Executive Compensation and Entire Fairness: Calma v. Templeton (Part 1)
In Calma v. Templeton, shareholders challenged director compensation paid under a compensation plan. Shareholders asserted that the correct standard for review as entire fairness; the defendants argued for waste. The standard mattered.
The court found that the allegations were sufficient to make a claim for a lack of fairness but not for waste. Id. ("Although Plaintiff has stated a claim that the RSU Awards were not entirely fair to the Company in comparison to the compensation received by directors at Citrix’s peer group, the Complaint does not plead in my view the rare type of facts from which it is reasonably conceivable that the RSU Awards are so far beyond the bounds of what a person of sound, ordinary business judgment would conclude is adequate consideration to the Company.").
Resolution turned upon the impact of shareholder approval. Because all directors (including the three on the compensation committee) were alleged to have benefited from the plan, the court found that the transaction was not entitled to the presumption of the business judgment rule. Id. ("The Compensation Committee approved the RSU Awards to the Company’s nonemployee directors in 2011, 2012, and 2013. These were conflicted decisions because all three members of the Compensation Committee received some of the RSU Awards.").
Defendants, however, asserted that shareholder approval changed the standard of review to entire fairness to waste. The court agreed that "valid ratification" resulted in the application of the waste standard. Id. ("valid stockholder ratification leads to waste being the doctrinal standard of review for a breach of fiduciary duty claim."). Waste was the applicable standard because majority approval was insufficient for ratification. Id. ("Approval by a mere majority of stockholders does not ratify waste because “a waste of corporate assets is incapable of ratification without unanimous stockholder consent.”).
The court ultimately concluded that ratification had not occurred and that the applicable standard was, therefore, entire fairness. The court determined that ratification required approval either of the actual awards given under the plan or of a plan that contained meaningful limits on the amount of compensation that could be paid to the directors. As the opinion stated:
- In my view, Defendants have not carried their burden to establish a ratification affirmative defense at this procedural stage because Citrix stockholders were never asked to approve—and thus did not approve—any action bearing specifically on the magnitude of compensation for the Company’s non-employee directors. Unlike in Steiner or Vogelstein, the Plan here does not set forth the specific compensation to be granted to non-employee directors. And, unlike in 3COM, the Plan here does not set forth any director-specific “ceilings” on the compensation that could be granted to the Company’s directors.
Shareholders, therefore, garnered a victory by fending off a motion for dismiss. Directors would have to show that the compensation paid under the plan was "fair."
In the broader scheme of things, the holding was likely to have little impact on the problem of escalating compensation. Presumably boards can obtain the benefits of the waste standard simply by including in a plan limits on director awards. Moreover, as long as the awards are not on their face unreasonable, it is unlikely that the limits need to be truly meaningful.
Nonetheless, the opinion contains a number of interesting and unexpected legal observations that may have some significance in future decisions. We will discuss them in the next post.