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Loyalty and the Business Judgment Rule

The traditional analysis for issues regarding corporate dividend policy utilizes the standard of the business judgment rule.  When the business judgment standard is applied, the court will examine the corporate dividend decision only to the extent necessary to verify the presence of such “minimum condition” elements as disinterestedness, independence and an absence of an abuse of discretion in a business decision made loyally, in due care and good faith.  If the presumption that these (minimum condition) elements are present is supported, the court will not second-guess the business decision absent fraud, illegality, or waste.  This, therefore, places the burden of proof on the plaintiff to show that application of the business judgment standard is inappropriate.   Notably, under this analysis (utilizing the minimum condition of loyalty) all of these elements must be present in the context of a business decision – not a competing, non-business consideration – in order for a director decision to be availed under the business judgment rule.   

In accordance with our hypothetical, if Cook and the rest of the Apple, Inc. directors decide not to formally issue the dividend, that decision must withstand the business judgment standard analysis should an individual shareholder or derivative action to compel the dividend be brought against them.  In Delaware, the courts place a large burden on shareholders who attempt to force the directors of a corporation to pay dividends.  The Delaware statutory and case law both favor the business judgments of directors over the desires of investors to achieve a return on their investments in the form of dividends.   These hurdles are similarly posed for potential plaintiffs in New York and the states under the Revised Model Business Corporation Act (“RMBCA”).   Therefore, where an appropriate business decision has guided the directors of a corporation to withhold payment of a dividend, courts will give wide latitude to directorial discretion in making that decision absent fraud, bad faith or dishonesty in violation of the directors’ fiduciary duties. Accordingly, unless it can be shown that Cook is in violation of a fiduciary duty by choosing to withhold the dividend, his decision will be granted deference under the business judgment standard.

The question then turns on what qualifies as an appropriate “business decision” in the context of corporate dividend policy.  In practical terms, so long as directors can demonstrate that their decision was made in accordance with the duty of loyalty and with the interests of the corporation in mind, even if those interests are long-term and somewhat tangential or attenuated, the business judgment rule will generally protect the directors from liability.   Under this framework, Cook may be able to shield himself and his fellow Apple, Inc. directors from liability by demonstrating that the decision to withhold a dividend would actually benefit Apple’s shareholders as a business judgment decision in furtherance of the “shareholder primacy” norm.  According to the traditional corporate governance approach, directors have a duty to exercise corporate powers with the purpose of maximizing the corporation’s profits, thereby maximizing shareholder wealth.  This approach focuses on the financial benefit to shareholders and is often referred to as the “shareholder primacy” model.   If Cook can demonstrate that CIC might use the massive profits garnered from an Apple, Inc. dividend to buoy further rare earth purchasing sprees by CIC’s sovereign controllers (thereby driving up the cost of much needed raw materials for Apple’s future products) then withholding the dividend would have a valid business purpose in furtherance of shareholder primacy (at least for all but one major shareholder) and would not likely be challenged by the court under the aforementioned judicial deference to business judgment standard.   Absent any showing of disloyalty by Cook, this attenuated factual connection would technically still be sufficient to satisfy the business judgment standard as evidenced by statutory and case laws in nearly all jurisdictions.