Thursday, December 19, 2013

Kentucky Supreme Court Addresses of Scope of Corporate Director’s Statutory Fiduciary Duties

Kentucky Supreme Court Addresses the Scope of Corporate Directors Fiduciary Duties and Limitations on Culpability
      Earlier today the Kentucky Supreme Court issued its long-awaited decision in the case now styled Baptist Physicians Lexington, Inc. v. The New Lexington Clinic, P.S.C., which case had previously been styled The New Lexington Clinic, P.S.C. v. Cooper.  Therein, the Kentucky Supreme Court provided useful guidance with respect to when the statutory formula for a director’s fiduciary duties, as well as the limits upon culpability, set forth in KRS § 271B.8-300 are and are not applicable.  Baptist Physicians Lexington, Inc. v. The New Lexington Clinic, P.S.C., 2012-SC-000242-DG, 2013 WL 6700209 (Ky. Dec. 19, 2013).  This opinion, which is designated for publication, was a unanimous decision of the Supreme Court.  The author of the opinion was Justice Abramson.
      Drs. Cooper, McKinney and Winkley, each a shareholder in and director of The New Lexington Clinic, P.S.C. (the “NLC”), were recruited to join a competing healthcare provider.  After agreeing to join the new venture, however, they did not immediately tender their resignations, but remained for a significant period of time directors able to access the financial information of NLC, and it is asserted, provide that information to their new employer.  Also, after having agreed to leave NLC, but before giving notice of doing so, some or all of the physicians solicited other employees of NLC to ultimately depart with them.  After those departures, NLC brought suit against the physicians alleging breach of fiduciary duties, but without making any reference to KRS § 271B.8-300.  Rather, they relied upon common law fiduciary duties owed a corporation, duties previously accepted to be part of Kentucky law under the Aero Drapery and Steelvest decisions.  The trial court granted summary judgment, primarily (at least for these purposes) on the basis that the complaint failed to cite and therefore state a claim under KRS § 271B.8-300.  That decision was affirmed by the Court of Appeals.
      The Supreme Court granted discretionary review and heard oral arguments on March 14 of this year.  As I here summarized on March 19, on behalf of the Defendants, it was argued that:
·                     KRS § 271B.8-300 sets forth the only fiduciary duties of a director of a Kentucky business corporation and also specifics the threshold of culpability for asserting damages against a director for breach thereof; and
·                     There is no causal linkage between any violation that may have occurred and the damages now claimed by the Plaintiff.
      In contrast, the Plaintiffs argued that:
·                     Under the modern Rules of Civil Procedure, it is not necessary to cite the statutory basis of the claim;
·                     Even if KRS § 271B.8-300 is the exclusive statement of a director’s fiduciary duty and the limits on a monetary claim for breach of those duties, the limits do not apply when the violation of duty does not take place in the course of discharging the duties of a director.
      Essentially, the Supreme Court has here agreed with the arguments of The New Lexington Clinic stating:
Contrary to the lower courts’ conclusions, KRS 271B.8-300 does not abrogate common law fiduciary duty claims against directors in Kentucky but essentially codifies a standard of conduct and a standard of liability for directors that is derived from business judgment rule principles.  As it explicitly states, the statute applies to “any action taken as a director” and “any failure to take any action as a director.”  Preparing for and participating in a competing venture does not constitute the internal corporate governance conduct addressed in KRS 271B.8-300 and consequently the statute does not apply.  Slip op. at 2.
       With respect to the standards applicable to a corporate director in the discharge of their obligations on behalf of the corporation, the Court held, inter alia, that the statutory formula is the exclusive standard, writing:
[KRS 271B.8-300] codifies both the standard of conduct applicable to a director and the circumstances in which the director can be held liable for monetary damages or subjected injunctive relief.  Significantly, subsection (5) limits a corporate director’s liability but it does so only in the context of “any action taken as a director or any failure to take any action as a director.”  In short, when acting in his or her directorial capacity, a director must comply with the statutory standard of conduct.  If he fails to do so, injunctive relief is available and if the conduct at issue is willful, misconduct or reflects wanton or reckless disregard for the corporation and its shareholders, then monetary damages may also be recovered.
Looking at the other side of the coin, the Court wrote:
But just as clearly, [271B.8-300(5)] does not purport to address circumstances where a director is acting, not in his capacity as a director, but in his own individual interest with respect to a matter beyond the conduct of the corporation’s business, even if that extra-corporate matter may have some impact on the corporation.  If a director is acting on his own accord in anticipation of competing with the corporation which he still serves, that conduct implicates the director’s common law fiduciary duties, not KRS 271B.8-300.
            I do have one small quibble with this decision based upon a small apparent conflict with the Supreme Court’s decision in Ballard v. 1400 Willow (Nov. 21, 2013).  Specifically, the decision rendered in Baptist Physicians Lexington provides:
Kentucky Courts have long recognized that corporate directors owe fiduciary duties to the corporation and its shareholders, duties emanating from common law.  Slip op. at 7, 2013 WL 6700209, *4.
In support thereof, there was cited the decision rendered in Urban J. Alexander Co. v. Trinkle, 224 S.W.2d 923, 926 (1949).  My concern is that the statement that corporate directors owe fiduciary duties to the “shareholders” may create an undesirable conflict with the decision rendered in Ballard v. 1400 Willow wherein the Kentucky Supreme Court interpreted the provision of the Nonprofit Corporation Act that is identical to KRS § 271B.8-300(1) to the effect that the director’s fiduciary duties are owed to the corporate entity and not to the individual shareholders.  Ballard v. 1400 Willow, slip op. at 20, 21.  That said, accepting that the statement in Baptist Physicians Lexington as to who is the beneficiary of the board’s fiduciary duty is dicta, while it is Ballard v. 1400 Willow a core component of the case as holding, the apparent conflict may be avoided.  That being the case, there is preserved the distinction between the two decisions, namely Ballard v. 1400 Willow addressing to whom the director’s fiduciary duties are owed while Baptist Physicians Lexington addresses when the statutory definition of the fiduciary duties owed and the application of the limitations on culpability for breach thereof are applicable.

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