Ordinarily the business judgment rule insulates directors from mistakes in business judgment provided that certain conditions are met. In California nonprofit mutual benefit corporations, a director who performs his or her duties in accordance with the rule has no liability based on any failure to discharge his or her obligations as a director provided he or she performs “the duties of a director, including duties as a member of any committee of the board upon which the director may serve, in good faith, in a manner such director believes to be in the best interests of the corporation and with such care, including reasonable inquiry, as an ordinarily prudent person in a like position would use under similar circumstances.”
There is a potential split in California authority with regard to whether a director can claim the protection of the business judgment rule as a defense where the director’s conduct violates the corporation’s governing documents. The California Court of Appeals in Palm Springs Villas II Homeowners Ass’n, Inc. v. Parth, 2016 Cal. App. LEXIS 485 (June 21, 2016), decided a director’s conduct contrary to the corporation’s governing documents may preclude use of the business judgment rule as a defense. A 2002 Court of Appeals decision in Biren v. Equality Emergency Medical Group, Inc., 102 Cal. App. 4th 125 had concluded that a violation of a corporation’s governing documents “did not by itself make the business judgment rule inapplicable.” The Court of Appeal in Parth distinguished the decision in Biren on the grounds that the director in Biren met the other conditions to the business judgment rule while in Parth it found issues of fact as to whether those other conditions were met.
These cases illustrate the need of directors to review the corporate governing documents (Articles of Incorporation and Bylaws), before making a decision or taking any action on behalf of the corporation. We suggest that directors consult with legal counsel before they engage in actions that may violate the corporation’s governing documents. If in doubt, make that telephone call. The corporate documents can potentially be amended to permit such action, provided legal analysis of the governing documents reveals that a director’s prospective action would be questionable or forbidden.
The information presented is not intended to be, and does not constitute, “legal advice.” Because each situation varies, and only brief summary information is provided here, you should not use this information as a basis for action unless you have independently verified with your own counsel that it applies to your particular situation.
Leave a Reply