June 18, 2014

Fiduciary Duties After Enron — Watch Your Back


As if you didn't have enough to worry about, the Enron debacle has highlighted another area of personal liability — fiduciary duties. The corporate form will not protect you, and you may not see these coming, as they can be difficult to spot. And as a result of Enron and its progeny, the scope of fiduciary duties will likely be expanded and scrutinized more closely than ever before.

Black's Law Dictionary defines a fiduciary as "a person holding the character of a trustee, or a character analogous to that of a trustee, in respect to the trust and confidence involved in it and the scrupulous good faith and candor which it require." The relationship can be formal or informal, with the key element being a relationship of trust or reliance on another.

"A [fiduciary relation is a] relation subsisting between two persons in regard to a business, contract, or piece of property, or in regard to the general business or estate of one of them, of such a character that each must repose trust and confidence in the other and must exercise a corresponding degree of fairness and good faith."

Traditionally, you may be familiar with fiduciary duties being broken down into the business duties of due care and loyalty, and the trust driven duties to safeguard assets, to make prudent investments, and to effect proper distributions. But the legal concept is not so limited. The legal concept applies to any relationship of trust and confidence. Its precise meaning does not lend itself to succinct definition, as the meaning can change with the facts and requires reference to a large body of case law for definition. In case law, fiduciary duties are generally described as specific obligations and standards of conduct, with the most widely accepted duties being the duty of care and the duty of loyalty. Some of these duties have been codified — for example, the duty to disclose material information to investors and shareholders — and some will be developed by the courts in the process of adjudication, where codification does not preclude or leaves room as to the scope and meaning of the law.

Not only can you be liable for your own actions, you can also be held liable for assisting someone in violating a fiduciary duty they owe to another. For example, in Granewich, II v. Harding, the Oregon Supreme Court held that allegations that one who knowingly participated in a scheme to squeeze out a minority shareholder, which resulted in a breach of the majority shareholder's fiduciary duties to the minority shareholder, stated a valid claim. Although the defendant owed no fiduciary duties to the minority shareholder, the defendant could be liable for assisting the controlling shareholders in breaching their fiduciary duties to the minority shareholders. As a precedent, the scope of potential liability is breathtaking.

This principal is being used in the Enron cases, where outside professionals are alleged to have "instructed, aided or abetted and/or conspired with Defendants to commit the acts and omission that breached their fiduciary duties." Severed Enron Employees Coalition, et al, vs. The Northern Trust Company, et al. In that case, plaintiffs allege breaches of fiduciary duties of loyalty, prudence, providing sufficient information, and of their duty to avoid conflicts of interest, including the following particular claims:

  1. By investing such a large percentage of the Retirement Plan's assets in Company stock.
  2. By failing to adequately investigate and monitor the merits of the investments in Company stock and to take steps to eliminate or reduce the amount of Company stock in the Plan.
  3. By failing to provide adequate information about the Plan's portfolios and accurate information about the Company.
  4. By instituting and failing to postpone an administrative lockdown of the Plan.
  5. By failing to have a mechanism in place for monitoring the appropriateness of Company stock as an investment.
  6. By offering Company stock as a Plan investment option and by instituting and failing to postpone an administrative lockdown of the Plan, they breached their fiduciary duties to avoid conflicts of interest and to resolve them promptly.

The "deep pockets" of officers, directors, and other professionals, or their insurance companies, will be the targets.

In a response to Enron and other corporate abuses of power and conflicts of interest, it is fair to predict that, in addition to a court-led expansion of the traditional concepts of common law fiduciary duties, there will be an expansion of state and federal legislation to codify areas of liability and standards of conduct, and there will be an expansion of criminal laws. In fact, the expansion has already begun with the passage of federal legislation, the Sarbanes-Oxley Act.

The Sarbanes-Oxley Act has effected broad and sweeping changes to corporate governance liability, audit committee roles, and officer certification, among other things, for public companies. Although these laws generally apply to public companies, expect to see similar fiduciary duties emerge for private companies. For example, Sarbanes-Oxley requires the following:

  • CEO and CFO certification of accuracy and completeness of company annual and quarterly reports.
  • CEO and CFO certification of the adequacy and effectiveness of internal controls.
  • Disclosure of off-balance-sheet transactions.
  • Adoption of a code of ethics that will be mandatory on all senior financial officers.
  • Prohibitions against personal loans for directors and senior executives.
  • Rules that require CEOs and CFOs to forfeit incentive pay and securities trading profits if accounting restatements later occur due to misconduct.
  • Rules that prohibit improper influence by directors and officers in the conduct of audits.

In Oregon, as in most states, some standards of general conduct for officers, directors, partners and members of limited liability companies have been codified. Generally, such codification provides that individuals are not liable for any action taken, or any failure to take any action, if he or she has performed the duties in compliance with the standards. Standards are also codified in other areas, such as federal and state securities laws. However, where codification does not preclude or leaves room as to the scope and meaning of the law, the courts will be free to find and enforce other duties.

The conservative advice is that you should expect to see new standards of conduct applied to your business activities that are similar to those mandated by the Sarbanes-Oxley Act either by new laws or by expansion of fiduciary duties by the courts. If you are in a fiduciary relationship, or assisting someone who is, you must act appropriately. If you do not, you will find yourself as a defendant in litigation and possibly liable for breaches of fiduciary duties you didn't know existed.

For more information on this topic, please contact marketing@jordanramis.com or call (888) 598-7070.


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