Say on What? Plaintiffs’ Lawyers Target “Say-On-Pay” Disclosures in Annual Proxy Statements

February 26, 2013

This alert addresses an emerging litigation trend that entails a higher degree of litigation risk than in past years.  Companies familiar with shareholder litigation in the context of mergers and acquisitions transactions know that virtually all material corporate transactions attract plaintiffs’ lawyers who, suing on behalf of shareholders, allege that proxy materials published ahead of a shareholder vote are, for one reason or another, false or misleading.  These plaintiffs’ lawyers typically seek a quick settlement in which the issuer avoids a possible injunction delaying the shareholder vote on the proposed transaction by publishing “corrected” disclosure.  In return, the plaintiffs’ lawyers demand a fee for the purported “benefit” to the shareholder class.

This proxy season, there has been an uptick in the number of cases in which plaintiffs’ lawyers assert similar claims in connection with “say-on-pay” proxy disclosures and approval of equity incentive plans.  Although many of these cases have been dismissed, or motions for preliminary injunctive relief have been denied by the courts, some issuers are electing to settle such claims to avoid even a remote possibility of a delayed annual shareholder meeting and the burden and expense associated with litigation.  Recent press reports highlight this growing trend.[1]  We outline below the current trend and several suggested strategies for addressing this new proxy litigation.

I.        New Proxy Vote Litigation Targets the Adequacy of Say-on-Pay Disclosures in Proxy Statements

            A.        The Litigation Trend

Within the last year, at least 20 issuers have found themselves defendants in cases alleging that their executive compensation disclosures are insufficient under the Dodd-Frank Wall Street Reform and Consumer Protection Act’s “say-on-pay” proxy disclosure rules.  These suits are being filed largely by a single plaintiffs’ law firm — Faruqi & Faruqi, LLP — in multiple forums, including California, New York, Washington, and Illinois.  Companies such as Clorox, WebMD Health Corporation, Microsoft Corporation, Applied Minerals, Inc., Symantec Corporation, H&R Block, Inc., and Martha Stewart Living Omnimedia, Inc. all have found themselves defending say-on-pay cases during the last year.  Moreover, plaintiffs’ firms have announced “investigations” of more than 50 other issuers — including 20 just since the beginning of 2013 — that are designed to attract shareholders willing to serve as representative plaintiffs in such lawsuits.  The websites of several plaintiffs’ firms now serve as an early warning system for companies that may be targeted for proxy litigation over their say-on-pay disclosures.

The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd Frank”) was enacted in 2010 and was intended to “improve[e] accountability and transparency in the financial system.”[2]  Section 951 and its implementing regulations mandate that at least once every three years public companies hold a non-binding, advisory vote on executive compensation.[3]  (For a discussion of the say-on-pay requirements generally, as well as other emerging proxy issues, please see “Key Year-End Considerations For Public Companies,” Gibson, Dunn & Crutcher LLP Alert, November 2, 2012.)  After the filing of proxy statements, and in advance of annual meetings and scheduled proxy voting, plaintiffs’ counsel have begun filing complaints asking courts to enjoin annual shareholder votes based on purported disclosure deficiencies in proxy statements related to say-on-pay requirements.  Although Dodd-Frank itself expressly states that it does not impose new fiduciary duties on issuers or their boards of directors,[4] plaintiffs’ lawyers have asked courts to extend state-law-based fiduciary duties to include additional say-on-pay disclosure requirements.

Notwithstanding the fact that Dodd-Frank expressly does not impose new or different fiduciary duties, plaintiffs’ lawyers have had some success in pursuing state-law claims asserting violations of the Dodd-Frank say-on-pay rules.  Common complaints involve disclosures relating to compensation consultants’ reports, the issuers’ analyses of compensation benchmarks, comparisons of specific elements of compensation plans with industry peers, and the rationale for executive severance agreements.  These complaints generally allege, with minimal variation, that:

  • To the extent the compensation committee relied on analyses performed by a compensation consultant, the proxy statement (1) “fails to disclose how the [compensation committee] selected [the compensation consultant] to perform this task” and the amount of fees paid to the compensation consultant, and (2) “fails to disclose a fair summary of the advice, counsel and analyses performed and provided” the respective compensation consultant;
  • To the extent the compensation committee relied on data from peer companies, the proxy statement (1) “fails to disclose compensation data for the named executive officers of peer companies,” and (2) “fails to disclose (i) base salary, (ii) annual incentive awards, (iii) long-term incentive awards, and (iv) total direct compensation data for each of the [peer] companies;” and
  • To the extent the compensation committee relied on multiple factors in determining appropriate compensation, the proxy statement “fails to disclose how much weight [the compensation committee accorded to each of] the listed factors.”[5]

Although similar claims asserted derivatively on behalf of issuers after shareholder votes generally have been dismissed, some issuers have elected to settle class actions in which plaintiffs seek to enjoin the shareholder votes.

In addition to say-on-pay disclosure issues, plaintiffs’ firms also have sued, with increasing frequency, over disclosures relating to equity incentive plans.  A review of the cases filed and investigations announced to date suggests that the single biggest risk factor associated with the recent proxy litigation trend is whether the issuer is seeking shareholder approval to increase the number of shares that may be issued under such plans.  These complaints generally allege that:

  • “The Proxy fails to disclose the fair summary of any expert’s analysis or any opinion obtain[ed] in connection with the [equity incentive plan]”;
  • “The Proxy fails to disclose the criteria” used by the compensation committee “to implement the [stock purchase plan] and why the [equity incentive plan] would be in the best interest of shareholders”;
  • “The Proxy fails to disclose the dilutive impact that issuing additional shares may have on existing shareholders;” and
  • “The Proxy fails to disclose how the Board determined the number of additional shares requested to be authorized.”

In Knee v. Brocade Communications Systems, Inc., No. 1-12-CV-220249 (Cal. Sup. Ct. Santa Clara, April 10, 2012), for example, plaintiffs brought suit in the California Superior Court for Santa Clara County seeking to enjoin Brocade’s scheduled annual shareholder vote.  Plaintiffs alleged that Brocade’s proxy statement, which recommended that shareholders approve a proposal to increase the company’s equity incentive plan reserves by 35 million shares, did not fully and accurately describe the proposal or its purported dilutive impact.  The court granted plaintiffs’ motion for a preliminary injunction, concluding that plaintiffs demonstrated a reasonable likelihood of prevailing on the claim that Brocade’s proxy statement, by virtue of its allegedly deficient disclosures, amounted to a breach of fiduciary duty.[6]  Brocade subsequently settled the claim, agreeing to supplement its proxy statements and to reimburse plaintiffs’ counsel up to $625,000.

On the other hand, several courts recently have denied similar plaintiffs’ motions for injunctive relief.  For example, in Wenz v. Globecomm Systems, Inc., No. 31747-12 (N.Y. Sup. Ct. Suffolk County, Nov. 14, 2012), plaintiffs alleged that Globecomm’s proxy statement, which included a recommendation that shareholders vote to approve Globecomm’s stock incentive plan, was incomplete because it did not adequately disclose its purportedly dilutive effect.  The New York Supreme Court of Suffolk County denied plaintiffs’ motion, stating that “a review of the record before the Court . . . leads to the conclusion that the disclosure claims alleged by the plaintiffs fail to show that any of the omitted information complained of significantly would have altered the ‘total mix’ of information available to shareholders.”[7]  California state courts similarly have denied plaintiffs’ motions to enjoin shareholder votes in 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).

            B.        Lessons Learned and Strategies for Litigation Avoidance

Boards and management should be aware that no matter how careful an issuer is in preparing its proxy materials, opportunistic plaintiffs’ lawyers may sue in the hopes of achieving a quick settlement in exchange for avoiding the possibility of disruption of the company’s annual shareholder meeting.  Although it is not possible to disclose such a level of detail that would render a proxy statement “bullet proof,” there are a number of steps companies can take to minimize the risk of litigation and, if litigation comes, to minimize its disruptive impact.  For example, companies should review their proxy disclosures to see that they are consistent with the executive compensation disclosure rules, the information provided by executive compensation consultants, the minutes of their compensation committee meetings.  And, although every company’s executive compensation plan is unique, companies should review their proxy disclosures on both say-on-pay and equity incentive plan issues to disclosures provided by peer companies and best practices within the same industry.  Companies also should consider whether to include more detailed disclosures relating to peer group analyses and how specific elements of the executives’ compensation fit within the stated philosophy.

Companies seeking shareholder approval of equity incentive plans or increases to the number of shares that may be issued under existing equity incentive plans also should consider disclosing the dilutive effects of such plans, even if considered immaterial by most objective standards.  In this regard, a number of proxy litigation complaints assert that issuers’ proxy statements are false or misleading because the issuers did not adequately describe the potential dilutive impact of the issuance of the shares for which shareholder approval is being sought.  In assessing the risk of litigation, issuers also should consider whether their disclosures are consistent with past disclosures and whether, if litigation were to be filed, whether any even arguably adverse impact to the issuer occurred.  In Globecomm, for example, the court rejected plaintiffs’ argument that the necessary irreparable harm existed to support preliminary injunctive relief because Globecomm’s disclosure relating to its equity incentive plan was similar to prior years, during which time Globecomm’s stock price increased approximately 326%.

Because plaintiffs’ lawyers have asserted a variety of claims relating to say-on-pay and equity incentive/compensation plan disclosures, companies with shareholder votes in 2013 should be prepared to defend their disclosures in litigation and in the context of requests for expedited preliminary injunctive relief.  Having a litigation team and potential strategy in place before filing the proxy statement may be the most important step a company can take to minimize the disruptive impact of any litigation.  Even in the context of expedited litigation seeking “emergency” relief, some companies have been able to prevail on the merits by presenting a detailed and consistent record.  Both Symantec and Clorox, for example, defeated motions to preliminarily enjoin their annual shareholder meetings by presenting evidence in the form of expert testimony.  Both experts presented evidence that the disclosures at issue were consistent with the best practice disclosure of peer companies in the same industry.  In another case, Microsoft was able to combat a say-on-pay lawsuit successfully when a large shareholder stated that Microsoft’s proxy statement adequately disclosed all material facts that the shareholder needed to cast an informed vote.

In defending these suits, counsel must take care to explain the disclosure regime and concepts, including the “total mix” standard of materiality that applies in federal securities cases, and those relating to proxy claims under Section 14 of the Securities Exchange Act of 1934.[8]  Because the “total mix” standard is widely accepted, but not typically subject to quantifiable measures, much of the litigation risk associated with proxy disclosure litigation arises from state courts’ unfamiliarity with the materiality standard and/or unwillingness to apply the materiality concept to dismiss cases early in the litigation process.  This is, perhaps, why none of the say-on-pay cases have been filed in Delaware — the Delaware Court of Chancery, being well-versed in proxy litigation grounded in the so-called fiduciary “duty of candor,” is not likely to expand under the guise of state fiduciary duty law the executive compensation disclosures already heavily dictated under the Federal securities laws.[9]

Even after the preliminary injunctive relief stage of the case, issuers should be prepared to litigate related claims for damages.  In the cases against Clorox and Symantec, for example, plaintiffs amended their complaints following unsuccessful attempts to obtain injunctive relief to seek damages instead.  Given this, issuers should be prepared to argue that the damages claimed are derivative in nature and, thus, subject to state-law pre-suit litigation demand requirements.  In the absence of any reasonable basis for allegations that the directors’ decision on executive compensation issues is the product of self-interest or other disabling conflict, any such claim should be dismissed at the pleading stage.

II.        Conclusion

The plaintiffs’ bar is demonstrating both ingenuity and opportunism in expanding proxy litigation claims from the familiar M&A context to say-on-pay and other issues.  Although no disclosure can completely insulate issuers from the risk associated with such claims, companies can reduce the litigation risk by reviewing their disclosures carefully and comparing them to the types of information provided by peer companies and based on “best practices”; creating a documented record of boards’, board committees’, and consultants’ analyses and processes; and preparing in advance to defend disclosure claims on an expedited basis in the context of a request for preliminary injunctive or other emergency relief.  We will continue to keep you informed on these and other related issues as they develop.

   [1]   See Joe Mont, Shareholder Lawsuits Push for More Pay Disclosure, Compliance Week, February 12, 2013, available at; Emily Chasan, Anxiety Stalks Proxy Season, The Wall Street Journal, February 5, 2013, available at; Nate Raymond, Insight: Lawyers Gain From “Say-on-Pay” Suits Targeting U.S. Firms, Reuters, November 30, 2012, available at

   [2]   Dodd Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat. 1376 (2010).

   [3]   15 U.S.C. § 78n-1; “Shareholder Approval of Executive Compensation and Golden Parachute Compensation,” Securities and Exchange Commission, Release Nos. 33-9178, 34-63768 (effective Apr. 4, 2011).

   [4]   15 U.S.C. § 78n-1(a)-(b) (“The shareholder vote . . . shall not be binding on the issuer or the board of directors of an issuer, and may not be construed . . . to create or imply any change to the fiduciary duties of such issuer or board of directors.”).

   [5]   See, e.g., Gordon v. Microsoft Corp., No. 12-2-33448-0 SEA (Wash. Super. Ct. King Cty., filed Oct. 16, 2012); Morrison v. The Hain Celestial Group, Inc., No. 602074/2012 (N.Y. Sup. Ct. Nassau Cty., filed Oct. 11, 2012); Mancuso v. The Clorox Co., No. RG12651653 (Cal. Super. Ct. Alameda Cty., filed Oct. 10, 2012); Noble v. AAR Corp., No. 2012CH004950 (Ill. Ch. Ct. DuPage Cty., filed Oct. 2, 2012).

   [6]   In Brocade, the board had relied upon and apparently had considered “at length” a set of “Projections and Analyses” prepared by an executive compensation expert who evaluated how the requested share reserve would be used.  Because a detailed set of projections had been prepared and relied upon by the board, the court concluded that a “fair summary” of those materials should be provided.  The size of the share increase request in Brocade may have also may have influenced the court.

   [7]   Wenz v. Globecomm Sys., Inc., 2012 WL 5832319 (N.Y. Sup. Ct., Nov. 14, 2012).

   [8]   See Basic v. Levinson, 485 U.S. 224, 231-32 (1988) (quoting TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438, 449 (1976), and holding that the test for materiality is whether there is “a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the ‘total mix’ of information made available”).

   [9]   Delaware courts routinely caution that new disclosure requirements should not be imposed in the absence of “persuasive authority or argument why [a court] should expand Delaware disclosure requirements beyond those presently mandated by Federal law.”  Skeen v. Jo-Ann Stores, Inc., 1999 Del. Ch. LEXIS 193, at *22 (Del. Ch. Sept. 27, 1999), aff’d, 750 A.2d 1170 (Del. 2000).  Likewise, the Delaware Court of Chancery explained that, “[s]o long as the proxy statement, viewed in its entirety, sufficiently discloses and explains the matter to be voted on, the omission or inclusion of a particular fact is generally left to management’s business judgment.”  In re 3Com S’holders Litig., 2009 WL 5173804, at *1 (Del. Ch., Dec. 18, 2009).  The Court of Chancery’s reference to “business judgment” also suggests that the litigation risk associated with say-on-pay disclosures can be reduced by clearly documenting and disclosing that compensation-related decisions are made by outside, disinterested directors (including a Compensation Committee comprised of independent directors).  Under Delaware law, decisions made on an informed basis by independent disinterested directors are subject to protection under the deferential “business judgment rule” standard of review.

Gibson, Dunn & Crutcher lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact the Gibson Dunn lawyer with whom you work, or any of the following members of the Securities Litigation Practice Group or the Securities Regulation and Corporate Governance Practice Group: 

Securities Litigation Group:
Jonathan C. Dickey – New York/Palo Alto (212-351-2399, 650-849-5370, [email protected])
Robert F. Serio – New York (212-351-3917, [email protected])
Meryl L. Young – Orange County (949-451-4229, [email protected])
Thad A. Davis – San Francisco (415-393-8251, [email protected])
Paul J. Collins – Palo Alto (650-849-5309, [email protected])
George B. Curtis – Denver (303-298-5743, [email protected])
Ethan Dettmer – San Francisco (415-393-8292, [email protected])
Gareth T. Evans – Orange County (949-451-4330, [email protected])
Joel A. Feuer – Los Angeles (310-551-8808, [email protected])
Daniel S. Floyd – Los Angeles (213-229-7148, [email protected])
Barry R. Goldsmith – New York (212-351-2440, [email protected])
Mark A. Kirsch – New York (212-351-2662, [email protected])Monica K. Loseman – Denver (303-298-5784, [email protected])
John C. Millian – Washington, D.C. (202-955-8213, [email protected])
John H. Sturc – Washington, D.C. (202-955-8243, [email protected])
Robert C. Walters – Dallas (214-698-3114, [email protected])

Securities Regulation and Corporate Governance Group:
John F. Olson – Washington, D.C. (202-955-8522, [email protected])
Brian J. Lane – Washington, D.C. (202-887-3646, [email protected])
Ronald O. Mueller – Washington, D.C. (202-955-8671, [email protected])
Amy L. Goodman – Washington, D.C.  (202-955-8653, [email protected])
Stephen W. Fackler – Palo Alto, CA (650-849-5385, [email protected])
James J. Moloney – Orange County, CA (949-451-4343, [email protected])
Elizabeth Ising – Washington, D.C. (202-955-8287, [email protected])
Sean C. Feller – Los Angeles, CA (213-229-7579, [email protected])
Gillian McPhee – Washington, D.C. (202-955-8201, [email protected])

Please also feel free to contact any of the Securities Litigation Partners for further information about the topics covered in this alert. 

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