January 06, 2012
The Business Associations Section
Posted by Gordon Smith

Over the years that I have been attending the AALS Annual Meeting, the Business Associations Section has held consistently good meetings, and this year's session on "The New Corporate Governance" was no exception. The panel discussion on a series of recent topics was particularly good. Robert Clark (Harvard), Meredith Cross (SEC), Margaret Foran (Prudential), Travis Laster (Delaware Court of Chancery), and Kara Scannell (Financial Times) discussed a host of issues, prompted by Hillary Sale (Washington University). In particular, two comments during the section caught my attention.

First, is there room for a Delaware claim on executive compensation in the wake of Say on Pay? Teasing the assembled law professors, Vice Chancellor Laster suggested that the Delaware courts could decide to review pay decisions with a form of enhanced scrutiny (because that standard of review applies to situations involving structural bias), but he rightly observed that such a move would be comparable to Smith v. Van Gorkom in 1985. Plaintiffs lawyers should not get their hopes up, absent a big shift in the debate on executive compensation.

The more likely path to a claim is one already being pursued by a number of plaintiffs lawyers, namely, going after a board of directors for waste of the corporate assets. Does Say on Pay affect this litigation? The text of Dodd-Frank provides, "The shareholder vote ... shall not be binding on the issuer or the board of directors of an issuer, and may not be construed ... to create or imply any change to the fiduciary duties of such issuer or board of directors [or] to create or imply any additional fiduciary duties for such issuer or board of directors...."

The duties of directors in Delaware are not promising for plaintiffs. Citigroup (2009) tells us that "the discretion of directors in setting executive compensation is not unlimited," but the standard for evaluating waste claims as articulated by the Delaware Supreme Court in Brehm v. Eisner (2000) is rough on plaintiffs: "an exchange that is so one sided that no business person of ordinary, sound judgment could conclude that the corporation has received adequate consideration." Nevertheless, in the Citigroup case, Chancellor Chandler held, "there is a reasonable doubt as to whether the letter agreement [containing CEO Charles Prince's retirement package] meets the admittedly stringent 'so one sided' standard or whether the letter agreement awarded compensation that is beyond the 'outer limit' described by the Delaware Supreme Court." So it is possible to state a claim for waste in Delaware. If you couple such a claim with a bad vote on Say on Pay, you might have something. (Cf NECA-IBEW Pension Fund v. Cox for a similar claim in a federal district court in Ohio).

Second, Meredith Cross noted that many people at the SEC would like to take another run at proxy access after the Business Roundtable decision, but the SEC is too busy implementing Dodd Frank. As noted in my most recent article (Private Ordering with Shareholder Bylaws), I would prefer a private ordering solution to proxy access to the SEC's one-size-fits-all proposal, and we live in a world in which some private ordering is possible, but there is still the issue of getting the private ordering right. On that issue, Brett McDonnell believes my co-authors and I have gone "a tad too far" in our proposal.

According to Cross, the SEC has received 15 proposals relating to proxy access since the new Rule 14a-8 went into effect, and it will be interesting to see how this area of shareholder proposals develops. By the way, in our article, we stated "the SEC has not lifted the stay on the new Rule 14a-8," but the terms of the stay provided that it would last only until the "resolution of petitioners' petition for review by the Court of Appeals." Thus, new Rule 14a-8 has been effective since the end of the Business Roundtable litigation. Mea culpa.

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