Board of Director Compensation, Fixed by Directors, Is Presumed Fair Under Chapter 55 Amendments Pursuant to Followed Requirements

By:  Amber Razzano

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In light of the news regarding Apple and Amazon’s new headquarters, the North Carolina General Assembly is taking steps to compete with other states for attracting these opportunities and additional corporate businesses. The North Carolina Business Corporation Act (“NCBCA”), codified in Chapter 55 of the North Carolina General Statutes, will take effect on October 1, 2018 (the “Act”). The 2018 amendments to the Act are consistent with changes made to the Model Business Corporation Act (the “MBCA”) and changes to state laws in other jurisdictions. The amendments to the Act cover nine principal topics, including changes that automatically affect the Board of Directors and Officers of public corporations.

North Carolina’s “business judgment rule” is a legal concept that “protects corporate directors and officers from personal financial liability to shareholders and the corporation,” “prevents courts from second-guessing a business decision of directors absent proof of bad faith, conflict of interest, or disloyalty, so long as the decision is the product of a rational process, making use of all material and reasonably available information, and the directors reasonably believed they were acting in the best interest of the corporation.” The rationale behind this rule stems from the belief that directors would be less inclined to take risks if they could be held liable for a business decision with an adverse result.

In cases challenging North Carolina corporate director’s business decision, the business decision is presumed to be valid, and the challenger bears the burden of proof in showing the business decision is invalid. The court has discretion in allowing a trial regarding said business decision to move forward if it finds a majority of directors were “interested directors” with respect to the specific business decision.

The NCBCA, codified in N.C. Gen. Stat. 55-8-11, expressly allows the board of directors to fix the compensation of directors, unless the articles of incorporation or bylaws provide otherwise. There is a clear conflict of interest in the board of directors fixing their own compensation. N.C. Gen. Stat. 55-8-31(a) states “a conflict of interest transaction is a transaction with the corporation in which a director of the corporation has a direct or indirect interest,” however, this transaction is not voidable if approved by disinterested directors, shareholders, or if they are fair to the corporation.

Section 7 of the Act, modeled on Section 78.140(5) of the Nevada Revised Statutes, amends N.C. Gen. Stat. 55-8-11 codifying a solution to the previously imposed tensions. In a public or private corporation that fixes the compensation of directors in its articles of incorporation, regardless of their personal interests, the amount is presumed fair and the challenger need allege facts sufficient to overcome this presumption. If the challenger does not overcome this presumption through alleged facts, the case shall be dismissed for summary judgment. The decision of the board remains subject to the business judgment rule.

North Carolina was ranked among America’s top ten states for business in 2018 based on a number of factors including economy, cost of doing business, and business friendliness. The recent amendments to the Act makes North Carolina even more business-friendly. When the board of directors’ compensation is presumed fair, claims brought to challenge the fairness are likely to be dismissed earlier in litigation if a challenger is unable to overcome the presumption, therefore creating a more judicially efficient system. Corporations are drawn, in part, to incorporate in Delaware because of the state’s specialized court system that largely favors businesses and judicial efficiency. This amendment to the Act is a step attempting to provide similar benefits present in the Delaware judiciary.

Amber Razzano is a second-year law student at Wake Forest University School of Law. She holds a Master of International Business and a Bachelor of Arts in Business Administration – Marketing from the University of Florida. Her practice area interests include corporate, labor and employment, intellectual property, and real estate.