Serving on a board — Honor or Minefield?

Board membership – an honor or a financial minefield?
By Dunn, Carney, Allen, Higgins & Tongue

It is often thought of as an honor to be asked to serve on boards of directors.  However, those asked may be in for a surprise when it comes to the personal liability to which they may be exposing themselves.  An astute board prospect would certainly ask to see the articles and bylaws to see the degree to which these documents provide for indemnification and the advancement of expenses that might be incurred as a director.

Do these provisions protect the proposed director?  Maybe, if the circumstances are right.  Otherwise, no.

A recent Delaware court found that a former board member was not entitled to advancement or reimbursement of defense expenses after the board amended the bylaws to eliminate this protection for former directors, even though this amendment was made after the alleged bad acts or omissions occurred and after the former director ceased to be a director.

While Oregon courts are not required to follow Delaware law with respect to Oregon entities, they may reach the same conclusion.  Also, many entities operating in Oregon have been formed under Delaware law.  Further, a similar position could be taken as to managers of limited liability companies.

The Oregon State Bar is considering whether to propose legislation to the 2011 legislative session to address this problem, but pending some legislative fix being enacted in the future, how should persons willing to serve as directors protect themselves against such retroactive changes in the rules?

Persons considering serving on boards and current directors should seek an indemnification agreement from the entity as a condition of service or continued service.  This agreement can be limited to certain acts or omissions, based upon the satisfaction of certain conditions (such as meeting certain standards of conduct), cover only certain liabilities or expenses, or be as broad as the law allows.  By making it an agreement with the entity, it cannot be changed retroactively without the consent of both sides.

The final question might be how does a person insure that an entity will have the funds available to meet such indemnification obligation?  That is where insurance comes in.  However, a person considering serving as a director should not rely too heavily on insurance because there are limits, deductibles and exclusions in these policies that may still leave the director personally exposed.

If you are a director or are considering serving in such a role or if your company or organization wants to induce the best people to serve as directors and reassure its directors that it will indemnify them under circumstances involving good faith and the exercise of the business judgment rule, contact us to assist you in drafting an indemnification agreement that “locks in” the protections that are currently available in most articles or bylaws.  We can also review any director’s errors and omissions on an insurance policy to see if there are any significant holes in coverage.

If you are involved in a professional practice, there are additional issues and planning steps to consider and a great deal more at stake.

For more information about board membership, please contact Bob Winger at [email protected]

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