In a legal landscape often defined by its intricate nuances, a recent divergence in Delaware Court of Chancery rulings has brought a fundamental question to the forefront of corporate governance: when does employee misconduct, with its direct impact on the workforce, also constitute a breach of fiduciary duty by corporate directors? This critical issue, currently under review by the Delaware Supreme Court following the appeal of the Brola v. Lundgren decision, centers on the evolving interpretation of the duty of oversight and its capacity to address wrongs that transcend traditional corporate financial interests. The conflicting opinions in Brola and Los Angeles City Employees’ Retirement System v. Sanford highlight a structural tension within Delaware law, prompting a re-examination of the very purpose and scope of directors’ responsibilities.
The Divergent Paths of Brola and Sanford
The legal debate gained significant traction with two contrasting decisions from the Delaware Court of Chancery. In December 2025, Vice Chancellor Will, presiding over Brola v. Lundgren, dismissed a derivative claim against a director whose sexual harassment of employees resulted in approximately $1.6 million in liability for the corporation. Vice Chancellor Will characterized the conduct as "interpersonal" and "not a matter of corporate internal affairs," asserting that existing employment laws provided adequate remedies. She cautioned against transforming the duty of loyalty into a "general morality code" that could extend to minor workplace disputes, thereby risking "doctrinal sprawl."
Weeks later, Chancellor McCormick, in Los Angeles City Employees’ Retirement System v. Sanford, adopted a starkly different approach. Ruling on a derivative action stemming from widespread sexual misconduct allegations at eXp Realty, Chancellor McCormick declined to follow Brola. The Sanford case involved claims of Caremark oversight and duty-of-loyalty breaches, alleging that the company’s founder had covered up reports of drugging and sexual assault at corporate events, and that the board had failed to address repeated warnings. Chancellor McCormick allowed both the loyalty claim against the founder and the oversight claims against the directors to proceed. She reasoned that the duty of loyalty has always encompassed situations where a fiduciary prioritizes personal interests above the corporation’s, "whatever the context." Her assertion that "Human resources are company resources" and their misuse for "selfish purposes" is akin to embezzlement, directly challenged Vice Chancellor Will’s limiting principles, which she deemed an innovation rather than a faithful application of Delaware law.
The Core Question: Fiduciary Wrong or Third-Party Harm?
At the heart of these conflicting rulings lies a single, fundamental question: when does misconduct, whose immediate victims are the corporation’s own workers—individuals protected by distinct bodies of employment law—also constitute a fiduciary wrong?
Vice Chancellor Will’s perspective suggests that fiduciary liability arises only when a director abuses the specific authority vested in their corporate office. In the Brola case, the director’s harassment was deemed misconduct any mid-level manager could commit, and the availability of an employment-law remedy was sufficient reason for fiduciary law to step aside.
Conversely, Chancellor McCormick argues that a fiduciary’s self-serving misconduct that harms the corporation, regardless of the immediate victim, can trigger fiduciary obligations. Her reasoning translates the harm to workers into the language of corporate injury, viewing employees as "corporate resources" whose abuse constitutes a disloyal act.
The Dual Purpose of Oversight: Agency Costs vs. Public Ordering
The ongoing debate is deeply rooted in the dual purposes that the duty of oversight, as articulated in the seminal Caremark decision, seeks to serve.
Policing Agency Costs: The Traditional Corporate Governance Role
The first and more traditional purpose of the duty of oversight is to address "agency costs"—the inherent conflicts that arise when ownership and control are separated. In this context, boards of directors are tasked with obtaining sufficient information about the corporation’s affairs to effectively supervise management on behalf of shareholders. This involves ensuring that management acts in the best interests of the company and its owners.
Public Ordering: Corporate Governance as an Instrument of Law Enforcement
The second, and more contentious, purpose is "public ordering." When Delaware law mandates that directors monitor the corporation’s compliance with external laws—and allows shareholders to sue for failures in this regard—it transforms corporate governance into a mechanism for enforcing public law. Compliance systems, designed to bring potential violations to the attention of directors, can proactively prevent conduct that harms workers, consumers, and the broader public.
This public-ordering function is not an external imposition but rather a descendant of the long-standing "duty of obedience." This duty, historically and uncontroversially, prohibits fiduciaries from knowingly causing or permitting the corporation to violate the law, irrespective of potential profitability. Delaware law has consistently affirmed that corporations can only pursue "lawful business or purposes." Modern interpretations of this duty, as seen in cases like In re Massey Energy, emphasize that a fiduciary cannot be loyal to a corporation by knowingly leading it into illegal activities for profit.
The duty of oversight, in this public-ordering view, operates "one step upstream" from the duty of obedience. While obedience governs actions once illegality is known, oversight focuses on the systems that ensure potential illegality becomes known. Without these systems, the prohibition against knowing illegality could be circumvented through deliberate ignorance.
The "Atom" of Caremark: A Fusion’s Consequences
The trouble, as articulated by legal scholars Ryan Bubb and Gabriel Cohen, authors of the paper underpinning this discussion, did not arise from Caremark‘s pursuit of both purposes. The initial Allen decision recognized the need for information systems addressing "both the corporation’s compliance with law and its business performance." The issue emerged in the subsequent doctrinal development, where each purpose became a condition for liability for neglecting the other.
This fusion, where the public-ordering purpose prevents Caremark from becoming a general duty to monitor business performance, and the agency-cost purpose prevents it from becoming a broad compliance monitoring duty, is what Bubb and Cohen refer to as Caremark‘s "atom." This atom, they argue, is structured by two key doctrinal features:
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The Illegality Prerequisite: Oversight liability is generally confined to failures to monitor violations of external law. This effectively shields boards from liability for catastrophic failures to monitor ordinary business risks, as exemplified by the board’s inattention preceding the collapse of Silicon Valley Bank in 2023. Agency-cost logic alone cannot justify this distinction, as significant business risks can threaten shareholders as much as legal violations. The public-ordering commitment, however, supplies a substantive legal obligation whose conscious disregard can constitute bad faith. Ordinary business risks lack such a comparable command, leaving directors free to choose among lawful strategies and accept attendant risks.
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The Business-Centrality Screen: This feature, solidified in cases like Marchand, requires that a compliance risk be "mission critical" or central to the corporation’s business for oversight liability to attach. Centrality operates by allowing an inference of bad faith if a board fails to monitor a risk integral to the enterprise. This screen reflects Delaware’s reluctance to openly acknowledge its obedience commitment. Courts often frame their work as shareholder protection, even when enforcing public obligations that ultimately benefit workers, consumers, and the public. By making a risk’s importance to the business the basis for culpability, Delaware effectively infers indifference to the law from indifference to the business.
Figure 1, as presented in the original paper, illustrates this structure, showing how the illegality prerequisite largely empties the agency-cost component and the business-centrality screen thins the public-ordering component. Viable oversight claims, therefore, tend to concentrate at the intersection where public obligations and corporate interests coincide.
The Costly Implications of Fiduciary Fusion
Bubb and Cohen contend that this fusion, while seemingly pragmatic, imposes significant costs on both public ordering and agency cost enforcement.
Distorting Public Ordering and "Efficient Compliance"
From a public-ordering perspective, the doctrine’s "atom" concentrates liability where private incentives to self-police are already strong. Violations in core business areas inherently threaten the enterprise, thus incentivizing boards to monitor them regardless of legal mandates. Conversely, the doctrine withdraws fiduciary pressure from areas where its incremental value—reinforcing public law commands—would be greatest.
Furthermore, the fused doctrine encourages boards to view compliance monitoring as a mere business investment. By focusing on "mission critical" risks, boards are implicitly incentivized to economize on oversight for peripheral concerns. This leads to an "efficient compliance" model, where expected penalties are treated as prices, and compliance occurs only when it is financially advantageous. This approach is problematic because legal sanctions are often deterrence-based, designed to prohibit conduct deemed harmful even if profitable, rather than setting a "price" for that harm. A firm optimizing against expected penalties misinterprets these sanctions, extracting "welfare guidance" from a component not designed for it and discarding the component that carries the state’s normative judgment. This, Bubb and Cohen argue, is not only morally questionable but economically inefficient.
Weakening Agency Cost Accountability
The authors also argue that Caremark, in its modern form, has weakened board accountability for failures of attention, contrary to conventional understanding. Prior to Caremark, directorial inattention was addressed under the duty of care through objective review of board processes, with Delaware’s gross negligence standard applied to supervision failures. The modern doctrine, by relocating oversight to loyalty, replacing objective review with a subjective bad-faith inquiry, and confining liability largely to legal compliance, has narrowed the duty’s scope and raised its threshold. For business-risk oversight, this creates a "super bad faith" standard. The consequence extends beyond litigation, shaping boardroom norms. Directors and their counsel absorb a doctrine that suggests oversight duties "are not designed" to reach business risks, leading to reduced accountability.
This outcome is predictable when a private-law doctrine is burdened with a public-ordering commitment. The inherent limitations of the private function distort the public one, while the public function crowds out the private.
The Case for "Splitting the Atom"
Bubb and Cohen propose a clear solution: two distinct doctrines, each serving one purpose effectively.
An Agency-Cost Duty: Focused on Business Performance
An agency-cost duty, rooted in the duty of care, would obligate boards to maintain "reasonable information systems concerning business performance and significant operational risks." Judicial review would focus on gross negligence regarding the monitoring process, while respecting informed substantive business judgments. Section 102(b)(7) exculpation would continue to apply, as this duty exists primarily for shareholder benefit.
A Public-Ordering Duty: Independent of Business Centrality
A public-ordering duty would provide independent doctrinal form to the monitoring extension of Delaware’s duty of obedience. This duty would require boards to orient corporate systems towards compliance with sanction law, irrespective of whether the risk is central to the business. Inattention to the monitoring process would be reviewed for gross negligence, while conscious facilitation of noncompliance would trigger bad-faith liability. Crucially, this duty would be non-exculpable, as shareholders cannot waive an obligation that benefits parties beyond their own interests. Damages would be calculated based on the corporation’s gross enforcement-related losses, excluding any gains derived from illegality.
This proposed framework, while novel in its rule for culpable ignorance, aligns with existing Delaware legal principles: the duty of obedience prohibits knowing illegality, and Caremark establishes board responsibility for information systems. The public-ordering duty would thus gain the necessary informational infrastructure.
Articulating Existing Commitments
The split, therefore, is not an invention but an articulation of existing commitments. By separating the two functions, the agency-cost duty could revert to objective, process-based review associated with the duty of care. Simultaneously, the public-ordering duty, freed from the necessity of demonstrating a direct threat to shareholder interests, could directly address legal compliance. The alternative, they argue, is a perverse scenario where fiduciary law condemns directors for knowing lawbreaking while protecting boards that deliberately avoid such knowledge.
Why This Matters Now: A Supreme Court Opportunity
The urgency of this matter is underscored by the current situation. Vice Chancellor Glasscock, in a previous ruling, famously suggested that the question of Caremark‘s dual purpose was "for academic discussion, not judicial resolution." Bubb and Cohen strongly disagree, asserting that Delaware’s courts, as the architects of these duties, are responsible for defining their scope.
The current tension, they explain, is a predictable outcome of a unified doctrine attempting to reconcile incompatible design requirements. Cases like Brola and Sanford represent a release of the "energy stored in the fused doctrine," leading to unpredictable and contradictory outcomes. Chancellor McCormick’s reliance on procedural mechanisms like demand requirements and attorney fee controls to cabin the consequences of a broad duty is a market-based response to a normative question. It explains how litigation might be managed but not why fiduciary law should extend to such conduct in the first place.
The Delaware Supreme Court now has a critical opportunity to address this fundamental ambiguity. By "splitting the atom" of the Caremark doctrine, the Court can provide clarity, resolve the existing conflict, and ensure that fiduciary law accurately reflects its intended purposes: protecting investors when appropriate, and reinforcing public law commands when necessary, without conflating the two. This decision will shape corporate governance for years to come, determining the extent of directors’ responsibilities in an increasingly complex regulatory and social environment.
