Del. Supreme Court Upholds Decision in Disney Shareholder Lawsuit

June 12, 2006

The Delaware Supreme Court last week upheld a lower court ruling that directors of the Walt Disney Co. did not violate their fiduciary duties in the hiring and firing of former Hollywood superagent Michael Ovitz.

In affirming a 174-page ruling last year by Chancellor William Chandler III, the Supreme Court rejected the notion that Ovitz was a “de facto” fiduciary of Disney while negotiating a contract that included a no-fault termination clause that resulted in him receiving a $140 million severance package after just 14 months as president.

In an 89-page decision, the Supreme Court said the appellants’ “de facto” argument was procedurally barred because it was never raised in Chancery Court, and that Chandler’s summary judgment on that issue was never challenged.

“In any event, the de facto officer argument lacks merit, but legally and factually,” Justice Jack Jacobs wrote for the court.

The court also dismissed the appellants’ arguments that even if Ovitz did not owe a fiduciary duty to Disney until he began work on Oct. 1, 1995, his contract is subject to fiduciary standards because it did not become final until December of that year.

“This argument lacks merit because the critical terms of Ovitz’s employment that are at issue in this lawsuit were found to have been agreed to before Ovitz assumed office on October 1,” Jacobs wrote.

The justices also rejected the idea that Ovitz violated his fiduciary duty in not convening a board meeting to consider terminating him for cause, thus making him ineligible for the huge severance payment, and that he colluded with former Disney CEO Michael Eisner and others to obtain a no-fault termination payment to which he was not entitled.

The Supreme Court also upheld Chandler’s ruling that the actions of Disney’s compensation committee and board in approving Ovitz’s employment agreement were protected under the business judgment rule, which presumes that directors are acting in an informed manner, in good faith and in the best interests of a company when making business decisions.

Arguing on behalf of Disney shareholders, attorney Steven G. Schulman told the Supreme Court in January that the plaintiffs had overcome the business judgment rule presumption by establishing that Disney directors had acted with “gross negligence” in not scrutinizing Ovitz’s employment and no-fault termination agreements. Schulman said Chandler improperly required the plaintiffs to prove that the directors had acted in “bad faith” or with an “absence of due care.”

“The chancellor determined that in electing Ovitz, the directors were informed of all information reasonably available and thus were not grossly negligent,” the Supreme Court said, taking pains to emphasize that Delaware law clearly distinguishes between gross negligence and bad faith. “We agree.”

Schulman was indicted last month along with his former law firm, New York-based Milberg Weiss Bershad & Schulman, on charges of paying millions of dollars in kickbacks to clients in class-action lawsuits.

Gary P. Naftalis, Eisner’s lawyer, said in a statement, “Mr. Eisner is very pleased that the Delaware Supreme Court like the Chancery Court has found that he and the other directors properly carried out their fiduciary duties to the shareholders. We always believed that there was no basis for this case and that Mr. Eisner had always acted properly and in the best interests of the Disney shareholders.”

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