Trends in 'say-on-pay' lawsuits: even in the lace of increasing shareholder lawsuits over executive compensation, corporate boards should feel confident in their decision-making, keeping in mind that the business judgment rule is alive and well.

• Author: Ghegan, David W.
• Position: Legal Issues

At this point in the year, most public companies have been through their first round of shareholder advisory votes on executive compensation, otherwise known as "say on pay." These mandatory say-on-pay votes, a creature of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, require U.S. public companies to submit the compensation of their executive officers to shareholders for a nonbinding advisory vote at their annual meetings at least once every three years.

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The vast majority of public companies have received shareholder approval of their executive compensation, in most cases by an overwhelming margin.

A few companies--approximately 40 through September 2011--have failed to receive majority support on their say-on-pay votes, but that equates to a very small percentage when compared to the total number of public companies conducting these votes.

Adding insult to injury, a handful of these same companies (KeyCorp, Occidental Petroleum Corp., Jacobs Engineering Group Inc. and Cincinnati Bell Inc, to name a few) have been targeted by shareholder derivative lawsuits attacking the board's compensation decisions in light of negative say-on-pay votes.

The following examines some of the trends revealed through these lawsuits and provides recommendations for boards of directors and management teams as they consider what changes to their compensation policies, if any, should result from the legal challenges.

While still a relatively new phenomenon in the U.S., shareholder votes on compensation have existed in European countries for many years.

In the U.S. some "early adopter" public companies began submitting their compensation to a shareholder vote in recent years, either as a response to shareholder activism or as required as a recipient of funds from the U.S. Treasury's Troubled Asset Relief Program (TARP).

Passage of the Dodd-Frank Act brought these issues into the mainstream requiring that large-and mid-cap public companies conduct these "nonhinding" advisory votes at their annual meetings at least once every three years. The legislation's statutory language specifically provides that the advisory votes are nonhinding on boards of directors and "do not imply or add to the fiduciary duties" of directors.

Reality of 'Nonbinding' Advisory Votes

In other words, the outcome of the vote (positive or negative) should not have any legal implications for the resulting actions, or inactions, taken by a board of directors. Despite this very clear and unambiguous language in the statute, the plaintiffs in say-on-pay lawsuits are alleging that the negative shareholder advisory votes provide demonstrative evidence that the board of directors breached its...