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The significance of adhering to the business judgment rule

10/29/24

By: Rima Haggar

On October 16, 2024, in Tuli v. Specialty Surgical Center of Thousand Oaks, LLC, the California Court of Appeal affirmed a trial court decision finding that abandoning one’s fiduciary duties and dismissing the business judgment rule can lead to severe consequences. This rule is a presumption that the directors of a corporation make business decisions on an informed basis, in good faith, and in the honest belief that the action taken was in the best interests of the company. Courts defer to board judgments that can be attributed to any rational business purpose. (Katz v. Chevron Corp. (1994) 22 Cal.App.4th 1352, 1366 (Katz).)   

In the complex world of business partnerships, especially in the medical field, maintaining clear communication and adhering to fiduciary duties is paramount. From 1997 to 2005, Randhir Tuli, though not a medical doctor, played a significant role in establishing a series of surgery centers alongside experienced surgeon Dr. Andrew Brooks.  

Their innovative business model aimed to provide cost-effective alternatives to hospitals, enabling surgeons to retain more profits by reducing overhead costs. Initially, Tuli and Brooks shared ownership equally. In 2005, Symbion, a Tennessee-based entity, purchased substantial ownership interests from Tuli and Dr. Brooks, investing in various surgery centers. Symbion purchased substantial ownership interests in every surgery center, excluding a “Specialty Surgical Center,” of which it only acquired a 1% interest with options for future purchases, indicating a desire for deeper involvement in the business. 

Symbion played a vital role in crafting the operating agreement for Specialty Surgery Center, particularly advocating for a “terminating event” provision to protect the company from disruptive members and ensure bad actors within the company did not negatively impact it.  

As Tuli became increasingly inactive in the business, tensions began to surface. Despite his lack of involvement, Tuli continued to withdraw substantial profits from the business, frustrating his colleagues. When his colleagues sought to buy Tuli out, he refused, setting the stage for a major conflict. 

Matters escalated when Tuli sent a threatening letter to potential investors, suggesting criminal liability for his partners without any factual basis. This letter prompted the other members to issue Tuli an ultimatum: rectify the situation within 30 days or face expulsion from the company without compensation. As a consequence of ignoring their warning, Tuli was removed from the business. 

Following his ousting, Tuli engaged in a decade-long legal battle against his former partners. However, the trial court consistently dismissed his arguments, reaffirming the legitimacy of his expulsion and highlighting the significance of the business judgment rule. The trial courts focused on the operating agreement’s “terminating event” provision designed to protect the company from bad actors. Tuli’s actions, particularly the damaging letter, were deemed disruptive and harmful to the business. 

The California Court of Appeal upheld the lower court’s ruling, emphasizing the importance of good faith in business dealings. Tuli’s decision to send the unfounded letter not only violated his fiduciary duties but also posed a threat to the company’s reputation and operational integrity. 

This case serves as a critical reminder for entrepreneurs and business partners of the importance of adhering to fiduciary duties and maintaining the integrity of business operations. By learning from this cautionary tale, partners can foster a healthier, more collaborative business environment that prioritizes mutual success and stability. 

Please do not hesitate to contact Rima Haggar at rima.haggar@fmglaw.com or your FMG relationship partner to learn more.