Hamric and Nance were
operating a fraudulent 'Ponzi scheme'. They did this with the help of a
bank called AmSouth, who provided Hamric and Nance with accounts and
distributed interest payments.
Had bank employees been
paying attention they would have easily uncovered Hamric and Nance's
scheme.
After the scheme fell apart,
AmSouth was forced to pay $50M in fines and penalties for helping the
scam. AmSouth's shareholders instituted a derivative lawsuit against the directors for wasting corporate
money.
The shareholders argued that
AmSouth's compliance program lacked adequate board and management
oversight, and that reporting to management for the purposes of
monitoring and oversight of compliance activities was materially
deficient.
Basically, since the
directors weren't doing their job and investigating what the employees
were doing, the shareholders were out $50M.
The Trial Court found for
AmSouth and the directors. The shareholders appealed.
The Trial Court looked to In
re Caremark International Inc. Derivative Litigation (698 A.2d 959 (Del. Ch. 1996)), and found
that when shareholders claim that the directors were ignorant to
liabilities, the shareholder can only win if they show that there was a
"sustained or systemic failure of the board to establish
oversight."
The Delaware Supreme Court
affirmed.
The Delaware Supreme Court
found that the standard for determining whether directors can be liable
for failure to exercise oversight of employees who fail to comply with
their duties was a "lack of good faith as evidenced by a sustained
or systematic failure of a director to exercise reasonable oversight."
That's the same standard that was given in Caremark.
The Court noted that this
was a very high standard to meet.
See ATR-Kim Eng
Financial Corp. v. Araneta (2006
WL 3783520 (Del. Ch. Dec. 21 2006)) for a case that met this standard.
The Court found that there
are two conditions necessary for liability under the standard set by Caremark:
The directors utterly
failed to implement any reporting or information system or controls; or
Having implemented such a
system or controls, consciously failed to monitor or oversee its
operations thus disabling themselves from being informed of risks or
problems requiring their attention.
In either case, imposition
of liability requires a showing that the directors knew that they were
not discharging their fiduciary obligations.
The Court found that there
is no duty of good faith that
forms a basis, independent of the duties of care and loyalty, for
director liability.
The Court found that just
because there was a bad outcome in this case, that was not evidence of
bad faith on the part of the directors.
Basically, this case said that
directors are not responsible for ensuring the legality of every act by
the corporation's personnel, even if the illegal conduct would have been
discovered if there hadn't been a failure of the corporate compliance
program.
