Why Canadian Boards Should Care About a U.S Case on an Officer's "Duty of Oversight"

The traditional role for officers of a company is to manage the day-to-day operation of the business. Do those officers also have a duty to “oversee” aspects of the company such as whether corporate culture tolerates or overlooks sexual harassment and misconduct?

According to a recent decision from the influential Delaware Court of Chancery, officers, as well as directors have a duty of oversight as part of their fiduciary obligations to a company. This is not the rule of law yet in Canada, but it soon could be, and officers and directors of Canadian companies need to be prepared.

What Happened in the Case

The decision from this year, In re McDonald’s Corporation Stockholder Derivative Litigation, builds on the obligations established decades ago in the milestone case In re Caremark International Inc. Derivative Litigation., 698 A.2d 959 (Del. Ch. 1996). In this case, shareholders of McDonald’s sued the Executive Vice President and Global Chief People Officer of McDonald’s Corporation derivatively on the company’s behalf. Stockholders alleged that the officer breached his fiduciary duties to the company by allowing development of a corporate culture that condoned sexual harassment and misconduct.

Specifically, they asserted that the officer had a duty of oversight as part of his fiduciary duties and that this oversight duty included an obligation to address or report upward any red flags regarding sexual harassment and misconduct. The officer moved to dismiss the claim arguing that as an officer, he did not have a duty of oversight.

The Court disagreed. Writing for the Court, Vice Chancellor J. Travis Laster specifically stated that “corporate officers owe a duty of oversight” and that the same policies that led the court to acknowledge a duty of oversight for directors in the Caremark case apply equally if not more to company officers. The duty of oversight would be generally limited to the officer’s particular areas of responsibility, although a “particularly egregious red flag might require an officer to say something even if it fell outside the officer’s domain.”

Why this Case Matters

The Court cited a business law principle that officers, rather than directors, are “charged with and responsible for” running the business of a corporation. For that reason, the oversight role is “more suited” to corporate officers than directors. With their feet on the ground in day-to-day operations, officers are simply better positioned to observe problems and to act on them in a more timely fashion than a board that meets only 4-6 times per year. “Officers who are running the business on a full-time basis,” the Vice Chancellor explains, “have a duty to address or report upward regarding what they see.”

In addition, the decision to impose oversight obligations on officers is also based on the reasoning that both officers and directors owe the same fiduciary duties to the company. This extension of oversight obligations makes sense logically on these grounds, so it may be only a matter of time before courts in other jurisdictions follow suit.

Call To Action

Is your company ready for the two-pronged oversight duty obligations to be extended to officers as well as directors? This requires implementation of information and reporting systems to provide accurate information for oversight as well as a duty to act when a red flag appears to indicate a problem.

If you need assistance putting systems into place, ensuring that those systems meet obligations, and reviewing the type of action that could be required by a potential red flag, it is better to act sooner rather than later. I’d be happy to answer general questions about oversight duties or discuss specifically what they might look like in your particular situation. Just reach out.