The business judgment rule in the US means that a corporation’s board of directors won’t be held responsible for mistakes made in good faith. Decisions must be reasonable and made in the best interest of the company. Shareholders can take board members to court if there is a belief of misconduct. Some people have challenged the rule for insulating board members from accountability.
In the United States, the rule of business judgment is an aspect of corporate jurisprudence, which states that a corporation’s board of directors will not be held responsible for mistakes made if the decisions behind the mistakes were made in good faith. The idea behind this rule is that doing business inherently involves making decisions of a controversial or risky nature, and that boards of directors may not be able to act freely if they have to be constantly concerned with the potential for shareholder action.
Several standards must be met to confirm that the membership of a board of directors cannot be challenged. The entire premise of the business judgment rule is based on the idea that board members always work in the best interest of the company. In addition to being legally required to do so, they have a vested interest in keeping the company in good financial health, because their salaries are often based on performance.
Decisions must be made in good faith, must be reasonable, and must be made in the belief that they were made in the best interest of the company for the business judgment rule to apply. For example, the board of directors might spin off an underperforming unit of an automaker because it believed it would be better to sell the brand than try to revive it. A shareholder might believe this decision was wrong, but board members could not be challenged if they showed that they acted in good faith, felt that the choice was right for the company, and that their decision was reasonable and prudent by industry standards. .
Board members have a duty of care to the parent company. If there is a belief that there has been misconduct, they can be taken to court by a shareholder or, more commonly, a group of shareholders. The commercial judgment rule is used to review these cases to determine whether or not people have a lawsuit. If they do, the board of directors will be held accountable for the decisions it takes and asked to demonstrate its reasoning.
Some people have challenged the commercial judgment rule on the grounds that it effectively insulates board members from accountability and that it can be abused. In 2009, there were some attempts to push for a rethink of the rule on the grounds that rules like this allowed for questionable business practices that contributed to the global economic meltdown that started in 2008.
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