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Cloudflare Sued Over $3.4 Billion ‘Mega-Grants’ to Co-Founders

April 7, 2022, 3:32 PM

A Cloudflare Inc. investor sued it in Delaware, claiming its board is concealing critical details ahead of a shareholder vote on “unprecedented mega-grants” of stock to co-founders Matthew Prince and Michelle Zatlyn that are worth up to $3.35 billion each.

The lawsuit, docketed Thursday, accuses the founders of deciding “to effectively blackmail their own boards of directors” into handing out huge grants of stock—triggered at various stock price thresholds—so long as they “maintain certain titles,” without imposing any actual performance-based conditions.

The “patently unfair” equity awards “could be the mega-grant” at a major tech company “that finally causes a stockholder revolt,” which is why they’re also being tied to more reasonable pay packages for other company executives in a single all-or-nothing vote, according to the proposed class action.

“The non-founder awards may rightfully be seen as necessary to protect the company from a mass employee exodus,” so “stockholders offended by the magnitude” of the multibillion-dollar payout to the founders “may feel coerced to vote in its favor” anyway, the suit says.

Cloudflare didn’t immediately respond to a request for comment Thursday. The suit also targets Prince, Zatlyn, and six other board members.

According to the complaint in Delaware Chancery Court, the proposed award to Prince and Zatlyn is aimed at allowing them to keep their voting control over the company while selling down stakes of super-voting class B shares worth $4.1 billion and $1.4 billion, respectively.

Although the package is technically being put to a majority-of-the-minority vote by non-insiders, the stockholders eligible to participate will include several employees who have a direct interest in the transaction because they’re eligible for the “non-founder awards,” the suit says.

They stock grants are allegedly part of a trend among Silicon Valley compensation committees that have long disregarded “all historic notions” of how executive pay is supposed to work and treated “one controlling founder after another like he or she is an irreplaceable business messiah.”

“Perhaps there will come a point when a board or compensation committee actually stands up to one of these founders,” the complaint says. “In the meanwhile, it is critical that to the extent such mega-grants are presented for a vote by minority stockholders, such votes are adequately informed.”

The suit seeks a court order blocking the vote, which is set for June 2.

Cause of Action: Breach of fiduciary duty.

Relief: An injunction, costs, fees, and interest.

Potential Class Size: Thousands of holders of 278.5 million class A shares worldwide.

Attorneys: The plaintiff is represented by Bernstein Litowitz Berger & Grossmann LLP, Friedman Oster & Tejtel PLLC, and Kaskela Law LLC.

The case is Xu v. Cloudflare Inc., Del. Ch., No. 2022-0315, complaint filed 4/7/22.

To contact the reporter on this story: Mike Leonard in Washington at mleonard@bloomberglaw.com

To contact the editors responsible for this story: Rob Tricchinelli at rtricchinelli@bloomberglaw.com; Steven Patrick at spatrick@bloomberglaw.com