How Companies Can Reduce Their Risk of Shareholder Litigation After a Failed “Say on Pay” Vote

June 11, 2012

During the first full year of “say on pay” shareholder votes mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act” or “Act”), the 2011 proxy season saw 38 of the companies on the Russell 3000 Index receive 50 percent or less shareholder support.1 In our July 2011 Client Alert,2 we reported many of the companies experiencing negative “say on pay” votes were also the subject of derivative lawsuits against the officers and directors of those companies. All told, 17 such derivative suits have been filed after negative votes during the 2011 proxy season, and one suit has been filed so far during the 2012 season.

In this alert, we analyze the genesis of those shareholder suits to determine how companies may mitigate their risk of litigation in addition to their risk of experiencing a failed “say on pay” vote. Our findings? First, the precise contours of a company’s stated compensation policy appear to matter little to plaintiffs: those companies with very specific and well-defined policies fared about the same as those with vague and relatively non-descriptive policies. Second, with a few notable exceptions, the companies that were sued were not large-cap organizations. And, not surprisingly, the overwhelmingly significant determinative factor was the degree to which the compensation package of the chief executive officer diverged inversely from a decrease in the company’s stock price.

The good news: virtually all of the “say on pay” vote complaints have been dismissed at the pleading stage, with only one of the 17 cases surviving a motion to dismiss thus far. Perhaps because of this dismal record in court, it appears much of the steam has gone out of plaintiffs’ efforts to capitalize on negative “say on pay” votes through litigation. Nonetheless, such suits continue to be filed, and the “lessons learned” from the 2011 proxy season are still useful now.

Factors Contributing to “Say on Pay” Litigation Risk

A company’s risk of lawsuit in the wake of a failed vote appears to depend on multiple factors, including stock price performance, magnitude of the increase in executive compensation, composition of the executive compensation and company size. Although none of these factors alone proves a perfect indicator of litigation risk, each appears to have played a role in spurring shareholder suits against the 17 companies studied.

Not surprisingly, the vast majority of companies sued after their 2011 shareholder vote — 14 out of 17 —experienced poor performance in their stock price over the course of 2010, with prices either declining or staying nearly stagnant. The data suggests that any increase in CEO compensation coming on the heels of a year of poor stock performance is the most significant factor in 2011. For example, Dex One Corporation saw a 77.77 percent stock price decrease, Navigant Consulting saw a 39.07 percent stock price decrease, and Hercules Offshore saw a 34.59 percent stock price decrease — and all increased their executive compensation packages.3 Even companies that only slightly increased their CEO compensation, such as M.D.C. Holdings, Inc. (1.1 percent increase in CEO compensation), opened themselves to litigation when they chose to make that increase in conjunction with a 7.3 percent decline in stock price. By contrast, of the 21 companies that experienced failed votes but were not sued, only nine of them saw stock price decreases during 2010, and for three of them, the decrease was negligible, e.g., less than 3 percent.

Shareholder sensitivity to decreases in a company’s stock price carried over to the composition of the executive compensation package as a whole.4 While some of the companies sued increased executive compensation by awarding restricted stock tied to the long-term performance of the company, many others awarded their CEOs cash bonuses, either based on certain performance metrics or as a “retention bonus.” Shareholders’ negative visceral reaction to any award labeled a “bonus” in the face of a decrease in stock price spilled over into the courtroom. For instance, Cincinnati Bell was sued after it awarded its CEO a $2 million retention bonus in the face of a nearly 20 percent decline in annual shareholder return, and Hercules Offshore was sued after it granted its CEO a $1.4 million bonus, although the company saw its stock price decline by nearly 35 percent over the course of the year. The presence of a cash bonus in a poor-performance year can even outweigh an overall decrease in CEO compensation: shareholders of Navigant Consulting, for example, filed a lawsuit objecting to a $275,000 cash bonus awarded to the CEO, even though the CEO’s overall compensation decreased by 11 percent.5

The magnitude of the increase in executive compensation also appeared to play a role in a company’s litigation risk. This was particularly true where the increase in compensation was accompanied by a decrease, if only a slight one, in stock price. Calling this disconnect “pay for nonperformance,” the shareholders of PICO Holdings, Inc. sued after the company saw a 3.35 percent decrease in its stock price during 2010, yet it increased its CEO compensation by nearly 500 percent. Complaint at ¶ 7, Assad v. Hart, No. 11-cv-2269 WQH (BGS) (S.D. Cal. filed Sept. 30, 2011). Six of the sued companies saw a stock price decrease of 10 percent or more, but increased their executive compensation by at least 60 percent. In the case of Monolithic Power Systems, for example, the increase was more than 400 percent.6 And, in some cases companies whose stock prices performed well experienced lawsuits when they approved a disproportionate increase in CEO compensation. Stanley Black & Decker, for instance, saw a 26 percent increase in its stock price, but was sued after its CEO’s compensation rose by over 240 percent that same year.7

Smaller companies also tended to be sued more than larger companies. Although all 17 of the sued companies are large enough to appear on the Russell 3000, 14 out of them had market capitalizations less than or just slightly above $2 billion.8 This increased risk may arise for several reasons. Smaller companies may have fewer resources to engage in the type of extensive shareholder outreach that could, in turn, make a positive difference in shareholders’ opinions on executive compensation. A Closer Look at Negative Say-on-Pay Votes during the 2011 Proxy Season, The Conference Board, July 2011, And given the relatively small size of the company, even small increases in CEO compensation may represent a greater proportion of the company’s revenues or net profit than in larger companies.

Although shareholders almost uniformly complained that the sued company refused to retroactively adjust the compensation award after a failed “say on pay” vote, this refusal in fact appears to have little effect on whether the company ultimately was sued. First, because the “say on pay” vote is purely advisory, the board is under no legal obligation to adjust packages already awarded; indeed, any other result would pose serious issues about the sanctity of corporate contracts. Second, it appears that none of the companies that received a “no” vote took such a step, and thus there is no distinction on that score between those who were sued and those that were not. As such, plaintiff’s complaints about the company’s failure to adopt a retroactive pay adjustment seem little more than a red herring argument thrown in for effect.

A company’s stated compensation policy also did not appear to affect the risk of litigation. Although every complaint alleged that the company’s compensation awards violated its “pay for performance” policy, the inclusion of such language in a policy is nearly universal and hardly objectionable. There also seemed to be no correlation between the specificity of the policy language and the gravamen of the shareholders’ complaint: in some instances, the compensation philosophy was spelled out in detail, and in others it was nearly non-existent. Even where the compensation benchmarks were clearly identified in the policy — and were in fact met — the company may still be sued. For instance, Intersil’s shareholders acknowledged that the company had met the benchmarks outlined in Intersil’s compensation policy (e.g., meeting revenue and operating income goals), but complained that an increase in executive compensation was not in line with the company’s “pay for performance” policy given the company’s decline in net income and earnings per share. Laborers’ Local v. Intersil, No. 5:11-CV-04093 EJD, 2012 WL 762319 at *8 (N.D. Cal. Mar. 7, 2012). The message: unless the compensation formula gives sufficient weight to the company’s stock price, the company will still be subject to a higher risk of a “no” vote — and to shareholder suit — when the two diverge.

“Post-Say on Pay” Shareholder Suits Have Been Overwhelmingly Unsuccessful

As predicted in our July 2011 Alert, the suits challenging executive compensation packages in the wake of a negative “say on pay” vote have been overwhelmingly unsuccessful. Complaints involving nine of the companies have been resolved by motion, settlement or voluntary dismissal; and cases involving the other eight remain pending.9

Courts that have thus far examined these complaints have dismissed the claims for failure to make a pre-suit demand upon the board despite plaintiff’s assertions that such a demand would have been futile. One decision is the exception: NECA-IBEW Pension Fund v. Cox, No. 1:11-cv-451, 2011 WL 4383368 (S.D. Ohio Sept. 20, 2011) (referred to as “Cincinnati Bell”). Applying Ohio law, the District Court for the Southern District of Ohio held that the plaintiffs pleaded adequate facts sufficient to show, in significant part, that the company’s compensation decision was not entitled to protection by the business judgment rule and that pre-suit demand was excused. Cincinnati Bell had sought shareholder approval of its 2010 executive compensation, awarding — in part — $2.1 million in bonuses and $8.5 million in total compensation to the CEO, which represented a 71.7 percent increase in the CEO’s prior total yearly compensation. Id. at *3 n.2. At the same time, the company incurred a $61.3 million decline in net income, a drop in earnings per share from $0.37 to $0.09, a reduction in share price from $3.45 to $2.80, and a negative annual shareholder return of 18.8 percent. Id. at *3. Sixty-six percent of the voting shareholders voted against the 2010 executive compensation. Id. at *1.

The court denied the motion to dismiss. It observed that, although the business judgment rule required the plaintiff to produce evidence at trial, it did not require pleading facts that rebutted the presumption. Id. at *2. Applying this standard, the court held that the plaintiff provided factual allegations that “raise[d] a plausible claim that the multimillion-dollar bonuses approved by the directors in a time of the company’s declining financial performance violated Cincinnati Bell’s ‘pay-for-performance’ compensation policy and were not in the best interests of Cincinnati Bell’s shareholders and therefore constituted an abuse of discretion and/or bad faith.” Id. Further, the court held that, unlike under Delaware law, the plaintiff was excused from making pre-suit demand because the director defendants devised the challenged compensation, approved the compensation, recommended approval of the compensation and suffered a negative shareholder vote on the compensation,  and “there [was] a reason to doubt the same directors could exercise their independent business judgment over whether to bring suit against themselves for breach of fiduciary duty in awarding the challenged compensation.” Id.10 The matter has since been settled and voluntarily dismissed.

Litigation in the Unfolding 2012 Proxy Season

The 2012 proxy season appears to be yielding a similar number of failed “say on pay” votes as in 2011. As of May 29, 2012, 34 of the 1,437 companies in the Russell 3000 who reported their “say on pay” votes saw shareholders reject the proposed executive compensation plans. Semler Brossy Consulting Group, 2012 Say on Pay Results: Russell 3000 Shareholder Voting, May 30, 2012, Notably, 28 of the companies experiencing failed votes had negative total shareholder returns in the prior year. Id. at 9. Two of the 34 companies — Hercules Offshore Inc. (May 15, 2012 vote) and Kilroy Realty Corp. (May 17, 2012 vote) — previously saw failed say on pay votes in 2011. Id.

So far, only one of the 34 failed “say on pay” votes in 2012 has resulted in shareholder litigation (against Citigroup), and that case appears to have followed a unique path to the courthouse. Although the complaint focused on standard discrepancy between stock performance and the “1,499,999,900 percent increase” in the CEO’s pay in 2010 (i.e., receipt of a package valued at $15 million in 2010 after being paid $1 in 2009),11 it is clear the resulting litigation was the product of far more fundamental issues about shareholder unrest.12 The suit is pending in the District Court for the Southern District of New York, and, as of this writing, no substantive motions or responsive pleadings have been filed.

Lessons From the Numbers

As long as shareholders continue to vote on executive compensation packages, shareholder derivative litigation after a failed vote will continue to linger as a risk. A review of the complaints filed against those companies sued after a negative “say on pay” indicates:

  • If the company has seen decreasing shareholder returns in the past year or in prior years, increasing executive compensation by virtually any amount will increase the risk of shareholder litigation, especially if the magnitude of the increase is significant. Shareholders are increasingly alert to any disconnect between compensation and share performance.
  • Shareholders will focus particularly on the award of any cash bonuses when share price declines, even when the overall compensation package declines.
  • Smaller-cap companies (i.e., those with a market cap of less than $2 billion) are more vulnerable to suit than larger-cap companies. This may be due to the lack of resources available for extensive shareholder outreach or due to the fact that any increase in executive pay may result in a higher percentage of compensation received by that executive when compared against the company’s total market capitalization or revenues.
  • Finally, neither the specificity (nor lack thereof) of the company’s compensation policy, or its refusal to retroactively adjust a compensation package once awarded, seems to affect its litigation risk.

Special thanks to partner Michael Blanchard and summer associate Sara del Nido for their assistance with this alert.


If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:


1 2011 U.S. Postseason Report, Institutional Shareholder Services, 20-21, Sept. 29, 2011,

2Say on Pay:” Shareholder “No” Votes Now Leading to Derivative Actions Challenging Executive Compensation, Legal Alert, July 7, 2011,

3 Historic stock prices for the companies were available at

4 Historic executive compensation totals for the companies examined were obtained through the companies’ proxy statements.

5 Definitive Proxy Statement, Navigant Consulting, Inc., March 16, 2011, See also Complaint at ¶ 12, 43, 57, Gordon v. Goodyear, No. 1:12-cv-00369 (N.D. Ill. filed Jan. 18, 2012).

6 2012 Proxy Statement, Monolithic Power Systems, Inc. – Proxy Information, April 30, 2012,

7 Proxy Statement for the April 19, 2011 Annual Meeting of Shareholders, Stanley Black & Decker – Investor Relations, March 11, 2011,

8 Historic market capitalization records for the companies at issue were obtained through

9 As of this writing, cases involving Beazer Homes USA, Inc.; BioMed Realty Trust; Intersil Corp.; Jacobs Engineering Group, Inc.; PICO Holdings, Inc.; and Umpqua Holdings Corp. were dismissed upon defendants’ motion. Also, cases involving Dex One Corp.; Helix Energy; Hercules Offshore, Inc.; Janus Capital Group Inc.; Monolithic Power Systems, Inc.; Nabors Industries Ltd.; Navigant Consulting, Inc.; and Stanley Black & Decker, Inc. remain pending. And, cases involving Cincinnati Bell, Inc.; M.D.C. Holdings, Inc.; and Nutrisystem, Inc. have been settled or voluntarily dismissed.

10 The court also held that the plaintiffs had adequately pleaded a claim for unjust enrichment.

11 See, e.g., Complaint at ¶ 2, 48, 64, Moskal v. Pandit, No. 12-cv-3114 (S.D.N.Y. filed Apr. 18, 2012).

12 See, e.g., Jessica Silver-Greenberg and Nelson D. Schwartz, Citigroup’s Chief Rebuffed on Pay by Shareholders, N.Y. Times, April 17, 2012, (“In a stinging rebuke, Citigroup shareholders rebuffed … the bank’s $15 million pay package for its chief executive, Vikram S. Pandit, marking the first time that stock owners have united in opposition to outsized compensation at a financial giant.”); see also, Business This Week, The Economist, April 21, 2012, (noting that the failed vote was “the first time this had happened at a big American bank since the ‘say on pay’ rule was introduced under the Dodd-Frank reforms. The vote is non-binding, but underscores the anger felt by some investors at the perceived uncoupling of pay from performance.”)

This article was originally published by Bingham McCutchen LLP.