BIREN, v. EQUALITY EMERGENCY MEDICAL GROUP, INC.
In 1988, emergency room physicians Biren, Kenneth Corre, Emanuel K. Gordon, David Kalmanson, and Michael Vitullo formed Equality Emergency Group, Inc. to provide emergency room services to hospitals under contract. Each physician owned 20 percent of the corporation’s shares, was a member of the board of directors, and served as a corporate officer. In 1991, Biren became the chief financial officer and later assumed responsibility for oversight of patient billing. In 1995, the physicians formed E.E.M.G.- SIMI, Inc. to segregate accounting and billing for Simi Valley Hospital from other hospitals that Equality serviced. The shareholder physicians treated the two corporations as one business.
On November 14, 1990, the five physicians entered into a written Agreement detailing their relationship and governing management of Equality. Paragraph 3.06 of the Agreement provided: “The following corporate actions shall require the prior written consent of Shareholders holding a majority of Shares entitled to vote on matters affecting the Corporation: . . . (ii) Entry into contracts for the provision of the following services to the Corporation: . . . B. Billing.” Shortly thereafter, the shareholders amended Paragraph 3.06 to delete the formality of a writing. The amendment conformed to the shareholders’ practice of voting orally on important matters, including engaging a billing company. Although Paragraph 5.11 of the Agreement required amendments to be in writing, the shareholders did not execute a written amendment.
In 1994, Equality transferred its patient and insurance billing to Gottlieb Financial Services (Gottlieb) in Florida. Timely and accurate billing of Equality’s physician services was vital to the cash flow and profitability of the business, which employed other physicians and office personnel. At trial, expert witness Daryl Favale testified that “huge [and] not insignificant differences” exist among billing companies and that performances “can be off 30 percent, 40 percent.”
In early 1997, Biren learned that Gottlieb had fallen significantly behind in billing for Equality. Biren’s and Equality’s office manager, Liz Lopez, met with Gottlieb’s vice-president, Randy Wilson, to discuss the problem. Wilson assured them that Gottlieb was “going to turn [the backlog] around” by adding employees to service the Equality account and by opening an office on the west coast.
On August 14, 1997, Biren terminated Gottlieb and orally authorized PHSS to process Equality’s billing. She stated to Lopez that “it was an emergency crisis situation and . . . as CFO . . . it was her fiduciary responsibility to maintain the financial stability of the [business] and make a quick and emergency decision.” Biren did not obtain prior shareholder approval for terminating Gottlieb and contracting with PHSS; she stated that she acted alone because the other directors were either on vacation or otherwise unavailable.
On November 20, 1998, a majority of Equality directors and shareholders voted to remove Biren as an officer and director and to redeem her shares for contracting with PHSS without prior shareholder approval, among other things. The directors relied upon Paragraph 3.06 of the Agreement regarding the necessity for shareholder consent to billing contracts and Paragraph 2.09 regarding a shareholder’s material breach of the Agreement.
Biren’s Breach of the Agreement and the Business Judgment Rule
Equality contends the trial court’s findings establish that Biren breached the Agreement and her fiduciary duties as a director and officer of Equality. It argues that she violated her fiduciary duties by (1) unilaterally dismissing Gottlieb and contracting with PHSS, and (2) not notifying the Equality shareholders and directors of the PHSS contracts and Gottlieb’s performance.
The court’s finding that Biren “reasonably relied” on information she believed to be correct was tantamount to a finding she acted in good faith. Biren learned that Gottlieb had stopped billing, which in turn affected Equality’s cash flow and payroll. Lopez told Biren that she learned of a “mass exodus” of Gottlieb employees and that Gottlieb would not commit to “catch up” on months of delayed billings. She learned from Weitz that his office was experiencing similar billing problems with Gottlieb. From this evidence, the court could find that Biren reasonably believed Gottlieb could not service the accounts. Moreover, because Weitz advised her that Sing had strong references the court could find that Biren reasonably believed that PHSS could service them.
“ ‘[A] director is not liable for a mistake in business judgment which is made in good faith and in what he or she believes to be the best interests of the corporation. . . .’ ” (Barnes v. State Farm Mut. Automobile Ins. Co. (1993) 16 Cal.App.4th 365, 378, 20 Cal.Rptr.2d 87). “The business judgment rule sets up a presumption that directors’ decisions are made in good faith. . . .” (Lee v. Interinsurance Exchange (1996) 50 Cal.App.4th 694, 715, 57 Cal.Rptr.2d 798, italics omitted.)
Equality argues that assuming Biren’s good faith, the business judgment rule does not protect her because she did not obtain board approval prior to engaging PHSS. “But the [business judgment] rule . . . protect [s] well-meaning directors who are misinformed, misguided, and honestly mistaken.” (F.D.I.C. v. Castetter (9th Cir. 1999) 184 F.3d 1040, 1046). Her breach of the Agreement resulted from her mistaken belief that as a director and officer she had the authority to act on behalf of Equality. She stated to office assistant Lopez that “it was an emergency crisis situation and . . . as CFO . . . it was her fiduciary responsibility to maintain the financial stability of the [business] and make a quick and emergency decision.” That Biren violated the Agreement by not obtaining prior board approval for the billing contract did not by itself make the business judgment rule inapplicable. (Cf. F.D.I.C. v. Benson (S.D. Tex.1994) 867 F.Supp. 512, 522 [F.D.I.C. alleged that directors allowed officers to make improper loans without obtaining the required board approval. But directors were protected by the business judgment rule unless they knew their acts were illegal or they “knowingly committed acts outside the scope of their authority”]; 3A Fletcher, Cyc. Corp. (Perm. ed.2001 supp.) § 1128 at pp. 55–56.)
Larger corporations often have formal board committees to recommend the approval of a variety of contracts. But small corporations like Equality conduct much of their official business informally. (See Friedman, Cal. Practice Guide: Corporations 2 (The Rutter Group 2002) ¶¶ 6:174- 6:181, pp. 6-32–6-34; Corp.Code, § 300, subd. (e).) “[I]t is well known that corporations which include only a few shareholders do not often act with as much formality as larger companies. This is especially so where the members of the board personally conduct the business of the corporation.” (2 Fletcher, Cyc. Corp. (Perm. ed.1998) § 394.10, pp. 246-247, fn. omitted.) The practice of allowing officers to approve contracts is so prevalent in some close corporations, for example, that they bind the entity even though the officer should have obtained board approval. (2 Fletcher, Cyc. Corp., supra, § 444, pp. 368–369.)
Equality was a small corporation run informally by physicians who themselves worked 12-hour shifts in hospital emergency rooms. The Agreement states Equality was a close corporation, although it did not comply with the requirements to establish a close corporation. It delegated most of the billing responsibility to Biren, who relied upon Equality office personnel. Unlike larger corporations, there were no distinct lines between management levels. Biren was given a large responsibility and Equality did not prove she intentionally usurped her authority. (F.D.I.C. v. Benson, supra, 867 F.Supp. at p. 522.) The court could reasonably infer that Biren remained within the protection of the business judgment rule because Equality did not prove her actions were anything more than an honest mistake. (Lee v. Interinsurance Exchange, supra, 50 Cal.App.4th at p. 715, 57 Cal.Rptr.2d 798).
Biren’s Breach of the Agreement
Biren contends the trial court erroneously found that she materially breached the Agreement. She points out that in practice, the shareholders never consented in writing to a billing company contract and their Agreement did not provide for oral consent. Biren contends that the oral amendment of Paragraph 3.06, deleting the requirement of written approval for billing contracts, was invalid because the Agreement requires amendments thereto to be written. She also relies upon the trial judge’s remarks that she had “a good argument that she didn’t have to follow” the Agreement regarding written consent.
The court found Biren materially breached the Agreement by, among other things, not obtaining prior approval for dismissing Gottlieb and engaging PHSS. Although Paragraph 3.06 requires prior written shareholder approval for billing contracts, the shareholders orally amended the provision to allow oral approval.
Biren’s argument rests upon assumptions that are not correct. She assumes the shareholders could not orally amend the Agreement because amendments require a writing according to Paragraph 5.11. But “the parties may, by their conduct, waive such a provision” where evidence shows that was their intent. (Frank T. Hickey, Inc. v. Los Angeles Jewish Community Council (1954) 128 Cal.App.2d 676, 682-683, 276 P.2d 52.) The court found that in the past, the shareholders took oral votes on billing company contacts. The court reasonably could infer that amendment of the written approval requirement showed the shareholders’ intent to conform to practice. Biren’s acts also show an intent to treat the written approval provision as if it never existed. Because she “behaved in a manner antithetical” to it, she may not now rely on it. (Wagner v. Glendale Adventist Medical Center (1989) 216 Cal.App.3d 1379, 1388, 265 Cal.Rptr. 412.)
Moreover, the trial court found, with sufficient evidentiary support, that Biren’s breach was material. It stated that Biren did not give other shareholders an opportunity to discuss or evaluate PHSS. It found that had she let the board decide “it is more likely than not that Equality would not have terminated Gottlieb. . . .”
