Outside Director Liability (Before Enron and Worldcom)

73 Pages Posted: 12 Dec 2003

See all articles by Bernard S. Black

Bernard S. Black

Northwestern University

Brian R. Cheffins

University of Cambridge - Faculty of Law; European Corporate Governance Institute (ECGI)

Michael Klausner

Stanford Law School; European Corporate Governance Institute (ECGI)

Date Written: November 2003


This is an EARLY version of our published article, Outside Director Liability, which is also on SSRN at http://ssrn.com/abstract=894921. A companion article, Brian Cheffins & Bernard Black, Outside Director Liability Across Countries, Texas Law Review (forthcoming 2006), http://ssrn.com/abstract=438321), studies six comparison common-law and civil-law countries (Australia, Britain, Canada, France, Germany, and Japan). These two articles are the most fully developed of our articles on outside director liability.

This early version was completed before the Enron and WorldCom settlements in 2005. We have left it on SSRN because Parts III and IV were not included in our published work.

ABSTRACT FOR THIS PAPER: Outside directors can do a bad job, sometimes spectacularly. Yet outside directors of U.S. public companies who fail to meet what we call their vigilance duties under corporate, securities, environmental, pension, and other laws almost never face actual out-of-pocket liability for good faith conduct. Their nominal liability is almost entirely eliminated by a combination of indemnification, insurance, procedural rules, and the settlement incentives of plaintiffs, defendants, and insurers. The principal risk of actual liability is under securities law, for an insolvent company (which can neither pay damages itself nor indemnify the director) and a seriously rich (hence worth chasing) director, where damages exceed the D&O insurance policy limits and the director does not represent an institution that can indemnify him. The principal sanction against outside directors is harm to reputation, not direct financial loss.

Other pieces of our overall research on Outside Director Liability are listed below.

http://ssrn.com/abstract=878135 (policy analysis)

http://ssrn.com/abstract=628223 (study of Korea)

http://ssrn.com/abstract=682507 (summary article for a finance audience)

http://ssrn.com/abstract=800584 (Germany-centered)

http://ssrn.com/abstract=800604 (German language version of Germany-paper)

http://ssrn.com/abstract=590913 (summary for practitioner audience)

Keywords: directors, corporate goverance, liability, securities law, corporate law

JEL Classification: G30, G34, G39

Suggested Citation

Black, Bernard S. and Cheffins, Brian R. and Klausner, Michael D., Outside Director Liability (Before Enron and Worldcom) (November 2003). Stanford Law and Economics Olin Working Paper No. 250, Available at SSRN: https://ssrn.com/abstract=382422 or http://dx.doi.org/10.2139/ssrn.382422

Bernard S. Black (Contact Author)

Northwestern University ( email )

2001 Sheridan Road
Evanston, IL 60208
United States

Brian R. Cheffins

University of Cambridge - Faculty of Law ( email )

10 West Road
Cambridge, CB3 9DZ
United Kingdom
+44 1223 330084 (Phone)
+44 1223 330055 (Fax)

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels

Michael D. Klausner

Stanford Law School ( email )

559 Nathan Abbott Way
Stanford, CA 94305-8610
United States
650-723-6433 (Phone)
650-725-0253 (Fax)

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels

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