As cases in the Delaware Court of Chancery go, it has been pretty juicy.
It has star power, oodles of money and intense office politics behind the scenes at a company built on a happy, warm-and-fuzzy image.
But the case of whether Walt Disney Co. directors were grossly asleep at the switch when it came to the hiring and firing of former president Michael Ovitz has implications far beyond mere fascination with the players involved.
Testimony wrapped up earlier this month, and observers are anxiously awaiting a final decision in the coming weeks.
However the case turns out, experts said, it already has had an effect on corporate directors across the country.
“We are all following that,” said longtime board member C. Warren Neel, executive director of the Corporate Governance Center at the University of Tennessee.
Directors who simply rubber-stamp key hiring decisions, he said, do so at their peril.
“Now you’re going to get very involved in senior management selection,” Neel said. “You might go with the CEO, but you can voice your concern.”
One reason, experts said: The case may make it easier for investors to seek penalties from directors themselves, rather than from their insurers, which has been a daunting task.
“Certainly, if the plaintiffs win, you’ll see more of these cases,” said John Faldetta Jr., an attorney with Waller Lansden Dortch & Davis in Nashville, who has written on the Disney case. The case so far “definitely gives them [investors] the ammunition,” he said.
And that may not change even if the plaintiffs lose, he said.
“It would show it’s pretty hard to win,” given the facts in the case, Faldetta said. “But the fact that they got where they are would encourage some plaintiffs to go forward.”
Disney’s is not the only case in which plaintiffs claim directors were inattentive, at best, to their jobs.
A suit filed this year by the Teachers’ Retirement System of Louisiana against Chicago-based Hollinger International Inc., the owner of the Chicago Sun-Times, and several current and former officers and directors cites deals that plaintiffs say enriched Hollinger’s former chief executive, Conrad Black, at the expense of shareholders.
That suit says directors “simply rubber-stamped, often after-the-fact, these deals and agreements in a complete failure to exercise any independent review or oversight.” The suit was particularly critical of the audit committee.
The defendants contest the allegations, and James Thompson, the audit committee chairman and former governor of Illinois, has defended his performance in the audit post, saying he was engaged and prepared for meetings.
$140 million package
The Disney case centers on the tumultuous tenure of Hollywood superagent Ovitz, who was forced out as the company’s president in 1996 after 14 months on the job, cut loose with a severance package estimated at $140 million.
Plaintiffs filed suit in 1997, seeking to have Ovitz return that money, plus interest, and to hold directors liable for what they deem to be lax oversight. They say board members breached their fiduciary duty to the firm by deferring to Disney’s chief executive, Michael Eisner, in the hiring of Ovitz, a longtime friend; by barely discussing his contract before and after he went to work for Disney; and by not having an outside expert examine the deal.
Eisner, in his testimony, defended the hiring of Ovitz and his ultimate departure, saying he ousted Ovitz after their working relationship deteriorated to the point that Ovitz proved untrustworthy and all but impossible to manage.
Directors have testified that they examined Ovitz’s pay package, and that the company had no choice but to get rid of him and pay the severance.
Ovitz defended his tenure at Disney and said he was undermined and fired before he had an opportunity to fully develop on the job.
Plaintiffs’ experts have countered that Disney could have fired Ovitz for cause without paying him the huge severance.
At its heart, the case is about whether directors acted in good faith in discharging their duties. The upshot: If not, they could be personally liable.
Although courts generally give board members the benefit of the doubt, Chancellor William Chandler III ruled in 2003 that the suit could proceed, saying plaintiffs had presented evidence that “the Disney directors failed to exercise any business judgment and failed to make any good faith attempt to fulfill their fiduciary duties to Disney and its stockholders.”
That ruling alone has corporate directors shuddering.
Timothy Burns, a partner with Neal, Gerber & Eisenberg in Chicago, was at an institute for corporate directors when word arrived about the decision, which “instantly caused disquiet among directors.”
“The discomfort was visible. It caused the directors to think twice about what they were getting into,” he said.
The response has been a renewed emphasis on the process by which directors make decisions, with attorneys urging clients to ask more questions, document discussions thoroughly, review all documents carefully and hire outside experts to guide the board.
Although some experts fear boards will be more concerned with process than substance, Faldetta said that is not generally an issue, noting that the court has been sharply critical of the Disney directors on this front. “In this case, they didn’t do anything. That was the problem,” he said. “Any structure or process would have been helpful.”
Too risky to serve
The case, along with settlements in WorldCom Inc. and Enron Corp. suits that have directors paying millions out of their own pockets, has spawned predictions that top-notch candidates may well decide it’s simply too risky to serve on boards.
But to some, the circumstances surrounding the Disney case are so unusual, its reach as a precedent will be limited.
Some experts, including UCLA corporate law professor Stephen Bainbridge, argue that if boards can provide evidence of an adequate decision-making process, courts would defer to their decisions, right or wrong.
That doesn’t seem to be reducing the concern across corporate America.
No matter how unusual the circumstances, “the fact that it’s out there is causing apprehension,” Burns said.
That risk, Neel said, has directors sitting up a little straighter.
“I think the implication is if you’re on a compensation committee, you’ll be far more strident in discharging your role,” he said. “We’re seeing the end of the era of the icon CEO.”
