Applying Del. Law, Cal. Court Affirms Dismissal of Jacobs ‘Say-on-Pay’ Suit
Sept. 19 –The California Court of Appeal Sept. 17 affirmed the dismissal of a consolidated shareholder derivative lawsuit alleging that Jacobs Engineering Group Inc.’s(JEC) board violated its fiduciary duties by improperly increasing executive compensation in the face of poor company performance, and without shareholders’ consent (Charter Twp. of Clinton Police & Fire Ret. Sys. v. Martin , 2013 BL 249292, Cal. Ct. App., B241087, 9/17/13).
Applying Delaware law, Judge Sandy R. Kriegler held that the plaintiffs failed to sufficiently allege demand futility.
Executive Compensation Plan
Jacobs is an international engineering and construction firm. The court recounted that three plaintiffs–Colleen Witmer, Charter Township of Clinton Police and Fire Retirement System, and Daniel Himmel–filed a consolidated amended shareholder derivative complaint against Jacobs’ board members, senior executives covered by a May 2010 executive compensation plan, and Frederic W. Cook & Co. Inc., a compensation consultant to Jacobs.
The plaintiffs alleged that, contrary to the company’s “pay-for-performance compensation policy,” and despite the company’s weak financial performance in 2010, including a $1.5 billion shortfall in revenue, the Jacobs board substantially increased executive pay. Further, the plaintiffs explained that the compensation plan was adopted even though Institutional Shareholder Services Inc. recommended that Jacobs shareholders vote against it and 55.2 percent of Jacobs’ shareholders, in fact, did vote against it in a January 2011 say-on-pay vote. The plaintiffs asserted claims for breach of fiduciary duty, making false and misleading statements regarding the justifications for the new compensation, aiding and abetting breaches of fiduciary duty, and breach of contract.
The lower court dismissed the lawsuit without leave to amend, finding that the plaintiffs failed to sufficiently allege demand futility. The plaintiffs appealed, contending that the allegations raise doubt as to the board members’ independence and that they alleged sufficient facts to raise a reasonable doubt as to whether the executive compensation plan represented a valid exercise of business judgment.
Delaware Law Applied
Applying Delaware law–the state of Jacobs’ incorporation–the court affirmed. The plaintiffs failed to allege particularized facts creating a reasonable doubt that the board members were disinterested and independent or that the challenged transaction was a valid exercise of business judgment, it said.
“Contrary to plaintiffs’ contention,” the court explained, “the vague, conclusory, and nonspecific allegations in the complaint are insufficient” to raise doubt as to the board members’ disinterestedness “on the theory they are exposed to personal liability.”
The plaintiffs failed to go through a “director-by-director analysis,” required under Delaware law as explained in Raul v. Rynd , 2013 BL 67508, D. Del., C.A. No. 11-560-LPS, 3/14/13.. Further, as theRynd court said, “’the goal of retaining an executive could, under certain circumstances, lead to increased executive compensation even if the Company is experiencing poor financial performance,’” the court said.
The court also rejected the plaintiffs’ argument that the decision to increase executive pay was not a valid exercise of business judgment. “Matters of executive compensation are left to the wide discretion of the directors, absent an allegation the compensation is so large and disproportionate to be unconscionable and constitute waste,” the court said.
The plaintiffs failed to rebut the presumption that the board adopted the plan “in good faith in order to attract and maintain qualified executives,” it added.
Judge Richard M. Mosk, however, concurred with all of the court’s judgment, except as to the first cause of action for breach of fiduciary duty. “I believe here plaintiffs have alleged something more than just shareholder disapproval of executive compensation,” he said, adding that such allegations are sufficient at the pleading stage to state a cause of action.
The plaintiff-appellants were represented by Travis E. Downs III, Kevin K. Green, and Amanda M. Frame of Robbins Geller Rudman & Dowd; Kathleen A. Herkenhoff of Weiser Law Firm; and Brian J. Robbins and Shane P. Sanders of Robbins Arroyo LLP.
The defendant-respondents were represented by William F. Sullivan and D. Scott Carlton of Paul Hastings LLP; and Kim B. Goldberg and Warren R. Stern of Wachtell Lipton Rosen & Katz.
Jacobs was represented by Joel A. Feuer and Michael M. Farhang of Gibson, Dunn & Crutcher LLP.