Caseflicks

Supreme Court of Delaware • 2017

In Re Investors Bancorp, Inc. Stockholder Litigation

177 A.3d 1208

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Takeaway

In short, this case holds that stockholder approval of a discretionary equity plan does not insulate directors’ later self-awards from entire-fairness review when stockholders did not approve the specific awards and plaintiffs adequately allege that those awards were unfair.

Background

Investors Bancorp’s stockholders approved a 2015 Equity Incentive Plan (EIP) after a mutual-to-stock conversion. The plan reserved more than 30 million shares for equity awards to roughly 1,800 officers, employees, non-employee directors, and service providers. It allowed non-employee directors, in the aggregate, to receive up to 30% of the options and restricted-stock shares available under the plan, but left the number, type, and terms of particular awards to the board’s Compensation and Benefits Committee after stockholder approval.

Within days after the vote, the board and committee approved approximately $51.7 million in option and restricted-stock awards for themselves. The complaint alleged that the awards were excessive, were far above comparable-company compensation, and improperly rewarded past work on the conversion even though the plan was presented as an incentive for future performance. Non-employee directors received awards averaging more than $2.1 million, while the CEO and COO received awards valued at roughly $16.7 million and $13.4 million, respectively.

Stockholders brought derivative fiduciary-duty claims. The Court of Chancery dismissed the claims against the non-employee directors, holding that stockholder approval of the EIP ratified awards made within the plan’s "meaningful, specific limits." It dismissed the claims concerning the executive directors for failure to make a pre-suit demand. The Delaware Supreme Court reviewed the dismissal de novo.

Issues

Issue #1

Whether stockholder approval of an equity incentive plan with general limits, but with director discretion over their own later awards, ratifies those awards and permits dismissal under the business-judgment rule.

Holding

No. When stockholders approve only the general parameters of a discretionary equity plan, they do not ratify the directors’ later self-interested decisions about the specific awards. If a plaintiff adequately alleges that those awards were unfair, the directors must prove entire fairness.

Reasoning

Directors are statutorily authorized to set their own compensation, but that authority does not eliminate the directors’ conflict of interest. When directors determine benefits for themselves, their action ordinarily is subject to entire-fairness review, under which they must prove both fair dealing and fair price.

A fully informed, uncoerced, and disinterested stockholder vote can ratify a board action. Ratification properly applies when stockholders approve the specific compensation decision at issue, or when they approve a self-executing plan that fixes the particular awards and leaves directors no discretion in implementation. In those settings, stockholders know what they are being asked to approve.

The Court rejected the view that stockholder approval of plan limits alone ratifies every later self-award made within those limits. Earlier Delaware authority distinguished between approval of specific bargains and approval of a general pattern under which important terms would later be set. Stockholders cannot be understood to have ratified compensation decisions that had not yet been proposed and whose terms were unknown at the time of the vote.

The Court also rejected the Court of Chancery’s "meaningful limits" approach for discretionary self-compensation plans. Even a plan with limits gives directors legal authority, not permission to exercise that authority inequitably. Corporate action is tested both for legal authorization and for compliance with fiduciary duties; conduct does not become equitable simply because it is permitted by the plan’s broad terms.

The EIP expressly stated that the number, type, and terms of awards would be decided by the committee only after stockholder approval. Although it capped aggregate awards to non-employee directors, it left the directors discretion to allocate substantial awards to themselves. Thus, stockholders approved the plan’s general parameters, not the particular awards challenged in this suit.

The complaint supported a reasonable pleading-stage inference that the directors exercised their discretion unfairly. It alleged that the awards dramatically exceeded the directors’ prior compensation and relevant peer benchmarks, and that the awards compensated directors for past conversion-related efforts despite representations that the plan would incentivize future performance. Because those allegations stated a viable claim of unfair self-dealing, ratification could not justify dismissal and the directors must establish entire fairness.

Issue #2

Whether the plaintiffs were excused from making a pre-suit demand before challenging awards granted to the CEO and COO.

Holding

Yes. Demand was futile because the non-employee directors participated in the same nearly contemporaneous compensation decisions that granted substantial awards to themselves and to the executive directors.

Reasoning

Demand is excused when the complaint creates a reasonable doubt either that a majority of the board is disinterested and independent or that the challenged transaction resulted from a valid exercise of business judgment. The inquiry focuses on the directors’ connection to the challenged conduct, not on whether plaintiffs can show a quid pro quo.

The awards to the non-employee and executive directors resulted from a series of closely timed meetings immediately after the EIP’s approval. The non-employee directors could not independently evaluate a demand attacking the executive awards because that inquiry would require them to question the same process and compensation decisions through which they awarded themselves substantial benefits.

It was therefore implausible that the non-employee directors could impartially decide whether the corporation should sue over the executive-director awards. Demand was excused as to claims concerning both the non-employee directors’ awards and the executive directors’ awards.