WASTE OF CORPORATE ASSETS

WASTE OF CORPORATE ASSETS

Under Delaware corporation law and the corporation statutes in most states, directors owe the corporation the duties of care, loyalty, and good faith (and/or obedience). A director can be subject to personal liability for losses sustained by a corporation if the director has failed to ensure that corporate assets are being used for the corporation’s (and shareholders’) benefit.

Assuming that there are no allegations of fraud or self-dealing, courts may conclude that waste of corporate assets has occurred if directors have made an egregious business decision for little or no consideration that serves no corporate purpose. As one court stated, “if there is any substantial consideration received by the corporation, and if there is good faith judgment that in the circumstances the transaction is worthwhile, there should be no finding of waste, even if the fact finder would conclude ex post that the transaction was unreasonably risky.”

To support a claim for waste, a plaintiff must allege facts indicating that “what the corporation has received is so inadequate in value that no person of ordinary, sound business judgment would deem it worth that which the corporation has paid.” Commentators and courts have noted that this is an incredibly high burden of proof because the directors’ decisions likely will be protected by the business judgment rule in the absence of actual fraud. If a reasonable person could conclude that the allegedly wasteful deal made sense under the circumstances, the court will conduct no further review. Courts consider themselves particularly ill suited to judge business risks and business decisions in hindsight. Thus, successful claims for waste involve situations where directors entered into some kind of transaction in which there was absolutely no or minimal consideration and no evidence that the deal served a corporate purpose. 1
Even large employee compensation packages are not seen as corporate waste if the corporation receives fair consideration in exchange. Shareholders and disinterested directors cannot ratify waste. Where shareholders and disinterested directors have ratified corporate transactions that allegedly constitute corporate waste, the ratification serves to heighten a plaintiff’s burden of proof.2
A claim for waste may be brought by the corporation itself or by shareholders in a derivative lawsuit. In certain circumstances, corporate creditors or bankruptcy trustees may bring a claim for corporate waste.

• Examples of successful waste claims include situations in which directors gave away corporate assets and paid personal expenses of directors or executives without justification or authority.
• If there is evidence that a director engaged in self-dealing in regards to an allegedly wasteful transaction, the director cannot invoke the protection of the business judgment rule. The director would have the burden to prove that the transaction was undertaken in good faith and that the corporation received adequate and fair consideration.