Last April, we posted on the Investors Bancorp case (see, Follow-Up on Litigation Over Non-Employee Director Stock Awards), in which the Delaware Chancery Court upheld the decision of Investors Bancorp directors’ to award themselves restricted stock and stock options, relying in part, on the In re 3COM Corp. Shareholders Litig. and Calma on Behalf of Citrix Systems, Inc. v. Templeton. The plan under which the awards were made included limits on awards to non-employee directors, which had been disclosed to and approved by the company’s shareholders. But last month, the Delaware Supreme Court reversed and remanded the Chancery Court’s decision in favor of the directors in In re Investors Bancorp Stockholders Litigation.
There are two ways to interpret the Delaware Supreme Court’s decision in Investors Bancorp. Pessimistically, the decision is a giant step back from the line of cases that had approved awards to non-employee directors under an equity plan that included limits on the amount of shares that could be awarded to the directors and was approved by shareholders. The decision in Investors Bancorp could be read to mean that only a compensation plan for non-employee directors that is approved by shareholders with specific numeric amounts (as opposed to general limits) can [win].
However, I read the Investors Bancorp decision as a “bad facts” case (and bad facts make bad law). As I delved deeply into the opinion, I realized that the awards at issues were not your usual director awards—and the plan’s limits were not typical of those we would recommend. The opinion observed the following:
- The equity plan left it to the discretion of the non-employee directors to allocate up to 30% of all option or restricted stock shares available as awards to themselves. There was no annual or per-director limit.
- Each non-employee director was paid more than $2,100,000 in 2015, the year being challenged. This amount was higher than the director pay at every Wall Street firm that year. This amount also significantly exceeded the non-employee director’s compensation in 2014, which ranged from $97,200 to $207,005.94. It also far surpassed the $198,000 median pay at similarly sized companies and the $260,000 median pay at much larger companies.
- The awards were more than 23 times the $87,556 median award granted to other companies’ non- employee directors after a mutual-to-stock conversion similar to that which the company had completed.
- The directors “held a series of nearly contemporaneous meetings that resulted in awards to both the non-employee directors and the executive directors,” which led the court to declare that it was “implausible to us that the non-employee directors could independently consider a demand when to do so would require those directors to call into question the grants they made to themselves.”
In my opinion, the key paragraph in the court’s decision is the following:
We balance the competing concerns—utility of the ratification defense and the need for judicial scrutiny of certain self-interested discretionary acts by directors—by focusing on the specificity of the acts submitted to the stockholders for approval. When the directors submit their specific compensation decisions for approval by fully informed, uncoerced, and disinterested stockholders, ratification is properly asserted as a defense in support of a motion to dismiss. The same applies for self-executing plans, meaning plans that make awards over time based on fixed criteria, with the specific amounts and terms approved by the stockholders. But, when stockholders have approved an equity incentive plan that gives the directors discretion to grant themselves awards within general parameters, and a stockholder properly alleges that the directors inequitably exercised that discretion, then the ratification defense is unavailable to dismiss the suit, and the directors will be required to prove the fairness of the awards to the corporation. [Emphasis added]
The Supreme Court indeed sought to balance the protection of shareholder ratification against the possibility of excessive discretion. Under these facts, it the balance weighed against the directors’ ratification defense.
Companies and boards can learn three lessons from this case. First, the “meaningful limits” does not mean “sky high limits.” Second, benchmarking non-employee directors’ compensation against peers is highly advisable. Third, if the awards look to be too high to justify, they probably are. So let’s be careful out there.