698 A.2d 959, 970 (Del.Ch. 1996)
Caremark International, Inc., a Delaware corporation headquartered in Northbrook, Illinois, was spun off from Baxter International, Inc. in November 1992 and became a publicly traded company on the New York Stock Exchange.1 Prior to and after the spin-off, Caremark operated in patient care and managed care segments, deriving substantial revenues from Medicare and Medicaid reimbursements subject to the Anti-Referral Payments Law.2 The company entered into contracts for services (e.g., consultation agreements and research grants) with physicians and health care providers, some of which involved individuals who referred patients to Caremark services.3
From 1989 onward, Caremark and its predecessor maintained a Guide to Contractual Relationships that prohibited payments in exchange for patient referrals, with annual reviews by lawyers.4 Following the issuance of safe harbor regulations by the Department of Health and Human Services in July 1991, Caremark revised its agreements and the Guide in attempts to comply.5 In August 1991, the HHS Office of the Inspector General initiated an investigation into Caremark's predecessor, later joined by the Department of Justice in March 1992, leading to subpoenas for documents including Quality Service Agreements.6
In response to the investigation, Caremark centralized management, terminated physician management fees for Medicare and Medicaid patients as of October 1991, published revised Guides, required approvals for contracts, and implemented ethics training and hotlines by 1993.7 An internal audit by Price Waterhouse in 1993 found no material weaknesses in controls.8 Despite these measures, a federal grand jury in Minnesota issued a 47-page indictment on August 4, 1994, charging Caremark and others with ARPL violations involving over $1.1 million in payments to a physician, followed by an Ohio indictment in September 1994.9
Five stockholder derivative actions were filed in 1994 and consolidated in the Delaware Court of Chancery, alleging that directors breached their duty of care by failing to supervise employees, exposing the company to liability.10 Caremark entered a government settlement in June 1995, pleading guilty to one count of mail fraud, paying fines and damages totaling around $250 million overall, and agreeing to a Corporate Integrity Agreement.11 It also settled with private payors for $98.5 million in March 1996.12 The parties negotiated a proposed settlement of the derivative litigation requiring enhanced compliance committee oversight and policy affirmations, leading to a fairness hearing on August 16, 1996.13
Whether the proposed settlement of the consolidated derivative action is fair and reasonable to Caremark and its absent shareholders?14
A proposed settlement of a derivative action must be approved if it appears fair and reasonable to the corporation and its absent shareholders.15 Assessment of the settlement requires evaluating the strengths and weaknesses of the claims on the discovery record and the consideration offered in exchange for the release.16
Yes. The claims asserted against the directors find no substantial evidentiary support in the record because the record shows that Caremark maintained a Guide to Contractual Relationships since 1989 with annual lawyer reviews, revised agreements after the 1991 safe harbor regulations, terminated physician management fees for Medicare and Medicaid patients in 1991, required zone president approvals in 1992, implemented ethics training and a confidential hotline by 1993, and received a Price Waterhouse report finding no material weaknesses in controls.17 These measures show an active good faith attempt to monitor compliance.18
The settlement requires creation of a Compliance and Ethics Committee of four directors that must meet at least four times a year, semi-annual board discussions of regulatory changes, and officer compliance certifications, which supply modest but positive enhancements to existing structures.19
Given the weakness of the claims, these benefits are adequate consideration for the release.
The proposed settlement is fair and reasonable to Caremark and its absent shareholders.20
Whether the discovery record supports a finding that Caremark's directors breached their fiduciary duty of care by failing to monitor corporate operations adequately?21
Directors satisfy their duty of care in part by making a good faith effort to assure that a corporate information and reporting system exists that is reasonably designed to provide senior management and the board with timely and accurate information concerning material acts, events, and compliance with law.22 Liability for failure to monitor requires a sustained or systematic failure of the board to exercise oversight amounting to a lack of good faith.23
No. The record establishes that Caremark's board received regular reports on compliance efforts, including the 1993 Price Waterhouse audit confirming adequate controls, management updates on ethics manual dissemination and training sessions, and the Audit & Ethics Committee's adoption of a new internal audit charter in 1993.24 These steps occurred alongside centralization of management, publication of revised Guides in 1992 and 1994, and appointment of a chief financial officer as compliance officer.25 The record therefore shows ongoing attention rather than an utter failure to implement reporting systems.26 Although indictments and substantial payments followed, the absence of evidence that the board knew of or consciously permitted violations means the directors' oversight satisfied the good faith standard.27
The discovery record does not support a finding that Caremark's directors breached their fiduciary duty of care by failing to monitor corporate operations adequately.28