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last updated 31-Oct-2003

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Fiduciary Duties - Business Judgment Rule

  • Nature of "rule"
    • presumption of informed, good faith judgment
    • burden on challenger to overcome
    •  exceptions / rebut presumption
    •  (1) fraud
    •  (2) conflicting personal interest
    •  (3)  illegality
    •  (4) lack of attention
  • Justifications for "rule"
    • shareholder delegation
    • non-judicial interference
      management risk-taking

Daily Thoughts

"When cryptography is outlawed, bayl bhgynjf jvyy unir cevinpl."

Can you break the code?

Hint:  Line up each half of the alphabet

abcdefghijklm
nopqrstuvwxyz

Strong Young Man

The strong young man at the construction site was bragging that he could outdo anyone in a feat of strength. He made a special case of making fun of one of the older workmen. After several minutes, the older worker had had enough. "Why don't you put your money where your mouth is?" he said. "I will bet a week's wages that I can haul something in a wheelbarrow over to that building that you won't be able to wheel back." "You're on, old man," the young guy replied. The old man reached out and grabbed the wheelbarrow by the handles. Then he turned to the young man and said, "Alright. Get in."

Problems

First Continental S&L is in its death throes.  It has a portfolio of old home mortgages that return, on average, 5.6% in interest payments.  As a result of the recent run-up in interest rates, the S&L must pay its depositors interest rates that average 6.9%.  That is, the S&L is forced to pay out more than it is bringing in.  To remedy this impossible situation, the bank directors have brought in a new chief executive -- known to all as “J.R.”  Within days of coming on, J.R. begins to borrow federal moneys and invest the S&L’s funds in high-risk, high-return real estate ventures.  Eventually, the ventures are flops and the S&L goes bankrupt.  Federal deposit insurance agencies sue the directors for their stupidity in bringing on J.R. and letting him do what he did.

Party A(feds) The directors’ lack of oversight and outrageous risk-taking are not protected by the business judgment rule.

Party B(Directors) The directors’ lack of oversight and outrageous risk-taking are protected by the business judgment rule.

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