being an “extension of the very ‘client’ that CCI’s attorney-client privilege serves.” Accordingly, the court ordered Depte and Henderson to produce the documents.

Interestingly, the court also said while Gregory may choose to waive the company’s attorney-client privilege by disclosing in public filings the privileged materials, the company and its shareholders would have an action for breach of fiduciary duty if such disclosure is not in the best interest of the company. The statement seems to reinforce the well-known principle that a director owes a fiduciary duty to the company. That is, while the director has access to the privileged materials, the director must still exercise his right to access the privileged materials with a fiduciary duty to the company. Stated another way, while the company may have a claim against a director who abuses his right to access the privileged materials if the company suffers harm, the company may not use the hypothetical harm to prevent the director access in the first place.

Another court in the Eastern District of Pennsylvania reached a similar result in Carnegie Hill Financial v. Krieger, (E.D. Pa. Jan. 5, 2000). In that case, the plaintiffs-companies brought an action against their former shareholders/directors for, among others, breach of fiduciary duty. The defendants-shareholders/directors sought to obtain documents from the companies’ counsel relating to their representation. While the plaintiffs invoked attorney-client privilege on these documents, the defendants argued that “the assertion of attorney-client privilege for documents addressed to defendants Dale Krieger and Richard Ruderman in their capacity as officers and directors of the plaintiff corporations is inappropriate.” In the question of whether former directors had the right to privileged documents in the context of litigation brought by the corporation against these former directors, the court effectively upheld the ruling in Gregory in finding that Krieger and Ruderman, as the directors of the board of the companies, were agents of the companies and entitled to communications between counsel and the companies.

Conclusion

As I noted in my last article, the attorney-client privilege is an exception to the general rule that relevant evidence is admissible. Unfortunately, too many times, some lawyers who represent controlling shareholders/directors improperly assert the attorney-client privilege against a dissident shareholder/director who brings a lawsuit against the controlling shareholders/directors. These lawyers generally side with the shareholders/directors who control the company and forget that the plaintiff shareholder/director remains a director and is entitled to the rights of a director. As the court stated in Krieger, even a former director enjoys the same rights as relates to the privileged materials shared during his tenure as a director. Lawyers representing corporations should be reminded about their ethical duties, especially in a situation where a dissident shareholder/director brings a derivative lawsuit against the controlling shareholders/directors. Before siding with the controlling shareholders/directors immediately, counsel should recognize that a dissident shareholder/director has the equal right to the privileged materials as the controlling shareholders/directors and think before asserting the privilege.

Edward T. Kang is the managing member of Kang Haggerty LLC. He devotes the majority of his practice to business litigation and other litigation involving business entities.

Reprinted with permission from the May 16, 2019 edition of “The Legal Intelligencer” © 2019 ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-257-3382 or reprints@alm.com.

Edward Kang writes on finding a Niche Defending against Business Betrayals for the ABA’s Law Practice Today

Kang Haggerty LLC — Fri, 15 Mar 2019 17:46:58 +0000

“As part of my business divorce practice, I often represent one owner against other owners. People who may have once been close friends or family members now turn into ugly, bitter enemies. What started as a company with shared goals and vision has dissipated into a pool of litigation,” writes Kang Haggerty managing member Edward T. Kang in the March 2019 edition of the American Bar Association’s Law Practice Today (LPT) webzine. In Finding a Niche Defending against Business Betrayals, Kang discusses his firm’s niche practice representing Officers and Directors in these often-complicated business disputes.

The feature article is part of this month’s niche practices-themed issue of LPT, an online publication of the ABA’s Law Practice Division distributed to nearly 500,000 lawyers and law students each month. Learn more at www.lawpracticetoday.com.

Legal Intelligencer: Defending Officers and Directors From a Lawsuit by the Company

Edward T. Kang — Mon, 07 Jan 2019 17:49:29 +0000

In the January 3, 2019 edition of The Legal Intelligencer, Edward Kang, Managing Member of Kang Haggerty wrote “Defending Officers and Directors From a Lawsuit by the Company.”

When a corporate director or officer is sued by a third party for alleged misconduct carried out in her capacity as director/officer, the company generally indemnifies the director/officer by defending her against the lawsuit. The company’s duty of indemnification arises from both the law and governing corporate documents (e.g., articles of incorporation, bylaws or employment agreement). While there are limited exceptions to the company’s duty of indemnification—e.g., the director/officer acted in her personal capacity or that she acted in bad faith against the interest of the company—the duty of indemnification is broad. The company must defend the director/officer, at least until the court determines otherwise. What protection does a corporate director/officer have, however, if the person suing her is the company itself?

A company sues its officer or director more frequently than many people think. The company could bring a direct lawsuit against an officer or director for a breach of fiduciary duty (e.g., alleged self-dealing). Sometimes, a shareholder could bring a derivative lawsuit under the company’s name against the officer or director.

Indemnification Provision Under the Law

In addition to providing an indemnification provision for an officer or director against a third-party lawsuit, the Pennsylvania Business Corporation Law also provides one for a lawsuit brought by the company, see 15 Pa.C.S.A. Section 1742. Although a corporation may restrict its duty of indemnification for an officer or director in its bylaws, the corporation must indemnify the person if the person successfully defends against the corporate action on the merits, 15 Pa.C.S.A. Section 1743. Even if the person is ultimately held liable to the company, the court could still order indemnification of the person if the court finds that “despite the adjudication of liability [against the officer or director] but in view of all the circumstances of the case, the person is fairly and reasonably entitled to indemnity for the expenses that the court of common pleas or other court deems proper.” The statute does not define under what “circumstances” the court may require indemnification even when the person is held liable to the company. But the court is likely to require indemnification only when it finds that the officer “acted in good faith and in a manner he reasonably believed to be in, or not opposed to, the best interests of the corporation,” 15 Pa.C.S.A. Section 1741 (relating to indemnification for third-party actions).

Delaware law offers similar indemnification provisions. Under the Delaware General Corporation Law, although a company’s duty to indemnify a corporate officer or director from the company’s action against the person can be limited by its bylaws and the duty applies only when “the person acted in good faith and in a manner the person reasonably believed to be in or not opposed to the best interests of the corporation,” the company must indemnify the person if the court finds that “despite the adjudication of liability but in view of all the circumstances of the case, such person is fairly and reasonably entitled to indemnity for such expenses which the Court of Chancery or such other court shall deem proper,” Del. Code Ann. tit. 8, Section 145(b).

Advancement Obligations

In addition to indemnification obligations, a company could be required to advance legal expenses to its officer or director during the lawsuit it brought against the person. That is, a company could be required to advance to its officer or director legal expenses incurred in defending against the company’s lawsuit. Courts treat the advancement obligation separate from the indemnification obligation. Under Pennsylvania law, “expenses (including attorney fees) incurred in defending any action or proceeding referred to in this subchapter may be paid by a business corporation in advance of the final disposition of the action or proceeding upon receipt of an undertaking by or on behalf of the representative to repay the amount if it is ultimately determined that he is not entitled to be indemnified by the corporation as authorized in this subchapter or otherwise,” 15 Pa.C.S.A. Section 1745. The statute goes on to state that “except as otherwise provided in the bylaws, advancement of expenses shall be authorized by the board of directors.” “Sections 1728 (relating to interested directors or officers; quorum) and 2538 (relating to approval of transactions with interested shareholders) shall not be applicable to the advancement of expenses under this section.” Accordingly, as long as the governing documents (e.g., bylaws) provide an advancement obligation for an officer or director, the corporation must provide advancement of legal expenses upon the corporation’s receipt of an undertaking by the person to repay the advancement if it is ultimately determined that the person is not entitled to indemnification. Interestingly, the decision to make advancement is solely with the board of directors (not shareholders) even if the board includes an interested board member who is being sued by the corporation.

Delaware law is more favorable to officers and directors than Pennsylvania law. Like under Pennsylvania law, a corporation, at the board’s decision, may advance legal expenses to a corporate officer or director in defending against the corporation’s action against him. Under Delaware law, however, the duty of make advancement—assuming that the governing document provides for advancement—includes not only for legal expenses incurred by the officer in “defending” against the action brought by the corporation, but also legal expenses incurred by the officer in asserting counterclaims against the corporation in the same lawsuit, see Citadel Holding v. Roven, 603 A.2d 818, 824 (Del. 1992). In ruling that the corporation must advance legal expenses incurred by the person for pursuing his counterclaims against the corporation, the Delaware Supreme Court stated “certain claims must be asserted” under the compulsory counterclaim rule (FRCP 13) and, therefore, the corporation had to advance legal expenses to the officer. The duty of advancement for legal expenses incurred for asserting counterclaims is critical since an officer would likely have a counterclaim relating to the dispute underlying the company’s lawsuit.

Delaware law is also more favorable to officers or directors regarding advancement in another way. Unlike Pennsylvania law, Delaware law allows a summary proceeding to require a corporation to comply with its advancement obligations promptly, Del. Code Ann. tit. 8, Section 145(k) (“The Court of Chancery may summarily determine a corporation’s obligation to advance expenses (including attorneys’ fees).” The entire summary proceeding takes only a few months. Summary proceeding is invaluable as, without such procedure, it could take years before an officer or director could receive her “advancement” of legal fees, which would defeat the purpose of advancement. See VonFeldt v. Stifel Financial, 714 A.2d 79, 84 (Del. 1998) (“We have long recognized that Section 145 serves the dual policies of: allowing corporate officials to resist unjustified lawsuits, secure in the knowledge that, if vindicated, the corporation will bear the expense of litigation; and encouraging capable women and men to serve as corporate directors and officers, secure in the knowledge that the corporation will absorb the costs of defending their honesty and integrity.”).

Pennsylvania does not have a statutory summary proceeding like Delaware. Given Pennsylvania’s tendency to adopt Delaware’s leading corporate law, it would not be a surprise for Pennsylvania to adopt a similar proceeding in the future.

Conclusion

Litigation between a corporation and its officer or director is common. Unlike in a derivative lawsuit where a corporation’s interest and that of the officer/director could be aligned, in a direct corporate action against its officer/director, the corporation’s interest and the person’s interest will likely be adversarial. Litigation like that is frequently unfair to officers or directors as the company has many advantages over the persons, including the financial wherewithal and access to evidence. Officers and directors will need as much protection as possible. Practitioners who represent officers or directors should consider the following before any dispute with the company arises. Officers should seek the broadest indemnification language possible in the bylaws and employment agreement, if applicable. Such language should state that the company must indemnify the officer to the “fullest extent of the law.” They should also seek mandatory advancement language in the governing document. Ideally, officers or directors should also seek supplemental coverage, such as D&O policies. Practitioners who are defending officers or directors against the company’s lawsuit should immediately demand both indemnification and advancement from the company. Under appropriate circumstances, the company could be required to advance legal expenses incurred not only for defending against the lawsuit but also for prosecuting her counterclaims against the company.

Edward T. Kang is the managing member of Kang Haggerty LLC. He devotes the majority of his practice to business litigation and other litigation involving business entities.

Reprinted with permission from the January 3, 2019 edition of “The Legal Intelligencer” © 2019 ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-257-3382 or reprints@alm.com.

“Act 170 Changes the Business Landscape in Pennsylvania” by Edward T. Kang | Legal Intelligencer

Kang Haggerty LLC — Thu, 27 Apr 2017 21:06:41 +0000

Act 170 Changes the Business Landscape in Pennsylvania

Act 170 effects significant change to the litigation landscape for both practitioners and LLC members. In this Legal Intelligencer publication, Edward Kang discusses the rights of a limited liability company (LLC) member to sue other members either directly or derivatively on behalf of the company. Edward discusses the previous statutory scheme, and details the substantive and procedural changes brought by Act 170, including the expanded rights of a member to bring a direct action, the enactment of a universal demand requirement for derivative actions, and the effect of newly-required special litigation committees. Check out this article online to consider Edward’s analysis of how Act 170 alters LLC litigation practice.