Before last week, few people outside of McDonald’s corporate headquarters near Chicago would have been familiar with the name David Fairhurst.
But a court decision involving the former “global chief people officer” at the fast-food group, who was fired following allegations of sexual misconduct in 2019, could become a cautionary tale for companies across the US.
A judge in Delaware, where two-thirds of Fortune 500 businesses are incorporated, found shareholders could sue Fairhurst for allegedly failing to attempt to prevent pervasive sexual harassment at the company, which lost billions of dollars in market value after chief executive Steve Easterbrook was dismissed over a relationship with a subordinate in 2019.
Fairhurst, whom investors accused of fostering a “party atmosphere” at the group, “had an obligation to make a good-faith effort” to gather information about misconduct and alert the board, wrote vice-chancellor Travis Laster. The former HR chief “could not consciously ignore red flags indicating that the corporation was going to suffer harm”, Laster added.
The 64-page decision took the commercial litigation world by surprise. It signalled for the first time that the Delaware courts would put operating executives, not just board members, in the crosshairs for failing to implement the “oversight” needed to stop wrongdoing.
“The ruling really will expand what we see in terms of claims in years to come,” said Doug Baumstein, a securities lawyer at Mintz. “It puts a little bit more pressure on boards and management to make sure that they really have systems in place to detect bad conduct and then do something about it.”
The Delaware courts have typically ruled on M&A and shareholder disputes, not personal misconduct claims. But since 2019, after a decision that the board of an ice cream company could be liable for duty breaches for failing to monitor operations in the lead-up to a deadly listeria outbreak, investors have increasingly gone after directors for failing to spot or stop corporate scandals that have cost them money.
The case against Fairhurst was different. Fairhurst had been promoted to chief people officer in 2015 by Easterbrook, with whom he had become close when they both worked at McDonald’s in London. He was not, however, on the burger chain’s board.
Shareholders alleged Fairhurst breached his fiduciary duties by allowing a corporate culture to develop that condoned sexual harassment and misconduct. Recruiters were encouraged to hire “young, pretty females” to work at its headquarters, they said, where he and Easterbrook hosted weekly happy hours and developed reputations for flirting with female employees. Executives “routinely ma[de] female employees feel uncomfortable”, the investors alleged.
After several colleagues allegedly reported Fairhurst for pulling a female employee on to his lap at a party for human resources staff, shareholders claimed Easterbrook recommended the company deviate from its zero-tolerance policy for acts of sexual harassment by cutting Fairhurst’s bonus but allowing the HR boss to keep his job.
The lawsuit described “massive red flags” along the way, including numerous accusations that McDonald’s tolerated harassment of employees at restaurants, including in employee complaints filed with the Equal Employment Opportunity Commission.
McDonald’s declined to comment, but in its filings to the Delaware court, the company noted that its board was not aware of the “red flags”. Lawyers for Fairhurst did not respond to requests for comment. A lawyer for Easterbrook, who is not a defendant in the case and has settled separately with McDonald’s, declined to comment.
The lawsuit relies on the so-called “Caremark” doctrine, referring to a 1996 Delaware decision involving shareholders suing the directors of a healthcare company over a costly fraud scandal. The Caremark decision held that boards of directors retained a duty of oversight over their companies. Such claims have led to costly settlements for some companies, including Boeing, which paid $237.5mn in 2021 over a lawsuit alleging that its directors were liable for the two crashes of 737 Max jets.
The McDonald’s decision widened the scope of Caremark claims beyond wrongdoing that affects a company’s core business, as well as beyond the duties of just board members, according to University of California law professor Steve Bainbridge, who has been critical of the proliferation of such actions.
“Caremark has now grown to encompass what amounts to human resources mismanagement,” he wrote in a blog post last week. “What should have been a matter of employment law (and punished severely thereunder) has become a matter of the most controversial doctrine in corporate law,” Bainbridge added.
Laster, who has been a judge in Delaware since 2009, has yet to rule on whether the board, rather than shareholders, should bring the lawsuit to recoup damages on the company’s behalf, or if it is too conflicted to do so.
“Delaware law is highly contextual,” one senior corporate lawyer working with parties involved in the lawsuit cautioned, adding that it was too early to predict a wave of cases against officers until further similar rulings were issued.
“There are going to be people who are going to say this is going to lead to a massive flood of litigation,” said Rollo Baker, a partner at law firm Quinn Emanuel. But cases such as the one against Fairhurst, he added, “are exceedingly hard to allege and prove because they require specific allegations of bad faith, which is just very hard to do”.