Failure to Litigate as a Breach of the Board of Directors’ Duty of Care

Decision of the Swiss Federal Supreme Court of March 18, 2025, 4A_506/2024

August 29, 2025

If the Business Judgment Rule is not applied, it is sufficient for a breach of the board of directors’ duty of care that a business decision appears objectively flawed. In the case at hand, the Federal Supreme Court considered the failure to litigate as a breach of duty of care.

 

Background of the Dispute

The appellant was a director of D. AG, the respondent a director of C. AG. In the context of a construction project, C. AG engaged D. AG. After completion, C. AG alleged substantial defects, resulting in damages of approximately CHF 1.5 million.

In 2014, C. AG filed a partial claim against D. AG. The Zug Cantonal Court dismissed it, and the appellate court declined to hear the case for lack of sufficiently specific claims. C. AG then assigned its claims to the respondent, who in 2018 filed a new partial claim against D. AG before the Zurich Commercial Court. D. AG, however, failed to file an answer, resulting in a judgment against it in full.

In 2019, D. AG was declared bankrupt. The bankruptcy administration assigned to the respondent any potential liability claims of the company against its board (Art. 260 Federal Act on Debt Collection and Bankruptcy). The respondent then sued before the Zug Cantonal Court for damages, including those arising from D. AG’s failure to defend itself in the 2018 proceedings. 

 

The Court’s Decision

The Court had to determine whether the failure to litigate constituted a breach of duty and whether there was an adequate causal link to the loss incurred.

The Court recalled the principles of the Business Judgment Rule (para. 7.2): courts must exercise restraint when reviewing business decisions and examine only whether a decision was reasonable, provided it resulted from a proper, informed process free of conflicts of interest. In this case, the appellant could not demonstrate that such a process had taken place; therefore, the Business Judgment Rule was inapplicable.

The Court held that the relevant question was what a conscientious and reasonable person would have done under the same circumstances. The appellant argued that the company did not defend the 2018 proceedings because D. AG lacked financial resources, had no insurance coverage, and had ceased business operations years earlier. The Court rejected this reasoning: the company could at least have defended itself with the same arguments as in 2014, without the necessity of a legal counsel. The failure to act thus amounted to a breach of duty of care.

Beyond the breach, the Court examined whether a causal link existed between the breach and the loss. In other words, the Court had to assess whether the company would have incurred the same loss had the board not failed to litigate. The Court drew an analogy to malpractice claims against lawyers, where courts must consider how the lost case would have been decided had counsel acted diligently (the so-called “shadow trial”).

In the present case, the Court concluded that the appellant himself had argued before the lower courts that D. AG had not committed any breach regarding the construction defects. Based on this, the Court held that, had D. AG defended itself, no judgment against it would have been rendered, and no loss would have occurred. Causation was therefore affirmed.

 

Analysis and Commentary

Liability proceedings against directors are rare, and actual judgments against directors for breach of duty are even rarer. The present decision is therefore significant and has several practical implications:

Directors are strongly advised to document their decision-making processes in major business decisions. Only in this way can they later demonstrate that decisions were made on an adequate informational basis, free of conflicts of interest, and within a proper process — prerequisites for the protection of the Business Judgment Rule and the resulting judicial deference.

The Court emphasized that even in financially distressed situations, a board may be obliged to actively litigate or at least mount a minimal defense. Inaction can therefore qualify as a breach of duty of care.

The Court’s approach to causation is more problematic: it relied solely on the appellant’s own assertions that D. AG was not at fault for the construction defects. Deriving the hypothetical outcome of the case from such statements, without deeper factual examination, appears overly simplistic.