An Illinois-based pension fund has brought a shareholder’s derivative action seeking to recover billions of dollars in executive compensation paid by Goldman Sachs. This could be the first of many such suits, reported James Armstrong of Law360, “Goldman Pay Suit Could Signal New Wave of Litigation,” Jan. 8, 2010.
Goldman pays out nearly 50 percent of its annual revenues as compensation, and, for 2009, that could be more than $22 billion, according to the article. The problem is that Goldman reportedly received $10 billion in government bail-out money, under the Troubled Asset Relief Program. But Goldman paid back that government money, freeing it from limits on executive compensation and dividends. The issue is: Did the company’s directors breach their fiduciary duty to the shareholders, as the suit alleges, and were the shareholders harmed?
The board of directors of a corporation is responsible for compensation decisions. The article makes note of the “business judgment rule,” which creates a legal presumption that the directors of a corporation act on an informed basis, in good faith and in the honest belief that the action taken is in the best interests of the company. Companies and their directors typically argue that they need to pay such large amounts to retain the talent needed to run the company, and use the business judgment rule to get the claim dismissed.
The business judgment rule does not always mean the shareholders lose, however. Earlier this year the Delaware Chancery Court, which is looked to by other state courts as a persuasive authority on issues of corporate law, denied a motion to dismiss a claim that Citigroup’s payment of $68 million to former CEO Charles Prince constituted “corporate waste.” Additionally, Prince received from Citigroup an office, an administrative assistant, and a car and driver for the lesser of five years or until he commences full time employment with another employer.
According to the Delaware court, directors have the authority and broad discretion to make executive compensation decisions, but “there is an outer limit.” That outer limit is exceeded when compensation is so disproportionately large as to be unconscionable and constitute waste.”
Citigroup shareholders alleged that this compensation package constituted waste and met that standard because, in part, Prince’s failures as CEO were allegedly responsible, in part, for billions of dollars of losses at Citigroup. It will be interesting to see how the New York court rules in the case against Goldman.