Director Reliability, Board Independence and the Delaware Courts: In re Goldman Sachs (An Unfortunate Jurisprudential Trend; Part 7)
We are discussing In re Goldman Sachs and the exceptions carved out of the definition of director independence by the Delaware courts. These exceptions permit the designation of candidates who, while characterized as "independent," are in fact likely to be "reliable" supporters of management's policies. See Essay: Neutralizing the Board of Directors and the Impact on Diversity
The analysis in Goldman continues an unfortunate trend in the jurisprudence arising out of Delaware. The courts have accepted the proposition that boards can receive considerable deference in their decision making if inhabited by a majority of independent directors. This is particularly true with respect to decisions under the duty of loyalty. Boards with a majority of independent directors are not obligated to show the fairness of the transaction but instead are given the benefit of the almost insurmountable presumption of the business judgment rule.
The approach is flawed because it assumes away the influence of the interested director and any directors subject to his or her control. But even without this concern, the approach is built around the idea that boards possess directors who are indifferent enough to the position that they can risk the irritation of management (and the possible loss of the position) in order to protect the interests of shareholders.
Delaware courts, however, already treat as independent directors who have considerable incentive to "reliably" support management. These are directors who are friends of management or who receive substantial fees. Goldman stretched the analysis even further to include as independent directors who sit on the boards of exempt organizations even where their exempt organization receives substantial contributions from the company. Similarly, directors will be treated as independent even if they serve as an officer, principle, or manager of another entity that receives or obtains hundreds of millions of dollars of business from the company.
Goldman, like Disney before it, shows that the term "independent" is mostly an arbitrary term that does not at all ensure the protection of the interests of shareholders. The inevitable result of this system of jurisprudence will be further preemption of Delware law. Already Congress has transferred some authority to the SEC to define the factors that boards of listed companies must consider in determining director independence. Eventually it will be the federal definition that will matter more than the state one.
Those who favor leaving governance issues at the state level should be the most concerned about this approach to jurisprudence. In re Goldman represents a short term victory for management and a long term loss for Delaware.
Primary materials, including the decision in the case, can be found at the DU Corporate Governance web site.