Corporate Governance

City of Westland Police v. Axcelis: The Erosion of the Credible Evidence Standard (Unfounded Rejection of the Blasius Standard)

By J Robert Brown Jr.

While this case inolved the standard for inspection rights, it went much further.  It essentially rendered the board's decision not to accept the letters of resignation unreviewable.  

Plaintiff argued that these types of decisions ought to be reviewed under the compelling justification standard set out in Blasius.  After all, the failure to accept the letters of resignation could easily have been said to interfere with the exercise of the franchise.  Had the plaintiff won on that issue, boards would have been required to meet a high standard in justifying the refusal.  The higher standard would potentially have made majority vote provisions meaningful. 

The Court, however, decided otherwise.  In dispensing with the argument, the Court gave only a single sentence of reasoning.  "We have concluded that Westland's Blasius argument lacks merit, because it improperly attempts to shift to Axcelis Westland's burden to establish a "proper purpose" for a Section 220 inspection."

But of course, it did no such thing.  The proper purpose requirement was met by showing that companies had a majority vote policy and that the directors refused to accept the letters submitted under the policy.  Applying the Blasius standard would do nothing more than give the board an affirmative defense, much the way that the board always has the right to establish that the shareholder's purpose is really improper. 

Instead, the Court opted for a different standard of review.  The issue was:

• whether the directors, as fiduciaries, made a disinterested, informed business judgment that the best interests of the corporation require the continued service of these directors, or whether the Board had some different, ulterior motivation.

In other words, plaintiffs had to show that the refusal to accept the letters of resignation was somehow a violation of the board's business judgment.  As has been described often and loudly, this is a process standard that ignores substantive behavior.  As long as the board uses proper process, any justification will do.  In short, the decisions will not be subject to meaningful review.  Directors will need to do little more than hold a meeting, conclude that the expertise and qualifications of the defeated directors are valuable, and decline to accept the letters of resignation.

The case demonstrates that majority vote provisions are a myth and do not actually give shareholders the power to defeat directors.  Preemption in this area will need to be a mandatory requirement that defeated directors either not be seated or resign within a short time (90 days in the Model Act). 

Primary materials on this case are posted on the DU Corporate Governance web site.

Full post as published by The Race to the Bottom on August 27, 2010 (boomark / email).