Introduction:

Successful shareholder derivative lawsuits can be an uphill battle for plaintiffs seeking to hold a company’s directors liable for breaches of their fiduciary duties. However, a recent development out of the Delaware Chancery Court in In re The Boeing Company Derivative Litigation has shown that it is possible for shareholders to hold directors accountable—with the Court finding that the shareholders had adequately pled that the Boeing board of directors failed to establish a needed reporting system and turned a blind eye to safety concerns in light of the Boeing 737 MAX jetliner crashes that occurred in 2018 – 2019.

Background:

Starting in October 2018 (the “Lion Air Crash”), a deadly series of crashes occurred on Boeing’s 737 MAX jetliners, with a second crash occurring in March 2019 (the “Ethiopian Airlines Crash”). Those accidents led to numerous investigations and proceedings in multiple regulatory and judicial forums to find out what went wrong and who was responsible. Those investigations later revealed that the Boeing 737 MAX jetliner tended to pitch up due to its engine placement; that a new software program designed to adjust the plane downward depended on a single faulty sensor and therefore activated too readily; and that the software program was insufficiently explained to pilots and regulators. In both crashes, the software directed the plane down. All told, the crashes involved over 300 fatalities, grounded Boeing’s 737 MAX fleet, and involved billions of dollars in non-litigation and litigation costs.

The Opinion:

As a result of the Boeing 737 MAX crashes, shareholder derivative litigation against Boeing’s board of directors and officers ensued in the Delaware Chancery Court. On September 7, 2021, Vice Chancellor Morgan T. Zurn issued the opinion[1] of the Court which granted-in-part and denied-in-part a motion to dismiss the derivative lawsuit. Vice Chancellor Zurn ruled that the shareholders had adequately pled with particularity that a majority of its board of directors could be liable for Boeing’s oversight failures. Op. at 2. Vice Chancellor Zurn found that “whether Boeing’s stockholders have alleged that a majority of the Company’s directors [may] face a substantial likelihood of liability for Boeing’s losses” could “be based on the directors’ complete failure to establish a reporting system for airplane safety, or on their turning a blind eye to a red flag representing airplane safety problems,” ultimately finding that the shareholders pled both sources of board liability. Id. While Vice Chancellor Zurn found that the shareholders may pursue the company’s oversight claim against the board, they failed to allege the board is incapable of maintaining a claim against Boeing’s officers.[2]

Analysis:

The recent Boeing decision is an important development since it dealt with seminal Delaware corporate caselaw, namely the 1996 Caremark decision,[3] which set the standards for director and officer liability and the business judgment rule. Vice Chancellor Zurn explained:

As Chancellor Allen first observed in Caremark, and as since emphasized by this Court many times, perhaps to redundance, the claim that corporate fiduciaries have breached their duties to stockholders by failing to monitor corporate affairs is “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.” A decade after Caremark, our Supreme Court affirmed the doctrine Chancellor Allen announced there and clarified that our law will hold directors personally liable only where, in failing to oversee the operations of the company, “the directors knew that they were not discharging their fiduciary obligations.” At the pleading stage, a plaintiff must allege particularized facts that satisfy one of the necessary conditions for director oversight liability articulated in Caremark: either that (1) “the directors utterly failed to implement any reporting or information system or controls”; or (2) “having implemented such a system or controls, [the directors] consciously failed to monitor or oversee its operations thus disabling themselves from being informed of risks or problems requiring their attention.” I respectfully refer to these conditions as Caremark “prong one” and “prong two.”

Op. at 67-70 (internal citations omitted). In this case, Boeing’s board of directors “had no committee charged with direct responsibility to monitor airplane safety,” (id. at 74) and “did not regularly allocate meeting time or devote discussion to airplane safety and quality control until after the second crash” (id. at 76-77). Vice Chancellor Zurn went further and found that:

The period after the Lion Air Crash is emblematic of these deficiencies. The Board’s first call on November 23 was explicitly optional. The crash did not appear on the Board’s formal agenda until the Board’s regularly scheduled December meeting; those board materials reflect discussion of restoration of profitability and efficiency, but not product safety, MCAS, or the AOA sensor. The Audit Committee devoted slices of five-minute blocks to the crash, through the lens of supply chain, factory disruption, and legal issues—not safety.

The next board meeting, in February 2019, addressed factory production recovery and a rate increase, but not product safety or MCAS. At that meeting, the Board affirmatively decided to delay its investigation into the 737 MAX, notwithstanding publicly reported concerns about the airplane’s safety. Weeks later, after the Ethiopian Airlines Crash, the Board still did not consider the 737 MAX’s safety. It was not until April 2019—after the FAA grounded the 737 MAX fleet—that the Board built in time to address airplane safety.

Id. at 77-78.

The conduct of Boeing’s board of directors in the immediate aftermath of the 737 MAX crashes is astounding. For an airline manufacturer to have “no committee charged with direct responsibility to monitor airplane safety,” and a board that “did not regularly allocate meeting time or devote discussion to airplane safety and quality control” after a second crash,” it is apparent why the Court held that the shareholder plaintiffs met their burden at the pleading stage. Especially in light of the fact that a claim against directors for breaching their fiduciary duty to stockholders by failing to monitor corporate affairs is “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.” Caremark, 698 A.2d at 967.

Conclusion:

Vice Chancellor Zurn summed up the case succinctly in the opinion’s opening salvo when she said that “[w]hile it may seem callous in the face of their losses, corporate law recognizes another set of victims: Boeing as an enterprise, and its stockholders. The crashes caused the Company and its investors to lose billions of dollars in value.” Op. at 1. The Boeing 737 MAX crashes tragically involved the loss of life, however, the Boeing case is also illustrative of what a company’s board of directors should not do in light of a major safety scandal. More importantly, the Boeing case showcases that the high Caremark standard can in fact be met and that the Court will side with shareholders when board conduct is egregious enough and its two-prong test is sufficiently met.

Shareholder derivative lawsuits are critical to protecting the rights of injured shareholders and effectuating responsible corporate governance. Lowey Dannenberg is well equipped to investigate and bring shareholder derivative litigation on behalf of affected investors. If you wish to speak to a member of Lowey Dannenberg’s securities and shareholder practice group please feel free to reach out Andrea Farah (afarah@lowey.com) or Anthony M. Christina (achristina@lowey.com).


[1] See In re: The Boeing Co. Derivative Litigation, Case No. 2019-0907 (Del. Ch. Sept. 7, 2021). https://courts.delaware.gov/opinions/

[2] Vice Chancellor Zurn also dismissed the shareholders’ other claim against the board regarding their handling of Boeing’s CEO’s retirement and compensation.

[3] See In re Caremark International Inc. Derivative Litigation, 698 A.2d 959 (Del. Ch. 1996) (“Caremark”).