McDonald’s “Clawback” Lawsuit Against Former CEO Is the Latest to Shine a Light on Questionable Executive Compensation Practices

November 10, 2020

McDonald’s is seeking the return of the $42 million severance package that its former CEO received upon his departure, claiming it should be returned to the company because he lied, concealed evidence, and committed fraud relating to his termination from the company.

That is what McDonald’s claims in its recently filed lawsuit against Steve Easterbrook, who was fired in 2019 after an investigation revealed a consensual relationship with a subordinate. The fast-food behemoth alleges that Easterbrook covered up other sexual relationships and misconduct that would have otherwise given the company a “for cause” basis for his termination and deprived him of his generous severance package. The allegations against Mr. Easterbrook are serious and may rightly trigger a repayment obligation. However, the case highlights the importance of “clawback” provisions in employment, bonus, and severance agreements and the pressure and criticisms leveled by shareholders, regulators, employees, and others about such compensation for departing c-suite executives.

Disputes over executive compensation or bonuses rarely end up in court. But the McDonald’s lawsuit is the latest in a series of such cases, including shareholder derivative lawsuits involving recognized companies, that have made their way to the courtroom, with mixed results.

Arbitration Usually Keeps Executive Compensation Matters Out of the Courtroom

The majority of executive compensation disputes don’t end up in state or federal courts. The reason? The parties resolve them through private arbitration precipitated by mandatory arbitration provisions in employment contracts.

Registered representatives in the heavily-regulated financial services industry must arbitrate any disputes through the Financial Industry Regulatory Authority (FINRA). In other industries, many employers make employees sign arbitration agreements at the outset of or during their employment. By agreeing to these provisions, employees waive their rights to file a claim in court. Typically, arbitration proceedings, deliberations, and decisions are private and confidential. Even those occasional disputes not subject to an arbitration agreement mostly settle without formal litigation.

Because arbitration agreements do not bind shareholders, most cases in U.S. courts around executive compensation arise out of shareholder derivative actions.

CBS – Corporate Waste Claim for Compensation Paid to an Incapacitated Executive

In  Feuer v. Redstone, shareholders raised allegations of corporate waste against CBS for paying $13 million in compensation (both salary and bonuses) to Sumner Redstone while incapacitated and incapable of performing any services to the company.

A public company, CBS was indirectly controlled by Mr. Redstone through a dual-class capital structure, and he served as CBS’s Executive Chairman from 2006-2016. During the same period, Mr. Redstone alleged in an elder abuse lawsuit against a live-in girlfriend that he had been incapacitated for a significant period of that time. Shareholders relied on that allegation in bringing the corporate waste claim.

CBS unsuccessfully moved to dismiss the action. In denying the motion, the court noted the difficulty in pleading a corporate waste claim under Delaware law (where many U.S. companies incorporated because of favorable corporate laws). The court stated that the standard is whether the board’s decision “was so egregious or irrational that it could not have been based on a valid assessment of the corporation’s best interests.”

The lawsuit settled in March 2019 for $1.25 million, which was paid out by CBS’s insurance company and will go back into the company’s coffers, not to individual shareholders.

Netflix – Corporate Waste Claim for Easy Performance Targets

Netflix recently settled a corporate waste claim brought by shareholder City of Birmingham Relief and Retirement System. The complaint alleged that the company intentionally set performance objectives too low, allowing executives to easily overachieve against their goals and earn high levels of compensation. The plaintiff asserted that the practice was part of a tax-avoidance scheme and claimed that the company’s top officers had met their performance targets seven out of eight quarters and missed the last quarter by only one percent.

In this type of shareholder derivative action, shareholders must first bring their concerns to the company’s board of directors and make a demand for the board to act; alternatively, shareholders must demonstrate to the court that such a demand would have been futile. Here, the shareholder did not make a request to the board, and the court held that it had not demonstrated that doing so would have been in vain.

Twenty-First Century Fox – Derivative Suits & #MeToo

Over the last several years, the #MeToo movement has contributed to the exposure of many high-level and high-profile executives in the U.S. for their sexual harassment and sexual assault of employees. Revelations in the press have prompted activists to hold employers accountable when they fail to stop such sexual misconduct. One tactic has been the use of shareholder derivative suits.

For example, shareholder City of Monroe Employees’ Retirement System (CMERS) brought the largest suit of this kind against Twenty-First Century Fox’s directors. The dispute arose initially out of former Fox News reporter Gretchen Carlson’s lawsuit against the company for sexual harassment and wrongful termination, alleging that Fox News CEO Roger Ailes had sexually harassed and retaliated against her. Her suit led to an internal investigation, which resulted in Mr. Ailes’ departure. CMERS filed a books-and-records request. Over the next several months, numerous other employees came forward alleging sexual harassment by Mr. Ailes and Fox News commentator Bill O’Reilly. CMERS drafted a derivative claim against the board for breach of fiduciary duty and against Ailes for unjust enrichment, and the parties entered into mediation. The case settled in 2017 for $90 million and corporate governance reforms.

If you have questions or concerns about a clawback provision or any other issues involving executive compensation, please contact the employment law attorneys at Outten & Golden.

(*Prior results do not guarantee a similar outcome.)