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For
30 years, Mark Poerio has been in private practice with a focus on
executive compensation, employee benefits, and fiduciary matters,
especially from a business, governance, tax, securities, and
litigation perspective. He currently serves as President of the
prestigious American College of Employee Benefits Counsel, and on the
executive board of the American Benefits Council.
Mark's
clients include public and private companies, and he has significant
experience with not-for-profit organizations. His business oriented
pay-for-performance approach has led to his role as special counsel
to compensation committees, as well as to his spearheading of
projects designed to link executive compensation both to corporate
goals and to the enforcement of post-employment covenants relating to
trade secrets and restrictive covenants (such as non-competes).
Mark
also teaches at Georgetown Law - with his past courses focusing on
executive compensation and governance, the design of benefit plans
and employment-related agreements, and employee stock ownership plans
(ESOPs).
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The
Wagner Law Group is a nationally recognized practice in the areas of
ERISA and employee benefits, estate planning, employment, labor and
human resources and investment management.
Established
in 1996, The Wagner Law Group is dedicated to the highest standards
of integrity, excellence and thought leadership and is considered to
be amongst the nation's premier ERISA and employee benefits law
firms. The firm has seven offices across the country, providing
unparalleled legal advice to its clients, including large, small and
nonprofit corporations as well as individuals and government entities
worldwide. The Wagner Law Group's 32 attorneys, senior benefits
consultant and five paralegals combine many years of experience
in their fields of practice with a variety of backgrounds. Eight
of the attorneys are AV-rated by Martindale-Hubbell
and seven are Fellows of the American
College of Employee Benefits Counsel, an invitation-only
organization of nationally recognized employee benefits
lawyers. Five of the firm's attorneys have been named
to the prestigious Super
Lawyers list for 2017, which highlights outstanding
lawyers based on a rigorous selection process.
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The
Wagner Law Group
Integrity
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Boston
Tel:
(617) 357-5200
Fax:
(617) 357-5250
99
Summer Street
13th
Floor
Boston,
MA 02110
Washington,
D.C.
Fax:
(202) 969-2568
800
Connecticut Avenue, N.W.
Suite
810
Washington,
D.C. 20006
Chicago
Tel:
(847) 990-9034
Fax:
(847) 557-1312
Palm
Beach Gardens
Tel:
(561) 293-3590
Fax: (561) 293-3591
7108 Fairway Drive
Suite 125
Palm Beach Gardens, FL 33418
Tampa
Tel:
(813) 603-2959
Fax:
(813) 603-2961
101
East Kennedy Boulevard
Suite
2140
Tampa, FL 33602
San
Francisco
Tel:
(415) 625-0002
Fax:
(415) 358-8300
300
Montgomery Street
Suite
600
San
Francisco, CA 94104
St.
Louis
Tel:
(314) 236-0065
Fax:
(314) 236-5743
25 W. Moody Avenue
St. Louis, MO 63119
www.wagnerlawgroup.com
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Litigation Risks Escalate for
Director Compensation:
How to Avoid Becoming the Next
Target
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Shareholders
have long had the ability to bring derivative actions to recover
damages from corporate directors who overpaid themselves. Claims of
that kind were rare before 2012, but have escalated in recent years
for two reasons. First, detailed survey data about director
compensation levels has become readily available due to enhanced SEC
proxy disclosure rules, thereby facilitating peer group comparisons
and demonstrations of unreasonableness. Second, a series of Delaware
court decisions has established new precedent that favors
shareholders who bring excessive compensation claims. Discussed below
are the liability risks associated with making director compensation
decisions, and some smart precautions for directors to consider.
As a
preliminary matter, court review of most director compensation
decisions occurs under the highly deferential business judgment rule.
However, if a shareholder alleges excessive compensation with
specificity, directors may need to pass a fact-intensive ''entire
fairness'' test, under which directors must demonstrate that they
both engaged in a prudent process for determining their compensation
levels, and ultimately made reasonable and justifiable decisions.
Before 2018, Delaware courts would apply the business judgment rule if
director compensation fell within shareholder-approved limits that
were meaningful.
A surprise twist -- in favor of shareholder derivative claims -- came
from Delaware's Supreme Court in Investors Bancorp decision
(12/19/2017). In that case, the court retreated from the meaningful
limits test, and held that the business judgment rule would not
protect directors if --
- a
shareholder properly alleges that directors breached their
fiduciary duties by paying themselves excessive compensation;
and
- the directors
had exercised discretion over their compensation or stock
awards, even if that had occurred within meaningful
shareholder-approved limits.
In response to the foregoing, it makes sense for
boards to immediately consider the following questions addressed in
Parts I and II below: Does it make sense to seek shareholder approval
for a set amount of director compensation? And, what should board
members be doing, from a process side, to build a record that
justifies the discretion they exercise when setting their own
compensation?
I.
Shareholder-approved Amount
If a shareholder-approved plan establishes a
self-executing (nondiscretionary) formula for determining future
director compensation, that formula should secure judicial review
under the business judgment rule for so long as directors follow that
formula when determining their compensation levels.
Suppose, however, that directors decide in the
future to pay in excess of a shareholder-approved formula. They may,
of course, choose to seek stockholder approval for the increase. They
could instead decide to forego that approval, and instead position to
defend the increase as being reasonable and defensible under the
entire fairness standard. The risk of being sued for paying excessive
compensation seems far less for increasing a shareholder-approved
amount than it would be for defending the entire director
compensation package.
In its Investors Bancorp decision,
Delaware's Supreme Court permitted the litigation to proceed because:
''The plaintiffs have alleged facts leading to a
pleading stage reasonable inference that the directors breached their
fiduciary duties in making unfair and excessive discretionary awards
to themselves after stockholder approval of the EIP." [Author's
note: EIP abbreviates Equity Incentive Plan.]
What gave rise to that ''reasonable inference''?
The court highlighted a few allegations, supported by data drawn from
the complaint. Notably, peer data showed that Investors Bancorp made
new stock awards that jumped director pay to a level 23 times the
median paid by similarly-situated companies. Those stock awards also
increased the annual compensation of directors to high multiples of
their past annual compensation levels. Although directors had held
four meetings and considered peer data, the complaint alleged that
the board relied on peer data that itself was arbitrarily selected
and ''driven by self-selection bias.'' Interestingly, the data came
from a law firm serving as corporate counsel -- rather than from an
independent consultant.
The complaint against Investors Bancorp's
directors seems to have been grounded in far more than conclusory
allegations of excessive compensation. That gave the litigation legs.
Directors should respond by following a well-documented process that
involves independent advice, and decisions that are readily
justifiable based on an examination of relevant peer data.
Given the escalating likelihood that shareholders and analysts will
focus on the reasonableness of director compensation, corporate
directors should consider taking the following steps when making
decisions about their own compensation:
- Start with a
compensation consultant. Peer data provides the best
indicia of reasonableness, and helps to fashion discussion of
what forms of compensation to consider and how much to
pay. All of this can begin at the compensation committee
level.
- Act through
more than one meeting, in order to build a record that indicates
a thorough level of procedural diligence. Decisions made at a
single meeting are often second-guessed as having been rushed or
inadequately reviewed.
- Consider
having shareholders approve precise levels of annual awards, or
a particular dollar value for each director's annual
compensation. This could involve locking-in a suitable amount
for a period expected to cover several future years.
- Consider
including an automatic escalator in any shareholder-approved
formula for determining director compensation. An escalator may
delay the need for future shareholder votes.
·
For
instance, if shareholders are asked to approve a fixed dollar amount
or equity award level, they could coincidentally approve an annual
increase by a fixed percentage, such as 10%.
·
This
approach should preserve business judgment rule review because, as
held in Investors Bancorp, "when it comes to the
discretion directors exercise following stockholder approval of an
equity incentive plan, ratification cannot be used to foreclose the
Court of Chancery from reviewing those further discretionary actions
when a breach of fiduciary duty claim has been properly
alleged."
Overall, directors face costly litigation if the
entire fairness test applies to shareholder claims alleging director
compensation is excessive. Board members who want to avoid
litigation, as well as the associated risk to their reputations,
should take preventative action in 2018.
Further information about director compensation
is available , from partner, Mark Poerio, as well as from the
following webpages that he updates:
(This alert is adapted from WLH Partner
Mark Poerio's article title "New Year - New Stock Plan,"
published in Bloomberg's Pension & Benefits Daily, 35 PBD,
2/21/2018)
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