Corporate Governance

Selectica v. Versata Enterprises: A Poison Pill Triggered (The Astounding Subjective Standard for Director Independence)(Part 2)

By J Robert Brown Jr.

This case is about poison pills.  Plaintiffs, however, asserted that they were entitled to some additional "enhancement" in the review because the pill had been approved by independent directors.  The court noted that the standard for director independence was the 'subjective ‘actual person' standard' that turned upon the "individualized facts about the specific directors." 

The court applied this standard in assessing the independence of two directors who also served as officers of the company.  The two directors were paid $164,125 and $274,273 over an eight month period.  The court concluded that, while objectively material, there was insufficient evidence to conclude that the payments were material under the subjective standard. 

• Admittedly, the compensation that Thanos and Zawatski have received in their capacity as Co-Chairs is material by any measure. Nevertheless, determining their respective independence under the 'actual person' standard, this Court does not have enough evidence to conclude that such compensation was sufficiently material to either Thanos or Zawatski to preclude their independence. Both Thanos and Zawatski were retired and took on the Co-Chair position following successful careers in the private sector. Both serve on multiple boards and both have testified that the income they receive in these roles is not personally material to them, and that they hope to be able to resign these positions in the near term.  While Trilogy characterizes such testimony as 'self-serving,' the Court has no reason to doubt either director's testimony on this issue, nor has Trilogy provided evidence as to why it should.

The case demonstrates the astounding and non-real world nature of the test applicable in determining independence in Delaware.  Despite the large amounts of money paid as a result of their positions, the two directors were allowed to avoid any characterization of subjective materiality by simply saying that it wasn't. 

Even the NYSE definition, which isn't by any means perfect, contains objective standards.  Those directors who serve as executive officers or who receive more than $120,000 in non-fee income, are not treated as independent.  See 303A.02 Independence Tests.  The NYSE recognizes that some circumstances are so laden with risk that a categorical rule is the appropriate way to handle the matter.

Independent directors are supposed to be the primary mechanism that ensures that the rights of shareholders are protected.  Yet with definitions like the one in this case, it is clear that independent directors need not actually be independent.  SOX tampered with the definition of independence.  The SEC imposed a stricter definition on the directors at BofA who served on the compensation committee as part of the settlement of that action.  In truth, however, what is needed is access in order to facilitate the election of shareholder nominated directors to the board. 

Full post as published by The Race to the Bottom on April 07, 2010 (boomark / email).