The recent wave of proxy strike litigation, once thought to be on the rise in 2012 and 2013, has now gone two years without a significant court victory. After one notable early success, decision after decision has gone against plaintiffs in courts across the country. The question is: what now?
As reported here in March, a new breed of proxy disclosure litigation has been on the rise the last few years. These proxy “strike suits” have typically been brought as class actions, seeking to enjoin annual shareholder meetings until the defendant companies cure the supposed shortcomings in their proxy disclosures—following which the largely self-selected plaintiffs’ attorneys receive a legal fee for their effort. Early cases focused on proxy disclosures in advance of the advisory “say-on-pay” votes mandated by Dodd-Frank. But plaintiffs have since broadened their focus to target other types of disclosures and votes, such as those on proposals to increase the number of shares under stock compensation and incentive plans.
The high watermark of this wave remains the 2012 decision in Knee v. Brocade Communications Systems, Inc., in which plaintiffs succeeded in persuading a California state court to enjoin a shareholder meeting under Delaware law. Emboldened by this early success, a handful of plaintiff-side firms created a cottage industry for proxy strike suits. The economic model was built on pragmatism: companies have been willing to make additional disclosures—however unnecessary, duplicative, or, in some instances, trivial they may be—and pay a legal fee simply to put the matter to bed. Doing so mitigated any risk that annual meetings would be postponed and spared companies the annoyance of having to explain why the original appropriate disclosures were, in fact, appropriate. This is why most cases have ended in settlement, and precious few litigated cases after Brocade have made it to the decision stage.
Now that the 2014 proxy season is nearing its end, it makes sense to revisit our March post to better understand how these cases have played out and to evaluate what companies need to know about this type of litigation. Since Brocade, defendants have been largely successful in the cases they have litigated. What is now clear is that no wave of plaintiff victories has materialized in the two years following the Brocade decision, which is more one-hit wonder than trendsetter. In fact, courts from New York to Illinois and even California have consistently declined to follow in Brocade’s footsteps.
So what are the key factors driving the decisions in these cases? And what are the take-away lessons for companies faced with these suits going forward?
- Analysis of Irreparable Harm: In Brocade, the court found it necessary to enjoin the shareholder meeting to protect the plaintiffs from what was potentially “irreparable harm”—that is, being forced to cast a less than “fully informed” vote at the meeting. Later decisions, though, have moved away from this view. In the recent case of Masters v. Avanir Pharmaceuticals, Inc. (February 2014), for example, the Southern District of California found that an injunction was unnecessary because a shareholder vote on a stock plan amendment–unlike, say, a complicated merger—could easily be unwound after the fact, no harm done. A California state court followed similar reasoning in denying a request for an injunction against Clorox (November 2012). And in Noble v. AAR Corp. (October 2012), the Northern District of Illinois denied a request for a TRO to prevent a say-on-pay vote because, under Dodd-Frank itself, such votes were only advisory, not binding. In short, post-Brocade, courts take into account the particular effects of the proposals up for a vote in deciding whether injunctions are genuinely necessary to prevent harm.
- Materiality of “Omissions”: Later decisions have also taken a stricter view of whether the information supposedly “omitted” from proxy disclosures is actually material. The prevailing approach is to insist that companies comply fully with the disclosure requirements imposed by the Dodd-Frank Act, Section 162(m) of the Internal Revenue Code, and other federal laws. Once companies satisfy these standards, though, courts are less likely to require that they include the above-and-beyond metrics and information that plaintiffs seek. For example, in Morrison v. Hain Celestial Group, Inc. (June 2013), a New York state court relied on the fact that the defendant had complied with its disclosure requirements under Dodd-Frank in denying the plaintiffs’ request for a TRO and dismissing their complaint.
- Expert Analysis of Disclosures: A recurring theme in these decisions is that a defendant can bolster its chances for success by using expert witnesses to show that its disclosures are sufficient and on par with those of its peers. In the recent Masters decision, for example, the court relied on the defendant’s expert analysis showing that not one of the 25 companies in its peer group had disclosed all the information that the plaintiff claimed was “material.” And in Gordon v. Symantec, the same California state court judge who decided Brocade relied on similar expert testimony in concluding that the alleged deficiencies in Symantec’s disclosures were not material.
Plaintiffs’ losing record in the courts so far is no guarantee that this wave of strike suits will slacken any time soon. Again, proxy strike suits are deliberately designed to make settlement cheaper and easier than litigation, and many plaintiffs will continue taking their chances in the hopes of a quick settlement. Companies amending their stock plans or holding say-on-pay votes should still take care to ensure their disclosures meet the standards set by the SEC, proxy advisory firms like ISS, and the courts. As explained above and in our prior post, there are several concrete strategies that companies can deploy to prevent and manage such suits. And when the next round of proxy litigation inevitably arrives, the developing case law should give targeted companies a solid basis for fighting back.