Graham v. Allis-Chalmers Manufacturing Co.

41 Del.Ch. 78, 188 A.2d 125 (Del.Supr. 1963)

Facts:

  • Ds were directors of a company recently convicted of price fixing and violating various anti trust laws.
  • Ds claim to have not known of the activities of the company employees and thus hold themselves out as not being liable for the convictions.
  • Shareholder, P, sued D directors derivatively on behalf of the company – meaning he derived his status for suing from his injury brought via his status as a shareholder.
  • P sued the D directors for a breach of their fiduciary duty to the corporation.
  • P more precisely cited a failure to execute the duty to monitor by the D directors.

Issue:

  • Whether D’s duty to shareholders and/or the corporation was breached by failing to monitor the price fixing activities of lower level employees.

Rule:

  • “Corporate directors are entitled to rely on honesty and integrity of their subordinates until something occurs to put them on suspicion that something is wrong, and absent cause for suspicion directors have no duty to install and operate corporate system of espionage to ferret out wrongdoing.”

Holding:

  • The Del.Supreme Court found for the directors.
    1. P didn’t show that the D directors “had any actual or implied notice of facts which should have put them on guard against possible anti-trust violations by employees of corporation.”
    2. The evidence also showed it was corporate policy to delegate pricing authority and decision making to the bottom levels of the corporation.
      • The court held that this delegation was reasonable, given the considerable time and process that must go into pricing.
    3. The court established a standard which requires directors need only inquire if there are readily obvious indications of employee wrongdoing.
      • Note – This standard is an objective one, where the court must apply a reasonable person standard to whether the director should have recognized the signs of wrongdoing.

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