Compliance 101 -- The Caremark Case

Today, Compliance 101 gives a brief intro to perhaps the most famous court decision in compliance circles.

Dicta in the Delaware Chancery Court's 1996 decision in In re Caremark Int'l Inc. Derivative Litigation, 698 A.2d 959 (Del. Ch. 1996), addressed the board's duty to oversee a corporation's legal compliance efforts. As part of its duty to monitor, the Board must make good faith efforts to ensure that a corporation has adequate reporting and information systems. The opinion described this claim as "possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment," with liability attaching only for "a sustained or systematic failure to exercise oversight" or "[a]n utter failure to attempt to ensure a reporting and information system."

In the decade since, this Delaware dicta has morphed into what has come to be known as a Caremark claim, as federal and state courts, both within and outside Delaware, have recognized a cause of action against boards for failing to take minimal steps to achieve legal compliance. As the phrases "utter failure" and "systematic failure" suggest, a board's Caremark duty is a relatively low one. Only egregious lapses breach this duty, such as when board members ignore obvious red flags signaling illegal behavior, fail to appoint an audit committee, or do not address obvious concerns like large loans to corporate insiders.

Here are a couple of good sources that discuss the Caremark case:

H. Lowell Brown, The Corporate Director's Compliance Oversight Responsibility in the Post Caremark Era, 26 Del. J. Corp. L. 1 (2001).

Charles M. Elson & Christopher J. Gyves, In Re Caremark: Good Intentions, Unintended Consequences, 39 Wake Forest L. Rev. 691 (2004).