It is a long standing principle in Ohio, as well as in most other states, that directors and officers of business entities owe certain fiduciary duties to both the business entity itself and its minority owners. These fiduciary duties are commonly referred to as the duty of loyalty and the duty of care. The standard of care which a director or officer must adhere to while acting on behalf of the business entity is typically codified. In Ohio, the standard of care statute reads as follows:
“A director shall perform the director’s duties as a director, including the duties as a member of any committee of the directors upon which the director may serve, in good faith, in a manner the director reasonably believes to be in or not opposed to the best interests of the corporation, and with the care that an ordinarily prudent person in a like position would use under similar circumstances.”
In evaluating a director or officer’s compliance with the duty of care, Courts follow the business judgment rule. Pursuant to the business judgment rule, Courts will not typically inquire into the wisdom of actions taken by a director or officer in the absence of fraud, bad faith or abuse of discretion.
In recent times, it has become increasingly common to have corporate directors and officers named personally, as defendants, in complex shareholder suits and other commercial litigation. Despite the existence of the business judgment rule, from the early phases of the suit through its conclusion, the directors and officers may incur substantial legal fees in defending claims which are levied against them personally. In some cases, the legal fees incurred in defending the suits may be greater than the amount of the penalty or judgment which is ultimately issued against the director or officer at the case’s conclusion.1 Almost always, the directors and officers will look to the business entity for payment (i.e. advancement) of these defense costs. The issue becomes, to what extent is the business entity responsible to advance the legal fees which are incurred by its officers and directors in defending suits of this nature.
The Model Business Corporation Act has promulgated procedures, standards and levels of discretion which are applicable to the advancement of legal fees by business entities to their officers and directors. Most states, including Ohio and Kentucky, have adopted statutes based upon the Model Act. For a director or officer to be entitled to advancement of fees, it is typically not necessary for the officer or director to prove that their conduct met the applicable standard of care and that they did not breach their fiduciary duties. To the contrary, if the statutory scheme applies, then only certain procedural requirements must be adhered to in order for the officer or director to be entitled to advancement of defense costs.
Determining whether the statutes apply and whether advancement is mandatory or discretionary requires a detailed review of the facts and circumstances surrounding each particular case. A recently issued case from the Eleventh Appellate District Court in Ohio (Trumbull County, see Miller v. Miller 190 Ohio App. 3d 458) summarizes the complexities surrounding these issues.
It is important to note that in Ohio, the statutes provide that advancement is presumed mandatory unless the business entity expressly opts-out of the statutory requirements by including specified language in its organizational documents. Thus, an Ohio business entity can essentially choose to remove itself from the application of the statutory advancement requirements by including certain specific language in its articles or bylaws (codes of regulation).
In Kentucky, advancement is mandatory in most instances, provided that the officer or director requesting the advancement agrees to do both of the following: (i) affirm that he/she has met the minimum standard of care; and (ii) undertake to repay the advanced legal fees if it is later determined, by and through the merits of the case, that advancement was improper because the individual engaged in fraud, bad faith or abused their discretion.
If you have further questions or concerns regarding advancement issues pertaining to your business entity, please do not hesitate to contact one of our Corporate & General Business or Commercial Litigation attorneys.
