SLCs and the Business Judgment Rule

In December 2007, the Race to the Bottom reported on the case In re UnitedHealth Group Inc. S'holder Derivative Litig., 2007 U.S. Dist. LEXIS 94616 (D. Minn., Dec. 26, 2007 ). At that time, UnitedHealth’s Special Litigation Committee (“SLC”) approved a settlement with William McGuire, its CEO and chairman of the board. The settlement came in response to several lawsuits alleging that McGuire benefited from backdating stock options and required him to pay the company approximately $600 million.

The trial judge expressed some reservations about the settlement, though, and declined to approve it. Instead, the trial judge certified to the Minnesota Supreme Court the question of whether the court was limited to a review of the SLC process or whether it could review the SLC's business judgment with respect to the settlement.

The Minnesota Supreme Court responded that the business judgment rule requires courts to defer to an SLC’s decision to settle suits if the decision meets two criteria: (1) the members of the SLC were independent; and (2) the SCL’s “investigative procedures and methodologies were adequate, appropriate, and pursued in good faith.” In re United Health Group Inc. S'holder Derivative Litig., In re United Health Group Inc. S'holder Derivative Litig., 754 N.W.2d 544 ( Minn. 2008).

In its analysis, the court identified a second, broader interpretation of the business judgment rule that other jurisdictions have applied to SLC proposals. This interpretation permits a court to go beyond evaluating the SLC’s independence and good faith and apply its own independent business judgment to the proposal. This court rejected the more expansive interpretation and argued, among other things, that courts lack the business acumen to effectively evaluate an SLC’s business judgment and that such a rule would undermine the integrity of the SLC’s process.

In a concurring opinion, Justice Anderson criticized the majority for endorsing a rule that may give judicial deference to wholly irrational SLC recommendations. Justice Anderson identified a middle approach that permits a court to investigate the independence and good faith of the SLC and to “determine whether the SLC’s recommendation can be attributed to any rational purpose.” Justice Anderson argues that this approach has two advantages. First, it lessens the possibility that judicial deference would be given to irrational SLC recommendations. Second, it lacks the broad discretionary power that the more expansive interpretation of the business judgment rule entails. This approach would lessen the possibility that courts will give deference to irrational SLC recommendations while curbing the use of its own business judgment.

The primary materials for this post are available on the DU Corporate Governance web site.