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How does indemnification work when a company sues its director?

On Behalf of | Mar 22, 2021 | Corporate Litigation

Directors of Delaware corporations are entitled to indemnification under 8 Del. C. s. 145 as provided in the corporation’s charter and bylaws. Subject to certain parameters under Delaware law, indemnification provisions require that the corporation indemnify its directors for costs and expenses, including reasonable legal fees, incurred as a result of legal actions brought against a director sued in that capacity. But does this requirement to indemnify apply if the corporation files an action against its own director?

The right to indemnification

Stockholders can bring an action against a corporation’s directors for a variety of reasons—most often for alleged breaches of fiduciary duties. Sometimes the allegations concern blatant misconduct. Other times, however, a director defendant acted in good faith and had the corporation’s best interest in mind when approving the challenged decision or transaction.

Under Delaware law, a director’s right to indemnification extends to actions brought by the corporation against the director, but the corporation’s bylaws can limit this right to some degree.

Regardless of the parameters contained in a corporation’s bylaws, if a director succeeds on the merits of the action, the corporation must indemnify the director, and if a director is found to have acted in bad faith that director cannot be indemnified.  Otherwise, a corporation has discretion in setting the guideposts for determining whether or not to indemnify its directors.  For example, even if a reviewing court finds the director liable to the suing corporation, in certain circumstances the director may be indemnified.

In deciding whether a director should or should not be indemnified, a court often will look to that director’s reasonable beliefs. If the director’s counsel can demonstrate that the director held a reasonable belief that the director’s actions were in the best interest of the corporation, then it is most likely that a court will find that the director acted in good faith, thus triggering the right to indemnification.