The Advisors' Blog

– Brink Dickerson, Troutman Sanders

As a threshold matter, the litigation should not be successful. Courts in the past consistently have given boards broad latitude in setting compensation, see, .e.g., the Walt Disney litigation, and there is no reason to believe that the imposition by Congress of non-binding say-on-pay votes is going to change that. But there is an inconvenient truth here, and that is that at most companies the CD&A overstates the company’s commitment to the compensation approach described. In fact, the common thread among the seven cases that have been filed so far is that the compensation awarded did not fully reflect the compensation approach described in the CD&A.

In reality, a board often has to be more flexible than as described in a CD&A, and where a company has gone through several difficult years, the board easily can conclude that it needs to pay management better than the CD&A might contemplate in order to prevent an exodus of talent or to reward management for doing as well as it did in tough times.

The question then is whether CD&As should be “softened” in order to contemplate variances. Two views exist on this within my own office. One is that you cannot overtly state in a CD&A that you may not follow the approach that you have described because it will undercut the integrity of the compensation process and disclosure and lead to an ISS recommendation against your say-on-pay proposal. The other is that you must or you put yourself at risk of proxy statement based litigation. In an upcoming proxy statement, one of our clients intends to include the following:

Even under our pay-for-performance approach there may be periods of poor financial performance by the Company during which we may decide that it is appropriate and in the best interests of our shareholders to give raises, grant equity awards, or award bonuses. For example, we might conclude that the poor financial performance was not due to the performance of the executives, or we might conclude that the compensation of one or more executives is not competitive such that we are at risk of losing important talent.

Similarly, we might conclude that the financial performance would have been worse but for the efforts of one or more executives and that it is appropriate to reward them for their efforts. In addition, we may hire a new executive and for competitive reasons determine to pay the executive at a level necessary to attract and retain him or her. While we expect these exceptions to be uncommon, they may occur and are not intended to diminish our overall commitment to pay-for-performance.

In the end, if well defended, we do not expect any of the remaining lawsuits to be successful, and we hope that boards continue to base their decisions on what is good for shareholders and not what they have said in prior CD&As. It is unfortunate that some companies – see Broc’s recent blog – have been settled as that simply encourages more.