• New Legislation Defines the Fiduciary Duties of Officers of Ohio Corporations and LLCs
  • September 12, 2016 | Author: Bruce L. Waterhouse
  • Law Firm: Nicola, Gudbranson & Cooper, LLC - Cleveland Office
  • There has been significant press lately about the U.S. Department of Labor's new fiduciary rule, which will hold all financial advisors who provide investment advice to a "fiduciary standard"-in other words, to require advisors to put their clients' best interests above all else.

    But not many people are aware that the Ohio General Assembly recently passed a law that codifies the fiduciary standards for officers of Ohio corporations and limited liability companies. Senate Bill 181 was signed into law by Governor John Kasich in April, and went into effect on July 6.

    This is the first of two Legal Insights articles that will examine the changes in Ohio law under S.B. 181, and how those changes may affect your actions and legal exposure as an officer of an Ohio corporation, or as a member, manager or officer of an Ohio limited liability company.

    OFFICERS OF OHIO CORPORATIONS

    Lawmakers perceived a need to enact S.B. 181 in part because Ohio's General Corporation Law has long defined the fiduciary duties of corporate directors but was silent when it came to establishing fiduciary duties for corporate officers. Instead, the fiduciary duties of Ohio corporate officers were established solely by case law, which was limited to the specific factual situations considered by the courts in such cases. For example, one line of cases established that corporate officers have a duty not to waste or mismanage corporate funds-which is not much help when the question is whether an officer may engage in a competing business.

    The General Assembly felt that having only a common-law officer fiduciary duty in Ohio created uncertainty that could cause new enterprises to locate in another state that has statutory-and thus more accessible and certain-officer fiduciary duty rules. In short, the changes contained in S.B. 181 offer specific guidance to Ohio corporations and their officers concerning the scope of their duties, and to the courts that are called upon to determine whether an officer has breached such duties.

    FIDUCIARY DUTIES

    S.B. 181 establishes three "default" fiduciary duties of corporate officers: good faith, loyalty and care. There is now no question that an officer of an Ohio corporation must perform his or her duties to the corporation in good faith; in a manner the officer reasonably believes to be in, or at least not opposed to, the best interests of the corporation; and with the care that an ordinarily prudent person in a like position would use under similar circumstances. These are the exact fiduciary standards that have long applied to corporate directors under Ohio's corporation statute.

    The new officer fiduciary duties may be considered to be "default" rules because they are the minimum standards that will apply in all cases, absent the establishment of additional duties for a particular corporation by that corporation's Articles of Incorporation or Code of Regulations, or by specific agreement between an officer and the corporation.

    The General Assembly's attempt to create certainty about an officer's fiduciary duties unfortunately falls short because S.B. 181 fails to clearly state how the duty of "good faith" differs from the duty of "loyalty," leaving boards of directors, courts and corporate officers themselves to rely upon court-derived definitions of those terms for guidance. Although case law has established that the duty of loyalty includes not only the obligation to refrain from receiving a personal advantage at the expense of the corporation but also a requirement to act affirmatively to further the corporation's best interests, some courts have held that "good faith" is merely the subjective mental state that a corporate officer must have in order to meet his or her duty of loyalty to the corporation.

    In any event, because Ohio's new statute is based upon the Model Business Corporation Act, a model law prepared by the Business Law Section of the American Bar Association, similar provisions have been and will continue to be construed by the courts of at least twenty-four other states. This will offer practical interpretation and the application of these principles to specific fact settings. Furthermore, because a board of directors may now more easily determine if an officer is breaching one or more of the defined duties, it will be in a stronger position to act to remedy such breach.

    FIDUCIARY LIABILITY STANDARDS

    S.B. 181 also contains provisions that come into play if a corporate officer is sued for an alleged breach of fiduciary duties. First, the fact of the breach must be proved by "clear and convincing evidence." This is a higher showing than the "preponderance of the evidence" standard that usually applies for civil claims, but a less difficult burden to meet than the "beyond a reasonable doubt" standard applicable in criminal cases

    In addition, for an officer to be personally required to pay damages for violating fiduciary duties, the officer must be found, again by clear and convincing evidence, to have acted or refrained from acting either with deliberate intent to injure the corporation, or with reckless disregard for the corporation's best interests. A corporation may opt out of these limits on personal liability, prospectively only, by provisions in its Articles of Incorporation or Code of Regulations, or by specific agreement between an officer and the corporation.

    CHAIRPERSON OF THE BOARD

    Before S.B. 181, a chairperson of the board was automatically assigned officer status, which sometimes led to unintended consequences, particularly for chairpersons who did not perform day-to-day operational functions for the corporation. S.B. 181 amends the corporation statute to provide that a chairperson's default status is that of a director only, unless officer status is bestowed upon that person by the corporation's Articles or Regulations or a board resolution.

    Watch for a summary of S.B. 181's changes relating to members, managers and officers of Ohio limited liability companies in a future edition of Legal Insights.