Executive Compensation Litigation

What body of law governs your executive dispute? Executive compensation cases are heading into courts with much more frequency and with much more at stake. The key threshold question in executive compensation litigation is what body of law governs the dispute. If the underlying arrangement is governed by ERISA, it will be litigated in federal court before a federal judge and, if not, it will be litigated in state court. Federal court jurisdiction generally means a seasoned judge—who has heard many ERISA claims—will adjudicate the case, a deferential standard of review will apply to the matter, no jury will hear the case and there will be limited discovery. On the other hand, state court means the availability of expansive relief, a plethora of causes of action and a jury (which, depending on the litigation strategy, brings a level of uncertainty and expense that may induce a favorable settlement).

CEO seeks the arbitration of state law claim and company sues in federal court to avoid appilcation of state law. In Dakota, Minnesota & Eastern Railroad Corp. (“Company”) v. Schieffer (“CEO”), 8th Cir., No. 10-2484, 8/11/11, the Company and CEO entered into an Employment Agreement (“Agreement”) which provided lucrative benefits should the CEO be terminated without cause or resign for good reason, as defined by the Agreement. In 2008, in anticipation of a change of control after a merger, the Company terminated the CEO without cause, thus triggering the Agreement’s severance provisions. Disputes then arose concerning the amounts owed to the CEO under the Agreement. The CEO sought arbitration under the Agreement’s arbitration provision, seeking double damages under the state’s failure-to-pay-wages law. The Company countered by commencing a court action arguing that the arbitration was preempted by ERISA. The district court held that the Agreement was not an ERISA plan and ruled in favor of the CEO.

The stakes in Dakota, double damages under state law: Does federal ERISA law apply to the CEO’s employment agreement? The Company appealed to a higher court. In its review, the higher court first pointed out that the CEO’s desired remedy of double damages under state law would clearly be preempted if the Agreement was found to be an ERISA plan. The court then went onto hold that the Agreement was not an ERISA plan because the Agreement covered only the CEO and no other employees. In explaining its holding, the court noted that ERISA § 3(1) defines an employee welfare benefit plan as “any plan, fund, or program . . . established by an employer . . . to the extent that such plan, fund, or program was established or is maintained for the purposes of providing for its participants or their beneficiaries . . . (B) any benefit described in section 186(c) of this title [other than pension benefits].” The court then opined that, although severance benefits are among those described in § 186(c), the words “plan” and “program” in § 3(1) strongly imply benefits that an employer provides to a class of employees. In addition, the court reasoned that the reference to “participants or their beneficiaries” reflected the congressional intent that a covered plan is one that provides benefits to more than one person.

The court recognized that several decisions from other circuits have concluded that a contract with a single employee to provide severance benefits may be a one-person ERISA plan in some circumstances; however, the court dismissed these opinions as perfunctory and noted that none considered the plain language of § 3(1). The court also noted that Congress has never preempted state laws that regulate and enforce individual employment contracts between employers and their executives, which further reinforced its holding.

Pump fake, Take 2: federal ERISA law may still apply. Notwithstanding the higher court’s decision that the Agreement was not an ERISA plan, the higher court determined that federal jurisdiction might nonetheless exist in this case (and therefore the CEO may still yet not be entitled to double damages under state law). The court noted that if the CEO’s claims relating to the Company’s purported breach of the Agreement were demands for the payment of benefits under ERISA plans, as amended by the Agreement, then to that extent all state law remedies would be preempted and the lower district court would have subject matter jurisdiction over those portions of the complaint. However, the higher court directed, if the demands were only under a free-standing single-employee contract that simply pegged the Company’s payment obligations to accounts that would have been due under ERISA plans, there would be no preemption and no federal subject matter jurisdiction. Therefore, the court remanded to the lower district court to make such a determination.

Retain counsel with a keen understanding of applicable law and politics. Apparent from this case is the fact that executive compensation litigation requires a keen understanding of both law and politics to navigate the intricacies of the law, implement strategic decisions and appreciate the high level of emotion.

Blitman and King provides cutting edge, practical advice for clients in the Albany, Buffalo, Manhattan, Long Island, Rochester and Syracuse NY areas.