Plaintiffs’ attorneys have continued to bring, or threaten, litigation against U.S. companies following the filing of their annual proxy statements. These complaints generally allege disclosure deficiencies in connection with the approval of equity compensation plans and/or the advisory shareholder “say-on-pay” vote and, as with merger-related “strike suits,” seek to enjoin the annual meeting. Early cases gained some traction, resulting in settlements yielding additional proxy disclosures and legal fees for the plaintiffs, though most companies have resisted settling. While some companies have taken the heightened litigation risk into account in crafting 2013 proxy disclosure, it seems likely that no level of disclosure can protect companies from receiving or being threatened with a complaint. Accordingly, companies should prepare to defend their disclosure in light of the increase in litigation.
Beginning with the 2012 proxy season, plaintiffs’ attorneys have filed a number of suits, or publicly announced the launching of “investigations,” alleging disclosure deficiencies in connection with the approval of equity compensation plans and/or the advisory “say-on-pay” vote to approve executive compensation. Most complaints allege that the company’s board of directors breached its state law fiduciary duties by approving annual proxy statements that contain inadequate disclosure. Similar to merger-related “strike suits,” plaintiffs seek to enjoin the annual meeting until revised or additional disclosure is provided. However, because there is not much time (usually only 30 to 50 days) between filing the annual proxy materials and the annual shareholders’ meeting (as compared to the often longer period of time between filing a merger agreement and the vote to approve the agreement), these suits require companies to react quickly and decisively in a tight time frame. As a result, some targeted companies have agreed to a quick settlement with plaintiffs’ attorneys to avoid the risk of a costly delay, though most companies have not settled.
The complaints seeking to enjoin binding votes to authorize share increases or approve new equity compensation plans have alleged inadequate disclosure of, among other things, the rationale for the number of shares requested, estimated future stock grants, the company’s rate of granting shares in the past and the size of the overall equity pool relative to the total shares outstanding. “Say-on-pay” complaints have generally alleged disclosure deficiencies regarding, among other things, the decision process for selecting the company’s compensation consultant, the details of the consultant’s analysis and recommendations, the determination of the named executive officers’ compensation mix and performance metrics weighting and the company’s peer group composition. Most of these lawsuits have been brought in state court and by a single law firm, which also posts on its website the many “investigations” it has commenced as to the adequacy of proxy disclosure.1
We are aware of only one case in which the plaintiff was successful in obtaining an injunction.2 Because of the cost and impact of postponing the annual meeting, though, a number of companies (including, for example, Martha Stewart Living Omnimedia, WebMD and H&R Block) have chosen to settle these cases. The settlements have resulted in legal fees for the plaintiffs and, in some cases, additional disclosure. This wave of litigation has not yet, however, resulted in any money for shareholders. Most courts that have considered the issue, including a New York court applying federal law in the recent Apple decision,3 have rejected plaintiffs’ arguments for an injunction.4
PREPARING FOR POTENTIAL LITIGATION
Many companies have kept the risk of proxy litigation in mind while crafting their 2013 proxy disclosure. While this could include, in some cases, providing additional disclosure, merely expanding disclosure will not necessarily lessen the risk of litigation, since there is no clear pattern explaining why plaintiffs’ attorneys have targeted certain companies. Many companies have, however, focused on the nature, rather than the quantity, of the disclosure – for example, avoiding unnecessarily open-ended statements suggesting the existence of pertinent details or underlying information that is not presented or summarized in the disclosure in at least a general manner, and ensuring that the disclosure is consistent with and fairly summarizes the factors and information considered by the board and compensation committee in making decisions.
While companies may not be able to prevent becoming a target of an announced investigation or plaintiffs’ lawsuit, they can prepare to respond quickly. Before filing their annual proxy statement, as a preliminary matter, companies should notify their board and senior management of the risk and the nature of these lawsuits. Companies also should develop a preliminary plan for responding to any litigation that may arise in the short time frame before the annual meeting.
While preparing their proxy materials, companies may wish to survey the materials filed by peer companies to consider whether there are emerging market practices for disclosure in their industry. Companies may also consider engaging experienced litigation counsel to monitor disclosure-driven lawsuits and review the annual proxy statement in advance of filing, with an eye towards preemptively addressing some of the issues raised in complaints to date.
Once companies have filed their annual proxy statements, they may benefit from taking steps to gather materials to defend their disclosure as a fair and complete summary of the material information considered by the board and/or compensation committee in its compensation-related decisions. These materials may include compensation consultant analyses and appropriately drafted board and/or compensation committee minutes and materials. Companies may also wish to alert their counsel when proxy materials are filed in order to allow them to react quickly and appropriately if the company becomes the target of an announced investigation or receives a complaint. Finally, a company that does become a target should consider obtaining expert testimony that its proxy disclosure is consistent with market practices and documents showing support from institutional shareholders.
The original publication dated March 20, 2013 is available here.
2 In Knee v. Brocade Communication Systems, Inc. et al., No. 1-12-CV-220249 (Cal. Super. Ct. Apr. 10, 2012), a California court (applying Delaware fiduciary duty principles) granted a preliminary injunction of the vote to approve an increase in the shares under an equity compensation plan. The Brocade court focused on the fact that the board of directors had reviewed projections of future stock grants that were not disclosed in the proxy statement and found that the balance of harms favored the plaintiffs, because the company’s existing equity plan was not expiring and the company had several million shares remaining under that plan.
3 For a discussion of the Apple decision, please see our publication, dated February 27, 2013, entitled “Proxy Litigation: Court Enjoins Apple Shareholder Vote on a Charter Amendment Under SEC’s Unbundling Rules but Refuses to Enjoin “Say-on-Pay” Vote Based on CD&A Disclosure.”
4 These cases include Greenlight Capital, L.P., et al. v. Apple, Inc., No. 13 Civ. 900 (RJS), Gralnick v. Apple, Inc., No. 13 Civ. 976 (RJS) (S.D.N.Y. Feb. 22, 2013), Wenz v. Globecomm Systems, Inc., No. 31747-12 (N.Y. Sup. Ct. Suffolk County, Nov. 14, 2012), Gordon v. Symantec Corp., No. 1-12-CV-231541 (Cal. Sup. Ct. Santa Clara, Oct. 17, 2012) and Mancuso v. The Clorox Co., No. RG12-65165 (Cal. Sup. Ct. Alameda County, Nov. 13, 2012).