One of corporate law’s most fundamental principles is that directors are not liable for an honest mistake of business judgment. Known as the business judgment rule (BJR), this doctrine is both a rule of substantive law and often the source of procedural burdens that shareholders and others seeking to challenge a decision by a corporation’s board must overcome. The Wisconsin Supreme Court recently considered the latter context in Data Key Partners v. Permira Advisers LLC.1 In light of that decision, this article reviews the multiple dimensions of the BJR in Wisconsin.
Different Wording; Same Result?
Wisconsin courts have embraced the BJR for more than a century.2 By 1929, Justice Rosenberry could cite several Wisconsin decisions for the proposition that “[c]ourts will not interfere in the internal management of corporate affairs, in the absence of allegations clearly disclosing abuse of power by corporate officers, bad faith, or willful abuse of discretion or positive fraud.”3
Judicial formulations of the BJR have varied over the years. The supreme court’s most recent restatement of the rule came in Einhorn v. Culea,4 in which Chief Justice Abrahamson described the rule as “a judicially created doctrine that limits judicial review of corporate decision-making when corporate directors make business decisions on an informed basis, in good faith and in the honest belief that the action taken is in the best interests of the company.”
Although the specific wording may have evolved over time, the only circumstance that has consistently led Wisconsin courts to deny the application of the BJR is bad faith or its equivalent.5 In Data Key, the majority reaffirmed the vitality of Justice Wickhem’s 1946 explanation: “The business of a corporation is committed to its officers and directors, and if their actions are consistent with the exercise of honest discretion, the management of the corporation cannot be assumed by the court.”6
Directors’ Immunity From Liability
One function of the BJR is to protect directors from personal liability if a decision turns out poorly and shareholders incur substantial losses. Without the protections of the rule, directors might be reluctant to pursue risky new ventures on the shareholders’ behalf or even to continue in office.7 To further address that concern, Wisconsin enacted an additional layer of protection in 1987.8
Kenneth B. Davis Jr., Case Western Reserve 1974, holds the George H. Young Chair and is the former dean of the U.W. Law School and is of counsel at Reinhart Boerner Van Deuren s.c. Davis was co-reporter for the State Bar committee that recommended the Wisconsin directors’ immunity statute as well as the 1990 revision of Wis. Stat. chapter 180. A longer version of this article, entitled The Business Judgment Rule in Wisconsin, is scheduled to appear in volume 2015, issue 3 of the Wisconsin Law Review.
Now Wis. Stat. section 180.0828(1), the director-immunity statute provides that a director is not liable to the corporation or its shareholders for damages or other monetary liabilities unless the plaintiff can prove that the breach of duty fell within one or more of four categories, all involving willful or illegal misconduct or improper self-enrichment.9 As a result, a director’s failure to exercise due care or diligence cannot, by itself, give rise to monetary liability.
Wisconsin Statutes section 180.0828(1) and the BJR therefore overlap, leading the Data Key court to characterize the immunity statute as a codification of the judge-made rule.10 It is important to keep in mind, however, that the statute and the rule are separate and supplement one another. This is more than a semantic quibble – the distinction is significant for several reasons.
First, the directors’ immunity under Wis. Stat. section 180.0828(1) may be limited by the corporation’s articles of incorporation.11 In other words, the corporation can opt out of the statute-based immunity. Were a corporation to do so, its directors would still have the benefit of the judicially created BJR to protect them from personal liability.
Conversely, section 180.0828(1) protects directors even though the BJR might not be available. One example involves claims arising from the directors’ oversight function – that is, liability premised on losses resulting from the directors’ failure to detect or prevent unlawful or unduly risky activities by corporate employees. The BJR does not apply in these circumstances because no conscious decision by the board is at issue.12
In Delaware, a substantial body of recent case law makes clear that even without the BJR to overcome, a plaintiff’s burden remains quite substantial.13 But in Wisconsin the precedent on the directors’ duty of care is more than 100 years old.14 The immunity statute therefore gives directors the valuable reassurance that whatever standard of conduct a contemporary Wisconsin court might adopt, no monetary liability will attach unless the plaintiff can prove willful misconduct, improper personal benefit, or other statutory exclusions.
The final reason for emphasizing the distinction between the statute and the rule is that the BJR protects not only the individual directors but also the board’s decision itself. Suppose a shareholder sues to enjoin the corporation from carrying out a board-approved decision on the ground that an alternative course of action would create more value for shareholders. Because the directors’ monetary liability is not at issue, the immunity statute has no bearing. The judge-made BJR would nonetheless be available as a defense. Although the directors are no longer at personal risk, the rule’s separate concern for judges invading the province of the board – a frequent theme in the Wisconsin case law through the years15 – continues to apply. Courts are therefore equally willing to apply the BJR in both contexts.16
Presumption, Pleading, and Proof
The procedural dimensions of the BJR are less straightforward than its substantive role. The rule has often been described as creating a presumption on the directors’ behalf.17 But what exactly does this mean? If it merely recognizes that the burden of proof lies with the party challenging the board’s decision, the presumption label adds little to the substantive rule itself.18
How does the spirit of the BJR, and the accompanying judicial reluctance to intervene in corporations’ internal affairs, affect a plaintiff’s burden of production or proof?
In Reget v. Paige, the Wisconsin Court of Appeals held that the presumption requires that the plaintiff, to survive summary judgment, “come forward with sufficient evidentiary facts to make a prima facie case” that the directors’ conduct is not protected by the rule.19 Others have interpreted the BJR presumption to require more particularized pleading and a higher evidentiary burden than for other civil actions.20
Whether presumption is the appropriate terminology,21 the core question remains – how does the spirit of the BJR, and the accompanying judicial reluctance to intervene in corporations’ internal affairs, affect a plaintiff’s burden of production or proof? This was the setting for the supreme court’s recent decision in Data Key.
Data Key Partners v. Permira Advisers LLC
Data Key was a shareholder suit challenging the sale of Renaissance Learning Inc. to Permira Advisers LLC. Terms of the sale called for Permira to pay $15 per share to Judith and Terrance Paul, who held 69 percent of Renaissance Learning’s stock, and $16.60 per share to the minority holders. The board rejected a competing bidder’s offer to pay $16.90 for all shares. After its efforts to enjoin the sale failed, Data Key Partners, a Renaissance shareholder cashed out in the merger, filed a class action against the company’s directors and controlling shareholders, seeking to recover damages. Among its claims were that the directors breached their fiduciary duty by approving the sale, and that their actions fell within the exclusions from immunity under Wis. Stat. section 180.0828(1).
Citing Wisconsin’s liberal standards of notice pleading, the court of appeals held that these claims were sufficient to survive a motion to dismiss. It reasoned, “courts in notice pleading jurisdictions traditionally disfavor application of the business judgment rule at the motion to dismiss stage because application of the rule generally requires a fact-intensive analysis that would be incompatible with notice pleading.”22
In a 4-3 decision, the supreme court reversed. Writing for the majority, Justice Roggensack began by examining Wisconsin’s pleading requirements in light of the U.S. Supreme Court’s recent Twombly decision,23 and concluded that “Twombly makes clear the sufficiency of a complaint depends on substantive law that underlies the claim made because it is the substantive law that drives what facts must be pled. Plaintiffs must allege facts that plausibly suggest they are entitled to relief.”24 Treating Wis. Stat. section 180.0828(1) as Wisconsin’s codification of the BJR, the court held that under the Twombly standard,
“In order to fall outside of the protection that the legislature has granted directors, plaintiffs must plead facts that create a plausible claim that the directors’ acts were taken in contravention of § 180.0828(1). Therefore, to survive a motion to dismiss, plaintiffs must plead facts sufficient to plausibly show that the directors’ actions constitute: (1) a ‘willful failure to deal fairly’ with the minority shareholders on a matter in which the director has ‘a material conflict of interest’; (2) receipt of an ‘improper personal profit’; or (3) ‘[w]illful misconduct.’”25
In applying this “plausible claim” standard to the complaint, the court examined each of the alleged benefits that, according to the plaintiffs, caused the directors to improperly favor Permira over other bidders, and concluded that none met the statutory criteria.26
There remains the important question of how Data Key will be received in the federal courts. As Chief Justice Abrahamson observed in her dissent, “cases under federal notice pleading do not rely on the business judgment rule at the motion to dismiss phase.”27 The Seventh Circuit’s view, for example, is that the BJR is a defense and therefore, even after Twombly and Iqbal, cannot be the basis for a motion to dismiss.28 Should the same logic apply, however, to the immunity statute, which explicitly places the burden of proof on the plaintiff?
Closely Held Corporations
Data Key involved a publicly traded company. But the overwhelming share of Wisconsin cases applying the BJR have involved close corporations. In that context, as recognized by Wisconsin courts early on, the rule operates to uphold the majority shareholders’ prerogative to decide corporate policy, over the objection of the minority.29
In recent years, however, a countervailing concern has emerged, one that recognizes the special vulnerability of the close-corporation shareholder, who has no outside market for his or her stock and is therefore particularly susceptible to being taken advantage of by those in control. The challenge for corporate law is that the conduct at issue often involves matters – such as dividends, employment, and salaries – traditionally entrusted to the board. Courts across the country have struggled with defining the boundary between permissible business judgment and unlawful exploitation of the minority. It remains a work in progress, but two principal approaches have emerged.
One stems from a line of Massachusetts cases that analogizes the close corporation to a partnership and on that basis imposes more stringent fiduciary duties than those applicable to corporations generally.30 Rather than the protections of the BJR, any action that treats the minority differently than it treats those in control is closely scrutinized to determine whether the business purpose asserted by the board could have been achieved by alternative means, less harmful to the minority.31
In Jorgensen v. Water Works Inc. (Jorgensen I), the Wisconsin Court of Appeals recognized a minority shareholder’s individual right of recovery against the directors and majority shareholders32 and cited one of the Massachusetts cases in support. But the issue before the court was only the existence of a direct (rather than a derivative) claim,33 not the level of duty entailed. Thus, in claims for breach of fiduciary duty, the traditional BJR should remain available as a defense for directors of Wisconsin close corporations, including majority shareholders when acting in their capacity as directors.34
What role does the immunity statute play in this context? Although enacted more out of concern for outside directors of publicly traded corporations35 than to strengthen the hand of majority shareholders of close corporations, the prospect of early dismissal under Data Key will no doubt increase resort to the statute by defendants in the latter context as well. It is therefore important to recognize exactly what the statute does and does not do.
First is the confusing question of burden of proof. The statute does not alter the underlying substantive law governing the directors’ fiduciary duties. Thus, for example, in a case charging the directors with excessive compensation or self-dealing, the burden remains on the defendants to prove the fairness of those arrangements unless the arrangements have been independently approved.36 If the defendants fail to do so, the burden then shifts to the plaintiff, but simply to show that the basis for any monetary recovery falls within one or more of the statutory exclusions.
But does the statute even apply? Individuals in control of closely held corporations typically play a variety of roles, including as officers, directors, and majority shareholders – each of which independently gives rise to fiduciary duties. Immunity under the statute is available, however, only if the duty at issue results “solely” from the defendant’s status as a director.37
The other principal remedy available to minority shareholders in a close corporation is a suit for dissolution on grounds of oppressive conduct by the controlling shareholders.38 In this context, the role to be played by the BJR depends on how “oppression” is defined. In Jorgensen I, the court adopted the narrower of the two prevailing tests, which describes oppression as “burdensome, harsh and wrongful conduct; a lack of probity and fair dealing in the affairs of a company to the prejudice of some of its members; or a visual departure from the standards of fair dealing, and a violation of fair play on which every shareholder who entrusts his money to a company is entitled to rely.”39
The court added, however, that it intended the definition to be “broad and flexible, rather than narrow,”40 and further expanded the potential boundaries of the test by observing in a footnote that it saw the language as “including consideration of the frustration of the reasonable expectations of shareholders [the other prevailing test], when that is appropriate.”41
In Reget v. Paige, the court read Jorgensen I to require that the “complaining shareholder prove that those in control of the corporation willfully and wrongfully inflicted a direct injury upon him that benefited the stockholders who were not injured.”42 Importantly, it added, “[d]ecisions of the board made in good faith cannot satisfy the definition we established for oppressive conduct in Jorgensen.”43 Taken alone, this sentence suggests that in Wisconsin, the BJR is a defense to claims of oppression. But Reget’s claims exclusively involved conduct that affected all shareholders equally.44 It remains to be seen whether Wisconsin courts would take a similarly narrow view of oppression when, as is more typical, the minority shareholder has been singled out for unequal treatment.
Whatever the relationship between oppression and the BJR, the role of the immunity statute is clear-cut. Conduct may be found to be oppressive independent of whether it meets any of the statutory exclusions from immunity listed in Wis. Stat. section 180.0828(1). The immunity statute enters the picture only at the remedy stage. And only to the extent that the remedy entails monetary damages for the breach of a duty resulting solely from the defendant’s status as a director, is the plaintiff required to prove that one or more of the statutory exclusions apply.
After Data Key, it is important that Wisconsin lawyers and judges remain aware of the different roles played by the BJR and the immunity statute. While the immunity statute is an important safeguard against the risk that directors might be held personally liable for failing to discharge their responsibilities with appropriate care or attentiveness, it should not constrain the ongoing case-law development of either the BJR or the protection of minority shareholders.
1 2014 WI 86, 356 Wis. 2d 665, 849 N.W.2d 693.
2 The rule first appeared in two decisions in the early 1900s. Figge v. Bergenthal, 130 Wis. 594, 109 N.W. 581, 589, 592 (1906); Theis v. Durr, 125 Wis. 651, 104 N.W. 985, 987-88 (1905).
3 Polacheck v. Michiwaukee Golf Club Land Co., 198 Wis. 78, 223 N.W. 233, 234 (1929).
4 2000 WI 65, ¶ 19, 235 Wis. 2d 646, 612 N.W.2d 78.
5 Thauer v. Gaebler, 202 Wis. 296, 232 N.W. 561, 563-64 (1930); Theis, 104 N.W. at 988; Fanetti v. Donald A. & Marilyn J. Fanetti 2004 Rev. Tr., No. 2013AP1870, 2014 WL 1584461, ¶¶ 55-57 (Wis. Ct. App. Apr. 22, 2014) (unpublished, per curiam); Gebhardt v. Bosben, No. 2009AP1359, 2010 WL 2519572, ¶¶ 55-59 (Wis. Ct. App. June 24, 2010) (unpublished, Vergeront, J.); Yates v. Holt-Smith, 2009 WI App 79, ¶¶ 22-26, 319 Wis. 2d 756, 768 N.W.2d 213.
6 2014 WI 86, ¶ 34, 356 Wis. 2d 665 (quoting Steven v. Hale-Haas Corp., 249 Wis. 205, 221, 23 N.W.2d 620 (1946)).
7 SeeReget v. Paige, 2001 WI App 73, ¶ 17, 242 Wis. 2d 278, 626 N.W.2d 302 (the BJR “contributes to encouraging qualified people to serve as directors by ensuring that honest errors of judgment will not subject them to personal liability”).
8 Wis. Stat. § 180.307 (1987-88) (created by 1987 Wis. Act 13). That statute was replaced by the current version when chapter 180 was revised in 1990.
9 Wis. Stat. § 180.0828(1). The specific categories are “(a) A willful failure to deal fairly with the corporation or its shareholders in connection with a matter in which the director has a material conflict of interest. (b) A violation of criminal law, unless the director had reasonable cause to believe that his or her conduct was lawful or no reasonable cause to believe that his or her conduct was unlawful. (c) A transaction from which the director derived an improper personal profit. (d) Willful misconduct.”
10 Data Key Partners, 2014 WI 86, ¶ 34, 356 Wis. 2d 665. The court below had employed the same characterization. Data Key Partners v. Permira Advisers LLC, 2013 WI App 107, ¶ 29, 350 Wis. 2d 347, 837 N.W.2d 624, rev’d, 2014 WI 86, 356 Wis. 2d 665, 849 N.W.2d 693.
11 Wis. Stat. § 180.0828(2).
12 SeeRales v. Blasband, 634 A.2d 927, 933 (Del. 1993); Aronson v. Lewis, 473 A.2d 805, 813 & n.7 (Del. 1984); In re Caremark Int’l Inc. Derivative Litig., 698 A.2d 959, 967-70 (Del. Ch. 1996); 1 Stephen A. Radin, The Business Judgment Rule – Fiduciary Duties of Corporate Directors 87-92 (6th ed. 2009).
13 See, e.g.,Stone ex rel. AmSouth Bancorp. v. Ritter, 911 A.2d 362, 370 (Del. 2006); Caremark Int’l, 698 A.2d at 967 (“The theory here advanced is possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.”); id. at 971 (“only a sustained or systematic failure of the board to exercise oversight – such as an utter failure to attempt to assure a reasonable information and reporting system exists – will establish the lack of good faith that is a necessary condition to liability”).
14 Killen v. State Bank of Manitowoc, 106 Wis. 546, 82 N.W. 536, 545-46 (1900); North Hudson Mutual Bldg. & Loan Ass’n v. Childs, 82 Wis. 460, 52 N.W. 600, 605 (1892). Both cases sought recovery from the directors of financial institutions.
15 See Data Key Partners, 2014 WI 86, ¶ 34, 356 Wis. 2d 665; Einhorn, 2000 WI 65, ¶ 19 & n.14, 235 Wis. 2d 646; Gauger v. Hintz, 262 Wis. 333, 346, 55 N.W.2d 426 (1952); Steven, 249 Wis. at 221; Figge, 109 N.W. at 589; Theis, 104 N.W. at 987-88.
16 One commentator has proposed using the term business judgment “doctrine” in the transactional context, and confining the BJR to the protection against personal liability. Joseph Hinsey IV, Business Judgment and the American Law Institute’s Corporate Governance Project: the Rule, the Doctrine, and the Reality, 52 Geo. Wash. L. Rev. 609 (1984). But, consistent with the courts’ decision to apply the same rule to the two contexts, the distinction in terminology has never caught on. See id. at 612 (“[T]he essential elements of the rule and doctrine are the same. This commonality of attributes has undoubtedly contributed to the widespread tendency to overlook the distinction.”).
17 See, e.g.,Aronson, 473 A.2d at 812 (the BJR “is a presumption that in making a business decision the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company”); Reget, 2001 WI App 73, ¶ 18, 242 Wis. 2d 278 (“Procedurally, the business judgment rule creates an evidentiary presumption that the acts of the board of directors were done in good faith and in the honest belief that its decisions were in the best interest of the company.”).
18 This observation has been made by several commentators. See, e.g., R. Franklin Balotti & James J. Hanks Jr., Rejudging the Business Judgment Rule, 48 Bus. Law. 1337, 1345-46 (1993); see also Melvin Aron Eisenberg, An Overview of the Principles of Corporate Governance, 48 Bus. Law. 1271, 1283-84 (1993) (describing the presumption concept as “frequently ambiguous” and “especially obscure in the context of the business judgment rule”).
19 2001 WI App 73, ¶ 20, 242 Wis. 2d 278; see alsoDixon v. Ladish Co., 785 F. Supp. 2d 746, 750 (E.D. Wis. 2011) (“Thus, at the pleading stage, a plaintiff must necessarily allege facts that make rebuttal of the presumption plausible. In other words, [the plaintiff] must allege facts that plausibly show the [directors] failed to act in good faith and with a belief that their actions were in the company’s best interest.”), aff’d, 667 F.3d 891 (7th Cir. 2012).
20 Balotti & Hanks, supra note 18, at 1347-52.
21 In Wisconsin, where presumptions are governed by statute, see Wis. Stat. § 903.01, with the general rule that the party relying on the presumption bears the burden of proving the underlying facts – a result that does not fit the operation of the BJR.
22 Data Key, 2013 WI App 107, ¶ 23, 350 Wis. 2d 347.
23 Bell Atlantic Corp. v. Twombly, 550 U.S. 544, 554-63 (2007); see alsoAshcroft v. Iqbal, 556 U.S. 662, 677-80 (2009). The Data Key majority saw Twombly as consistent with Wisconsin precedent as represented by Strid v. Converse, 111 Wis. 2d 418, 331 N.W.2d 350 (1983).
24 2014 WI 86, ¶ 31, 356 Wis. 2d 665.
25 Id. ¶ 39.
26 Id. ¶¶ 44-56.
27 Id. ¶ 140 (Abrahamson, C.J., dissenting).
28 Levin, 763 F.3d at 671 (applying Indiana law).
29 Figge, 109 N.W. at 589.
30 Wilkes v. Springside Nursing Home Inc., 353 N.E.2d 657, 661-63 (Mass. 1976); Donahue v. Rodd Electrotype Co., 328 N.E.2d 505, 515-16 (Mass. 1975)
31 See Wilkes, 353 N.E.2d at 663 (removal of minority shareholder from payroll and refusal to reelect him as a salaried officer and director).
32 218 Wis. 2d 761, 777, 582 N.W.2d 98 (Ct. App. 1998).
33 The circuit court had interpreted prior cases to limit that right to shareholders in statutory close corporations under Wis. Stat. section 180.1833. Jorgensen I, 218 Wis. 2d at 773.
34 SeeMcVeigh v. Grum, No. 98-2559, 2000 WL 387516, ¶ 14 (Wis. Ct. App. Apr. 18, 2000) (unpublished) (rejecting argument that Jorgensen I adopted the Massachusetts approach).
35 The legislative history cites the enhanced risk to directors caused by mergers and hostile takeovers and the resulting difficulty in obtaining adequate liability insurance coverage. See Legislation on Liability Law & Insurance, Wis. Legis. Council, Rep. No. 6 to the 1987 Legis. 9 (Apr. 14, 1987).
36 Wis. Stat. § 180.0831(2); Gauger, 262 Wis. at 349; Jacobson v. American Tool Cos., 222 Wis. 2d 384, 397, 588 N.W.2d 67 (Ct. App. 1998); Mulder v. Mittelstadt, 120 Wis. 2d 103, 111, 352 N.W.2d 223 (Ct. App. 1984).
37 See Data Key, 2014 WI 86, ¶ 57, 356 Wis. 2d 665 (immunity statute is not available to majority shareholders).
38 Wis. Stat. § 180.1430(2)(b).
39 218 Wis. 2d at 783 (quoting Baker v. Commercial Body Builders Inc., 507 P.2d 387, 393 (Or. 1973)). The Jorgensen I definition was endorsed by the supreme court in Northern Air Services Inc. v. Link, 2011 WI 75, ¶ 75 n.32, ¶ 93, 336 Wis. 2d 1, 804 N.W.2d 458.
40 Jorgensen I, 218 Wis. 2d at 783 (citing Fix v. Fix Material Co., 538 S.W.2d 351, 358 (Mo. Ct. App. 1976)).
41 Id. at 783 n.10; see alsoEdler v. Edler, No. 2006AP2937, 2007 WL 4530823, ¶ 9 (Wis. Ct. App. Dec. 27, 2007) (unpublished).
42 2001 WI App 73, ¶ 25, 242 Wis. 2d 278.
43 Id. ¶ 26.
44 These included excessive compensation, the failure to pay dividends, and failure to make a market in the corporation’s stock.