What you need to know
- Heightened pleading under Caremark for directors applies equally to officers. The Court expressly rejected Segway's implicit argument that an oversight duty claim against an officer would be simpler to plead than one against a director. Although the Court recently established in McDonald's that officers' oversight duties under Caremark are "context-specific" and generally limited to matters within the scope of the officer's corporate responsibilities (with rare exceptions), the Caremark pleading standard remains the same. Indeed, a successful claim still requires pleading that the officer acted in bad faith and breached their duty of loyalty.
- Bad faith is a prerequisite to an oversight claim. Although Segway claimed Cai had "consciously disregarded" financial discrepancies in her reporting to the company, the Court held there were no allegations from which it could reasonably infer she acted in bad faith. "Classic business decisions", "everyday business problems", "failure to predict the future", or failure "to properly evaluate business risk" are distinct from legal compliance and cannot alone support an oversight duty claim. Put differently, mismanagement of general business risks cannot rise to the level of conduct evidencing a knowing disregard of the risk of a specific corporate injury. Rather, "[a]t a minimum, a plaintiff pursuing an oversight claim against an officer would need to demonstrate that the officer failed to make a good faith effort to monitor central compliance risks within her remit that pose potential harm to the company or others".
- Continuing import of proverbial "red flags" in the Caremark analysis. The Court reasoned that although Segway alleged Cai "conscious[ly] disregard[ed]" financial discrepancies, it failed to adequately plead under Caremark's second prong that Cai "consciously failed to act after learning about evidence of illegality—the proverbial 'red flag'". Grievances flowing from allegations of "generic financial matters are far from the sort of red flags that could give rise to Caremark liability if deliberately ignored". The Court relied on two recent Chancery decisions similarly holding that "general risks" regarding non-compliance were not "red flags" of a "specific corporate trauma" supporting a Caremark claim.
- Bad outcomes do not equal liability. The Court explained that an officer's oversight of "day-to-day matters does not make them guarantors of negative outcomes from imperfect business decisions". Nor are oversight duties designed to subject fiduciaries to personal liability for failure to predict the future or properly evaluate business risk"—the Caremark doctrine is not a tool to hold fiduciaries liable for "everyday business problems".
Background
In
Segway's sales and customer base declined post-acquisition. It began focusing on Ninebot products and started downsizing its operations. By 2020, Segway had closed its headquarters and laid off most employees. After Cai's employment terminated in
The litigation
Segway filed a single-count complaint against Cai alleging a breach of her fiduciary duty on
Segway alleged Cai knew or should have known about potential issues involving certain Segway customers causing its accounts receivable to rise. It further claimed Cai breached her fiduciary duty as an officer by ignoring issues impacting its profitability and failing to otherwise alert the board or take remedial action. Cai moved to dismiss for failure to state a claim.
Motion to dismiss
In analyzing Segway's Caremark claim, Vice Chancellor
Segway argued it met the Caremark standard by relying on the Court's recent decision in McDonald's5, which extended to officers, for the first time, Caremark's oversight duties. In McDonald's, the vice chancellor observed that officers of
Although Cai, as president of Segway, owed fiduciary duties to the company and its stockholders, whether she breached those duties, giving rise to a claim under either prong of the Caremark test, was unclear. The Court began by applying the McDonald's framework, which requires that any alleged oversight violation must fall within Cai's remit. The Court summarized Cai's alleged job duties and allegations concerning her lack of oversight but found no potential wrongdoing, and certainly none within her purview. Because "generic financial matters are far from the sort of red flags that could give rise to Caremark liability if deliberately ignored"6, and because the complaint lacked any indicia of bad faith on Cai's part, the Court granted Cai's motion to dismiss on
In dismissing the action, the Court cautioned that oversight duties should not subject fiduciaries to personal liability for failure to accurately predict the future or evaluate business risk. Nor should the Caremark doctrine be used as a tool to hold fiduciaries liable for routine business problems. Rather, it is intended to address "the extraordinary case where fiduciaries' 'utter failure' to implement an effective compliance system or 'conscious disregard' of the law gives rise to a corporate trauma". The Court also addressed Segway's misapprehension that an oversight claim against an officer is easier to plead than one against a director. It reiterated that "a Caremark claim is 'possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment'. At a minimum, a plaintiff pursuing an oversight claim against an officer would need to demonstrate that the officer failed to make a good faith effort to monitor central compliance risks within her remit that pose potential harm to the company or others" 7.
Footnotes
1.
2. In re Caremark Int'l Inc. Deriv. Litig., 698 A.2d 959 (Del. Ch. 1996).
3. Stone v. Ritter, 911 A. 2d 362 (Del. 2006).
4. Segway, at *3.
5. In re
6. Segway, at *4.
7. Id. at *5.
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