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White & Case Technology Newsflash

Artificial intelligence (AI) is increasingly transforming business processes and strategies across industry sectors. Companies are figuring out how to take advantage of AI, focusing primarily on customers' needs and experience. However, AI could also be a powerful tool to enhance internal decision-making processes and governance through advanced analytical models and robust risk-management methods.

Research is progressing apace, and some pioneering businesses are starting to adopt AI-based technology also for internal management purposes. Yet the breadth and depth of these changes and the resulting legal implications are yet to be fully explored.

 

How AI may enhance decision-making processes

AI is a broad field that encompasses a variety of emerging technologies and areas of research, ranging from computers or other problem-solving machines or robots to machine learning or deep learning methods.

Depending on the sophistication of the AI tool, AI can contribute to decision-making processes by:

  • Making predictions on future events based on big data and machine learning
  • Assessing the payoffs of a judgment more accurately by eliminating human biases
  • Qualifying and quantifying uncertainties based on statistical data and previous experience
  • Suggesting courses of actions or additional options overlooked by human decision makers
  • Anticipating the behaviour of customers or competitors
  • Monitoring business performance and developing financial forecasts
  • Testing business proposals or assumptions
  • Testing developments in manufacturing process and applications of new technologies

 

AI in the boardroom

There are several ways in which AI could be deployed by directors and top managers in making key business or governance decisions.

AI can materially increase the quality of the information on which board resolutions are based. It could be used to gather, develop and produce information on the valuation of potential targets in the M&A process, develop economic predictions on the launch of new business lines or products, or assist the directors in identifying the best bidding or project management strategy in an auction context.

AI can also help directors in monitoring and anticipating business risks through advanced risk-management tools. Financial institutions could significantly improve the internal assessment and on-going testing of their balance sheet quality, capital adequacy and risk exposure through dedicated algorithms. AI can also be used to monitor and predict changes in customers' preferences, anticipating the need to adapt the company's business strategies accordingly.

Directors could benefit from the use of AI by tracking the capital allocation patterns of competitors to spot areas of improvement (e.g., in terms of R&D investments) or alternative business strategies. AI can identify potential new competitors moving into key product markets, allowing directors to take actions to protect the market share of their company.

 

Decision making by directors as fiduciaries

Making a decision is the very essence of the directors' responsibilities. Due to its collective nature, the decision-making process of a board is significantly more complex than that of individuals, as it requires the cooperation of multiple persons with potentially conflicting interests, cultures and perspectives.

More importantly, while making decisions as part of the board, directors are required to act as fiduciaries in the interest of their constituencies, which may include the shareholders, the company or other stakeholders at large, depending on the nuances of the law.

Legal systems have historically addressed the complexities surrounding board decisions by detailing the procedural rules applying to board meetings and spelling out the fiduciary duties of directors.

In several jurisdictions, directors have a duty of care towards the company, which requires them, among others, to act diligently, on an informed basis and in the absence of conflicts. Directors must also ensure that the company has a proper internal organization and governance system in place. Failure to comply with such duties may lead to the removal of directors as well as personal liability.

At the same time, directors have some discretion to make their decisions without being subject to scrutiny in accordance with the "business judgment rule" standard, which is followed by courts in various jurisdictions. Under the business judgment rule, directors generally cannot be held liable forbad business decisions, if these were taken upon a proper and careful evaluation of the information gathered and appropriately motivated (i.e., not self-interested). Courts can scrutinize the merits of directors' decisions if they were conflicted, acted with reckless indifference, disregarded the company interest, were unreasonable or not properly informed, or did not give any motivation supporting their judgment.

Legal issues and areas of attention

AI certainly offers significant opportunities to bolster internal business processes. However, AI does not present an opportunity for directors to avoid their fiduciary duties. Accordingly, directors should carefully assess how to use AI consistently with their fiduciary duties.

It is unclear whether and to what extent AI will be capable of balancing conflicting interests (e.g., between customers and employees, etc.) while assessing the merits of different business decisions, or to factor in legal uncertainties as regards the extent and scope of the duties that directors must discharge on a case-by-case basis.

In addition, a typical problem of machine-learning AI processes is the difficulty of understanding the nexus between the output of the algorithm and the inputs of the user (so-called "black box"). This could undermine the protection afforded by the business judgment rule if decisions are taken on the basis of such output, as the "random" component of machine-learning processes may conflict with the duty to act on an informed basis and motivate board decisions, after due enquiry and any ad hoc exchange of views with proper peers within the same organization and also with their main clients/suppliers.

It might well be, on the other hand, that the use of AI will become one of the parameters to assess whether directors acted on an informed basis, and that AI tools will routinely be used in board meetings to analyze Big Data in real time.

 

Conclusions

Because of on the scope and application of directors' fiduciary duties, AI is unlikely to replace human judgment in boardrooms. Directors could be required by courts to test the outcomes of AI processes on the basis of their own judgment and additional information or advice. The question will be how directors could actually discharge this task, considering the amount of data that AI may process and how sophisticated algorithms can be compared to human judgment.

 

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