Board of Directors: Duties 101?
April 26, 2011

When serving on a board of directors, what guidelines should you keep in mind to make sure you are serving effectively and fulfilling your fiduciary duties? Some people are surprised to learn that regardless of whether you are a director of a publicly traded REIT, a privately held investment company, or a nonprofit organization, your fiduciary responsibilities to the organization you serve are the same. The two primary fiduciary duties owed by directors are commonly known as the "duty of care" and the "duty of loyalty." The duty of care requires that a director discharge his or her duties (1) in good faith, (2) with the care that an ordinarily prudent person in a like position would exercise under similar circumstances, and (3) in a manner the director reasonably believes to be in the best interests of the corporation. The duty of loyalty requires that a director must, at all times, discharge his or her duties with the utmost loyalty to the entity he or she serves, and not for his or her personal benefit or the benefit of others.

In practice, the duty of care relates to how a board of directors makes decisions and how it exercises its supervisory and monitoring obligations. In making decisions, directors are protected by the "business judgment rule," which has been adopted in most states, including Colorado. Under the business judgment rule, directors are not liable for the outcome of their decisions and actions (or even their failure to act) so long as the director has complied with the above standards of care. To demonstrate that this is the case, directors should be sure to make decisions in good faith, with sufficient information and after deliberating adequately about any issues of material importance to the entity. In their supervisory role, directors should request, receive, and understand adequate information about issues being considered by them; they should raise appropriate questions and, based on that information, exercise proper oversight of the officers of the entity and its operations.

Of course, if a claim is made against a board of directors for failing to comply with these duties, the outcome will be highly fact dependent, and the conduct of individual directors will be examined carefully. As you undertake your responsibilities as a director, here are some practical guidelines to help you fulfill your fiduciary duties:

(1) You should take the job of being a director seriously — it is a job. If you don't have adequate time to be well-informed about the organization and the issues confronting it so that you can make good decisions, you should resign from the board.

(2) You should participate actively in board meetings. You should raise questions, challenge information and proposals coming before you, so that you understand them; and you should insist that you receive complete, thorough, and well-thought-out information from management.

(3) You should insist that the entity hire experts when appropriate. Colorado statutes allow a director to rely on information, opinions, reports, or statements prepared or presented by experts whom a director reasonably believes to be reliable and competent, including legal counsel, public accountants, and other experts.

(4) The board should consider holding an executive session, on a regular basis, in which only directors and invited advisors or members of management are present. Or if there are items of particular sensitivity that should be discussed at any given meeting, you, as director, should not hesitate to ask the board to go into executive session; these sessions can be conducted with specific members of management, so that items of particular sensitivity can be discussed openly and frankly with management. Or, if appropriate, the board can conduct an executive session without any members of management present, so that the directors can engage in frank discussion among themselves. If concerns remain after the executive session, you should ask that those concerns be directed to a board committee or to management for resolution and be placed on the agenda for subsequent board meetings, until resolved.

(5) The organization you serve should have a conflict of interest policy that all directors acknowledge every year. You should understand its terms and consider whether you can provide independent advice and make decisions with the utmost loyalty to the entity (remember, the appearance of a conflict can be as bad as an actual one). You also should routinely assess the ethics of decisions being made by the board. Even if a course of action is legal, it may not be the right thing to do.

(6) Self-evaluations of how your board is performing, both collectively and individually, should be routinely conducted. Was everyone prepared for the meeting? Did members actively participate? Were the agenda topics appropriate for a governing board? Did management respond with complete and adequate information? These are only examples. The board itself can best decide what criteria and methods it wants to establish for evaluations and, based on those, how to measure its own effectiveness as a board.

These guidelines should help you and your fellow board members provide more effective service to the organizations you serve, and help to limit your exposure to any claims that you have not properly discharged your fiduciary duties. Our firm regularly advises companies, directors, officers, and shareholders regarding the proper exercise of fiduciary duties. We would be glad to speak with you about any questions you may have.