By Gerard G. Pecht and Peter A. Stokes
In what has become an annual rite of springtime, shareholder plaintiff lawyers are once again targeting Schedule 14A annual meeting proxy statements that include proposals on executive compensation, incentive plans, the authorization of additional shares, and other issues requiring shareholder action. In several instances, plaintiff firms have issued press releases claiming that they are investigating unspecified "breaches of fiduciary duty" within days or hours after a company files its proxy statement. A number of companies were targeted with similar press releases, demand letters, and lawsuits during the 2013 proxy season, in which plaintiffs threatened to enjoin the annual meeting vote unless the companies changed their disclosures and paid an attorneys-fee award to the plaintiff's counsel. Fortunately for issuers, while plaintiffs continue to pursue these issues, these types of claims usually fare poorly when the plaintiffs are forced to defend them in court.
The plaintiff bar's continued interest in annual meeting proxies is driven in part by a single 2012 California state court decision granting a plaintiff's motion to enjoin an annual meeting vote on an incentive plan and ordering the company to pay more than $600,000 in attorneys' fees to the plaintiff's counsel. In Knee v. Brocade Communications Systems, Inc., Case No. 1-12-CV-220249 (April 12, 2012), the Santa Clara Superior Court granted a shareholder's motion to enjoin an annual meeting vote on a board-recommended proposal to reserve an additional 35 million shares for issuance under a stock incentive plan, which would increase the authorized shares for the incentive plan from 48 million to 83 million. Noting that the company's board relied on projections of future stock grants in deciding to recommend the proposal, the Santa Clara court held that the proxy should have included a "fair summary" of the projections, reasoning that "there is a substantial likelihood that the information analyzed by the board would be material to a reasonable shareholder being asked to approve a potentially dilutive issuance of 35 million shares."
In granting the injunction and awarding attorneys' fees, the district court reasoned that "the shareholders are entitled to generally understand how the board came to that number and why." The court further noted that "there are still approximately 8.6 million shares available under the 2009 Stock Plan," and that the proxy did not adequately disclose why the company needed to authorize 35 million additional shares when it still had 8.6 million shares reserved. The opinion further emphasized that annual meeting proxies must disclose all material information relating to the matter being voted upon, with "material information" defined as information that "would have been viewed by the reasonable investor as having significantly altered the total mix of information made available." See Malone v. Brincat, 722 A.2d 5, 9 (Del. 1998) [enhanced opinion available to lexis.com subscribers].
Fortunately, most other courts to consider these types of claims have granted motions to dismiss and/or have denied the plaintiff's request for injunctive relief. For example, in Kaufman v. Alexander, _ F. Supp. 2d _, 2014 WL 1266317, at *2-3 (D. Del. Mar. 26, 2014) [enhanced opinion], the District of Delaware dismissed a shareholder suit alleging that the company made misleading proxy disclosures regarding a proposed long-term incentive plan (LTIP), including the company's eligibility for tax deductions under Section 162(m) of the Internal Revenue Code. The court found that the proxy presented the shareholders a fair choice between authorizing more shares for the LTIP and maintaining the status quo, and that the company adequately explained that the shares available for the incentive plan were almost depleted and would be insufficient to make additional grants. Id.
In Noble v. AAR Corp., No. 12-c-7973, 2013 WL 1324915 (N.D. Ill. Apr. 3, 2013) [enhanced opinion], the Northern District of Illinois dismissed a shareholder suit filed to enjoin a say-on-pay vote. The plaintiff argued that the company did not adequately disclose, among other things: (i) how the compensation committee selected its annual compensation consultants; (ii) the methodology for selecting the companies in the "peer group" comparison of compensation programs at other firms; (iii) the identity of the companies in the peer group; and (iv) how the company allocated the dollar value of the stock awards to the named executives. Id. at *2. In dismissing the complaint, the court observed that the company fully complied with Item 402 of Regulation S-K and held that the plaintiff was improperly seeking "to create additional disclosure obligations for 'say on pay' votes without citing legal precedent" outside the merger context. Id. at *4. After denying the plaintiff's application for a pre-vote TRO and allowing the vote to proceed, the court further held that any alleged injury from the purported disclosure violation was to the company itself rather than to the individual shareholders and could only be asserted in a shareholder derivative action. Id. at *5.
In Wenz v. Globecomm Systems, Inc., 964 N.Y.S.2d 63, 2012 WL 5832319 964 (N.Y. Supr. Nov. 14, 2012) [enhanced opinion], a New York court denied injunctive relief in a case involving similar allegations that a company's proxy materials failed to disclose management projections relied upon by the board of directors in recommending a proposed 1,500,000-share increase in the number of authorized shares for a stock incentive plan. The court held that injunctive relief was not available because shareholders could obtain monetary relief and because the "omitted information" – including the underlying analyses relied on by the board in deciding to recommend approval of the proposal and the potential dilutive effect of the authorization – would not have significantly altered the total mix of information available to investors and was therefore not material. See id.
Courts in other jurisdictions have held even in the merger context that an alleged failure to disclose material information in a company's proxy materials does not automatically entitle plaintiffs to expedited proceedings or injunctive relief.1
While these decisions suggest that courts will view annual meeting proxy disclosure claims with skepticism, companies should nonetheless be vigilant in ensuring that their proxy disclosures provide a "fair summary" of material information relied on by the board in deciding to make the recommendation. Companies seeking shareholder approval to authorize new shares should carefully consider whether to disclose any specific and concrete plans they have for the new shares, including projected equity grants to management. Notably, while the Santa Clara court in Brocade required the company to disclose its internal projections regarding the increased reserve for the incentive plan, the court agreed that companies need not disclose "publicly available information, non-public confidential information, and unreliable projections." Delaware cases have likewise recognized that companies need not disclose "inherently unreliable or speculative information" or speculative projections intended only for internal consumption. In re Micromet, Inc. S'holders Litig., C.A. No. 7197-VCP, 2012 WL 681785, at *13 (Del. Ch. Feb. 29, 2012) [enhanced opinion]. Directors and disclosure counsel nonetheless should perform "a careful balancing of the potential benefits of disclosure against the possibility of resultant harm." Goodwin v. Live Enters., Inc., No. Civ.A 15765, 1999 WL 64265, at *12 (Del. Ch. Jan. 25, 1999) [enhanced opinion]. Boards and compensation committees should also ensure that their minutes accurately reflect the factors considered in deciding to recommend the proposal at issue.
Fulbright & Jaworski LLP securities litigation, investigations, and SEC enforcement partners Gerard G. Pecht and Peter A. Stokes have extensive experience representing public companies in connection with shareholder demand letters and lawsuits involving allegations of insufficient proxy disclosures.
1 See Davis v. Duncan Energy Partners L.P., 801 F. Supp. 2d 589, 597-98 (S.D. Tex. 2011) (denying expedited discovery in similar merger case and noting that "[g]iven that there is no rival offer in the case, no per se threat of irreparable harm exists"); Louisiana Mun. Police Employees' Retirement Sys. v. Continental Resources, Inc., 2012 WL 3263710, at *11-12 (W.D. Okla. Aug. 9, 2012) (rejecting argument that insufficient proxy disclosures automatically give rise to irreparable harm); Botton v. Ness Technologies Inc., No. 11-3950, 2011 WL 3438705, at *1-4 (D.N.J. Aug. 4, 2011) (denying motion to expedite discovery in proxy disclosure case); Leone v. King Pharms., Inc., No. 2:10-CV-230, 2010 WL 4736271, at *3-5 (E.D. Tenn. Nov. 16, 2010) (same); see also Calleros v. FSI Intern., Inc., 2012 WL 4097832, at *7 (D. Minn. Sept. 18, 2012) ("[T]here is no apparent reason why a stockholder who tenders his shares . . . due to misinformation from the company's officers or directors . . . could not have that 'error' compensated with money damages").
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