Delaware Supreme Court’s Marchand Decision Creates Challenges for Directors of Food and Beverage Companies

29 August 2019 Legal News: Food & Beverage Industry Publication
Authors: Gardner F. Davis Neda A. Sharifi

In Marchand v. Barnhill, 2019 WL 2509617 (Del. June 18, 2019), the Delaware Supreme Court permitted a lawsuit to proceed against directors of an ice cream manufacturer for breach of fiduciary duty arising from a failure of oversight regarding food safety and compliance matters.  The case will create new challenges for directors of food and beverage companies.

Marchand involved a suit against the board of Blue Bell Creameries USA, Inc., a privately held company.  Blue Bell suffered a listeria outbreak in early 2015, which forced the company to recall all of its products, shut down production at all of its plants and lay off over a third of its work force.  Three people died as a result of the Blue Bell listeria outbreak.  Blue Bell stockholders suffered major losses because, after the operational shutdown, Blue Bell suffered a liquidity crisis, which forced it to accept a dilutive private equity investment.

The Company had extensive food safety procedures and systems for training, operations, quality control, reporting and sanitation.  Blue Bell conducted its own food safety testing program, and engaged a third-party laboratory and food safety auditor to test for presence of dangerous contamination in its facilities.

The Blue Bell board met monthly.  The CEO and the Vice President of Operations provided regular reports to the board regarding Blue Bell operations, including reports from time to time regarding food safety related matters.  However, the minutes of the meetings did not provide detail regarding discussion of food safety and compliance activities.

The board was unaware of “red flags” relating to food safety concerns during the period prior to the listeria outbreak.

A shareholder sued Blue Bell’s directors for a failure to provide oversight and monitor compliance with applicable laws, well known in Delaware corporate law as a Caremark claim.

The Plaintiff's theory was that the Blue Bell board utterly failed in its oversight duty because it “had no audit or other supervisory structure or committee with responsibility for oversight of health, safety and sanitation controls and compliance.”. 

The Delaware Supreme Court, in a unanimous decision, held that the complaint alleges particularized facts that support a reasonable inference that the Blue Bell board failed to implement any system to monitor Blue Bell’s food safety performance or compliance.  Under Caremark, directors have a duty “to exercise oversight” and to monitor the corporation’s operational viability, legal compliance and financial performance.  A board’s utter failure to attempt to ensure a reasonable information and reporting system exists is an act of bad faith in breach of a duty of loyalty.

The Delaware Supreme Court held that as a monoline company that makes a single product – ice cream – Blue Bell could only thrive if its consumers enjoyed its product and were confident that its products were safe to eat.  Therefore, Blue Bell’s central compliance issue is food safety.  The complaint alleges

  • Blue Bell had no board committee charged with monitoring food safety;
  • Blue Bell’s full board did not have a process where a portion of the board’s meetings each year, for example either quarterly or biannually, were specifically devoted to food safety compliance; and
  • The Blue Bell board did not have a protocol requiring or having any expectation that management would deliver key food safety compliance reports or summary of these reports to the board on a consistent and mandatory basis.  In fact, it was inferable that there was no expectation of reporting to the board of any kind.

The Delaware Supreme Court ruled that the complaint alleges facts that create a reasonable inference that the Blue Bell directors consciously failed “to attempt to assure a reasonable information and reporting system existed.”

In light of Marchand, boards of both public and private food and beverage companies should consider either appointing a committee to monitor the legal compliance and safety risks facing the company or make the subject a periodic topic for board presentations and discussion.  The board should also explicitly require that senior officers promptly and candidly advise the board of all information indicating material problems with the company’s safety performance or legal compliance.

Privately held companies need to revisit their practice relating to the preparation of minutes.  Many privately held companies prepare brief minutes which only note general topics of discussion at board meetings.  Going forward, substantially greater detail regarding discussion of legal compliance and consumer safety issues should be included to document the board provided effective compliance monitoring.

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1 In re Caremark Int’l Inc. Derivative Litig., 698 A.2d 959 (Del. Ch. 1996), aff’d sub nom Stone ex rel. AmSouth Bancorporation v. Ritter, 911 A.2d 362 (Del. 2006) (reviewing and restating the duties of directors to oversee corporate operations).

 

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