August 2003

Asian Business Dialogue on Corporate Governance 2003

The Asian Corporate Governance Association will hold its Third Annual Conference–the “Asian Business Dialogue on Corporate Governance 2003”–on Thursday, October 16, 2003 at the Ritz Carlton in Hong Kong. For a list of featured speakers and registraiton information, see the ACGA site.

WorldCom Reforms

WorldCom court settlement of fraud complaint brings major reforms, including:

• Separation of CEO and Chair functions, with CEO only insider
• Term limit of 10 years for board members, one of whom must retire every year
• Voice for large shareholders in nominating directors
• Increased pay for directors but requirement for them to spend 25% purchasing shared on open market
• Outside auditor to be rotated every 10 years
• Internet site to facilitate communication with board and voting on resolutions

See 8/26 NYTimes, WorldCom Report Recommends Sweeping Changes for its Board.

Corporate Reforms: A Look from the Inside

Maureen Nevin Duffy, founder, editor and publisher of the Corporate Governance Fund Report, will moderate a presentation by Bill George sponsored by the NYSSA’s Corporate Governance and Socially Responsible Investing Committees on September 25th, at The Harvard Club, 27 West 44th Street, NYC. The recent shareholder revolution has led to the downfall of many companies. Bill George, former Medtronic chair and CEO, and the author of the widely acclaimed new book,Authentic Leadership, will analyze the root causes of corporate ethical dilemmas and the required reforms in corporate governance. Bill George serves on the boards of Goldman Sachs, Target, and Novartis, and is Professor of Leadership and Governance at IMD in Switzerland. He will be Executive-in-Residence at the Yale School of Management this fall.Registration and information.

Davis Recall to Impact CalPERS?

The August issue of CalPERS Watch included an article speculating on the impact of a recall of governor Gray Davis. Marty Morgenstern, director of the Department of Personnel Administration, would probably be ternminated under a new administration. Also vulnerable is Sidney L. Abrams, appointed to the board in September 2001 by Governor Gray Davis to serve as the insurance industry representative. His term expires in January 2005. Willie Brown, Jr. was appointed by Governor Gray Davis in January 2003 to serve a second term as the elected official of a Local government. His term runs through January 15, 2007.  Since Brown’s term as Mayor ends in January, there’s been speculation concerning when his term will end.

Perry Kenny, head of the California State Employees Association, which opposes the recall is quoted saying, “What is the advantage of having so many political nominees if there is a chance that they lose perspective of what their main responsibilities are, which is to the members.” Referring to the recall, Kenny said, “This might help our cause.” Many expect Kenny himself to be voted out of office later this year. J.J. Jelincic, a money manager with CalPERS, is expected to be voted the next president of CSEA. (Kenny is thought to have lost considerable ground since the 2000 election, see the Union Spark)

Elsewhere CalPERS Watch reports that CalPERS is still looking to invest $600 million with third-party corporate governance money managers by the first half of 2004. Staff is drafting a policy to guide international real estate investment and Jones Day, CalPERS’s outside fiduciary counsel has decided to drop CalPERS as a client.

Shareholder Resolutions Top 1,000

Shareholders of U.S. companies proposed a record number of proxy resolutions this year in response to corporate scandals, according to data from Institutional Shareholder Services.

More than 1,000 initiatives were filed at about 800 companies, surpassing last year’s 830 proposals, according to ISS. A record 139 shareholder proposals received majority votes, up from 106 in 2002. Organized labor filed more than 40 percent of the shareholder initiatives, according to ISS data.

At 25 companies shareholder proposals have passed between two and five years in a row and not been adopted. These would likely be prime targets where shareholders can be expected to nominate directors under the upcoming open ballot provisions expected soon from the SEC. According to activist John Chevedden, FirstEnergy (FE), identified as a likely origin of the worst blackout in North American history, repeatedly ignores shareholder votes for improved corporate governance. Mr. Chevedden informs us that FirstEnergy ignored 4 majority shareholder votes since 1999.

The most popular subject this year was removing “poison pills” or prevent their adoption without shareholder approval (53 resolutions). (See Star Tribune)

Who do you believe? Apparently, Investor Responsibility Research Center (IRRC) data says shareholder proposals were 775 this year, compared with 529 in 2002. IRRC says executive pay emerged as the primary issue; 41% dealt with that topic, while 23% dealt with poison pills. (Investment Management Weekly, 8/18/03)

Certainly, executive pay will be a big issue next year, especially with CalPERS adopting a policy in June for evaluating executive stock option plans for the 1000 largest companies it invests in. One of the key requirements was a limitation that no more than 5% of stock options go to the top five executives, and that executives have to wait at least four years to cash options in. The fund will vote against repricing of options and will oppose compensation plans that go against their policy.

UC Berkeley Corporate Governance Conference, September 14-16

The University of California at Berkeley’s Haas School of Business will present a conference on corporate governance at Sonoma Mission Inn north of San Francisco. This is the latest in their Berkeley Program in Finance semiannual series for institutional investment managers, fund sponsors and financial advisors. Mark Latham, of the Corporate Monitoring Project will co-chair the conference with Haas School Professor Terrance Odean. The excellent line-up of speakers includesCharles Elson, Florencio Lopez-de-Silanes, Patrick McGurn, Kenneth Bertsch, Bernard Black and Andrew Shapiro. Cost: $2,950.

Editor Recommends SEC Put Proposed Disclosure Rules on Hold

I recommend that the SEC delay further action on its S7-14-03 rulemaking until the Commission has adopted rules allowing shareholders to place their board nominees on corporate proxy cards. That rulemaking is far more important than the rule currently under consideration.

In response to the Commission’s “Solicitation of Public Views Regarding Possible Changes to the Proxy Rules,” a few managers and those representing them, argued that time is needed to see the impact of recently enacted laws, regulations and listing standards. If the Commission adopts the rules described in File S7-14-03, I am concerned those arguments will again be used in an attempt to delay much more substantive changes.

While the rules proposed in S7-14-03 are positive, they would not result in any fundamental shift in power. With a little creative spin from attorneys and investor relations specialists, many firms could easily comply, while conducting business as usual.

For example, the proposal attempts to prompt healthy debate by requiring a nominating committee to explain the specific reasons for not including a candidate recommended by shareholders with 3% of a company’s voting stock.

First, that threshold is so high that even the largest shareholders, such as CalPERS, won’t be able to meet it unless they form groups with other large institutional investors. They aren’t likely to be motivated to undertake such action unless a company has already experienced precipitous losses. Restoration of value will be difficult, at best, and the proposal cuts out any likely prospective contribution from smaller shareholders.

Second, and more important, the proposed rule is more likely to result in the production of sanitized junk. Does anyone really expect to see a disclosure that says: “we chose Jones’ old college roommate because they’re a better fit with the current board, or we picked former Senator X because he can help us lobby for tax breaks?”

Do members of the Commission believe incumbent directors will look at the requirement to explain their actions and conclude, in good faith, their challengers will be better stewards of the company? I sincerely doubt such rules will result in any director stepping down. I think it is also highly unlikely that directors will drop a nonincumbent nominee they have selected, in favor of one recommended by shareholders.

The disclosures set forth in the rulemaking for nominating committees might be informative, if the rule were amended to require committees to disclose meeting transcripts. Of course, if the rule were expanded to include such a requirement, most meetings would become carefully choreographed plays, with any real debate held elsewhere.

If shareholders can easily place their own nominees on the corporate proxy card, there will be no need for elaborately regulated nomination and communication schemes. If directors face real contests, nominating committees will be forced by competition to explain why their candidates are superior and directors will rush to communicate with shareholders in order to ensure reelection.

For my views the important topic of opening access to the ballot, see:
http://www.sec.gov/rules/other/s71003/corpgov052603.htm and
http://www.sec.gov/rules/other/s71003/corpgovnet061303.htm

Homestore Settlement Includes Governance Reforms

Homestore agreed to pay $13 million in cash and 20 million shares of common stock, resulting in a second-quarter charge of $63.6 million, to settle a class-action lawsuit led by CalSTRS. Homestore agreed to adopt, within 30 days of final approval of the settlement, corporate governance provisions including requirements for independent directors and special committees, a non-classified board of directors with two-year terms, appointment of a new shareholder-nominated director, prohibition on the future use of stock options for director compensation and minimum stock retention by officers after exercise of future stock option grants.

CalSTRS, the nation’s third-largest pension fund with 715,000 members, suffered a $9 million loss because of an accounting scheme at Homestore that used bogus transactions to inflate revenues by more than $90 million in 2001. That prompted three former executives to plead guilty to federal fraud charges last year. (see CalSTRS press release, 8/13/03) Shareholders shouldn’t have to sue in order to get truly independent directors on corporate boards. Homestore provides yet another example of why an open ballot is needed.

Excess Payments to CalPERS Board Members

I had a chance to discuss Westly v Board of Administration with Judge Robie this week. He indicated that even though reimbursements paid to CalPERS Board members since September 2000 exceeded the limits of Government Code sections 20091 ($100 per meeting) and 19820(a) (travel limits), they do not constitute “illegal” payments, since there was some room for interpretation until the California Supreme Court upheld his decision. I owe CalPERS Board members and apology for questioning the legality of those payments.

That said, I still believe the Board should pass a motion suggesting that members voluntarily pay back the excess per meeting payments. Doing so would eliminate any question about the Board’s motives. Such questions are not unreasonable, given prior advice from outside counsel, general counsel, and due to the previous court decision in the case of Kathleen Connell for Controller v CalPERS. Each presaged the court’s final decision.

Senior Researcher Wanted at Center for Corporate Citizenship

One of my alma maters, Boston College, is seeking a researcher with four or more years experience in one or more of the following: corporate social responsibility/community relations; community and economic development; business/public administration; public/social policy, who can assist with securing resources for projects from external organizations , as well as design and manage research, analysis and study design of research projects.

Candidates should have strong communication skills including written (particularly in producing research reports) and in presentationfindings, and we are particularly interest in candidates with experience in multicultural and international contexts. Contact Cheryl Schaffer, Associate Director. at 617.552.0723. Center for Corporate Citizenship at Boston College

Donaldson Criticized

On August 7th the Wall Street Journal ran an op-ed, “Citizen Donaldson,” by a misinformed professor, Henry G. Manne, arguing against the SEC’s move to allow shareholders to place their nominees on the corporate ballot.

Manne asserts the SEC is planning to open such nominations to “small shareholders” that hold as little as 3% of a company’s shares. CalPERS, the country’s largest pension fund, is hardly a “small shareholder.” Yet, they hold far less than 3% of the stock in the vast majority of their portfolio firms. Contrary to Manne’s assertion, the SEC proposal would only be practicable for the largest investors – even then, most will have to form coalitions in order to utilize the soon to be proposed mechanism.

Manne argues, “Getting rid of bad corporate managers is nothing like the cumbersome and expensive political device of a political election either. It starts (and ends) with the assembling of a controlling number of voting shares, or, when there are large institutional holdings, often with just a quiet suggestion for change. The system works because unhappy shareholders sell or threaten to sell their shares and thus eventually make the change of control a profitable exercise. The essence of individual shareholder participation is ‘exit,’ not ‘voice.’”

However, in many cases there is no need for a wholesale buyout in order to change control or refocus efforts. Replacing a few board members often results in a smoother, less costly transition. Manne’s assertion that shareholders can exit “for the cost of a stock broker’s sales commission” is often far from reality since pension funds and other institutional investors hold an increasing amount of stocks using indexing strategies. There often is no reasonable possibility of exit and frequently there is no desire. Additionally, target companies are sometimes the focus of value investors who want to unlock potential. The market won’t recognize that value because it is held back by directors who lack creativity or are too close to management to do their job.

Manne says “the shareholder proposal rule has mainly been the playground of activists seeking publicity but generally uninterested in the hard job of serious corporate management.” I think here, he has a point. But the reason shareholder proposals seem like play is because they are only advisory. Without the proper tools, without the ability to hold management accountable through cost efficient mechanisms, shareholders are powerless to take a real role in corporate governance.

Manne believes “it is revealing that no corporations have ever opted into such a scheme on their own, even though they would be free to do so under the laws of many states.” Here again, Manne is out of touch. Has he not heard of Apria Healthcare? However, the fact that those in control do not want to risk the possibility of losing power is not surprising. Very few individuals voluntarily yield power.

Corporate democracy has not only been “a joke among sophisticated finance economists,” as Mr. Manne contends, it has been a cruel hoax on investors. While the corporation laws of every state provide that shareholders elect the board, those elections are a sham. Both management and directors are unaccountable.

The SEC can improve their proposal, not by weakening or scrapping their proposal as Manne advocates, but by strengthening it. Lower the ownership threshold even further and get rid of the requirement for a triggering event that in many cases will occur only after a company is already in trouble. It was an innovative idea, but a bad one. With a 3% threshold and a required triggering event, shareholders will probably only be able to use the director nomination provision at a dozen companies a year and those firms will already be bleeding. Who will safeguard the other 9,000? Shareholders involvement in the nomination process can provide an ounce of prevention.

Excess Payments to CalPERS Board

I received a series of questions from a CalPERS fiduciary concerning my call for board members to return all per diem and travel expenses which exceeded legal limits per Westly v Board of Administration (2003) 105 Cal.App.4th 1095, 130 Cal.Rptr.2d 149.

Basically, although this individual recognized that CalPERS must stop excess payments once the courts made their final determination, they questioned requiring board members to return what they have already been paid.

The following is an abbreviated list of their questions and concerns:

Would Kurato Shimada (and others) have to give back $300 for each day he participated in Board meetings? I know it’s the principle, but Shimada attended Board meetings under what could certainly be interpreted as a contract that paid him $400/day. Shimada accepted that contract, and put in the time…

What about the release time allowed for state employees on the Board? How could that be recovered? These members’ agencies received upwards of 60% of the members’ total compensation to replace them for the time away from their jobs for CalPERS responsibilities…. These members put in the time for CalPERS and did not put in that time for their agency. They didn’t receive any additional compensation.

My Response: The court did not make new law in handing down its decision; it simply affirmed the existing law. In its lawsuit against AOL Time Warner, CalPERS is not simply asking the company to cease its illegal activities, CalPERS is rightfully seeking disgorgement of insider-trading proceeds; restitution of defrauded monies; damages sustained as a result of wrongdoing, etc. Similarly, allowing board members to keep payments, which the courts have determined are excessive would be wrong. Yes, they should pay the excess amounts back, regardless of the “contract” they made with themselves.

With regard to the release time: I’m not asking CalPERS to recover those monies now. But if someone takes CalPERS to court, they very well might. They would also seek reasonable costs and expenses, including fees for legal counsel, which might be as much as the money actually recovered. However, you are right “it’s the principle.” Board members should not personally benefit/profit from activities of questionalble legality. That principle is much more important than the relatively small amount of money involved. If CalPERS fiduciaries disagree with that principle, members and beneficiaries are in trouble.

At least in the case of release time the “benefit” accrued to public agencies, not to individuals. Those public agencies had no say in creating the policy that resulted in higher reimbursements to them. They granted additional release time in good faith and had no reason to believe the board policy wasn’t proper. On the other hand, the payments were in excess of legally allowable amounts and should be recovered in order to make system participants and their beneficiaries whole.

The case against board members who directly received increased compensation is clear. They made the decision to raise their own reimbursement from the legally set $100 per diem to $400 and they also raised their own travel reimbursement to amounts above legal limits.

I certainly do not know all the history behind the issue but I can sketch a few facts relevant to me that preceded the lawsuit.

Soon after Proposition 162 passed, the board asked a series of questions of outside counsel, Joe Wyatt Jr., concerning their legal authority. As I recall, Wyatt expressed his expert opinion that the board was not exempt from civil service laws, the Administrative Procedure Act (APA) and other statutes. California Constitution article 16, section 17 provides some latitude to the board where a statute conflicts with the board’s ability to fulfill its fiduciary duties. According to BPAC agenda item 4, page 4 (May 18, 1999) “Counsel has also advised that the Board will have the burden of proving necessity, should the action be challenged in court.”

In BPAC agenda item 5A (April 14, 1998) staff (Kayla Gillan, General Counsel) presented four alternatives with regard to raising board compensation. She recommended that the Committee “focus on possiblelegislative alternatives.” (her emphasis)

As you may or may not know, after substantial adverse press, testimony before the board and legislature by myself and others concerning the acceptance by board members of campaign contributions and gifts, the board enacted several “policies” (resolutions BD-98-01, BD-98-02 and BD-98-03) on 2/19/98 requiring disclosure of solicitations, gifts and banned certain campaign contributions. On 2/21/98 I petitioned CalPERS pursuant to Government Code section 11340.6, requesting promulgation of the policies as regulations pursuant to the APA. CalPERS declined to do so. I then sought a determination regarding the legality of the regulations from the Office of Administrative Law (OAL) on 5/1/98.

I had primarily two concerns. First, CalPERS should not violate the APA, which requires public notice, opportunity for comment and other protections when adopting regulations. Additionally, I was concerned the board would simply repeal the policies after press coverage of excesses ended. That would be much more difficult if they had to follow the APA to repeal the regulations.

Separately, the political committee “Kathleen Connell for Controller” challenged the validity of two of the resolutions resulting in a judgment by Sacramento Superior Court on 9/28/98, which found both resolutions invalid, since they “constitute regulations which were promulgated without compliance with the Administrative Procedure Act.” In Determination No. 18, dated 8/11/99, OAL found all three policies invalid for the same reasons. The board had claimed the California Constitution exempts it from the APA, arguing that Constitutional provisions giving the board “plenary authority and fiduciary responsibility for investment of moneys and administration of the system…” exempt it from oversight or control by any other executive branch agency or statute. That argument was thoroughly rejected by the Superior Court.

When the board acted to raise their own salaries and travel reimbursement rates they did so knowing full well that they were very likely to be exceeding their authority based on the opinion of outside counsel, OAL’s determination and the prior court decision.

I also find the board’s logic for violating the Government Code limitations on their own reimbursements hypocritical. Board members advocating the pay increase claimed they would be violating their fiduciary duty spelled out in the Constitution because if they didn’t the board wouldn’t be able to attract competent candidates. However, at the same time they were attempting to enact regulations governing those elections which a Sacramento Bee editorial said “risk creation of a permanent board: unaccountable, untouchable and isolated from the people who elect it.” (CalPERS muzzles critics: Ballot rules protect board, keep others in the dark, May 25, 1999) You don’t attract more competent candidates by prohibiting them from discussing why they are running in the ballot statement.

Regardless of the board’s motivation, now that the courts have determined that the payments exceed what the law allows, board members should voluntarily turn the excessive amounts back to the system.

SEC Reform Must Allow More Than Token Nominations by Shareholders

The corporate director who asks tough questions soon faces “social distancing,” according to a new study by University of Texas management professors. “Subtle social interactions can have a major impact on the success of board reforms at large companies,” said James Westphal, one of the authors.

“Social Distancing as a Control Mechanism in the Corporate Elite” by Westphal and Poonam Khanna, confirms what critics have long argued — country-club cronyism bogs down efforts to rein in CEO power and advance shareholder rights. The doubters of a CEO’s become “deviant group members” of the board and ostracized for going against group normative. Their will be shunned and their contact with fellow directors will wane.

“The results also show that directors who experience this are less likely subsequently to participate in board reforms,” Westphal added. “Unless boards are actually required to do changes, you should be relatively pessimistic about the chances for voluntary board reform, unless there is significant turnover in board membership,” he said.

The professors examined director participation in four “elite-threatening” actions that shareholder activists and institutional investors have been advocating for years: separating the chairman and CEO positions, creation of an independent nominating committee, firing the CEO, and the repeal of a “poison pill” takeover defense.

The study of Fortune 500 directors found that directors who participated in one of the four actions were invited to nearly 50 percent fewer informal meetings and their input was solicited on 53 percent fewer occasions in formal board meetings. (Reformist directors get the big chill, study finds,Forbes, 8/3/03) The “SEC Staff Report: Review of the Proxy Process Regarding the Nomination and Election of Directors” called on shareholders to be able to nominate a small number of directors to be placed on the corporate proxy. Let’s hope there are enough of them so they can be both independent and supported by their fellow directors, instead of being as outcast as the research has found. Allowing shareholders to nominate almost half the directors in any given year would make all the difference.

Dr Julie Gorte, Director of Social Research, Calvert Group, points out, “The logic of board independence is very similar to that of the Supreme Court majority in the University of Michigan case. The court noted that true diversity in student populations had to include sufficient numbers of minority students to enable them to act as individuals. The same goes for board independence. One or two “true” independent members of the board may be ostracized or subjected to various forms of ingratiation or persuasion until they no longer exercise independent judgment in corporate governance. But a true critical mass of truly independent directors will make this far more difficult–which is why the new proposed listing guidelines AND the SEC proposed rule on allowing shareholders meaningful access to companies’ ballots for directors are so important.”

ATDs Issues Not Simple

In “Corporate Officers Shouldn’t Get ‘Tenure,'” (WSJ, 7/25/03), Neil A. O’Hara argues that although a team production model of the corporation may be “gaining traction among both academics and corporate people,” according to Lynn A. Stout, one of its leading proponents, shareholders have rejected it. “Shareholders who risk their capital by investing in a company expect the best possible return. If they don’t get it, they shift their money elsewhere. That is how markets allocate capital to the most efficient users.”

But the theoretical basis of O’Hara’s assertions is a dated view of the principal-agent approach articulated by Michael Jensen and William Mekling in 1976. O’Hara’s article summarizes it as follows:

In theory, the board of directors acts as an agent elected by the principals (shareholders) to oversee the corporation in their best interests. The board appoints senior management as sub-agent to run the company’s day-to-day operations. A contract between agent and principal normally requires that both parties agree to any change in the terms and the principal reserves the right to terminate the agent. Current corporate governance in the U.S. undermines this arrangement. The charter and bylaws of a corporation determine how it is governed, yet the board can alter bylaws without shareholders’ consent. Boards adopt bylaws shareholders cannot amend except by supermajority vote. The agents change the relationship and effectively prevent the principals from reversing the change by setting an impossibly high threshold.

O’Hara concludes, “the threat of takeover protects shareholders’ interests by penalizing bloated management. Employees and executives work hard because failure invites the unwanted attention of more efficient users of capital, both financial and human. A corporation protected from this threat becomes bureaucratic and inefficient. That may explain why “corporate people who know how companies really work” might support a model that offers them protection equivalent to academic tenure. The ‘team production’ concept looks like discredited European state capitalism in drag.”

I wrote to Professor Stout and asked for her reaction to the O’Hara article. Here response is as follows:

Mr. O’Hara suggests that protecting target firms from hostile bidders is not in shareholders’ interests. Not in shareholders’ immediate interests, perhaps– who wouldn’t want to sell at a premium? But this may be short-term thinking. The main point of my op-ed was that if PeopleSoft’s founders and top managers had not thought they had some protection against takeovers, it is not clear that there is any formal contract that could have induced them to build this company from scratch the way they did. Or at least, no formal contract that wouldn’t have cost so much that early investors would never have agreed to it. Instead of focusing on making PeopleSoft a thriving firm, PeopleSoft’s employees would have focused instead on burnishing their resumes, in the expectation that at any moment they might be booted out the door.

This is not to say that antitakeover provisions don’t contribute to downstream “agency costs”– they do. But those costs may be the price investors must pay to encourage the kind of entrepreneurial effort that created Peoplesoft in the first place. If you want evidence, just look to the numerous empirical studies that demonstrate that companies nowadays put in antitakeover provisions at the IPO stage–as PeopleSoft did. This suggests that investors don’t think antitakover protections are a bad thing when companies are first created, and investors need to spur employees to work 24/7. If they did, investors would be free to punish corporate promoters who use them by discounting the price they are willing to pay for shares, or even reusing to buy at all.

Finally, Mr. O’Hara suggests that antitakover protections are somehow responsible for the 1990’s excesses in executive pay. Informed observers think the cause lies elsewhere– in the attempt to use options as a means of “bonding” executives’ interests to shareholders, and as an alternative to trusting boards of directors. As we know now, this strategy–intended to further shareholders’ interests–instead exploded in their collective faces, as options compensation turned out to be little more than an expensive lottery ticket that induced many firms (e.g. Enron) to take on far more risk than was good for the shareholders’ health. Once again, crude shareholder primacy thinking ended up working against shareholders themselves.

Yes, the knee jerk reaction of many shareholders to antitakeover defences (ATDs) is negative and I have probably been guilty of too frequently classifying all ATDs as management entrenchment devices. I have frequently cited the Gompers, Ishii, Metrick article and others to support removing ATDs. At CorpGov.Net we’ve set forth many views, which align with shareholder primacy, such as our petition to the SEC to allow shareholders to place their director nominees on the company proxy. Additionally, I’ve long been of the opinion that most “stakeholder” laws, which allow corporate boards to consider the impact of takeovers on employees and the community are subjective, simply providing management with additional rational to remain entrenched, rather than truly empowering workers.

However, I’ve long been fascinated with Margaret Blair’s arguments concerning the growing importance of human capital, relative to financial capital and to Marjorie Kelly’s argument that shareholder primacy is built around a myth of the divine right of capital. For me, the answer has long involved greater democracy both at the top and bottom of corporate governance. At the bottom, we need much more extensive worker ownership and participation in decision-making. At the top, we need the right of shareholders (including employee owners) to include their director nominees on the corporate ballot.

Contrary to Mr. O’Hara, many shareholders, especially pension funds are searching for a way account for “team production” by trying to obtain double or triple bottom line returns. Since 1988 the Pension Welfare Benefits Administration, which oversees ERISA, has made it clear that collateral benefits may be considered if the investment is otherwise “equal or superior to alternative investments available to the plan.”

ATDs probably do have a place, especially in young firms composed mostly of knowledge workers, such as Peoplesoft. Since firm specific human capital can lock workers into a particular enterprise, perhaps in addition to seeking a shareholder vote on buy-outs, employees should also be required to approve such changes in ownership. Additionally, we need to continue to push for broad changes such as legislation to require worker representation on all pension funds, not just those of Taft-Hartley plans, as well as in the administration and governance of 401(k) plans. Long-term shareholders and those concerned with good public policy can’t dismiss Stout’s concerns but should develop corporate governance mechanisms to ensure employees have every incentive to be productive. If you do, we’ll all be winners.

For more information see the Team Production site.

Donaldson Says Proxy Access “Long Overdue”

ISS Friday Report (8/1/03) includes an article quoting Donaldson saying shareholder access is “long overdue.” At a speech before the National Press Club, SEC Chairman William Donaldson voiced support for a pair of upcoming rule proposals that would revise the agency’s proxy rules if given final approval by the commission.

Donaldson announced that on Wednesday, the SEC will consider the first rule proposal, which would enhance disclosure around nominating committees and shareholder communications. The second proposal, granting shareholder access to the proxy in limited circumstances will be taken up in September. During a question-and-answer session he said, “I believe it’s long overdue.” Objections from trade groups such as the Business Roundtable were addressed by the SEC staff, going through a review process, which would keep a “Johnny One-Note” or “someone with an axe to grind” from being elected to a board, he said.

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