The Problem of Director Fees

Irrespective of where one stands on corporate governance issues, independent directors have attained an almost talismanic role. The NYSE requires that the boards of listed companies have a majority of independent directors. Delaware provides that conflict of interest transactions approved by a majority of independent directors are  entitled to the protection of the business judgment rule, eliminating judicial review of fairness.  

Both Delaware and the NYSE employ definitions that do not ensure directors are independent.  There are numerous examples but an obvious one concerns fees paid to directors. The NYSE definition provides that a director will not be independent if he or she receives more than $100,000 from the company in direct compensation  during any 12 month period within the prior three years. In computing this amount, however, the definition specifically excludes "director and committee fees." The Delaware courts have likewise adopted something approaching a categorical rule that fees do not deprive directors of their independence.

A study of director pay by The Corporate Library of the 25 highest paid directors in 2004-2005 revealed that those directors received compensation ranging from $1.169 million to $5.873 million. Despite the sums, a number of directors on the list were labeled independent in their company's proxy statement. For example, the table included five directors from Telewest.   According to the Corporate Library Study, the five received compensation in excess of $1 million each. The same proxy statement labeled all five directors as independent.  Moreover, the trend in compensation is upward. The study (examining 16,623 directors of public companies) concluded that the average increase was 39.77% from 2003/2004 to 2004/2005. 

Common sense would suggest that such significant amounts of compensation would, at least in some cases, create doubt as to whether directors could make decisions “based on the corporate merits of the subject . . . rather than extraneous considerations or influences,” Aronson, 473 A.2d at 816, or amount to a disqualifying "material relationship with the listed company." NYSE Manual 303A.02. 

It has not always been easy to figure out what directors earn from the proxy statements of public companies. That should change. Implementation of the amendments to Item 402 of Regulation S-K now require that companies provide a table showing total compensation paid to directors. See Item 402(k) of Regulation S-K. This blog will follow this development and provide examples of highly paid directors treated as independent.

Comments

[Steve]

First, I'm excited to learn of this blog and look forward to your posts.

Second:

"Delaware provides that conflict of interest transactions approved by a majority of independent directors are entitled to the protection of the business judgment rule, eliminating judicial review of fairness."

I don't think this statement is incorrect because, unfortunately, this area of law is somewhat of a mess in Delaware (compare Flieger v. Lawrence with Marciana v. Nakash or Cooke v. Oolie). I recall that the Model Act provides for business judgment review upon compliance with the interested director safe harbor. In Delaware, however, the Court of Chancery has explained that "satisfaction of 144... alone does not always have the opposite effect of invoking business judgment review that one might presume would flow from a literal application of the statute's terms. Rather, satisfaction of 144... simply protects against invalidation of the transaction 'solely' because it is an interested one." HMG/Courtland Properties, 749 A.2d at 114. More recently, in Benihana, the Court of Chancery went through the 144 analysis but then provided a separate, further review of the transaction before declaring that the business judgment rule applied--thus, the 144 compliance alone did not trigger business judgment review.