Although Elon Musk’s offer to acquire Twitter is still garnering headlines, another “going private” development also merits attention: Meade v. Christie, an Iowa Supreme Court decision dismissing shareholder class action claims against directors who approved a going private merger. The Meade dismissal was based on a director liability shield patterned on the Model Business Corporation Act (“MBCA”) template. As interpreted and applied in Meade, the MBCA shield is more protective than the comparable Delaware provision. Equally important, Meade answers procedural questions that aren’t fully resolved by the MBCA shield text, illustrating key pleading requirements for corporate litigants when director shield defenses apply.
The MBCA Director Liability Shield
The Iowa director shield statute at issue in Meade, sometimes also called a “director raincoat,” is patterned on MBCA Section 2.02(b)(4), which authorizes corporations to include in their articles of incorporation:
[a] provision eliminating or limiting the liability of a director to the corporation or its shareholders for money damages for any action taken, or any failure to take action, as a director, except liability for any of the following: (i) the amount of a financial benefit received by a director to which the director is not entitled; (ii) an intentional infliction of harm on the corporation or the shareholders; (iii); a violation of section 8.32 [a provision limiting distributions to shareholders when the corporation would become insolvent as a result]; or (iv) an intentional violation of criminal law.
These or similar shield laws, in effect in nearly every state, are designed to allow corporate directors to take business risks without worrying about negligence lawsuits. Directors are poor risk-bearers, the argument goes; their role is to manage the corporation, not to insure against losses.
Exceptions from Exculpation, Including “Intentional Infliction of Harm”
Although raincoat provisions protect directors from damage claims for ordinary “due care” violations, listed exculpation exceptions in shield laws prevent corporations from sheltering directors from damage exposure for more serious misconduct. And the Iowa director liability shield, like its MBCA counterpart in effect in at least 20 states, forbids exculpation for claims based on “intentional infliction of harm on the corporation or the shareholders.” A key holding in Meade is that this exception does not encompass claims against directors for “conscious disregard” or “intentional dereliction” of duty, an issue no appellate court in Iowa—and no reported opinion from any state that has adopted the MBCA director liability shield—had previously considered.
“Conscious Disregard” and “Intentional Dereliction of Duty” Distinguished
To put the interpretative issue in context, Delaware’s shield law forbids exculpation of directors for “acts or omissions not in good faith or which involve intentional misconduct.” In 2006, the Delaware Supreme Court, construing the “not in good faith” portion of this exclusion in In re Walt Disney Co. Derivative Litigation, stated that non-exculpable acts include both “conduct motivated by an actual intent to do harm” (subjective bad faith) as well as lesser forms of bad faith, like a director’s “conscious disregard for … responsibilities” or “intentional dereliction of duty.”
The distinctions drawn in Disney proved critical to the Iowa Supreme Court’s interpretation of the “intentional infliction of harm” shield exclusion in Meade. Reversing the trial court ruling that the Iowa shield law excluded claims for “conscious disregard” or “intentional dereliction” of duty, the Iowa Supreme Court noted: “In contrast to Delaware’s statute, Iowa’s director shield statute includes no exception enabling liability for ‘acts not in good faith.’” And as the court recognized, it is the “not in good faith” exclusion that forms the statutory predicate for the “conscious disregard” and “intentional dereliction of duty” shield exceptions Disney and other Delaware decisions have recognized.
The Meade court also found support in the MBCA’s Official Comments discussing the “intentional infliction of harm” standard, which the court quoted:
The use of the word ‘intentional,’ rather than a less precise term such as ‘knowing,’ is meant to refer to the specific intent to perform, or fail to perform, the acts with actual knowledge that the director’s action, or failure to act, will cause harm … .
Applying this standard to the alleged director misconduct in Meade, the Iowa Supreme Court concluded that the allegations in Meade’s petition were “insufficient”:
The bulk of the allegations … recite failures to perform duties or incompetent performance, none of which suffices. … The statute, in short, requires a plaintiff to show a director’s specific intent to harm the corporation or its shareholders, as opposed to recklessness or dereliction in performing (or failing to perform) their duties.
Policy Justifications for Meade’s Interpretation
In this Author’s view, the Iowa Supreme Court properly recognized that the intent standard contemplated by the MBCA’s “intentional infliction of harm” exception is more protective of directors than Delaware’s “not in good faith” standard. The latter, like corporate and securities law scienter standards generally, can be satisfied by a showing of recklessness or conscious disregard on a director’s part. The MBCA drafters, however, crafted the statute’s director raincoat in Section 2.02(b)(4) with the Delaware shield law as an obvious model but omitted the “not in good faith” exception and a similarly broad Delaware exclusion for director “duty of loyalty” violations. As one commentator has explained, the apparent concern was that creative litigants could easily re-cast claims based on honest errors in director oversight or decision-making (appropriately exculpable duty of care claims) as breaches of open-ended duties like good faith or loyalty.
And in MBCA jurisdictions, there is good reason to draw exculpation lines precisely. To the extent Delaware shield exceptions are vague or ambiguous, a constant stream of corporate litigation in chancery and appellate courts will inevitably clarify the contours of director exculpation. Outside of Delaware, however, few director liability claims are litigated, and even fewer reach appellate courts. If director exculpation is to achieve its intended purpose in these jurisdictions—to provide flexibility for director decisions without unreasonable liability risks—clear lines are needed.
Critically, director exculpation does not remove director decisions from judicial scrutiny in going private merger litigation. Such cases also typically include claims against controlling shareholders for failure to pay “fair value” for the public share stake. Under Delaware’s MFW decision, courts review the merger terms with business judgment deference, but only if disinterested and independent directors properly approved the transaction and provided appropriate disclosure when obtaining disinterested shareholder approval. In MBCA jurisdictions, Section 13.40(b)(3) requires similar approval by independent directors and by informed, disinterested shareholders before appraisal remedies become exclusive, or nearly so, for “interested shareholder” transactions. Shielding directors from liability will encourage their participation in the authorized disinterested approval processes. The controlling shareholder, who potentially benefits from any failure by directors to carry out appropriate measures, can remedy any process defects by proving the terms of the merger transaction were fair.
Key Procedural Rulings, Including a New “Heightened Pleading” Standard for Shield Exclusions
Meade is also noteworthy for novel procedural issues the Iowa Supreme Court addressed concerning the MBCA raincoat provision. In Delaware, directors must plead and prove the applicability of a liability shield as an affirmative defense, while in MBCA states like Iowa, a shareholder or corporate plaintiff who seeks damages from directors must establish that no shield defense “precludes liability.” Meade helpfully clarifies that, despite this proof burden, plaintiffs aren’t required to initially plead one or more shield exceptions when suing corporate directors because the MBCA expressly requires directors to “interpose” a shield defense. But the Iowa Supreme Court confirmed that directors can interpose the shield defense in a motion to dismiss prior to filing an answer. That ruling is significant because, as Meade also holds, once corporate directors have “interposed” a shield defense, an opposing corporate litigant must allege an applicable shield exception through “heightened” pleading. What does that mean?
In federal court, where heightened pleading rules have traditionally applied in certain civil cases, judges require pleading with “particularity” or “specificity”—a detailed “who, what, when, where, and how” description establishing all necessary elements of a claim. But as applied by the Iowa Supreme Court in Meade, heightened pleading in director litigation apparently entails something less demanding: the court must evaluate whether the corporate or shareholder plaintiff pled facts showing claims against directors that fall within one of the MBCA’s exceptions to exculpation. Meade’s petition did not show the directors’ “specific intent to harm the corporation or its shareholders,” the court held, but only “failures to perform duties or incompetent performance, none of which suffices.” If all the petition’s allegations show there is no such claim, the Meade court concluded, the case can be dismissed even before discovery begins.
The heightened pleading standard Meade endorses is, without question, more onerous than traditional state court “notice” pleading requirements that permit most cases to reach the discovery phase. But the MBCA shield exceptions are narrowly drawn, and corporate litigants have access to information about potential director misconduct from corporate and securities law sources outside of litigation discovery. And as the Meade court acknowledged, by protecting directors not only from paying damages, but also from the burdens of pretrial litigation over shielded claims, the new pleading standard advances the purpose of raincoat provisions: to reduce fiduciary litigation risks for directors and thereby encourage board service. If other MBCA jurisdictions embrace Meade’s procedural template, the “director raincoat” moniker might need to change—director “slicker suits” perhaps?
Professor Doré has authored an expanded version of this article that will be published in a forthcoming issue of the Drake Law Review. A copy of that article is currently available on SSRN.
Matthew G. Doré, Richard M. and Anita Calkins Distinguished Professor, Drake University Law School.
Meade v. Christie, 21-0098 (Iowa Sup. Ct., May 27, 2022). ↑
MODEL BUS. CORP. ACT § 2.02(b)(4) (2016). The comparable Iowa provision is IOWA CODE § 490.202(2)(d). ↑
States using the MBCA model director shield language, or something quite close to it, include Alabama, Arizona, Colorado, the District of Columbia, Hawaii, Idaho, Iowa, Maine, Michigan, Mississippi, Montana, Nebraska, New Hampshire, South Dakota, Utah, Vermont, Washington, West Virginia, Wisconsin, and Wyoming. ↑
DEL. CODE ANN. TIT. 8 § 102(b)(7). ↑
In re Walt Disney Co. Derivative Litig., 906 A.2d 27, 62-68 (Del. 2006) (emphasis supplied). ↑
Meade v. Christie, 21-0098, *17 (Iowa Sup. Ct., May 27, 2022). ↑
Id., citing MODEL BUS. CORP. ACT § 2.02, cmt. E. (2016). ↑
See Matrixx Initiatives, Inc. v. Siracusano, 536 U.S. 27, 48 (2011). ↑
See Bryn R. Vaaler, 2.02(B)(4) Or Not 2.02(B)(4): That is the Question, 74 LAW & CONTEMP. PROBS. 79, 83-84 (2011). ↑
MODEL BUS. CORP. ACT § 13.40(b)(3). ↑
See, e.g., Emerald Partners v. Berlin, 726 A.2d 1215, 1224 (Del. 1999). ↑
MODEL BUS. CORP. ACT § 8.31(a)(1)(i) (2016); IOWA CODE § 490.831(1)(a)(1). ↑
Meade v. Christie, 21-0098, *12-14 (Iowa Sup. Ct., May 27, 2022). ↑
Summerhill v. Terminix, Inc., 637 F.3d 877, 880 (8th Cir. 2011). ↑