The Business Judgment Rule – a rule all business owners / shareholders should consider before challenging decisions made by a business’ management.
Generally speaking, decisions made by a business’ management (officers / directors; member / managers) are protected from outside interference from a court through application of the Business Judgment Rule. The Business Judgment Rule is aimed at relieving judges – who may not have experience or knowledge about running a business – from taking a seat in the board room and effectively running the business from the bench. The Rule, which is more a less a legal fiction / theory, was created by courts and is applied when a court is asked to review a business’ decision.
Application of the Business Judgment Rule allows (or requires, depending upon your viewpoint) a court to presume that despite a challenge to a business decision(s), management acted on an informed basis, in good faith, and in the honest belief that the action taken was in the best interests of the business. Put another way, the Court presumes the challenged action need not be reviewed or disturbed.
The party challenging management’s decision must overcome this presumption or face the likely outcome that the decision, regardless of how poor it may have been, will nonetheless stand. A person may overcome the presumption of the Business Judgment Rule in several ways. For example, a person challenging a business decision may rebut / overcome the presumption by presenting evidence that management breached its fiduciary duties of care and / or loyalty. See post on fiduciary duties. While presenting such evidence may help overcome the first hurdle – rebutting the presumption – it does not necessarily mean the challenged decision was improper, that wrongdoing occurred, or that you are entitled to relief. Rather, rebutting the presumption means the court can take the next step and actually analyze the wrongdoing / decision(s) at issue. In other words, the person challenging the decision may have won the initial battle, but the war is ahead.
If, however, a person challenging management’s decision cannot overcome / rebut the presumption, the decision (no matter how excellent or poor it is/was) will likely be upheld unless it cannot be attributed to any rational business purpose – a very high and difficult burden to overcome. In short, if the presumption cannot be overcome and management is able to present one rational business purpose, regardless of how prudent or imprudent the challenged decision was, the court will likely not interfere with or review the challenged decision.
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