August 8, 2012
Wasting Away: The Futility of Asserting Waste Claims in the Court of Chancery
By Stephen B. Brauerman
As the pages of the Wall Street Journal fill with reports of lucrative compensation packages awarded to high-flying executives, frustrated stockholders turn to filing derivative cases challenging such largess as corporate waste. Always skeptical of waste claims, which “police the outer boundaries of the broad field of discretion afforded directors under the business judgment rule,” two recent decisions of the Court of Chancery remind stockholders of the extremely high bar one must meet to plead a waste claim and affirm the deference Delaware Courts give to boards of directors in setting executive compensation. Issued in June, the Court of Chancery in both Seinfeld v. Slager (the “Republic Services Case”) and Zucker v. Andreessen (the “HP Case”) dismissed at the pleading stage waste claims challenging generous compensation packages awarded to outgoing executives.
In the Republic Services Case, Seinfeld challenged, among other actions, the board’s decision to pay a $1.8 million severance payment and a $1.25 million incentive payment to the company’s outgoing chief executive because the payments were made without consideration and the board failed to minimize the tax impact of the incentive payment. Following motions to dismiss pursuant to Court of Chancery Rule 12(b)(6) for failure to state a claim upon which relief can be granted and Court of Chancery Rule 23.1 for failure to make a demand on the corporation or adequately plead demand futility, Vice Chancellor Glasscock dismissed plaintiff’s waste claims. The Court denied defendants’ motion to dismiss an unrelated breach of fiduciary duty claim relating to the board’s decision to award itself certain stock options under a vaguely-defined, stockholder approved, employee compensation plan.
As Vice Chancellor Glasscock explained in the Republic Services Case, to state a claim under Delaware law, a plaintiff must pass a minimal burden and the Court will not grant a motion to dismiss “unless the plaintiff would not be entitled to recover under any reasonably conceivable set of circumstances.” Recognizing the broad discretion of the board of directors of a Delaware corporation to manage the affairs of the company, and thus decide whether to “initiate or refrain from initiating legal actions,” Court of Chancery 23.1 imposes a “more arduous pleading standard” and requires that a derivative plaintiff either make a pre-suit demand that the board bring the action or allege “sufficient particularized facts showing that a demand on the board would have been futile.” To meet this burden under the seminal Aronson v. Lewis test, a derivative plaintiff must allege particularized facts that give the Court a reason to doubt that the directors are disinterested and independent or the challenged transaction was the product of a valid exercise of business judgment.
The Court then outlined the high standard a plaintiff must plead to state a waste claim under Rule 23.1. To state a claim for waste, the plaintiff must allege that the defendant directors authorized a transaction that is so one-sided that no business person of ordinary, sound judgment could conclude that the corporation received adequate consideration. If the corporation receives any substantial consideration and the board made a good faith, albeit ill-advised, judgment that the transaction was worthwhile, a waste claim must fail. By definition, a plaintiff who successfully alleges a waste claim will by definition satisfy the second prong of the Aronson demand futility test.
Before turning to the substantive claims in the Republic Services Case, and without considering the factual predicate for the claim, the Court rejected Seinfeld’s unsupported contention that the board’s failure to minim
As the pages of the Wall Street Journal fill with reports of lucrative compensation packages awarded to high-flying executives, frustrated stockholders turn to filing derivative cases challenging such largess as corporate waste. Always skeptical of waste claims, which “police the outer boundaries of the broad field of discretion afforded directors under the business judgment rule,” two recent decisions of the Court of Chancery remind stockholders of the extremely high bar one must meet to plead a waste claim and affirm the deference Delaware Courts give to boards of directors in setting executive compensation. Issued in June, the Court of Chancery in both Seinfeld v. Slager (the “Republic Services Case”) and Zucker v. Andreessen (the “HP Case”) dismissed at the pleading stage waste claims challenging generous compensation packages awarded to outgoing executives.
Republic Services
In the Republic Services Case, Seinfeld challenged, among other actions, the board’s decision to pay a $1.8 million severance payment and a $1.25 million incentive payment to the company’s outgoing chief executive because the payments were made without consideration and the board failed to minimize the tax impact of the incentive payment. Following motions to dismiss pursuant to Court of Chancery Rule 12(b)(6) for failure to state a claim upon which relief can be granted and Court of Chancery Rule 23.1 for failure to make a demand on the corporation or adequately plead demand futility, Vice Chancellor Glasscock dismissed plaintiff’s waste claims. The Court denied defendants’ motion to dismiss an unrelated breach of fiduciary duty claim relating to the board’s decision to award itself certain stock options under a vaguely-defined, stockholder approved, employee compensation plan.
As Vice Chancellor Glasscock explained in the Republic Services Case, to state a claim under Delaware law, a plaintiff must pass a minimal burden and the Court will not grant a motion to dismiss “unless the plaintiff would not be entitled to recover under any reasonably conceivable set of circumstances.” Recognizing the broad discretion of the board of directors of a Delaware corporation to manage the affairs of the company, and thus decide whether to “initiate or refrain from initiating legal actions,” Court of Chancery 23.1 imposes a “more arduous pleading standard” and requires that a derivative plaintiff either make a pre-suit demand that the board bring the action or allege “sufficient particularized facts showing that a demand on the board would have been futile.” To meet this burden under the seminal Aronson v. Lewis test, a derivative plaintiff must allege particularized facts that give the Court a reason to doubt that the directors are disinterested and independent or the challenged transaction was the product of a valid exercise of business judgment.
The Court then outlined the high standard a plaintiff must plead to state a waste claim under Rule 23.1. To state a claim for waste, the plaintiff must allege that the defendant directors authorized a transaction that is so one-sided that no business person of ordinary, sound judgment could conclude that the corporation received adequate consideration. If the corporation receives any substantial consideration and the board made a good faith, albeit ill-advised, judgment that the transaction was worthwhile, a waste claim must fail. By definition, a plaintiff who successfully alleges a waste claim will by definition satisfy the second prong of the Aronson demand futility test.
Before turning to the substantive claims in the Republic Services Case, and without considering the factual predicate for the claim, the Court rejected Seinfeld’s unsupported contention that the board’s failure to minim