Shaev v. Saper

Citation320 F.3d 373
Decision Date21 February 2003
Docket NumberNo. 02-2206.,02-2206.
PartiesDavid B. SHAEV, Appellant v. Lawrence SAPER; Alan B. Abramson; David Altschiller; Joseph Grayzel, M.D.; George Heller; Arno Nash; Datascope Corp.
CourtUnited States Courts of Appeals. United States Court of Appeals (3rd Circuit)

A. Arnold Gershon, (Argued), Ballon, Stoll, Bader & Nadler, New York, for Appellant.

Louis M. Solomon, (Argued), Andrew J. Levander, Swidler Berlin Shereff Friedman, New York, for Appellees.

Before SLOVITER, McKEE, and ROSENN, Circuit Judges.

OPINION OF THE COURT

ROSENN, Circuit Judge.

This case presents important questions pertaining to corporate governance and responsibility. They involve the application and alleged violations of Securities Exchange and Treasury Regulations with respect to shareholder proxy statements soliciting shareholder approval of executive incentive compensation plans. Datascope Corporation (Datascope or the Company), a corporation chartered under the laws of Delaware, has its principal place of business in Montvale, New Jersey, where it is engaged in the manufacture of complex cardiology, vascular, and other medical proprietary products. The Company's board of directors (Board) issued a proxy statement to its shareholders soliciting support for an amendment to its Management Incentive Plan (MIP) which determined the bonus compensation to be awarded to Datascope's president, Lawrence Saper.

Datascope shareholder David Shaev brought a derivative lawsuit under the Federal Securities Exchange Act of 1934 and applicable regulations alleging that the proxy statement made false and misleading statements regarding material facts. The District Court dismissed Shaev's claim on the pleadings and declined to exercise supplemental jurisdiction over Shaev's excessive compensation claim under Delaware law. Shaev timely appealed. We vacate and remand.

I.

For the purposes of defendants' motion to dismiss, we must accept as true Shaev's allegations in his complaint and make all reasonable inferences in his favor. Hayes v. Gross, 982 F.2d 104, 105-06 (3d Cir. 1992). The defendant's motion to dismiss automatically halted discovery. Thus, Shaev has not had the opportunity to substantiate some of his allegations.

Saper has been the Chief Executive Officer (CEO) and chairman of the Board of Datascope since 1964. Saper and his immediate family hold approximately 19% of Datascope's shares, which are traded on NASDAQ. As of July 1, 1996, Saper entered into an employment agreement with Datascope for a term of five years with an automatic extension, unless either party gave notice of an intent to terminate the contract. Saper receives an annual base salary with increases as determined by the Board or the Compensation Committee. On September 22, 1999, the Compensation Committee increased Saper's annual base salary to $1 million per year. Saper also became entitled to receive bonuses under various long-term and annual incentive compensation plans. On May 26, 1999, Saper received an immediately-exercisable option to purchase 70,000 shares of stock at an exercise price equal to the market price of the stock, expiring May 25, 2009. Using an option-pricing model, Shaev alleges that this option was worth $1,016,200. Additionally, the complaint alleges that Saper's annual lifetime retirement payments are worth approximately $1,406,400 per year and cost the company $10,000,000.

On December 7, 1999, Datascope adopted a supplemental Management Incentive Plan that provided for bonus payments to eligible executives. The payments were contingent on attainment of various corporate goals and some subjective criteria.1 The December 7, 1999, supplement provides "the precise terms and provisions of the performance goals" to calculate Saper's bonus, based on Datascope's earnings per share measured before extraordinary and/or special items.

On May 16, 2000, the Board's Compensation Committee amended the 1999 supplement. The Board adopted the 2000 amendment for a nine-month performance period commencing October 1, 1999, and continuing through July 30, 2000. The performance goals for that nine-month performance period were adopted on December 7, 1999. However, as of December 7, 1999, the maximum Saper bonus was $2,225,000. In the May 16, 2000, amendment, the Board increased to $3,285,714 the amount of compensation that would be awarded to Saper if Datascope met the performance goals adopted five months earlier. The performance period ended approximately six weeks later.

Under the 2000 amendment, Saper could have received 83% of the increase in the earnings of the company at the high end of earnings per share. As a shareholder, Saper would also get 19% of the remaining 17% if dividends were issued, leaving only 14% of the remainder to the shareholders.

On October 27, 2000, the Board issued a proxy statement in connection with its annual meeting to be held on December 12, 2000. The proxy statement solicited shareholder approval of the 2000 amendment. However, the proxy statement did not include the material features of the 1999 supplement which it amended, and it did not mention the 1997 Plan which the 1999 MIP supplemented.

The proxy statement explained that the Board intended to administer the amendment in a way that would allow the Company to deduct bonuses and incentive payments for tax purposes. Furthermore, the proxy stated that "[s]hareholder approval of the Management Incentive Plan is required in order for the Management Incentive Plan to be effective and for bonuses payable thereunder to a `covered employee' within the meaning of Section 162(m) ... to be deductible under 162(m) of the Code."

Saper earned $3,285,714 in bonus compensation in FYE 2002. According to the proxy statement, $1,485,714 of that amount was subject to shareholder approval of the amendment. See Dist. Ct. op. at A 6. The proxy statement also stated that "[i]n the event that the Management Incentive Plan is not approved by the shareholders of the Corporation, the Compensation Committee may grant Mr. Saper another bonus for FYE 2000, a portion of which may not be deductible under Section 162(m) of the Code." On December 12, 2000, the Board submitted the amendment for shareholder approval at Datascope's annual meeting. The shareholders approved the amendment and the bonus payment to Saper.2

Shaev filed a derivative action in the United States District Court for the District of New Jersey. Shaev did not make a demand on the Board prior to filing suit because he alleges that demand would have been futile and was, therefore, excused. Shaev asserts that the proxy statement erroneously stated that a bonus to Saper would be tax deductible to Datascope if it was approved by the shareholders. Shaev asserts that regardless of whether the shareholders voted for the Plan, the Company would not get the full deduction. Shaev also alleges that the proxy statement contained a material omission because it failed to include or even mention the original 1997 MIP that was being amended. Without the original 1997 MIP or a statement of the material terms of its 1999 supplement, Shaev alleges that the shareholders had no way of knowing that the proposed Saper bonus exceeded the amount to which he would have been entitled under the 1999 supplement's performance goals. Shaev also alleges that Saper's compensation was excessive under Delaware law.

On April 2, 2002, District Judge Pisano dismissed Shaev's securities claim with prejudice under Fed.R.Civ.P. 12(b)(6). Judge Pisano declined to assert supplemental jurisdiction over the state law claims, which he dismissed without prejudice. See Dist. Ct. op. at A 2.

II.

The threshold question we must decide is the validity of the defendants' challenge to the plaintiff's right to sue in behalf of the Company without first having made a demand upon its Board of Directors to take appropriate action for relief. In a derivative lawsuit, the shareholder must make a demand on the board of directors of the corporation to take action to correct the wrongdoing, or allege the reasons for the plaintiff's failure for not making the effort. See Fed. R. Civ. Proc. 23.1. The demand requirement ensures exhaustion of intra-corporate remedies, thereby possibly avoiding litigation in the first place. Additionally, it gives the corporation an opportunity to pursue claims that the Board believes are meritorious and seek dismissal of the others. Finally, when demand is wrongfully refused by the Board or excused because demand would have been futile, the shareholder is free to seek relief by court action. Allright Missouri, Inc. v. Billeter, 829 F.2d 631, 639 (8th Cir.1987); accord Untermeyer v. Fidelity Daily Income Trust, 580 F.2d 22, 23-24 (1st Cir.1978).

Shaev alleges that he brings this action derivatively as the right of and for the benefit of the Company. He asserts that he has been a stockholder of the Company continuously for many years and throughout the period of the alleged wrongs. He acknowledges that he made no demand upon the Board of Directors of the Company to file and prosecute this action "because such demand would be futile and, therefore, excused." In support of his claim of futility, he avers that three of the six members of the Board are financially interested in Saper's payments. Saper, of course, was the beneficiary of the stock options and incentive benefits set up for him. The other two board members, defendants Altschiller and Grayzel, are alleged in the complaint to lack independence because their consulting fees, bonuses, stock options and other perquisites are subject to Saper's control.

Plaintiff further alleges that under Delaware law, demand on the Board of Directors is excused when three of the six Board members are neither disinterested nor independent. Furthermore, the complaint alleges that the entire Board is neither disinterested nor independent since every member of the Board is potentially liable for a violation of §...

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