Opinion ID: 2206496
Heading Depth: 2
Heading Rank: 1

Heading: The 1995 Ovitz Employment Agreement

Text: By an agreement dated October 1, 1995, Disney hired Ovitz as its president. He was a long-time friend of Disney Chairman and CEO Michael Eisner. At the time, Ovitz was an important talent broker in Hollywood. Although he lacked experience managing a diversified public company, other companies with entertainment operations had been interested in hiring him for high-level executive positions. The Employment Agreement was unilaterally negotiated by Eisner and approved by the Old Board. Their judgment was that Ovitz was a valuable person to hire as president of Disney, and they agreed ultimately with Eisner's recommendation in awarding him an extraordinarily lucrative contract. Ovitz' Employment Agreement had an initial term of five years and required that Ovitz devote his full time and best efforts exclusively to the Company, with exceptions for volunteer work, service on the board of another company, and managing his passive investments. [5] In return, Disney agreed to give Ovitz a base salary of $1 million per year, a discretionary bonus, and two sets of stock options (the A options and the B options) that collectively would enable Ovitz to purchase 5 million shares of Disney common stock. The A options were scheduled to vest in three annual increments of 1 million shares each, beginning on September 30, 1998 ( i.e., at the end of the third full year of employment) and continuing for the following two years (through September 2000). The agreement specifically provided that the A options would vest immediately if Disney granted Ovitz a non-fault termination of the Employment Agreement. The B options, consisting of 2 million shares, differed in two important respects. Although scheduled to vest annually starting in September 2001 ( i.e., the year after the last A option would vest), the B options were conditioned on Ovitz and Disney first having agreed to extend his employment beyond the five-year term of the Employment Agreement. Furthermore, Ovitz would forfeit the right to qualify for the B options if his initial employment term of five years ended prematurely for any reason, even if from a non-fault termination. The Employment Agreement provided for three ways by which Ovitz' employment might end. He might serve his five years and Disney might decide against offering him a new contract. If so, Disney would owe Ovitz a $10 million termination payment. [6] Before the end of the initial term, Disney could terminate Ovitz for good cause only if Ovitz committed gross negligence or malfeasance, or if Ovitz resigned voluntarily. Disney would owe Ovitz no additional compensation if it terminated him for good cause. Termination without cause (non-fault termination) would entitle Ovitz to the present value of his remaining salary payments through September 30, 2000, a $10 million severance payment, an additional $7.5 million for each fiscal year remaining under the agreement, and the immediate vesting of the first 3 million stock options (the A Options). Plaintiffs allege that the Old Board knew that Disney needed a strong second-in-command. Disney had recently made several acquisitions, and questions lingered about Eisner's health due to major heart surgery. The Complaint further alleges that Eisner had demonstrated little or no capacity to work with important or well-known subordinate executives who wanted to position themselves to succeed him, citing the departures of Disney executives Jeffrey Katzenberg, Richard Frank, and Stephen Bollenbach as examples. Thus, the Board knew that, to increase the chance for long-term success, it had to take extra care in reviewing a decision to hire Disney's new president. But Eisner's decision that Disney should hire Ovitz as its president was not entirely well-received. When Eisner told three members of the Old Board in mid-August 1995 that he had decided to hire Ovitz, all three denounced the decision. Although not entirely clear from the Complaint, the vote of the Old Board approving the Ovitz Employment Agreement two months later appears to have been unanimous. Aside from a conclusory attack that the Old Board followed Eisner's bidding, the Complaint fails to allege any particularized facts that the three directors changed their initial reactions through anything other than the typical process of further discussion and individual contemplation. The Complaint then alleges that the Old Board failed properly to inform itself about the total costs and incentives of the Ovitz Employment Agreement, especially the severance package. This is the key allegation related to this issue on appeal. Specifically, plaintiffs allege that the Board failed to realize that the contract gave Ovitz an incentive to find a way to exit the Company via a non-fault termination as soon as possible because doing so would permit him to earn more than he could by fulfilling his contract. The Complaint alleges, however, that the Old Board had been advised by a corporate compensation expert, Graef Crystal, in connection with its decision to approve the Ovitz Employment Agreement. Two public statements by Crystal form the basis of the allegation that the Old Board failed to consider the incentives and the total cost of the severance provisions, but these statements by Crystal were not made until after Ovitz left Disney in December 1996, approximately 14½ months after being hired. The first statement, published in a December 23, 1996 article in the web-based magazine Slate, quoted Crystal as saying, in part, Of course, the overall costs of the package would go up sharply in the event of Ovitz's termination ( and I wish now that I'd made a spreadsheet showing just what the deal would total if Ovitz had been fired at any time ). [7] The second published statement appeared in an article about three weeks later in the January 13, 1997 edition of California Law Business. The article appears first to paraphrase Crystal: With no one expecting failure, the sleeper clauses in Ovitz's contract seemed innocuous, Crystal says, explaining that no one added up the total cost of the severance package. The article then quotes Crystal as saying that the amount of Ovitz' severance was shocking and that [n]obody quantified this and I wish we had. [8] One of the charging paragraphs of the Complaint concludes: 57. As has been conceded by Graef Crystal, the executive compensation consultant who advised the Old Board with respect to the Ovitz Employment Agreement, the Old Board never considered the costs that would be incurred by Disney in the event Ovitz was terminated from the Company for a reason other than cause prior to the natural expiration of the Ovtiz Employment Agreement. Although repeated in various forms in the Complaint, these quoted admissions by Crystal constitute the extent of the factual support for the allegation that the Old Board failed properly to consider the severance elements of the agreement. This Court, however, must juxtapose these allegations with the legal presumption that the Old Board's conduct was a proper exercise of business judgment. That presumption includes the statutory protection for a board that relies in good faith on an expert advising the Board. [9] We must decide whether plaintiffs' factual allegations, if proven, would rebut that presumption.