Option Vesting Based On Shareholders, Not Board

December 27, 2002 (PLANSPONSOR.com) - The California Court of Appeals has rejected the claims of two former AirTouch Communications Inc employees seeking an acceleration of stock option vesting based on the board of directors approval of a merger, according to Washington-based legal publisher BNA.

The two former employees argued that AirTouch’s merger with Vodafone in 1999 constituted a “change in control,” triggering accelerated vesting of restricted stock and stock options, when it was approved by Airtouch’s Board of Directors.

However, in AirTouch Communications Inc v Nott-Kilfoil and Pasquel v AirTouch Communications Inc the appeals court determined the long-term incentive stock plan required that a merger be approved by company stockholders to constitute such a change.

Justice Fybel, in the written opinions, said the stock options remained unvested and were cancelled on their last day of employment, which occurred after the board of directors vote, on January 15, 1999 but before the stockholder vote, on May 28, 1999.

Before Shareholder Approval

Diane Nott-Kilfoil joined AirTouch in 1992 as vice-president of human resources. Although it went against standard policy, Nott-Kilfoil obtained an agreement that she would receive a severance package even if she resigned voluntarily. Nott-Kilfoil announced in December 1998 that she planned to resign as of January 15, 1999.

However, Nott-Kilfoil sought to extend her employment after the AirTouch board of directors voted to enter into a merger agreement with Vodafone Group Plc.   AirTouch refused to rescind the resignation, but allowed Nott-Kilfoil to extend her resignation day to April 7, 1999, through the use of eight weeks of accrued annual leave and 30 days of unpaid leave.

Similarly, David Pasquel, an engineering worker, ended his employment on April 16, 1999, after the board of directors agreed to the merger but before the stockholders approved it. AirTouch determined he could not exercise an unvested award of 2,100 restricted shares and unvested stock options for 18,300 shares. Pasquel sued the company in November 1999 for breach of contract.

On May 28, 1999, AirTouch shareholders formally approved the merger, creating Vodafone AirTouch PLC, that later merged with Bell Atlantic in April 2000. Two months later, Bell Atlantic merged with GTE Corp to form Verizon Communications.

Qualifying Events

Nott-Kilfoil’s and Pasquel’s case was based on the stock plan providing for accelerated vesting in the event of a “change in control,” which was defined as the occurrence of any of five described events.

The two argued the board of directors approval of the merger agreement constituted a change in control, because the agreement gave Vodafone an ownership interest of at least 20% in AirTouch.   This they claimed made the board’s merger agreement a legally binding, enforceable contract and therefore qualified as a change of control event.

However, the stock option plan described a merger event when the “stockholders of the Company approve a merger or consolidation of the Company with any other corporation,” Justice Fybel said in the opinion, “Therefore, it does not matter how comprehensive or legally binding the merger agreement may have been – by the express terms of the Plan, the merger agreement could not constitute a change in control until the shareholders approved it.”

Pointing to the individual stock option agreements, which state, “Your right to exercise this option vests in full in the event that … AirTouch is subject to a change in control while you are still an employee,” Fybel found, the agreements incorporating the stock plan’s definition of “change of control.”

The court decided “the phrases ‘change in control’ and ‘subject to a change in control’ appear to mean the same in this context.  

“Nothing in the agreements indicated “that accelerated vesting should occur upon the mere reasonable possibility of a change in control event,” the court found. “It is not logical that unvested stock options should automatically and immediately vest upon the signing of a merger agreement that may be rejected by the shareholders,” Fybel went on to say.

Further, the court found the stock plan’s administrative committee, which has the “sole discretion” to accelerate vesting if a change of control event was a reasonable possibility within the next six months, never made such a determination that would affect Nott-Kilfoil’s and Pasquel’s options.