Delaware Federal Court Issues Significant Ruling Concerning Impact of Executive Compensation Provisions of the Internal Revenue Code on Delaware Corporate Law Governing Shareholder Voting

In a case of apparent first impression regarding the impact of the shareholder voting provisions of Internal Revenue Code I.R.C. § 162(m)on state corporate law, Judge Sue L. Robinson of the U.S. District Court for the District of Delaware recently held that the federal statute did not preempt Delaware law. Freedman v. Redstone, et al., Civ. No. 12-1052-SLR, 2013 WL 3753426, (D. Del. July 16, 2013). Specifically, Judge Robinson tax-deductible only if it is awarded pursuant to a plan approved by shareholders did not preempt Delaware state law that permits a corporation, in its charter, to designate certain classes of shares as non-voting. This ruling has potential ramifications in other cases in which federal law intersects with state law on matters of corporate governance. Judge Robinson also directors violated their fiduciary duties by awarding compensation not in compliance with the terms of the prior plan and I.R.C. § 162(m).

The Direct Claim The Court Rejects Plaintiffs Contention That I.R.C. § 162(m) Overrides Delaware Corporate Law on Shareholder Voting

In August 2012, plaintiff Robert Freedman, a holder of Class B shares of Viacom Inc., brought suit against Viacom and its directors seeking a re-vote on Viacoms Senior Executive Short-Term Incentive Plan, as amended and restated effective January 18, 2012 (the 2012 Senior Executive STIP), that was approved by a vote of Viacoms Class A shares at the companys Annual Meeting of Stockholders in March 2012. Under Viacoms charter, Class A shares are voting shares and Class B shares are non-voting shares. The 2012 Senior Executive STIP was designed to comply with I.R.C. § 162(m), which requires that certain conditions be met in order for performance-based compensation of a companys CEO and four highest-paid employees to be tax-deductible. One of those conditions is that the compensation be awarded pursuant to a plan whose material terms are disclosed to and approved by a majority of the vote in a separate shareholder vote. 26 USC § 162(m)(4)(c)(ii).

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