Maryland
Differentiates Usurpation of Corporate Opportunity from Interested Director
Transaction;
Determines Guidelines for Finding Interested Director
In the case of Shapiro
v. Greenfield, 136 Md. App. 1, 764 A.2d 270 (2001), minority stockholders
brought a derivative action against a corporation and its officers challenging
the transfer of a shopping center owned by the corporation to a limited
partnership. The minority stockholders claimed that the transaction involved
was invalid because it was both an interested director transaction and
constituted the usurpation of a corporate opportunity.
The court first addressed
the issue of corporate opportunity, saying that both parties to the case relied
on the case of Independent Distributors, Inc. v. Katz, 99 Md. App. 441, 637 A.2d
886, cert. denied, 335 Md. 697, 646 A.2d 363 (1994), “for the proposition that
officers or directors will not be held liable for usurpation of corporate
opportunity if the transaction was fair and reasonable to the corporation.” In
fact, Maryland Code, Corporations and Associations Article (CA), section 2-419
allows for certain “safe harbors” where a transaction is not void solely because
a director has a personal interest in it. Specifically, under Maryland Code,
CA, section 2-419(b)(2), a director can meet certain disclosure requirements or
a board or the stockholders can meet certain ratification requirements to make
the transaction valid. Furthermore, the statute also provides that a
transaction may be valid simply because it is “fair and reasonable to the
corporation.” The court noted, however, that the application of this standard
to the usurpation of corporate opportunity question in Katz has drawn scholarly
criticism. One commentator has argued that since it is inherently unfair to
take a profitable opportunity from a corporation, fairness should not be a part
of the corporate opportunity analysis in the same sense that it is when
determining the fairness of a transaction under the interested director
transaction doctrine. Before the court could address this criticism, though, it
discussed the differences between the corporate opportunity doctrine and the
interested director transaction doctrine.
Unlike interested
director transactions, the court explained that “most corporate opportunities do
not involve transactions with the corporation,” but rather “involve transactions
that are taken from the corporation.” While a director’s interest in a
transaction is determined by his involvement with the contract or transaction
that the corporation is entering into, a corporate opportunity is based instead
on the “non-involvement of the corporation in a contract or transaction in which
it may have an interest.” The doctrine of corporate opportunity thus stands to
keep a fiduciary from taking a business opportunity that rightfully belongs to
the corporation and using it for his or her own benefit. Whether or not an
opportunity constitutes a corporate opportunity is determined by the “interest
or reasonable expectancy” test. The court explained that this test “focuses on
whether the corporation could realistically expect to seize and develop the
opportunity.” If a corporation could take advantage of the opportunity, the
director may not interfere by taking the opportunity for personal benefit.
While the Shapiro court
gives a detailed description of the corporate opportunity doctrine, as well as
explaining the criticism the application of the fairness/reasonableness standard
to the doctrine receives, the court did not answer the criticism or apply the
doctrine to the Shapiro case. This is because the court found that the Shapiro
transaction was an interested director transaction instead of a usurpation of
corporate opportunity. The transaction was not one where a director took
advantage of an opportunity that belonged to the corporation. Rather, the
transaction was between the corporation and other entities “in which certain
directors had, or potentially had, a direct financial interest.” The correct
test for the court was to see if the transaction was valid under the Maryland
Code, CA, section 2-419 governing interested director transactions. The court
remanded the case for reconsideration based on this standard, but also felt it
was necessary to explain in detail the standard in Maryland for determining when
exactly a director has an “interest” in a transaction.
The court’s explanation
was necessary because the directors (appellants) argued that a director who is
related to a party with a material financial interest was not an interested
party. The appellants’ justification for this was that Maryland had rejected
the Model Code and American Law Institute (ALI) definitions of “interested
director” that contained the concept that a familial relationship could cause a
party to be “interested.” The court stated that this conclusion was “too
broad,” and then provided its position as to what factors create an interested
party under Maryland law.
The court began its
discussion by explaining that the Maryland statute was modeled after the
statutes of other jurisdictions, such as Delaware, New York, and California.
Similar to the Maryland statute, none of these states define the term
“interested director” in their statutes. Rather, these state statutes look to
the “director’s ability to exercise independent judgment and the expected
influence of a particular relationship on the director” when making the
determination of a director’s interest in a transaction. The court added that
these were the appropriate factors to look at when trying to make such a
determination. Based on this inquiry, it was clear to the court that “directors
are required to avoid only those self-interested actions which come at the
expense of the [corporation]” or the stockholders. Not all interested
transactions are to be held void, but rather only the ones where the director’s
interest is such that it will impair his or her ability to make an unbiased
decision in the corporation’s best interest.
With this in mind, the
court observed that the Model Code and ALI provisions related to interested
directors also incorporate this view. While it is easy to determine that a
director is interested when he is directly involved in a transaction, the Model
Code and ALI provisions state no per se rule that determines when a director
with no direct interests will be considered an “interested director.” Though an
interest can follow from a familial or business relationship, neither one of
these automatically makes a director interested because such a relationship
“does not necessarily destroy an individual’s independent judgment.” The Model
Code and ALI standards put emphasis on the question of whether the relationship
could “reasonably be expected to exert an influence on the director’s
judgment.”
The court felt that the
purpose of the Model Code and ALI provisions, as well as the Delaware,
California, and New York statutes (which Maryland’s is based on) would be
undermined by a per se rule such as the one appellants argued. The court argued
that to hold that a director is interested simply because of a familial or
business relationship in essence could preclude some directors who are able to
maintain independent judgment from considering certain transactions.
Conversely, to hold that a director was disinterested because of a lack of a
direct interest could allow a director to act for the corporation when a
familial or business relationship did impair the director’s judgment. For this
reason, the court determined that the appellants’ assertion that a familial
relationship could not cause a party to be classified as “interested” was
incorrect. Rather, the standard in Maryland is to look at the facts and
circumstances surrounding a director’s relationship. If “it would reasonably be
expected that the director’s exercise of independent judgment would be
compromised” because of the director’s relationship with an interested party,
the director will also be classified as an interested director.
Submitted by Venable,
Baetjer and Howard, LLP
