Judge Rules in Favor of Disney in Ovitz Case but Criticizes Eisner

A Delaware judge Tuesday rebuked Walt Disney Co. Chief Executive Michael Eisner for his role in the ill-fated hiring and firing of Michael Ovitz as president, but ruled that he and other directors did not betray their duty to shareholders.

Chancellor William B. Chandler III of the state’s Chancery Court ruled that Disney directors acted in good faith when Ovitz was hired in 1995 and then allowed to walk away 15 months later with a severance package shareholder lawyers now value at $130 million. But while relieving directors of legal liability, the judge also scolded them in his 175-page decision, reserving his sharpest comments for Eisner.

“By virtue of his Machiavellian (and imperial) nature as CEO, and his control over Ovitz’s hiring in particular, Eisner to a large extent is responsible for the failings in the process that infected and handicapped the board’s decision-making capabilities,” Chandler wrote.

Chandler’s decision ended what he called “something of a public spectacle.” Set in Delaware, where Disney is incorporated, the three-month trial last year attracted scores of national media to the tiny, 5,000-person community of Georgetown, where Chandler hears cases.

In Hollywood, the trial’s webcast turned into popular entertainment, showcasing one of the most embarrassing episodes in the careers of two men who were once among the industry’s most powerful and feared executives.

The trial was unusual because most shareholder lawsuits, which carry a high threshold of proof and are difficult to win, are settled before trial. Other corporate executives watched developments closely because they raised the possibility that directors’ decisions could be second-guessed. Shareholder activists saw the trial as important in underscoring their argument that too many corporate boards are beholden to management.

Chandler’s decision reinforced directors’ rights to make decisions -- even bad ones -- if done in good faith. But its criticism of the Disney board and Eisner, who orchestrated the hiring of Ovitz, also is indicative of closer scrutiny for those who guide companies in the post-Enron era, corporate governance experts said.

Although the judge ruled in favor of the directors, shareholder activists did not view the decision as a defeat, noting Chandler’s criticism of how the board handled the Ovitz matter. Some suggested the ruling might spur more shareholder activism.

“This is a very loud wake-up call to directors,” said Charles Elson, a corporate governance expert at the University of Delaware. “No one here can be proud of what happened.”

Lawyers for the shareholders, who sought reimbursement of Ovitz’s payout, plus interest, vowed to appeal the decision.

“It would be unfortunate for shareholders and employees of public companies if this decision is read by corporate managers as a license to act in disregard of their duties,” said Melvyn Weiss, a senior partner at plaintiffs’ New York firm Milberg Weiss Bershad & Schulman.

Ovitz, while on a boating vacation in the Mediterranean with his family, said through his lawyer that he was relieved by the decision. “Obviously, I’m pleased that the chancellor found the allegations against me to be completely groundless,” he said. “I’m looking forward to putting this behind me and moving ahead with my life.”

Eisner’s attorney, Gary Naftalis, hailed the ruling.

“We always believed that there was no basis for this case,” Naftalis said, adding that Chandler’s criticism of his client was “more than offset by the court’s repeated affirmation of Mr. Eisner’s credibility as a witness, its repeated findings that Mr. Eisner at all times acted in good faith consistent with his fiduciary duties, and its explicit recognition of Mr. Eisner’s stellar track record as a CEO.”

Stephen Alexander, an attorney for former directors Stanley P. Gold and Roy E. Disney, said he was pleased by the judge’s decision, as did Jesse Finkelstein, who represented most of the other directors.

Ovitz’s 1995 hiring was hailed at the time as a coup for Disney and Eisner, who had just engineered the acquisition of Capital Cities/ABC. Ovitz was a near-mythical figure then, frequently dubbed Hollywood’s most powerful executive because he controlled a vast amount of talent as head of Creative Artists Agency.

Despite being one of Eisner’s best friends, Ovitz never adapted to Disney’s culture or to working at a public company, lasting a little more than a year.

Overshadowing the legal arguments at the trial was often dramatic testimony detailing the unraveling of a friendship between two of the entertainment industry’s best-known figures. Ovitz testified Eisner was his “life partner,” who shared family vacations in Aspen, and related how he stood vigil when Eisner underwent open-heart surgery.

But, Ovitz said, Eisner betrayed him. “I was cut out like cancer,” he said. “I guess you could say I got pushed out the sixth-floor window.”

Eisner, who downplayed the friendship, was confronted with rambling memos he had written about Ovitz in which he portrayed his underling as an untrustworthy “psychopath” who lavishly spent company funds. Eisner countered that his writings were filled with “hyperbole” and contained inaccuracies.

The trial also showcased an ugly Hollywood underbelly marked by lavish spending and petty quarreling, where spin takes precedence over honesty.

In his decision, Chandler lambasted both men for an appearance on CNN’s “Larry King Live” in 1996 in which they adamantly refuted rumors that their relationship was in tatters. At the time, testimony showed, Eisner was trying to persuade rival Sony Corp. to take Ovitz off his hands.

“It is clear now that this entire interview was a shameless public relations move during which both Eisner and Ovitz did not candidly answer Larry King’s questions with the goal of deflating the negative rumors surrounding their failed partnership,” Chandler wrote.

Chandler also suggested the announcement that Ovitz was leaving Disney by joint consent was a face-saving move. “The termination was anything but a mutual agreement,” he wrote.

Ovitz was portrayed in testimony as arrogant and profligate, failing to make the transition from Hollywood power broker to responsible caretaker of shareholder money. The trial unveiled his lavish lifestyle, including hosting $90,000 parties and showering talent with gifts.

Chandler’s decision provides some comfort for Ovitz, who had sought to use the case to finally tell his side of the story publicly.

Chandler noted that although “the general consensus on Ovitz’s tenure is largely negative,” he had made valuable contributions to the company as president such as a key recommendations about locating a gate for Disney’s California Adventure theme park in Anaheim, and persuading Tim Allen to return to ABC’s “Home Improvement” after he walked off the set.

“Ultimately, however, Ovitz’s time as President was marked by more ‘woulda, coulda, shoulda’ than actual success,” Chandler wrote.

Chandler’s bristling comments make for a tarnished bookend to Eisner’s 21-year career leading the iconic entertainment giant, which ends next month with his retirement. Eisner has been presiding over a financial turnaround, as evidenced by Tuesday’s announcement that the company’s quarterly profit was up 41% from a year earlier.

Shareholder attorneys alleged that the Ovitz case highlighted a larger problem with Eisner: that he frequently used the Disney board as a rubber stamp. Testimony portrayed a cozy relationship between Eisner and the board, which once included his personal lawyer, his architect and the principal of an elementary school attended by his children.

Documents unsealed in the Delaware case suggested that when Eisner decided to hire Ovitz as Disney’s president, he did not consult the full board and that a committee of directors gave only a cursory review of his employment contract before recommending that it be approved.

However, attorneys for Disney directors and Eisner argued that board members were involved in the Ovitz hiring through one-on-one deliberations. Chandler concluded that directors were informed before signing off on Ovitz’s hiring, and that Eisner had authority to fire Ovitz without their consent.

Chandler wrote that Eisner believed he was acting in the best interest of shareholders when he hired and fired Ovitz. Nonetheless, he agreed with criticism that Eisner mishandled the episode. In his ruling, Chandler chided Eisner for prematurely issuing a news release announcing Ovitz’s hiring, which he said pressured the board to accept Ovitz and approve his compensation package.

“His lapses were many,” Chandler wrote. “He failed to keep the board as informed as he should have. He stretched the outer boundaries of his authority as CEO.”

Shareholder lawyers had argued that directors were too passive, failing to properly monitor Ovitz’s firing, and that Ovitz should have been denied his severance for gross negligence and malfeasance. Attorneys for Disney directors countered that their hands were tied because Ovitz did nothing egregious enough to warrant denying his severance.

Chandler wrote that although Eisner’s actions during Ovitz’s tenure may not have reflected good corporate governance, they did not breach fiduciary duty to shareholders.

“Despite all the legitimate criticisms that may be leveled at Eisner, especially at having enthroned himself as the omnipotent and infallible monarch of his personal Magic Kingdom, I nonetheless conclude ... that Eisner’s actions were taken in good faith,” he wrote.

Of the board as a whole, Chandler wrote that directors had not “acted in a grossly negligent manner” or failed to fully inform themselves of available information. But he did not let them off the hook entirely.

“Are there aspects of Ovitz’s hiring that reflect the absence of ideal corporate governance?” he wrote. “Certainly, and I hope that this case will serve to inform shareholders, directors and officers of how the company’s fiduciaries underperformed.”

Disney investors originally filed suit over Ovitz’s severance in 1997. Chandler dismissed the suit in 1998, and the Delaware Supreme Court reinstated it in February 2000.

Some legal analysts said attorneys for shareholders faced an uphill battle in proving that directors were negligent. Delaware law typically gives directors wide latitude in making decisions as long as they don’t enrich themselves or act in bad faith.

UCLA law professor Lynn Stout called the ruling a classic application of corporate law.

“The decision is a reaffirmation of the business judgment rule, that we will protect directors from lawsuits claiming negligence so long as they take reasonable steps to make themselves informed,” she said.

Moreover, Stout said, shareholders’ attorneys in the Ovitz case had a tough time demonstrating that Ovitz was overpaid because he gave up a lucrative career as an agent.

Los Angeles litigation attorney Debra Riley also wasn’t surprised at the outcome given the evidence and Delaware law.

“The shareholders had the burden of proof and they didn’t get there,” she said. “They didn’t make their case.”

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Chronology

Here is a timeline of events in the Michael Ovitz case:

August 1995: Prominent Hollywood talent agent Michael Ovitz joins Walt Disney Co. as president.

December 1996: Disney announces Ovitz will step down but will leave the company with an estimated severance package of at least $90 million.

January 1997: Company shareholders sue over the size of the severance agreement.

October 1998: Delaware Chief Chancery Court Judge William B. Chandler III tosses out the shareholder suit, saying the stockholders did not prove the package was a waste of company assets.

January 2002: Disney shareholders sue the company again, claiming that directors were “grossly negligent” in approving Ovitz’s severance payment, which they now value at $130 million.

June 2003: Judge Chandler rules that the new shareholder suit can proceed.

February 2004: Confidential details of Ovitz’s lavish spending at Disney and issues over his firing become public when Chandler unseals documents in the case.

April 2004: The trial in the case is scheduled to begin in October.

May 2004: Ovitz’s actual severance collected is revealed to be $109.3 million because some of his options had expired.

September 2004: Chandler throws out one claim against Ovitz but rules the case can continue.

October 2004: The trial begins in rural Delaware.

November 2004: Ovitz finishes five days on the witness stand, as does Eisner.

January 2005: After months of detailed testimony, the case goes to Chandler for his ruling.

Tuesday: Chandler decides that Disney directors did not violate their fiduciary duty over their role in Ovitz’s hiring and departure.

Source: Times research; compiled by John Jackson

Los Angeles Times

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Highlights of the decision

Excerpts from the 175-page decision by Delaware Chancery Court Judge William B. Chandler III clearing Walt Disney Co. directors and Chief Executive Michael Eisner of breaching their fiduciary duties in the ill-fated hiring and firing of Michael Ovitz as Disney’s president:

On Eisner’s 1995 decision to hire Ovitz:

* “His lapses were many. He failed to keep the board as informed as he should have. He stretched the outer boundaries of his authority as CEO by acting without specific board direction or involvement.”

* “By virtue of his Machiavellian (and imperial) nature as CEO, and his control over Ovitz’s hiring in particular, Eisner to a large extent is responsible for the failings in process that infected and handicapped the board’s decision-making abilities.”

* “Despite all of the legitimate criticisms that may be leveled at Eisner, especially at having enthroned himself as the omnipotent and infallible monarch of his personal Magic Kingdom, I nonetheless conclude, after carefully considering and weighing all the evidence, that Eisner’s actions were taken in good faith.”

On Ovitz’s tenure at Disney:

* “Although the general consensus on Ovitz’s tenure is largely negative, Ovitz did make some valuable contributions while president of the company.... Ultimately, however, Ovitz’s time as president was marked by more ‘woulda, coulda, shoulda’ than actual success.”

* “Although I have found that Ovitz was not a liar, Eisner’s persistently vocalized reservations about Ovitz’s veracity are not inconsistent with that finding. I conclude that while Ovitz gave this court no reason to believe that he lied, that it is entirely possible that his actions while at Disney and his general character led Eisner to believe that Ovitz was not completely honest.”

On a 1996 “Larry King Live” interview in which Eisner and Ovitz denied rumors of a rift:

* “It is clear now that this entire interview was a shameless public relations move during which both Eisner and Ovitz did not candidly answer Larry King’s questions with the goal of deflating the negative rumors surrounding their failed partnership.”

On Eisner’s firing of Ovitz and Disney’s announcement in December 1995 that Ovitz would leave by “mutual agreement” the following month while continuing to serve as a consultant:

* “Although I am puzzled by the use of the phrase ‘mutual agreement,’ I am nonetheless convinced, based upon Ovitz’s constant self-denial and difficult behavior during the months leading up to his termination, and Eisner’s commitment that he would handle the termination gracefully for Ovitz’s benefit (and likely to prevent Ovitz from defaming him and Disney in the press) that the termination was anything but a mutual agreement.”

* “Eisner unexpectedly found himself confronted with a situation that did not have an easy solution. He weighed the alternatives, received advice from counsel and then exercised his business judgment in the manner he thought best for the corporation.”