A recent Delaware Court of Chancery decision builds on prior case law and provides useful insight for companies seeking to establish an effective director compensation limit in order to avoid expensive stockholder litigation. In the case, In Re Investors Bancorp, Inc. Stockholder Litigation (2017 BL 111738, Del. Ch., No. 12327-VCS, 4/5/17), plaintiff stockholders claimed that directors breached their fiduciary duties by awarding themselves “grossly excessive compensation” under a plan that, though approved by stockholders, included a director award limit that was not “meaningful.”
The court granted the defendant directors’ motion to dismiss, finding that the director awards fell within a director-specific award limit contained in the plan. Notably, the court refused to second-guess the stockholder approval of the plan, even though the plan enabled the directors to grant themselves awards with a grant date fair value of over $2 million per director, which the court acknowledged was well above the level of compensation of directors at other corporations in the company’s peer group.
Background on Director Compensation Limits
Under Delaware law, directors’ self-interested decisions to award themselves equity and other compensation do not receive the protection of the deferential “business judgment” standard of court review unless the decisions have been “ratified” by stockholders. Under the case law, such stockholder ratification requires that stockholders have approved a “meaningful” limit on the compensation that directors may award to themselves.
New Flexibility in Establishing a Meaningful Limit
The recent case involved a plan that limited non-employee director awards, in the aggregate, to 30% of all shares reserved for issuance under the plan, and which permitted directors to receive all of those shares in a single year. The limit was not expressed as a dollar cap on the overall economic value of the compensation and therefore could vary based on fluctuations in stock price. Days after the plan was approved by stockholders, the directors awarded themselves the challenged grants. Plaintiffs claimed that the stockholders did not ratify these awards because the plan limit was not meaningful, the plan failed to provide for self-executing payments, and the defendants omitted material facts (including regarding planned grants) when seeking stockholder approval.
In rejecting all of these arguments, the court focused on the plan’s director-specific limit that was separate from the 162(m) limits applicable to awards to executives. The court also found nothing in the proxy disclosure to suggest the stockholder approval was uninformed. As a result, the court determined that the stockholders ratified the director awards that were within the approved plan limit, which meant that the directors were protected by the business judgment rule and the case was dismissed.
- The ruling confirms that Delaware companies that obtain stockholder approval of director compensation limits should be less susceptible to derivative suits alleging excessive compensation, provided that the limits are specific to directors and separate from those applicable to executives under an equity plan.
- The ruling provides new insight on the concept of a “meaningful” limit and suggests that companies have flexibility in terms of the design, scope and magnitude of the applicable compensation limit.