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November 2, 2006
Zealous Advocacy Meets Fantasia: A Response to Professor Donohue
Posted by Jeff Lipshaw
John J. Donohue III (Yale) has a column in The Economist's Voice (Berkeley Electronic Press) entitled The Discretion of Judges and Corporate Executives: An Insider's View of the Disney Case. To be accurate, Professor Donohue's "insider" status derives from the fact that he was an expert witness for the plaintiff shareholders in the shareholder derivative litigation claiming that Disney officers and directors breached their fiduciary duties and wasted corporate assets. So it turns out Professor Donohue wasn't a fly on the wall when Michael Eisner and his general counsel, Sanford Litvack, were trying to decide what to do about the very highly paid executive Disney had recently hired, and who was turning out to be one of the great hiring errors in recent corporate history. Like the rest of us, Professor Donohue was an after-the-fact commentator on the cold record of documents and depositions, taking (hey, that's what we're paid to do) a pot shot, albeit learned, at their decision.
It's pretty clear Professor Donohue does not hold himself out as an expert on Delaware corporate law; he has a distinguished background as a legal academic and economist, and according to his biography on the Yale Law School website "has used large-scale statistical studies to estimate the impact of law and public policy in a wide range of areas from civil rights and employment discrimination law to school funding and crime control. Before joining Yale Law School, he was a chaired professor at both Northwestern Law School and Stanford Law School. He recently published Employment Discrimination: Law and Theory."
A real insider might have been somebody like Senator George Mitchell (right) who was on the board of Disney at the time, and who took over as the interim chairman of Disney when the board relieved Michael Eisner of that title.
Extended reaction below the fold.
First, Professor Donohue's column has the implicit disclaimer, at least in the description of the author, that he had some emotional stake in the outcome of the case, and that certainly would account for the vituperative attack on the Disney executives as well as the Delaware judiciary. I also want to issue a disclaimer. I was a general counsel, often making ex ante decisions like Litvack's, and my sympathy to a general counsel in that position is a matter of public record.
One further disclaimer: hell hath no fury like a litigant scorned, particularly when the litigant has an academic outlet for the fury. In my prior life as a general counsel, I was a two-time loser - well, I guess I shouldn't personalize it - in the Delaware courts in the same case: Great Lakes Chemical Corp. v. Monsanto. (Kind of like Brandon Inge committing two errors on the same play in the World Series, but we digress.) The first loss was in the federal court on the issue whether the LLC interest the company bought from Monsanto (before my tenure, by the way) was a "security" for purposes of Rule 10b-5. In retrospect, I think we deserved to lose that issue, and I hold no animus with regard to Judge McKelvey's well-reasoned opinion. (The only "animus" - :) - I hold is to Professor Bainbridge, who took the case out of the new edition of his business associations case book, depriving me of the priceless credibility of teaching my own bad decision to litigate an issue out of somebody's else book.) The second loss, which I take more personally, was the state court decision (where we refiled after being dismissed in federal court) holding that as a matter of law we had failed to state a claim for common law fraud in view of an anti-reliance provision of the kind I am now addressing in a work in progress. I confess that my view is in part shaped by my own experience, and I wouldn't mind seeing a change in Delaware contract law on the subject. But I still think the Chancery Court is at the top of the list as a place to have business issues decided if you really have to litigate.
But now to the (red) meat of Professor Donohue's beef. He excoriates Disney's management and board, and the entire Delaware judiciary (but in particular Chancellor William Chandler who was the fact-finder) for what he sees as an egregious waste of corporate assets - the roughly $140 million (in 1996 dollars) that Disney paid to Michael Ovitz in severance upon his termination just fourteen months into his five year contract. This, says Professor Donohue, was waste. The board made an uninformed decision, without "an evaluation of the legal rights of the company and the costs and benefits of" choosing NOT to pay under the non-fault termination provision, and instead litigating the issue whether, under the contract, Ovitz had committed "gross negligence or malfeasance."
We need to peel this artichoke a little to understand just what constitutes the gravamen of Professor Donohue's view of the sin here. It is not the original decision to give Ovitz a contract that upon termination was worth that much money. (Indeed, I have just finished teaching the Disney case to my Business Enterprises class. Granted that I am a superb (?) advocate, and there was no opposing view, after my fifteen-minute history of the hiring, my subsequent request for a show of hands whether the Disney board was wrong in executing the contract produced no takers, and this from a class that had gasped at the amount before we started.) The sin was also not in the decision to fire Ovitz. One presumes that it was legitimate for the board and management to have said "what is done is done, and we cannot unring the bell, but we must fire Ovitz." No, the sin, according to Professor Donohue goes to the professional lawyering issue that I previously pegged as the one not really discussed so far in the academic world: Sanford Litvack's determination that trying to fit Ovitz's conduct within the "gross negligence or malfeasance" standard of the contract was a "no-brainer" (i.e., it didn't fly), and the Board's acceptance of that conclusion.
And we need to peel even further. Professor Donohue does not address the fact that the board was entitled under Delaware law (Section 141(e)) to rely on the opinions, reports, or statements presented to the corporation by any of its employees, or by any other person as to matters the board reasonably believed were within that person's professional or expert competence and who had been selected with reasonable care by the corporation. Whatever else one thinks, Sandy Litvack was a lawyer on whose opinion a board member could reasonably rely. (NB: the opinion points that Eisner himself checked with all the lawyers he knew and got the same answer - conduct that is completely consistent with my experience in dealing with CEOs who do not like the answer given to them by their general counsel, as much as the CEO may love and respect the general counsel.) He was certainly reasonably hired.
So Professor Donohue's argument really boils down to the following propositions: (a) Litvack was wrong (even if wrong in good faith) in applying the contract standard for a termination for cause to Ovitz's conduct; (b) even if there were a colorable basis for such a position, Litvack did not zealously represent his client by recommending that Disney pursuing the "for cause" claim; (c) as general counsel, Litvack was not entitled to make that decision - the board, and not the lawyer, had the duty to practice law - that is, to draw the appropriate legal conclusion from a set of factual circumstances (a board member without a law license doing this out of her home office for a client would no doubt have some issues with the local bar association); and (d) the board should be liable, without the benefit of the presumptions of the business judgment rule, for what, in effect, was either its or Litvack's alleged malpractice of law.
Wow. In fact Professor Donohue is no more an insider to this particular decision than I. But I have been inside on decisions that may well have involved as much money as the $140 million, and I am bothered terribly by the advocacy of what appears to be the "zealous advocacy" model of a general counsel's duties. As I asked in the earlier post, if Litvack concluded that Disney could pass Rule 11 muster (or the straight face test), did he have an obligation, moral or otherwise, to all the uninformed stakeholders (i.e. the shareholders) to pursue the claim, even if as nothing more than bludgeon to knock ten or twenty or thirty million dollars off the pay-out? Is it like zealous advocacy when defending a client for a capital crime? Are we general counsels obliged to employ EVERY means at our disposal to win?
To paraphrase the earlier comment, that was always the toughest kind of call for me as a general counsel. Like Litvack, I would conclude that contesting a particular issue was a "no brainer" because in my judgment we had no case. But I always wondered in those instances: was I too nice? or too ethical? Somebody could cobble together enough of a position to cause some grief for the other side (because it seemed like people were always taking marginally ethical positions against us, and finding lawyers who would sign the pleadings!) If I reached a legal conclusion and expressed it to the board, it was the rare case that anybody would question it. In essence, my sense of ethics or my moral judgment, as the GC, became the moral judgment of the corporation. And I always told the board when my legal judgment overlapped either my moral judgment or my business judgment (which often overlapped each other - as my business judgment was pretty utilitarian). I have a hard time believing (and here I confess I do not know the record as well as Professor Donohue) that Litvack never had that same conversation with the Disney board.
This is the real danger of big numbers, like those in the Ovitz situation. Ask your next class, completely out of context, if $140 million severance is too much after fourteen months work, and I guarantee you that the overwhelming majority will answer "yes" spontaneously with no knowledge whatsoever of the facts. I probably would. What we have here, it seems to me, is a populist attack on an issue of wealth distribution, in the guise of what purports to be an analysis of law. And it is not a careful analysis of law or morality, as much as one expert's continued political advocacy of a position wholly rejected by the court. It would be fair, at least, were it made explicitly on the latter basis.
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