A rule against making too much money?

Plenty of public companies pay their executives very large salaries, bonuses, and other goodies, including stock grants, stock option awards, and rides in fancy jet planes.

The WSJ recently reported that the median pay for CEOs of "big companies" totaled $11.4 million in 2013. The biggest earner, Oracle's Larry Ellison, took home $76.9 million last year.

Blawgletter has wondered about what, other than a board's imagination, constrains its members in what it has the authority to grant executives.

A new case out of the Third Circuit — which includes the corporate law capital of the U.S., Delaware — reminds us of the difficulties of challenging seemingly outlandish pay packages.

A taxing question

The familiar business judgment rule generally protects board decisions about pay for officers of the company they serve. That rule gives directors a great deal of leeway, at least so long as they do not have a personal interest, financial or otherwise, in voting for the compensation package or plan.

But the Internal Revenue Code also has a rule that could cabin executive pay. It provides that a company may not deduct pay above $1 million unless it jumps through several hoops, including making a study about the justifications for paying the big bucks. Failure to do the work could result in disallowance of the deduction, resulting in loss to the company.

Enter Redstone

A shareholder of Viacom complained about the $100 million or so that the company's board awarded to board chairman Sumner Redstone and two other high execs. He contended that the Viacom board's Compensation Committee failed the test for disinterestedness and behaved so arbitrarily as to run afoul of the business judgment rule.

The Third Circuit upheld dismissal of the shareholder's derivative charges. Robert Freedman, the shareholder, did not allege facts that called into question the independence of at least six of the 11 Compensation Committee members. Nor did he overcome the presumption of proper decision-making under the business judgment rule. Freedman v. Redstone, No. 13-3372 (3d Cir. May 30, 2014).

The court also affirmed dismissal of Freedman's direct claim, in which he alleged that the board had violated the Internal Revenue Code provision requiring shareholder approval of pay in excess of $1 million before the company may claim a deduction for the over $1 million compensation. The panel ruled that 26 U.S.C. 162(m) doesn't create voting rights and therefore could not have required Viacom to count non-voting shares in determining whether enough shareholders approved the pay package.

Lessons

As executive pay continues to mount, the inclination to challenge it as excessive will grow as well. But you have to have sharp weapons to succeed in this sort of fight. If you cannot show that the board or board committee lacked a majority of independent members, you will almost certainly fail.

Look for that. Think about doing something else if you can't find it.