"Hindsight second-guessing and Monday morning quarterbacking of the sort Plaintiffs urge are fundamentally inconsistent with the business judgment analysis." So stated a Georgia state court,1 which concluded that an adverse Dodd-Frank Say-on-Pay Vote was, without more, insufficient to rebut the business judgment rule's presumption as to directors’ making business decisions regarding executive pay.2
Under the Dodd-Frank Act and associated SEC rules, a Say-on-Pay Vote3 is advisory, non-binding, does not require rescission of a compensation plan that receives an adverse vote by the shareholders and will not create or change the fiduciary duties of the company or its board of directors.4
In the December 2010 proxy statement of Beazer Homes USA, Inc., a Delaware corporation headquartered in Atlanta ("Beazer"), the directors (the "Directors") recommended that the Beazer shareholders approve the 2010 executive compensation (the "2010 Compensation")5 in a Say-on-Pay Vote. At the subsequent annual stockholders meeting in February 2011, however, a majority of voting Beazer shares was voted against the 2010 Compensation,6 which included pay raises for Beazer executives for a year in which Beazer suffered a $34 million net loss and a 17-percent decline in share price.
After the adverse vote, plaintiffs consisting of Long Island Teamsters pension funds brought a stockholders' derivative suit in Georgia state court7 against the Directors and executive officers, asserting that (i) in approving the 2010 Compensation, recommending that the shareholders approve the 2010 Compensation by a Say-on-Pay Vote and failing to rescind the 2010 Compensation after the adverse vote, the Directors breached their fiduciary duties to Beazer; and (ii) Beazer executives were unjustly enriched by the 2010 Compensation.8
The Beazer court concluded that the plaintiffs failed to rebut the business judgment presumption.9 The court determined that, as a simple matter of sequencing, the Directors could not have considered the results of the February 2011 Say-on-Pay Vote when the Directors, acting at the outset of 2010, approved and recommended the 2010 Compensation, including the metrics for performance compensation. The mere existence of the Say-on-Pay Vote, therefore, cast no doubt that the Directors acted on an informed basis, in good faith and in Beazer's best interests a year earlier. The court also concluded that the Dodd-Frank Act expressly preserved, without adding to, the preexisting fiduciary framework regarding the executive compensation decisions made by boards of directors.10 Therefore, the court looked to the preexisting Delaware fiduciary duty framework.
Under Delaware law, directors have "wide discretion" to set executive compensation, and "where, as here, a payment decision made by a majority of disinterested directors, it is entitled to the protection of the business judgment rule."11 The court concluded that neither the existence of the adverse Say-on-Pay Vote nor the decision of the Directors not to rescind the 2010 Compensation rebutted the business judgment protection afforded the Directors under Delaware law.12
The court also concluded that the plaintiffs failed to state a claim for unjust enrichment against Beazer executives. The plaintiffs' only allegation in support of their claim for unjust enrichment was that the 2010 Compensation was "excessive" in light of Beazer's net loss that year. The plaintiffs did not allege that the compensation awarded to Beazer executives was inconsistent with the executives' achievement of performance targets established by Beazer's compensation committee. In dismissing the unjust enrichment claim, the court drew upon Delaware precedent13 that held, as a matter of law, that executives who receive compensation for providing services to a company pursuant to a contractual agreement approved by the board are not unjustly enriched.14
Conclusion and Thoughts for the Future
Overriding a board's decision on executive compensation by alleging a breach of fiduciary duties is a high hurdle to clear for shareholders bringing derivative suits. The business judgment rule continues to offer a strong presumption that directors making business decisions act in the best interests of the company.
In viewing the decision of a Georgia court that interpreted Delaware law, the key lessons appear to be (1) a negative Say-on-Pay Vote does not suggest that there is a per se violation of fiduciary duties; and (2) fiduciary duties do not require boards to revisit prior compensation decisions based on a negative Say-on-Pay Vote.
Still, the Beazer opinion implies at least two ways that a stockholders' derivative suit alleging breach of director fiduciary duties regarding executive compensation might survive a motion to dismiss:
- A plaintiff might allege that a given challenged compensation was not in fact awarded consistent with executives' performance against predetermined financial and non-financial goals or that the board did not believe such goals were critical to enhancing stockholder value.
- A plaintiff might allege that a board of directors omitted material, particularized facts from a recommendation that a company's shareholders approve executive compensation in a Say-on-Pay Vote.
In response to the Beazer decision, the facts the court cited as central to its conclusion and the above implications, boards of directors in general and compensation committees in particular might be well advised to:
- Revisit and bolster the ways in which they set executive performance goals, measure performance against those goals and document associated compensation decisions.
- Ensure accurate and complete disclosures to shareholders regarding executive compensation prior to any recommendation for a Say-on-Pay Vote.
The views expressed in Beazer shed first light on Say-on-Pay-related breach of fiduciary duty claims against boards of directors of Delaware corporations. In considering the views of the Beazer court, we must be mindful that the case reflects the views of a Georgia court interpreting Delaware law; a Delaware court might very well consider the matter differently. We anticipate additional illumination as other cases progress through the courts in which they are filed.
Georgia court concludes that (i) an adverse shareholder say-on-pay vote will not override the business judgment rule protection regarding compensation decisions of directors of Delaware corporations and (ii) the Dodd-Frank Act provisions mandating say-on-pay votes expressly preserve the preexisting fiduciary duty framework concerning directors' executive compensation decisions