By Lene Powell, J.D.
Despite the extremely high bar for showing corporate waste, the Delaware Court of Chancery held that demand was partly excused in a shareholder action challenging compensation paid to former CBS executive chairman and controlling stockholder Sumner Redstone. Extensive evidence showed that far from the “active engagement” called for in his employment agreement, Redstone was severely incapacitated and uninvolved with corporate duties for over 20 months. The Board would not have been disinterested in considering demand because they faced possible personal liability for allowing his salary to continue to be paid (Feuer v. Redstone, April 19, Bouchard, A.).
Incapacity and alleged corporate waste. Sumner Redstone is the controlling stockholder of CBS Corporation and served as executive chairman until February 2016. (CBS split from Viacom in 2006, and a separate action involving Viacom was resolved.) In February 2014, two months before his 91st birthday, the compensation committee approved goals for Redstone for the year, including “effective communications with the Board.” Shortly after, Redstone’s health took a sharp turn for the worse, and his physical and mental condition declined precipitously over the next 20 months. He nominally attended Board meetings by telephone, but after a few meetings, did not say anything.
Upon examination by a court-appointed psychiatrist in February 2016, Redstone was found to be lacking mental capacity. He resigned as executive chairman, whereupon his title changed to Chairman Emeritus, a role in which he continued to receive compensation. The plaintiff shareholder brought a derivative action on behalf of CBS, arguing that salary and bonuses of almost $13 million paid to Redstone after he became debilitated and unable to contribute were made in bad faith and a waste of corporate assets. The shareholder further argued that Redstone was unjustly enriched by the payments.
Demand partly excused. Taking challenged compensation payments by category, the court held that demand was excused regarding Redstone’s salary, but not bonuses. The court first clarified that Rales, not Aronson, was the correct test for demand futility, because the plaintiff is challenging board inaction, not a board decision. Redstone’s salary and bonuses could only have been reduced or eliminated by terminating his employment agreement, which the Board did not do. Reviewing his performance was not a board decision.
“Extreme factual scenario.” The court found that Redstone’s continued compensation in the face of incapacity constituted an “extreme factual scenario” that supported a valid claim for corporate waste or bad faith by the board. Demand was excused as to the salary portion of the compensation. The board’s failure to inquire into Redstone’s health despite extensive evidence of incapacity, or to at least consider terminating his employment agreement while the company paid him millions of dollars over a twenty-month period, arguably reflects a conscious disregard of the directors’ fiduciary duties. Board members face a substantial threat of liability for non-exculpated claims for waste or bad faith. As a result, the board would not be disinterested in considering demand.
To be clear, the court said, the board did not need to immediately terminate his agreement upon his falling ill. Rather, the court emphasized the Board’s inaction over 20 months of severe incapacity. The court also found that demand was excused as to the bonus portion of the compensation because that was handled exclusively by the compensation committee, which consisted of four board members. The other eight members did not participate in the bonus decision. Because it was not demonstrated that more than half the directors were not independent on the bonus issue, demand was not excused.
The case is C.A. No. 12575-CB.