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Liability Risk for Outside Directors: a Cross‐Border Analysis

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  • Bernard Black
  • Brian Cheffins
  • Michael Klausner

Abstract

Much has been said recently about the risky legal environment in which outside directors of public companies operate, especially in the USA, but increasingly elsewhere as well. Our research on outside director liability suggests, however, that directors’ fears are largely unjustified. We examine the law and lawsuit outcomes in four common law countries (Australia, Canada, Britain, and the USA) and three civil law countries (France, Germany, and Japan). The legal terrain and the risk of ‘nominal liability’(a court finds liability or the defendants agree to a settlement) differ greatly depending on the jurisdiction. But nominal liability rarely turns into ‘out‐of‐pocket liability,’ in which the directors pay personally damages or legal fees. Instead, damages and legal fees are paid by the company, directors’ and officers’(D&O) insurance, or both. The bottom line: outside directors of public companies face a very low risk of out‐of‐pocket liability. We sketch the political and market forces that produce functional convergence in outcomes across countries, despite large differences in law, and suggest reasons to think that this outcome might reflect sensible policy.

Suggested Citation

  • Bernard Black & Brian Cheffins & Michael Klausner, 2005. "Liability Risk for Outside Directors: a Cross‐Border Analysis," European Financial Management, European Financial Management Association, vol. 11(2), pages 153-171, March.
  • Handle: RePEc:bla:eufman:v:11:y:2005:i:2:p:153-171
    DOI: 10.1111/j.1354-7798.2005.00280.x
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    1. Cheffins, Brian R., 1997. "Company Law: Theory, Structure and Operation," OUP Catalogue, Oxford University Press, number 9780198764694.
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    1. Rasha Ashraf & Rajesh Chakrabarti & Richard Fu & Narayanan Jayaraman, 2010. "Takeover Immunity, Takeovers, and the Market for Nonexecutive Directors," Financial Management, Financial Management Association International, vol. 39(1), pages 83-127, March.
    2. Guest, Paul M., 2008. "The determinants of board size and composition: Evidence from the UK," Journal of Corporate Finance, Elsevier, vol. 14(1), pages 51-72, February.
    3. Aguir, Iness & Burns, Natasha & Mansi, Sattar A. & Wald, John K., 2014. "Liability protection, director compensation, and incentives," Journal of Financial Intermediation, Elsevier, vol. 23(4), pages 570-589.
    4. Achim Wambach, 2006. "Outside-Director Liability: A Policy Analysis. Comment," Journal of Institutional and Theoretical Economics (JITE), Mohr Siebeck, Tübingen, vol. 162(1), pages 26-31, March.
    5. Jeanjean, Thomas & Stolowy, Hervé, 2009. "Determinants of board members' financial expertise -- Empirical evidence from France," The International Journal of Accounting, Elsevier, vol. 44(4), pages 378-402, December.
    6. Douglas Cumming & Sofia Johan, 2006. "Is it the Law or the Lawyers? Investment Covenants around the World," European Financial Management, European Financial Management Association, vol. 12(4), pages 535-574, September.
    7. Crutchley, Claire E. & Minnick, Kristina & Schorno, Patrick J., 2015. "When governance fails: Naming directors in class action lawsuits," Journal of Corporate Finance, Elsevier, vol. 35(C), pages 81-96.
    8. Liu, Ruiming & Si, Haiping & Miao, Miao, 2022. "One false step can make a great difference: Does corporate litigation cause the exit of the controlling shareholder?," Journal of Corporate Finance, Elsevier, vol. 73(C).
    9. Guidi, Marco G.D. & Hillier, Joe & Tarbert, Heather, 2008. "Maximizing the firm's value to society through ethical business decisions: Incorporating ‘moral debt’ claims," CRITICAL PERSPECTIVES ON ACCOUNTING, Elsevier, vol. 19(5), pages 603-619.

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