Corporate Governance

Dennis v. Hart: ?Say-on-Pay? Not a Federal Issue

By Kirstin Dvorchak

In Dennis v. Hart, No. 11cv2271 WQH (WVG), 2012 U.S. Dist. LEXIS 1893 (S.D. Cal. Jan. 6, 2012), the United States District Court for the Southern District of California, partially dismissed a derivative action brought against PICO Holdings, Inc. ('PICO') and PICO's Board of Directors for failing to state a claim under Fed. R. Civ. P. 12(b)(6) and 8(a).

According to the allegations made by Ronald Dennis ('Plaintiff'), a shareholder of PICO, PICO employs a 'pay-for-performance' policy, which rewards executives for company growth. In 2010, PICO's revenue fell from $60.35 million in 2008 to $32.17 million. PICO's stock performance also declined. In 2010, executive compensation for PICO increased to $14,278,401. Specifically, the compensation paid to the chief executive officer increased 487%. PICO's shareholders rejected the new executive compensation in a 'say-on-pay' vote.

Plaintiff alleged breach of fiduciary duty, gross mismanagement, contribution and indemnification, abuse of control, waste of corporate assets, and unjust enrichment. Plaintiff sought damages, injunctive relief, and a declaratory judgment that the adverse 'say-on-pay' vote rebutted the business judgment assumption. Plaintiff initially filed suit in the Superior Court of the State of California for the County of San Diego. PICO filed a Notice of Removal, asserting the District Court had original jurisdiction on 'say-on-pay' as it constitutes a substantial federal question arising under 28 U.S.C. § 1331.

In order to survive a Fed. R. Civ. P. 12(b)(6) motion to dismiss,  a plaintiff must provide 'non-conclusory factual content, and reasonable inferences from that content, must be plausibly suggestive of a claim entitling the plaintiff to relief.' Plaintiff sought declaratory judgment that the adverse 'say-on-pay' vote rebutted the business judgment presumption and is 'evidence that the 2010 pay hikes were irrational and unreasonable under the circumstances, and were not primarily motivated by a desire to protect PICO's interest.'  The Declaratory Judgment Act gives courts the ability to declare the rights and other legal relations of a party but does not give an independent jurisdictional basis for a claim. Plaintiff's prayer for declaratory relief, therefore, was insufficient to state a Fed. R. Civ. P. 12(b)(6) claim.

In determining whether declaratory relief was appropriate, the court noted that Section 951 of the Dodd-Frank Wall Street Reform Act provided that, 'say-on-pay' votes 'shall not be binding,' and 'may not be construed…to create or imply any change to fiduciary duties nor does it create or imply any additional fiduciary duties.' Congress, therefore, expressly disclaimed any private right of action or change in state law regarding fiduciary duties or business judgment. As a result, the court held Plaintiff failed to state a claim under both the Declaratory Judgment Act and Dodd-Frank.

Since Plaintiff's only federal law claim was dismissed, the remaining state law claims must raise a substantial federal question to confer jurisdiction in the district court. Plaintiff sought to use the 'say-on-pay' vote as a federal law element, but the district court found this issue to depend on California state law. A federal question did not exist and the district court did not have original jurisdiction over the claims.

Plaintiff's remaining state law claims could be heard by the district court under federal supplemental jurisdiction, 28 U.S.C. § 1367. However, the court declined to exercise supplemental jurisdiction over Plaintiff's remaining claims and remanded the case back to state court. 

The primary materials for this case may be found on the DU Corporate Governance website.

Full post as published by The Race to the Bottom on February 24, 2012 (boomark / email).