Wills, Trusts & Estates Prof Blog

Editor: Gerry W. Beyer
Texas Tech Univ. School of Law

Tuesday, March 26, 2019

Article on Fiduciary Loyalty, Inside and Out

ScalStephen R. Galoob and Ethan J. Leib recently published an Article entitled, Fiduciary Loyalty, Inside and Out, 92 S. Cal. L. Rev. 69-126 (2018). Provided below is an introduction of the Article.

A fiduciary is someone with a certain form of discretion, power, or authority over the legal and practical interests of a beneficiary. As a result of this arrangement, the beneficiary is vulnerable to predation by the fiduciary. Fiduciary relationships trigger a suite of duties, at the core of which is the duty of loyalty. In a sense, the fiduciary relationship is oriented around the possibilities of trust and betrayal. One point of fiduciary duties is to prevent betrayal or, failing that, to assure that betrayals are rectified insofar as possible. What constitutes loyalty or betrayal in fiduciary law, however, is not always clear.

Consider Item Software (UK) Ltd. v. Fassihi.  Messrs Fassihi and Dehghani were corporate directors of a small software distribution company called Item Software, whose main business was selling software developed by Isograph. Dehghani was the managing director, and Fassihi was the sales marketing director. In November 1998, Dehghani decided to renegotiate the terms on which Item sold Isograph’s products. Fassihi urged Dehghani to drive a hard bargain with Isograph, so Deghani negotiated aggressively. Ultimately, the negotiations between Item and Isograph broke down, and Isograph terminated its contract with Item.

Fassihi’s advice to Dehghani, although plausibly in Item’s best interest, had the air of duplicity. Unbeknownst to Dehghani, during the negotiations Fassihi had approached Isograph with a proposal to establish an independent company to market Isograph’s products. At the same time Fassihi counseled Dehghani to engage in brinksmanship, he also urged Isograph to terminate its relationship with Item. In a subsequent lawsuit, Item alleged that Fassihi only urged Dehghani to negotiate aggressively in order to increase the prospects of undermining the negotiations and subsequently obtaining Isograph’s business for himself.

Was Fassihi disloyal? The answer, of course, depends on what loyalty means. It seems clear that Fassihi was disloyal to his partner in the ordinary sense of that term. Fassihi’s conduct bears a striking resemblance to that of Iago in Shakespeare’s Othello and of Littlefinger in George R.R. Martin’s A Song of Ice and Fire novels, arguably the preeminent historical and contemporary literary examples of treachery. Yet as a legal matter, whether Fassihi violated his fiduciary duty of loyalty is not as obvious. This discrepancy might be explained on the grounds that the notion of loyalty applicable in life (let alone Elizabethan tragedy and genre fiction) differs from the standard that leads to legal liability against fiduciaries like corporate directors, trustees, and attorneys.

Cases like Fassihi implicate a lively scholarly debate concerning how the legal notion of loyalty relates to the notion applicable outside the law. Although the terms of this debate are not always clear, some see a deep connection between the legal and non-legal notions of loyalty. Call this position “moralism.” For the moralist, this connection to the moral or ordinary notion of loyalty informs the legal requirements that apply to fiduciaries, as well as the determination of whether a fiduciary has violated duties to a beneficiary in any particular case. By contrast, a position we can call “amoralism” denies that there is any meaningful connection between the loyalty that applies to fiduciaries and its moral counterpart. To be sure, the amoralist does not (and cannot) deny that judges sometimes invoke moralized language to describe fiduciary concepts. However, for the amoralist, any such connection is rhetorical flourish rather than real law. We more fully describe the parameters of the debate between moralists and amoralists in Part I.

The debate between moralists and amoralists is a species of a much broader dispute about the comparative importance of legal materials and broader normative principles in theorizing the private law. Consider the connections between the morality of promise and the law of contract, or the role the concepts of “wrong” and “duty” play in tort law. Much private law litigation and scholarship concerns whether legal concepts resemble and operationalize concepts from ordinary morality. Within fiduciary law, this debate about loyalty has particularly important practical implications, since it bears on how to elaborate standards in areas where fiduciary norms already apply and on whether fiduciary norms should apply to a particular legal domain in the first place.

The debate between moralists and amoralists is long running and perhaps intractable. We propose to finesse, if not resolve, this impasse by focusing on what we term the cognitive dimension of fiduciary loyalty. On this view, whether someone satisfies the requirements of fiduciary loyalty depends, at least in part, on how she deliberates and how her deliberation is connected with her actions. Fiduciary loyalty also imposes demands on a person’s commitments: a fiduciary does not satisfy her duty of loyalty toward a person or cause if her commitments to that person or cause prove themselves too flimsy. These standards apply to loyalty both inside and outside of law. For the most part, they apply irrespective of whether the best understanding of fiduciary loyalty is moralist or amoralist. We elaborate and defend these claims in Part II, drawing on doctrines in corporate law, trust law, agency law, bankruptcy law, and the law governing lawyers that are, we argue, best explained by the cognitive dimension of fiduciary loyalty.

Part III then clarifies our conclusions regarding cognitivism and fiduciary loyalty, highlighting some of the implications of our analysis for fiduciary law. Cognitivist accounts can catalyze both doctrinal and policy innovations. Regardless of whether loyalty has an identical meaning inside and outside of legal institutions, fiduciary loyalty, like ordinary loyalty, imposes important standards on a fiduciary’s cognition. Appreciating this structural feature of loyalty will enable judges and scholars to transcend many debates about moralism and to resolve practical questions that do not turn on whether moralism is true.

https://lawprofessors.typepad.com/trusts_estates_prof/2019/03/article-on-fiduciary-loyalty-inside-and-out.html

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