New York Courts Dismiss ‘Grasso’ Compensation Case

Editor’s Note: This article from Joseph E. Bachelder appeared in the New York Law Journal this week.

Courts do not like being arbiters of disputes over what is reasonable compensation. The recent, abrupt conclusion of the state of New York’s lawsuit against Richard A. Grasso is a case in point.

The lawsuit began on May 24, 2004 at the initiative of then-Attorney General Eliot L. Spitzer, claiming that the payment of a lump-sum amount of $139.5 million to Mr. Grasso was unreasonable compensation.(1) The action was brought under the New York Not-For-Profit Corporation Law (N-PCL).

Earmarks of Dubious Behavior

This case appeared to offer an ideal opportunity for New York courts to address the issue of what is reasonable compensation. It had all the earmarks of an egregious case of overpayment of compensation to an executive together with evidence of dubious corporate behavior in the setting of that compensation. Earmarks included:

• The payment of $139.5 million, in a lump sum, to the CEO of a relatively small not-for-profit trade organization and regulator (albeit a well-known and very powerful one).

• According to the complaint (and there is substantial publicly available data to support this) the compensation and benefits for Mr. Grasso expensed over the period of 2000-2002 equaled slightly less than 100 percent of the New York Stock Exchange’s (NYSE) net income over this same period. Complaint, para. 34. Over these three years, this represented $130.3 million of compensation and benefits to Mr. Grasso compared to $132.8 million of net income. Id.

• Many of the directors of the NYSE (including members of the Compensation Committee) were subject to regulation by Mr. Grasso himself, as chairman and CEO of the NYSE. During the periods relevant to the litigation, Mr. Grasso was authorized to appoint the members of the Compensation Committee (subject to board approval) and to select one of the members as the chairperson of the committee (the selection of the committee chairperson did not require board approval). See, for example, Charter: Human Resources and Compensation Committee, adopted June 7, 2001; see also Complaint, paras. 5, 6 and 25.

• For the Aug. 7, 2003 meeting of the board that approved Mr. Grasso’s 2003 compensation arrangements, including the lump-sum payment of $139.5 million, no advance notice (or virtually none) was given to board members. Statement by the Director of Human Resources of the NYSE (HRD Statement), Exhibit A to Exhibit 1 to Complaint, paras. 37-38. Apparently due to this lack of notice neither of the outside consultants who had been working on the matter was available to attend the meeting. HRD Statement, Id. at para. 41. It would appear that, at the Aug. 7, 2003 meeting, the board had very little time (and very little information) before voting to approve Mr. Grasso’s compensation package including the lump-sum payment of $139.5 million.

• The NYSE Compensation Committees that approved Mr. Grasso’s compensation arrangements over several years, including 2003, apparently were not given accurate and complete information on Mr. Grasso’s compensation. HRD Statement, Id. at para. 50; see also Assurance of Discontinuance Agreement with Consultant, Exhibit 2 to Complaint at pp. 1-2.(2)

Attorney General’s Standing

Apart from the facts and alleged facts in this case, the attorney general appeared to have standing to bring this action. The bases for this conclusion were as follows:

• The principle of parens patriae appeared to apply. Parens patriae is the authority of the sovereign to protect the well-being of its citizens, including the interest of important segments of the public, such as the investing public, that are not able to take action in a case like this. As stated by the New York Supreme Court (Justice Charles E. Ramos) in this case:

[T]he Attorney General represents the investing community that lacks the legal capacity to sue here, in order to redress the NYSE’s failure to act within the realm of its internal corporate governance or regulatory frameworks. By granting Mr. Grasso’s allegedly unreasonable compensation, the NYSE Board failed to insure the integrity and validity of the NYSE as an institution which, in turn, affects the interests of the New York investing public. Accordingly, the Attorney General has the authority to bring the challenged claims. People v. Grasso, 816 NYS2d 863, 874 (N.Y. Sup. Ct. 2006)

• The attorney general was authorized to bring such an action under specific sections of the N-PCL. For example, N-PCL §720(b) (Actions on Behalf of the Corporation) provides that the attorney general may bring certain actions such as one to set aside unlawful transfer of corporate assets as well as relief in cases of breach of fiduciary duties by officers and directors (which should include any wrongful payment by the NYSE of unreasonable compensation of which an officer or director was or should have been aware).

• N-PCL §112 authorizes the attorney general to restrain persons from exercising corporate rights “not granted to them by the law of the state.” (One example would seem to be an ultra vires act in a violation of the N-PCL itself.) This implies the authority to recover a payment that was beyond the authority of the corporation to make.

• The attorney general does not appear to have lost standing following the merger of the NYSE into a for-profit entity on March 7, 2006. See N-PCL §§905(b) and 908(i). Supreme Court Justice Ramos in reaching this same conclusion stated:

The integrity of the market mattered before the action was initiated and it matters now. That interest has not changed with the merger of the NYSE and Archipelago.

[T]he N-PCL clearly provides that where a New York not-for-profit corporation merges with a foreign or domestic for-profit corporation, any actions against the corporation or its directors or officers continue ‘as if the merger or consolidation had not occurred.’ N-PCL §905(b)(3) . . . . People v. Grasso, No. 401620/04, 2006 NYMisc. LEXIS 3023 at *11, *12 (N.Y. Sup. Ct. Oct. 18, 2006)

In October 2006, in a decision reached on motions before trial, Justice Ramos concluded that the attorney general correctly brought the claims pursuant to his authority under the N-PCL as well as in accordance with the principles of parens patriae. The Supreme Court decision turned out to be the only victory for Mr. Spitzer in this case. On appeal, the Appellate Division, in a three-to-two decision, reversed Justice Ramos.

Sudden Death of the ‘Grasso’ Litigation.

Between June 25 and July 2, 2008, a little over one year after the Appellate Division reversed the Supreme Court on most of the causes of action against Mr. Grasso, the following occurred:

a. On June 25, the New York Court of Appeals affirmed the Appellate Division’s dismissal of four of the six claims brought against Mr. Grasso.(3)

b. Six days later, on July 1, the Appellate Division dismissed the two remaining claims against Mr. Grasso based on the March 2006 merger of the NYSE into a for-profit entity.(4)

c. Just one day after the Appellate Division decision (July 2), current Attorney General Andrew M. Cuomo announced the state would not appeal. Thus ended the state’s litigation against Mr. Grasso over his compensation.

Appellate Courts’ Reasoning

In support of its conclusion that parens patriae did not give the attorney general standing to sue Mr. Grasso in this case, the Appellate Division cited numerous court decisions holding that the parens patriae principle did not justify a sovereign, such as a state, bringing an action in support of claims that are essentially the claims of private parties (as distinguished from the well being of the public). (The Court of Appeals explicitly did not address the parens patriae issue.)

Both the Appellate Division and the Court of Appeals held that the attorney general had no standing under several of the N-PCL sections cited by him in support of his position because his authority was not explicitly stated in these sections. Other sections of the N-PCL explicitly stated the attorney general’s authority to bring action under those sections. As stated by the Appellate Division in its 2007 decision, “expressio unius est exclusio alterius.” People v. Grasso, 836 NYS2d 40, 46-47 (N.Y. App. Div. 2007)

As noted, the Appellate Division rendered the coup de grâce on July 1. It held as to the two remaining causes of action against Mr. Grasso that when the NYSE merged into a for-profit entity on March 7, 2006, any standing the attorney general might have had to bring claims under the N-PCL ended. As noted above, Justice Ramos had addressed the merger and reached the opposite conclusion. Until the July 1 decision of the Appellate Division, neither of the appellate courts had mentioned the merger as having a consequence to the standing of the attorney general.

Thus, the Appellate Division and the Court of Appeals did not even “get close” to the issue of whether Mr. Grasso’s compensation was reasonable or reasonably determined. Some may say that behind the courts’ decisions may have been issues other than those suggested by their opinions as to the attorney general’s standing.

One explanation may lie in the March 2008 downfall of Mr. Spitzer, the initiator of the litigation. His aggressive attacks on financial service companies and executives employed by them, for example, destroyed careers and cost some of those companies dearly. Mr. Spitzer’s personal downfall occurred in March 2008, while governor. No doubt, the continuance of this litigation, in a very troubled economic environment for the country, including financial centers like New York, must have seemed an especially undesirable legal intervention at this particular time.

A second reason for the abrupt dispatch of the Spitzer/Grasso litigation certainly must have been the reluctance of courts to be the arbiters of reasonable compensation. As said by the Court of Appeals at the end of its decision on June 25:

[E]ach of the challenged causes of action against [Mr.] Grasso seeks to ascribe liability based on the size of his compensation package. The Legislature, however, enacted a statute requiring more. The Attorney General may not circumvent that scheme, however unreasonable that compensation may seem on its face. To do so would tread on the Legislature’s policy-making authority. People v. Grasso, No. 120, 2008 N.Y. LEXIS 1821, at *14 (N.Y. June 25, 2008).

Despite the deference to the New York Legislature, it seems likely the Court of Appeals simply wanted out of this case, as suggested by the first sentence of the quoted paragraph. That really goes to the heart of this matter. Courts do not want to be involved in disputes over the size of pay. They will explain at length why they are unable to arbitrate such disputes based on principles such as those imbedded in the business judgment rule or, as in the Grasso case, based on their interpretation of a statute like the N-PCL. But after all the interpretation and elaboration, the real point seems to be that courts do not like deciding whether the size of executive pay in a particular case is reasonable.

By a different route, and under the Delaware General Corporation Law, the courts in Delaware ultimately held that directors of The Walt Disney Co. did not violate their fiduciary duties in overseeing the employment and subsequent severance arrangements of Michael Ovitz. Mr. Ovitz, for 14 months, served as president and a director of Disney, before being terminated without cause and leaving with approximately $140 million in total value pursuant to severance provisions under his employment agreement.(5) As stated by the Delaware Court of Chancery, “[N]ature does not sink a ship merely because of its size, and neither do courts overrule a board’s decision to approve and later honor a severance package, merely because of its size.”(6)


With the judiciaries of Delaware (Disney) and New York (Grasso) on the sidelines, so to speak, on the subject of reasonable compensation, Congress may consider, once again, legislation that would “put a lid” on executive pay. There are significant constituencies pushing for changes in the oversight of executive pay in this country. Many in Congress, in the academic world and in the media have pushed for legislative as well as other changes. All have expressed concern over the levels of executive pay.

Legislative intervention has repeatedly proved unproductive in this respect . . . e.g., pay controls in the early 1970s (pay rose significantly when controls ended several years after they were installed); Internal Revenue Code §280G (the so-called parachute tax); Code §162(m) (the so-called $1 million cap on deductibility of non-performance-based senior officer pay); and, most recently, Code §409A, an administrative nightmare for hundreds, probably thousands, of U.S. corporations (imposing a 20 percent additional tax on certain forms of deferred compensation that fail to meet legislative and regulatory requirements under §409A).(7)

It would be ironic if reservations of the judiciary over having an interventionist role in the executive pay process lead to a much more aggressive intervention by Congress. Draconian controls of executive pay by Congress are not likely in the near future (at least the author hopes they are not). But it is not beyond possibility that a reluctant judiciary may be superseded by congressional legislation that could be quite insensitive to the complexities involved in the process of setting executive pay.


(1) In addition to Mr. Grasso, the Complaint named two other defendants: Kenneth G. Langone and the NYSE itself. The claim as to Mr. Langone was dismissed by the Appellate Division in its July 1, 2008 decision. The claim against the NYSE was dismissed, to the extent it sought injunctive relief (but not to the extent it sought a declaratory judgment) by the Supreme Court’s Oct. 18, 2006 decision, that dismissal was affirmed by the Appellate Division in its July 1, 2008 decision. To the extent that claim sought declaratory, rather than injunctive, relief, it does not appear to have been dismissed.

The history of the Grasso litigation is as follows (the courts’ handling of certain cross claims has been omitted):

People v. Grasso, 816 NYS2d 863 (N.Y. Sup. Ct. 2006) (denied Mr. Grasso’s motion to dismiss the nonstatutory causes of action (constructive trust, money had and received, lack of proper board approval, and unlawful loan)

People v. Grasso, No. 410620/04, 2006 N.Y.Misc. LEXIS 3023 (N.Y. Sup. Ct. Oct. 18, 2006) (denied Mr. Grasso’s motion to dismiss the statutory claims against him (for unlawful conveyance and breach of fiduciary duty); granted the attorney general summary judgment on liability on the breach of fiduciary duty and unlawful loan claims against Mr. Grasso; denied Mr. Langone’s motion to dismiss the claim against him; and granted Mr. Grasso’s motion to dismiss the claim against the NYSE to the extent it sought injunctive relief but denied it to the extent the claim sought declaratory relief)

People v. Grasso, 836 NYS2d 40 (N.Y. App. Div. 2007) (reversed the denial of the motion to dismiss the nonstatutory claims)

People v. Grasso, No. 120, 2008 N.Y. LEXIS 1821 (N.Y. June 25, 2008) (affirmed the dismissal of the nonstatutory causes of action)

People v. Grasso, No. 401620/04, 2008 N.Y. App. Div. LEXIS 5853 (N.Y. App. Div. 2008) (reversed the granting of summary judgment to the attorney general on liability and dismissed the statutory claims against Mr. Grasso and Mr. Langone; and affirmed the denial of the motion to dismiss the claim against the NYSE to the extent it sought declaratory relief)

(2) The HRD acknowledged that he did not advise the Compensation Committee, over the several years involved, of the supplemental retirement benefits that had been accruing to Mr. Grasso (in the range of $40 million to $50 million by the beginning of 2003) ($45 million would be approximately one-third of the $139.5 million lump sum payment to Mr. Grasso) and the HRD could not recall any occasion when it was discussed with the committee. HRD Statement, Id. at paras. 13-15. The HRD agreed to return $1.3 million in compensation received from the NYSE, Assurance of Discontinuance Agreement with HRD, Exhibit 1 to Complaint at p. 3; and one of the consulting firms advising the Compensation Committee agreed to pay back $440,275 of its fees to the NYSE, Assurance of Discontinuance Agreement with Consultant, Exhibit 2 to the Complaint, at p. 2. Presumably both the HRD and the consultant repaid these amounts, at least in part, due to the mishandling of the process by which Mr. Grasso’s large amount of compensation had been approved. Assurance of Discontinuance Agreement with HRD, Id. at pp. 1-2; see also Assurance of Discontinuance Agreement with Consultant, Id. at pp. 1-2.

(3) The June 28, 2008 Court of Appeals decision was unanimous in upholding the Appellate Division dismissal of four of the six claims. It agreed with the Appellate Division that the attorney general did not have standing to sue on three of the four claims. These three were:

• First Cause of Action: constructive trust and restitution (Complaint cites N-PCL §§202(a)(12) and 515(b))

• Fourth Cause of Action: Payment had and received (Complaint cites N-PCL §§202(a)(12) and 515(b))

• Fifth Cause of Action: Lack of Board approval (Complaint cites N-PCL §715(f), which requires at least a majority vote of the entire board in “[t]he fixing of salaries of officers, if not done in or pursuant to the bylaws.”) The claim was based on lack of complete and accurate information furnished to the board, as brought out by documents outside the complaint

Both the appellate courts took the position that the attorney general could bring claims only pursuant to sections of the N-PCL that specifically authorized the attorney general to bring action. None of the sections cited by the attorney general contain specific authorization of the attorney general to bring an action.

The fourth claim dismissed was as follows:

• Sixth Cause of Action: Unlawful loans (Complaint cites N-PCL §716).

The appellate courts held that while a violation of the loan requirements of N-PCL §716 gave the attorney general authority to bring an action, taking into account the provisions of N-PCL §§719 and 720(b), the attorney general did not cite the latter two sections (he cited only N-PCL §716) and on this basis the appellate courts held the claim failed for lack of proper pleading.

Despite the dismissal of the First, Fourth and Fifth causes of action, it is noted that N-PCL §720(b) specifically authorizes the attorney general to bring an action against an officer or director to compel the officer or director to account for his conduct in the following circumstances:

(A) The neglect of, or failure to perform, or other violation of his duties in the management and disposition of corporate assets committed to his charge.

(B) The acquisition by himself, transfer to others, loss or waste of corporate assets due to any neglect of, or failure to perform, or other violation of his duties.

In view of the appellate courts’ acknowledgement of the attorney general’s authority to bring an action in connection with the Second and Third causes of action, unlawful conveyance (N-PCL §720(b)) and breach of fiduciary duty for accepting unlawful (ultra vires) payments (N-PCL §§717 and 720(a) and (b)), it is unclear on what basis the courts ignored the authorization of N-PCL §720(b) as to the First, Fourth and Fifth causes of action. At the heart of all three causes of action is Mr. Grasso’s improper receipt of corporate assets as to which N-PCL §720(b) seems to give specific authorization to the attorney general to bring an action.

(4) The two remaining claims against Mr. Grasso under the N-PCL were:

• Second Cause of Action: Unlawful conveyance (Complaint cites N-PCL §720(b))

• Third Cause of Action: Breach of fiduciary duty by accepting unlawful (ultra vires) payments (Complaint cites N-PCL §§717 and 720(a) and (b))

The Appellate Division held that as a result of the merger of the NYSE with Archipelago Holdings Inc. the NYSE was no longer a Not-For-Profit Corporation and the state had no standing under the N-PCL to sue, thus ending all claims against Mr. Grasso. As noted in the text, notwithstanding the Appellate Division’s dismissal, the provisions of N-PCL §§905(b) and 908(i) would appear to have allowed the attorney general’s claims to survive the merger (as Supreme Court Justice Ramos had concluded).

(5) Following is a history of the Disney litigation:

In Re The Walt Disney Company Derivative Litigation, 731 A.2d 342 (Del. Ch. 1998) (dismissed plaintiff shareholders’ claims due to their failure to make a demand on the Disney board and failure to state a claim)

Brehm v. Eisner 746 A2d 244 (Del. 2000) (affirmed lower court’s dismissal of shareholders’ claims in part and reversed in part, and remanded to allow the plaintiffs to replead)

In Re The Walt Disney Company Derivative Litigation, 825 A2d 275 (Del. Ch. 2003) (denied the motion to dismiss and found the facts as alleged to excuse demand because, if proved, those facts would show conscious indifference on the part of the directors)

In Re The Walt Disney Company Derivative Litigation, No. 15452, 2004 Del. Ch. LEXIS 132 (Del. Ch. Sept. 10, 2004) (granted summary judgment to Mr. Ovitz on the claims of fiduciary duty alleged to have occurred prior to Oct. 1, 1995; otherwise denied his motion for summary judgment)

In Re The Walt Disney Company Derivative Litigation, No. 15452, 2005 Del. Ch. LEXIS 113 (Del. Ch. Aug. 9, 2005) (found no bad faith or breach of fiduciary duty on the part of the directors and entered judgment in their favor)

Brehm v. Eisner (In Re. The Walt Disney Derivative Litigation), 906 A.2d 227 (Del. 2006) (affirmed the decision of the Court of Chancery)

(6) In Re The Walt Disney Company Derivative Litigation, 731 A.2d 342, 350 (Del. Ch. 1998). (As noted in the litigation history of the Disney case, supra note 5, this decision by the Delaware Court of Chancery was reversed in part and remanded for further proceedings by the Delaware Supreme Court; ultimately, a trial took place finding that no fiduciary duties were violated and the Delaware Supreme Court affirmed.)

(7) As stated by the Section of Taxation of the American Bar Association, in a letter to Congress on Code §409A,

Congress has created a federal regulatory system that is largely unnecessary, will impose enormous administrative burdens on taxpayers, their advisers, employers and others, as well as on the IRS and Treasury, and is not a measured response to the underlying problems.

Letter to Members of the House Committee on Ways and Means and Members of the Senate Committee on Finance (July 31, 2006).

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