Archive | January, 2005

January 2005

Pension Funds Come Out Swinging
Several hours before President Bush made Social Security reform the cornerstone of his State of the Union address, California Treasurer Phil Angelides, New York Comptroller Alan Hevesi, North Carolina Treasurer Richard Moore, corporate governance expert Nell Minow, and acting CalPERS President Rob Feckner held a press conference to criticize Governor Schwarzenegger’s plan to privatize all of California’s public pension funds.

The Governor had recently announced he would wage a “national battle” and would raise $50 from donors around the country “to help us fight this battle.” In his prepared remarks, Angelides pointed out that scandals at Enron and WorldCom alone cost CalPERS and CalSTRS more than $1 billion. California’s pension funds have been key leaders, exercising “their marketplace strength to push for reforms such as curbing excessive executive pay, strengthening accounting standards, increasing transparency, and opening corporate board elections to shareholders.”

Three years after scandals rocked Wall Street and investors and taxpayers lost trillions – while former WorldCom CEO Bernard Ebbers and former Tyco CEO Dennis Kozolowski face trial – corporate interests, with Schwarzenegger as their ally, are leading a counter-attack against recent reforms and the public funds that helped to enact them.

Angelides pointed out that although Schwarzenegger claims California’s pension plans are a “looming train wreck,” at CalSTRS alone Schwarzenegger’s “reform” plan “would cost the State and local school districts $5.9 billion over the first ten years.” Obviously, the motivation isn’t saving money. Angelides attributed it to a broader effort to “silence the voice of reform and weaken the ability of shareholders to hold corporate directors and managers accountable” by breaking the strong voices of California pension funds into millions of pieces.

Angelides named Grover Norquist, president of Americans for Tax Reform, and Stephen Moore, president of the Free Enterprise Fund, as two of the free-market enthusiasts pushing Wall Street interests. He provided quotes from both and from Jon Coupal of the Howard Jarvis Taxpayers Association that point to the corporate governance policies of CalPERS and CalSTRS as the overriding issue and the real reason for “pension reform.”

The tone of the press conference was one of preparation for battle, as well it should be. In his most inflammatory remark, Angelides said that Schwarzenegger’s plan looks like it was put together “by a bunch of right-wing ideologues and convicted CEOs out on parole.”

Richard Moore emphasized the reason public pension funds are involved in corporate governance is to obtain better returns, that parts of corporate America were stealing, that some mutual funds had been getting kickbacks, that administrative costs for DC plans would be at least seven times DB costs, and that it was hypocritical of CEOs to demand DC plans for public employees because they have kept their own DB plans.

Nell Minow said removing public pension funds from the equation is a bad idea. Corporate funds face too many conflicts of interests. Public funds play a crucial role in keeping corporate officers in check, something that can’t be done by atomized individuals. “If we remove the one category of investor that is independent enough to be fair and big enough to be effective, there will be no one left to provide the oversight that is and essential element of the capitalist system,” she said. Minow concluded by noting that much of what has been accomplished by public funds has been a result of their actions involving individual companies.

During the question and answer period Angelides opined that, in appealing to voters, many of whom have lost DB plans, Schwarzenegger “wants to pit the struggling against the struggling.” He listed a number of accomplishments driven by public pension funds including greater disclosures, more transparent accounting procedures, new standards of board independence, Sarbanes-Oxley, and he vowed to continue the fight.

 

DB to DC: The Corporate Governance Connection

According to a poll by the Public Policy Institute of California (a moderate think-tank), 61% of California adults, + or – 2%, favor changing the pension systems for new public employees from defined benefit (DB) to defined contribution (DC) systems similar to a 401(k) plan, while 25% oppose such a change. (Pension crossroads, Sacramento Bee, 1/27/05) There are few rational arguments in favor of such a change. Requiring two systems during a forty-year phase-out won’t save taxpayers money. It will result in lower retirement benefits for the vast majority of new public employees. Public employment will be far less attractive, so levels of service will continue to deteriorate. And, it will wipe out inflation fighting pension protection for existing employees. So why the proposal?

One obvious reason is that some people want a feeding frenzy. It costs 0.18% to administer the DB plan under CalPERS but will probably cost more than 1-2% per year as a DC plan. If California funds have assets of approximately $500 billion (CalPERS and CalSTRS alone have $300 billion), the yield to money managers will be $5-10 billion.

Secondly, as New York Times columnist John Broder recently noted, “The outcome of the vote in California, pension experts and political analysts say, will not only have an impact on the state pension system, but will also provide an important marker of public opinion on proposed changes to Social Security.” (Schwarzenegger Aims At State Pension System, 1/23/05) Help President Bush achieve Social Security reform and maybe Bush will see to it that California gets more than 77 cents for each dollar of taxes sent to Washington.

Third, Schwarzenegger raised more than $23 million in political donations in 2004, using the money for initiative campaigns, travel – and fundraising. The DB to DC initiative will help him raise a fortune – at least $50 million to fund his 2005 initiatives and another $50 for his reelection campaign. And the amount to be raised for initiatives may be understated, since these are not subject to the reelection campaign limits of $22,300 per donor.

However, another huge reason is the role CalPERS, CalSTRS and other public funds have taken in corporate governance. As Jon Coupal, president of the Howard Jarvis Taxpayers Association said, the proposal seeks to end “the social engineering and corporate governance agenda” of CalPERS (State workers balk at taking another hit, Sacramento Bee, 1/11/05)

Why do powerful forces want to end traditional pension funds, especially public pension funds? Because pension funds are the primary check on the power and greed of corporate CEOs.

In 1932, researchers Adolph Berle and Gardiner Means documented that widespread stock ownership had shifted control of corporations from owners to managers. Being an active shareholder no longer paid because, despite potential gains to shareholders as a group, it was no longer rational for any one shareholder to monitor and act. Why shoulder the entire expense of corporate activism for only a small portion of the gains while other shareholders get a “free ride?”

With few options left to them, dissatisfied owners were told by the system to love it or leave. That strategy became known as the “Wall Street Walk” or the “Wall Street Rule.” Enter defined benefit pension funds. Their share of the market rose from 0.8% in 1950 to 9.4% (1970), to 18.5% (1980), to 28% (1990) and stands above 30% today. This shift set the stage for the rise of public pension funds to become watchdogs for good corporate governance. Private pension funds have too many conflicts of interest to take on that role.

CalPERS’ involvement with corporate governance issues can be traced back to 1984 when California’s Treasurer, Jesse Unruh learned that Texaco had repurchased almost 10% of its own stock from the Bass brothers at a $137 million premium. Essentially, Texaco’s management paid “greenmail” to avoid loss of their jobs in a takeover. CalPERS, a substantial shareholder, wasn’t given the same option. Unruh quickly organized a powerful shareholder’s rights movement with the creation of the Council of Institutional Investors (CII – composed mostly of public pension funds) to fight for fair treatment of shareholders, shareholder approval of certain corporate decisions, and needed regulatory reforms.

A 1991 study found that over 80% of corporate board candidates were filled by CEO recommendations. Until 1992, when the SEC revised its proxy rules under pressure from CalPERS, shareholders could not even communicate with each other without going through elaborate and expensive filing procedures. What followed was a period of sweeping and highly visible change in boardrooms across America due to the activism of CalPERS and CII. CEOs were ousted at American Express, Chrysler, General Motors, IBM, Kodak and Westinghouse.

A 1995 study by Steven Nesbitt, of Wilshire Associates, examined the performance of 42 companies targeted by CalPERS. It found the stock price of these companies trailed the S&P 500 Index by 66% in the five-year period before CalPERS acted to achieve governance reforms. The same firms outperformed the Index by 52.5% in the following five years. A similar independent study by Michael P. Smith, with Economic Analysis Corporation, concluded that corporate governance activism has increased the value of CalPERS’ holdings in 34 firms over the 1987-93 period by $19 million at a monitoring cost of $3.5 million.

After the demise of Enron, Worldcom, and others in 2002, CalPERS experienced another surge in corporate governance activism. Despite Sarbanes-Oxley, corporate governance concerns persist. Investors are now supposed to be protected from greedy CEOs by “independent” board members who will negotiate the terms of employment at arms length. But under current listing standards directors can still be considered independent even if they receive $60,000 to 100,000 a year in additional compensation. They can be the CEOs golfing buddies or former college roommates. Even if they start out as independent, most directors end up loyal to the CEO because they set the agenda and provide the perks. Forget about independence. Directors need to be dependent on shareholders.

There are many avenues of corporate governance reform, but for many of us the Holy Grail is proxy access for the purpose of nominating directors. Management controls the proxy machinery. Challenging incumbents requires substantial legal fees and mailing a separate ballot to all shareholders. Additionally, many corporate elections are not confidential. Management sees how shareholders vote and puts pressure on money managers to change their vote. Not voting for management could cost them business, like being able to service the company employee 401(k) accounts.

In the summer of 2002 Les Greenberg and I petitioned the SEC for proxy access. Our petition “re-energized” the “debate over shareholder access to management proxy cards to nominate directors,” according to CII (seeEqual Access – What Is It?) Nine months later the AFL-CIO filed a similar petition. Finally, in October 2003 the SEC proposed a weak rule that would make it easier for shareholders to nominate a token number of directors, which they predicted might happen at 45, or 0.3%, of companies each year.

This “foot in the door” supported by CalPERS, CalSTRS, and public pension funds all over the nation so disturbed corporate CEOs that the U.S. Chamber of Commerce threatened to sue the SEC if the rule is enacted. The Business Roundtable, made up exclusively of top CEOs, placed ads in major newspapers signed by chief executives of 40 large corporations, warning the proposal would erode the independence of directors. But not being independent of shareholders is not a problem. In fact, that is the solution.

Throughout the summer of 2004, SEC Chairman William Donaldson kept announcing he would push forward: “The need for action,” he said, “can’t stop for partisan politics.” (Fortune, September 20, 2004) Yet, during President Bush’s innately appealing discussions of an “ownership society,” he consistently failed the perfect opportunity to signal to shareholders that he endorses the idea of giving them a greater stake in selecting corporate directors…of taking an ownership role in corporate governance.

Many have taken this as a sign that it is now time for CEOs to begin pushing back. “Like Donald Trump after a long day of watching tycoon wannabes struggle to gain his approval, CalPERS board members are trying to hand out pink slips to the directors at 90% of the companies in which the fund owns shares,” began an article posted on the Republican Party’s website entitled “CalPERS Puts Social Agenda Ahead of Profit.”

Yes, as I have indicated in these columns before, CalPERS’ corporate governance and “social agenda” need some fine-tuning but they’re not doing badly. In fact, last year the System’s top performing portfolio was its investment in activist corporate governance funds, which earned 53.5%. Try doing that with your 401(k). I say, if CalPERS can earn good returns with collateral benefits, that’s a plus. For example, their real estate loans to members have earned about 20% a year since the early 1990s.

CalPERS has been a leader in the effort to bring accountability to corporate boardrooms. In November 2004 they announced their next major target – CEO pay. Under the plan, CalPERS will pursue six major pay-for-performance initiatives over the next three years. They include:

  • Submitting a comprehensive proposal to the SEC in 2005 that calls for greater transparency of compensation packages;
  • Strengthening listing standards at the securities exchanges and self-regulatory organizations to promote greater communication and transparency between listed companies and investors;
  • Urging the compensation consulting industry to adopt practices that better align boards and management with shareowners;
  • Targeting a limited number of corporations in 10 market sectors with the worst compensation practices to move their executive compensation philosophy and practice toward greater pay-for-performance concepts;
  • Publicly withholding support from a focused list of certain corporate compensation committee members who develop and support egregious pay packages; and
  • Recognizing companies and individuals who use superior pay-for-performance practices.

Past experience has shown that such a program will not only help grow CalPERS’ portfolio, it will also lower the cost of executive compensation and make pay more performance-sensitive.

In closing, it is ironic to note that while CEOs are orchestrating the attack on CalPERS, guess what kind of retirement plans they have? All of the CEOs in the S&P ExecuComp database have defined benefit plans. Of course, qualified pension plans (exempt from taxation) are limited to about $200,000 a year and the average S&P 500 CEO earns $2 million (not including camouflaged payments). Supplemental executive retirement plans, known as SERPs, are an inefficient way to compensate CEOs but they come with one great benefit – camouflage. “Neither the increase in value of the SERP plan before retirement nor the amount of payments after retirement appears in the compensation tables, the existence of SERPs, and the formulas under which payouts are made must be disclosed in the firm’s SEC filings.” (Bacchus and Fried, Pay Without Performance) Killing public pension funds will allow CEOs to wield power without accountability.

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Chamber Steps Up Backlash

The U.S. Chamber of Commerce stepped up its backlash against recent and proposed corporate governance reforms by filing a friend-of-the-court brief in support of Siebel Systems, which is fighting accusations by the SEC that it violated Regulation Fair Disclosure (FD). “At its essence, Regulation FD requires corporate executives either to share their material business information with no one, so as to avoid triggering the disclosure requirement, or to share it with everyone,” the Chamber wrote. “In either case, Regulation FD impermissibly violates corporate executives’ right to freedom of expression and association.” that “in punishing companies for selectively disclosing ‘material and nonpublic’ information, Regulation FD impairs fundamental First Amendment values.”

Last June the SEC alleged that Siebel chief financial officer Kenneth Goldman disclosed material nonpublic information during two private events he attended with former investor relations director Mark Hanson on April 30, 2003, in New York: a one-on-one meeting with an institutional investor and an invitation-only dinner hosted by Morgan Stanley.

This is the second time Siebel allegedly violated Regulation FD. In November 2002 the SEC issued a cease-and-desist order and imposed a $250,000 civil penalty against the company for statements made at an invitation-only conference sponsored by Goldman Sachs.

The Chamber also opposes the SEC’s proposed proxy access rule and is challenging the SEC’s authority to require that 75% of mutual-fund directors be independent. (Chamber of Commerce Supports Challenge to SEC ‘Fair Disclosure’ Rule, FindLaw.com, 1/28/05)

Pro Teams

So many US company officials now handle governance work that the 59-yearold American Society of Corporate Secretaries this month changed its name to accommodate the new species of executive. The group is now re-dubbed the Society of Corporate Secretaries and Governance Professionals. Based in New York with a staff of 14, the Society is also designing products and services— such as training courses—dedicated to governance duties. These will roll out later this year.

Only about 300 of the Society’s 3,800 members, representing more than 3,000 listed companies, carry formal titles of governance executive. But most now bear responsibilities required by the Sarbanes-Oxley Act and other regulations. The name change is another signal that governance is here to stay. So far, though, the investment world has yet to form a corresponding trade group for its own growing ranks of shareowner engagement/corporate governance managers. It is inching closer, though, with proliferating guidance on standards of professional behavior.

The most recent: the UK Social Investment Forum’s pilot Transparency Guidelines for Engagement and Voting in Institutional Investment, endorsed by Baillie GiffordF&CHendersonInsightMorleySchrodersand Universities Superannuation Scheme. (Reprinted with permission from Global Proxy Watch, now in its ninth year. Global Proxy Watch is “the market’s principal window on breaking developments in international corporate governance, shareowner activism and the governance service industry.”)

UK Provides Model

An editorial in the UK’s Financial Times renews the call for the US SEC to empower shareholder to nominate directors. The editorial presents two models. In the US after Enron, we passed the highly prescriptive Sarbanes-Oxley legislation and are now faced with corporate backlash.

In the UK they addressed fat cat payoffs by requiring quoted companies to publish a directors’ remuneration report every year and to put it to a shareholder vote. In other words, they gave shareholders the power to police their own companies. The UK made the right choice. (All power to the shareholders, 1/26/05)

CalPERS Backs Off

Responding to a legal threat by Assemblyman Keith Richman, CalPERS has revamped its online “pension debate information center” and has reduced inflammatory language. For example, CalPERS eliminated a description of Richman’s proposal as “the most serious threat” facing public employee pension funds.

Richman and the Howard Jarvis Taxpayers Association are proposing a constitutional amendment that would eventually curb the power of CalPERS, CalSTRS, and every other public pension fund in California by requiring self-directed, 401(k)-style retirement plans for all public employees hired after July 1, 2007. The Association wants to put a stop to “social engineering” by pension funds.

Richman wanted CalPERS to shut down the site, contending it was biased and violated state law by advocating defeat of his plan. He threatened to ask for a state investigation. Governor Schwarzenegger appears to be under no such restriction. (CalPERS softens pension material, 1/26/05)

Southwest Moves to Annual Elections of Each Director

In an 8-K dated Jan. 25, 2005, Southwest Airlines announced it will phase out use of a classified board and will switch to annual election of each director. Beginning with the annual shareholders meeting in May 2005, each director will be elected for a one-year term. We attribute this sensible move to shareholder activist John Chevedden, who submitted a shareholder proposal for the 2005 annual meeting seeking this change.

10 Worst Firms

In case you missed it, Russell Mokhiber and Robert Weissman posted their nominations for the The Ten Worst Corporations of 2004. From a large list of “price gougers, polluters, union-busters, dictator-coddlers, fraudsters, poisoners, deceivers and general miscreants,” they chose the following – presented in alphabetical order:

  • Abbott Laboratories: Drug Pricing Chutzpah
  • AIG: Deferred Prosecutions On the Rise
  • Coca-Cola: KillerCoke.org vs. CokeKills.org
  • Dow Chemical: Forgive Us Our Trespasses
  • GlaxoSmithKline: Deadly Depressing
  • Hardee’s: Heart Attack on a Bun
  • Merck: 55,000 Dead
  • McWane: Death on the Job
  • Riggs Bank: The Pinochet Connection
  • Wal-Mart: The Workfare Company

SEC to Lower SOX Burden on Foreign Firms

Foreign firms with secondary listings in the US have argued that the compliance costs of the Sarbanes-Oxley Act, which apply ot firms with more than 300 US shareholders, outweigh the benefits of a dual listing. In a speech at the London School of Economics, William Donaldson promised “several initiatives” to ease the burden on foreign firms.

“We should seek a solution that will preserve investor protections” without turning the US market into “one with no exit,” he said. Staff are weighing the merits of delaying the implementation of Section 404, which requires CEOs to signoff on annual accounts, for foreign firms.

Compliance costs are already believed to be making firms wary of US listings. The BBC News reports that “Air China picked the London Stock Exchange for its secondary listing in its $1.07bn (£558m) stock market debut last month.” (SEC to rethink post-Enron rules, BBC News, 1/25/05)

ISS Recommends for Disney Board

In a reversal of past advice, Institutional Shareholder Services is recommending a favorable vote for all 12 Disney directors, including Eisner. “Overall, Disney has taken some positive steps in the past year,” says ISS whose recommendations carry significant weight with institutional shareholders who are about to cast votes for the 2/11 annual meeting in Minneapolis.

The change came after Disney’s board made the separation of chairman and CEO roles more permanent, addressing a fundamental concern shared by ISS and several investors, and it linked executive pay more closely with performance. It also helped that outperformed other media companies last year, with earnings per share rising 72%. (Disney board picks up support, Sun-Sentinel, 1/26/05)

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Class Actions Suits Up

U.S. securities class actions increased in 2004, according to a study byCornerstone Research and Stanford University Law School. The study found a 17% increase in the number of cases filed. In all, there were 212 securities class actions filed in 2004 compared with 181 in 2003 and 226 in 2002. However, dollar disclosure losses nearly tripled from $58 billion in 2003 to $169 billion in 2004.

The average number of cases filed annually since the passage of the Private Securities Litigation Reform Act of 1995 was 190, making 2004 a busier than usual year. Many of the traditional types of suits remained popular. Accusations of misrepresentations in financial documents, benefiting from insider trading, and accounting irregularities topped the list of allegations as in other years. Some of the largest were triggered by allegations relating to insurance industry sales practices and the safety of prescription drugs.

The report also found that the most active federal circuits as measured by the number of issuers sued in 2004 were: the Ninth Circuit (including California) with 64 filings, an 83% increase over 2003; the Second Circuit (including New York) with 45 filings; and the Eleventh Circuit (Alabama, Florida, and Georgia) with 20 filings. The full text of the new report can be found at the Securities Class Action Clearinghouse site.

ICN to Push For More Democratic Corporate Elections

Dow Jones Newswires report that the International Corporate Governance Network will convene a working group to explore how to change how corporate boards are elected. The default at U.S. companies is plurality voting where even a 99% withhold vote doesn’t stop a nominee from being elected.

“We must have a simple mechanism – we can’t have an election where there’s not an option to vote ‘no’ as well as ‘yes,’ ” said Anne Simpson, ICGN’s executive director. The group will look at the possibility of crafting a template bylaws resolution to open the door to majority voting similar to that required in the UK for years. (New Movement Afoot To Democratize Director Elections, 1/21/05)

The United Brotherhood of Carpenters and Joiners introduced 14 shareholder proposals aimed just at such a change in 2004, winning as much as 18% on their first time out. We welcome ICN’s involvement in expanding their effort.

Schwarzenegger’s Plan to “Starve the Public Sector”

An opinion piece in The Reporter says that Gov. Arnold Schwarzenegger’s proposal to scrap CalPERS, along with all other public sector defined benefit plans in California “is just another ploy to cater to his big business buddies around the state and across our country.”

“For a man who claims not to be beholden to “special interests,” it is puzzling that the financial and investment interests have contributed more than $6 million to Arnold Schwarzenegger since the onset of the recall campaign and election. And it is these same financial and investing interests that stand to gain the most from the transformation of the existing CalPERS system into a less certain 401(k) system.” ” The financial world, not to mention the corporate world as a whole, is salivating at the governor’s plan to disband CalPERS and their potential capacity as a very influential stockholder.”

“The fact that Gov. Schwarzenegger is willing to put the futures of almost a million and a half workers on a “financial train to another financial track to disaster,” “solely due to more than $23 million from corporate contributions, shows to whom Gov. Schwarzenegger is undoubtedly beholden.” (Governor beholden to special interests, 1/22/05)

Grover Norquist, president of Americans for Tax Reform, sees Schwarzenegger as an effective advocate for private accounts for public employees and Social Security overhaul. “It’s nice when good policy also has star quality,” said Norquist, noting his group will back Schwarzenegger if he puts public pension changes to California’s trendsetting voters. “This speeds everything up,” said Norquist, who had expected a decade-long struggle for private accounts for state workers. “When Arnold talks about this and puts it on the ballot, all the states will be talking about it.” (Calif. Emerges as Battleground for Pension Changes, Reuters, 1/23/05)

The change that Schwarzenegger has endorsed is driven by the same ideology behind the effort to transform Social Security. If defined-benefit pension plans for public employees are ended in California, the nation is likely to follow. That would mean the eventual end of the major proponents of good corporate governance such as CalPERS, CalSTRS, New York Common Retirement Fund State of Wisconsin Investment Board, etc. and even CII. (Governor targets pension system, Monterey Herald1/23/05)

Schwarzenegger named Marjorie Berte, a California State Automobile Association vice president and former director of the Department of Consumer Affairs under former Governor Pete Wilson, to the CalPERS board. Berte, 52, of San Francisco, will be the third Republican on a 13-member board dominated by Democrats. She will be the board’s insurance industry representative, replacing Sidney L. Abrams, a consultant to several organized labor pension plans. The appointment is not expected to change any basic policies at CalPERS.

Schwarzenegger told the Sacramento Bee recently that he wanted to “starve the monster” — the monster being government programs soaking up state revenues. Almost the exact phrase is used by Grover Norquist, the nation’s most influential tax-cut advocate, who wants to slash government spending by half over the next 25 years. Yet, changing CalPERS and Social Security appear to be aimed more at feeding money market managers than saving taxpayer dollars.

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3rd Annual Investment Adviser Compliance Forum
May 16-17, 2005
Harvard Club, New York City
To register call Financial Research Associates at 800-280-8440.
This event features an all-star faculty that will provide a cornerstone meeting for investment advisers and compliance officers to get up to speed on the shifting regulatory landscape. 

2005 Forum Highlights:

  • Identifying and Mitigating Conflicts from the SEC’s Point of View
  • Sales Practices and Licensing Issues ¬- Performance Advertising
  • Compliance Best Practices
  • Code of Ethics – A Practical Guide
  • The Nuts and Bolts of the SEC’s Risk-Based Exam Program
  • Books and Records Comprehensive
  • Update from the SEC: The New IA Surveillance Program
  • How Litigation Trends Affect IA Compliance
  • Best Execution, Brokerage Practices & Changes to Soft Dollar Requirements
  • Implementation of the New Compliance Rule
  • Testing Your Compliance Policies and Procedures
  • Adviser Disclosure Requirements

Restatements Up

Little more than two years after the passage of the Sarbanes-Oxley Act, a record number of companies are revising their financials.

According to a new report by Huron Consulting Group, the number of amended filings for financial restatements surged more than 28 percent, to a record 414 in 2004 from 323 a year earlier. (Record Number of Restatements in 2004, CFO.com, 1/21/05)

Don’t Call Them Elections

An editorial in the 1/10/05 edition of Pensions & Investments advises the SEC that until they open up the corporate proxy to shareholder nominees for directors, “it ought to declare that companies can no longer use the term ‘election’ in regard to shareholder voting for candidates to the board of directors. Instead, the process should be called a ratification, ,just as shareholders now ratify – rather than elect – auditors.”

We agree, under the current shareholders can now only “withhold” votes or go through an extremely expensive process by forcing a proxy contest using a separate ballot. Corporate elections are not elections in any meaningful sense; calling them elections attempts to lend legitimacy to a process that can no longer be justified. The editorial closes with a call to the SEC to give shareholders guidance on “how to write a proposal on proxy access so they can at least vote on opening the process, even if the SEC itself won’t vote to change it.”

Demise of Defined Benefit Plans?

With California’s Governor Schwarzenegger endorsing an initiative to prohibit any government within the state from offering a defined benefit plan to its new employees, now comes new “evidence,” reported byCFO.com, of the “Demise of Defined Benefits.” In a study by Hewitt Associates of nearly 200 large companies, 27% said they “will consider” amending their defined benefit plan to exclude new employees from participation, and 20% “will consider” providing defined contribution plans only.

This contrasts with the current fact, among large employers, that only 17% percent of Fortune 100 companies have a DC plan as their primary benefit, according to Watson Wyatt. Most large employers continue to offer defined benefit plans as their primary retirement program and its use among large employers with 10,000 or more employees is increasing. The highly regarded Employee Benefits Research Institute (EBRI) found that since 1985, there was an actual increase in the number of large employers that offered a defined benefit plan as their primary retirement plan. This occurred during period of many corporate mergers of large firms, who had a unique opportunity to select one or the other.

How many of the firms which are considering DC plans will actually make the switch? More may be likely to do so if California votes to require it for new public employees. Participation in a defined benefit plan is far higher among full-time workers in state and local governments (90%) than among private-sector full-time workers (22%).

In a typical DB plan, 80 cents of each $1 is spent on members who retire; in a DC plan 50 cents of each $1 is spent on benefits. For retiring members to receive the same amount of benefits, contributions to the fund would need to increase substantially. That appears to be the least likely scenario. (see Background Material on California’s Pension Debate) Our take is that California’s iniative has little or nothing to do with saving taxpayers money and everything to do with silencing the voice of California’s public pension funds in challenging the dominance of CEOs in corporate governance.

NCPERS Offers Social Security Revamp

The current debate on how to revamp Social Security consists of misguided proposals that will not ensure the solvency of the Social Security system.  These proposals fall into three major camps: 

  1. personal accounts that cut current benefits,
  2. benefit cuts and tax increases, and
  3. minor adjustments that include mandatory coverage of newly hired state and local government workers. 

The National Conference on Public Employee Retirement Systems (NCPERS) released its plan that supports investment of the Social Security trust fund in the equity markets, but without the risks being placed on workers and without a reduction of current benefits.  NCPERS offers a proposal that provides solvency for the Social Security system, retains current benefits, does not increase payroll taxes on middle and lower income workers, and does not place workers’ benefits at risk.  It does not include mandatory Social Security coverage.   

The five-point initiative recommends investing 15% of the Social Security trust fund in equity market index funds, and 25% in state and local government bonds devoted “exclusively to rebuilding the infrastructure of cities, counties, and states.” Investment decisions would be made by a new, independent investment board to ensure the fund is professionally managed.

Major points include:

  • Invest 25% of the Social Security trust fund in state and local government bonds that are specifically designed to rebuild the infrastructure of our cities, counties and states.  The investments would be phased in until 25% of the trust fund assets are invested.  NCPERS estimates that the average return on such investments would be 5% a year over the long-term, would benefit state and local governments, and would help rebuild America, create jobs, and generate revenue. 
  • Invest 15% of the Social Security trust fund in equity market index funds. These investments would be phased in until 15% of the trust fund assets are invested. NCPERS estimates that the average return on such investments would be 8% a year over the long-term.
  • Establish an independent investment board to oversee these new Social Security trust fund investments.  Select firms through a competitive bidding process to ensure the funds are professionally managed, yet with the lowest possible administrative costs. No details were included on how corporate governance issues would be managed.
  • Create a new retiree Social Security COLA to reflect inflation costs affecting retirees.  The current cost of living adjustment (COLA) following retirement is based on wage growth and does not accurately reflect inflation costs affecting retired Americans.  This proposal would create a new Consumer Price Index-Retired (CPI-R) that would track inflation costs to preserve purchasing power against inflation once an individual started receiving Social Security benefits, though it would not change the calculation of the initial Social Security benefit levels. 
  • Set the total wage base taxed by Social Security to 90% of nationwide earnings.  Currently, the maximum payroll tax is $90,000 a year, which represents approximately 85% of nationwide earnings.  While this increase would not affect middle- or lower-income workers, it would result in approximately six percent of highly compensated employees paying more in Social Security taxes. 

Why Corporate Boards Should Blog

The blogging platform provides an easy, highly credible and transparent way for boards to establish serious, informal dialogue with all shareholders on an ongoing basis. It is a viable solution for the ideals expressed in recent Conference Board, National Association of Corporate Directors, and Council of Institutional Investors reports on improved board-shareholder communications. Why Corporate Boards Should Blogprovides an excellent introduction to the topic.

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Managing Pensions Governance Liability – Exploiting the US Experience

Date: 26th April 2005
Venue: The Dorchester, London
For further information: contact [email protected] or call +44 (0) 20 7017 4202

This conference provides a practical focus to make certain that your scheme’s governance practices are infallible. Drawing from the experience of US companies, the program will explore the key issues that arise from Sarbanes-Oxley compliance and its implications in the UK. Featuring leading industry speakers who have used tried and tested procedures, this info-packed day will prove invaluable to your governance practices. Sponsored by IBC Conferences, part of the Informa Group. Key issues to be covered:

  • Overview of how legislation stands in the UK
  • Lessons learnt from the US and how to capitalise on their experience
  • Creating and implementing internal control procedures
  • Panel discussion on transparency – what should and should not be transparent?
  • Impact of pension governance on employee and trustee liability insurance
  • Case studies – Independent Trustee and Plan Sponsor

Yerger to Head CII

Ann Yerger has been named Executive Director of the Council of Institutional Investors. Yerger joined CII in early 1996 as the director of the Council’s Research Service and was named deputy director in 2002. Before joining CII, Yerger was deputy director of the Corporate Governance Service of the Investor Responsibility Research Center. She is a Chartered Financial Analyst (CFA) charterholder and a member of the CFA Institute, as well as the Washington Society of Investment Analysts. She replaces Sarah Teslik who resigned in September 2004 to become the Chief Executive Officer of the Certified Financial Planners Board of Standards.

Good Governance Expert Steps Down After Double-Billing

The Wall Street Journal reports that Florencio Lopez-de-Silanes, who directed the International Institute for Corporate Governance (IICG) at the Yale School of Management (SOM) and advised governments and companies around the world on best corporate practices, will resign June 30 “as a result of financial misconduct and irregularities,” according to Yale spokesman Tom Conroy.

Lopez-de-Silanes allegedly double-billed the New Haven, Conn.-based institution for about $150,000 in business-travel expenses since mid-2001. He issued a statement acknowledging the error. “I made a mistake and I deeply regret any unintended harm,” he said. “I have taken appropriate corrective steps with all affected parties and I can offer no excuse except the intensity of my focus on my work. I am leaving Yale because it is the right thing to do for the institute and all concerned.” (Yale Univ: Renowned Economist Resigns Over Fincl Scandal, 1/10/05)

Lopez-de-Silanes has since reimbursed the University for funds that were allegedly misappropriated, according to an undisclosed source. (Prof resigns over fiscal misconduct)

Recommended Reader

Corporate Governance: Law, Theory, And Policy, Thomas W. Joo, editor (Carolina Academic Press 2004) This excellent reader on corporate governance presents a cross section of mostly academic perspectives on important current issues, including: the role of the corporation, balancing interests, state and federal law, shareholder litigation, criminal and regulatory law, shareholder voice, board composition, director duties in corporate takeovers, executive compensation, and corporate lawyers as gatekeepers.

Many of the articles are modern classics by authors well know to readers of CorpGov.Net, such as Margaret Blair and Lynn Stout, Marleen O’Connor, Stephen Bainbridge, Edward Rock, Roberta Romano, John Coffee, Mark Roe, Barnard Black, Charles Elson, Lucian Bebchuk, Martin Lipton, and Lawrence Mitchell, as well as significant contributions by the editor, Thomas Joo. Each chapter includes questions for classroom discussion or self-directed study.

Joo himself voices some rather revolutionary opinions. For example, in his 2001 essay, “The Modern Corporation and Campaign Finance,” he rejects the current legal model, which legitimizes wealth maximization but refuses to recognize other motives. ”The law should communicate society’s disapproval of the mercenary view by rejecting the presumption that shareholders always value wealth above their political preferences.”

Although his conclusion doesn’t appear, at that time, to support greater participation by shareholders, he did advocate limiting corporate participation in politics. “Law and markets have created organizations that favors the efficient over the expressive and, thus, have created organizations that deserve less First Amendment protection than individuals do.”

However, by the year 2003, Joo appears to be ready for greater shareholder democracy, criticizing the SEC proposed access rule as “too limited to have much impact. If the SEC is serious about empowering shareholders, the Division should reverse its interpretation that boards may exclude shareholder proposals with respect to voting procedures that ‘may result in contested elections of directors.’” We agree, as indicated in the next article.

Latest Flip is a Flop

Donaldson now says “We’re not going to do anything here (at the SEC on proxy access S7-19-03) until we get some kind of approach that makes sense to parties on all sides of the issue.” (SEC Chief Bent on Reform, Los Angeles, 1/9/05) If that is now what it takes, we can’t expect any movement. Why should CEOs agree to give up power? Donaldson was going to stand strong; what happened?

It is time to look at another simple option; delete the prohibition against shareholder resolutions on corporate elections. Instead of a one-size-fits-all rule, as the SEC proposed, allow shareholders to tailor election changes to each individual company. At one company, shareholders could seek to place several nominees for directors on the corporate proxy; at another, they could demand a shareholder advisory committee to review nominees; at still another, they could seek to collectively hire a proxy monitoring firm to provide independent advice on how to vote in future elections. Donaldson should stop flip flopping and should allow shareholders flexibility to address the needs of each company with custom designed corporate governance reforms.

WorldCom Director’s Pay a Price for Looking the Other Way

New York’s State Common Retirement Fund alleged the WoldCom board of directors had been “utterly derelict in carrying out its most basic functions” providing “no internal checks and balances on WorldCom management” and was “completely beholden to management.” More importantly, the Fund insisted that directors pay a significant portion of the settlement. In an unprecedented move, 10 former directors agreed to pay $54 million, including $18 million out of their own pockets.

The news came on the same day a preliminary settlement was announced requiring 10 former Enron Corp. board members to pay $13 million of their own money to resolve an investor lawsuit over the energy giant’s 2001 meltdown. The $13 million payout by former board members at Enron would be part of a larger $168 million settlement with the Regents of University of California, who were the lead plaintiffs on a class action lawsuit.

If anything will make directors think twice about dereliction of duties, this should do it. It “will likely have a jarring effect on anyone serving, or considering serving, on the board of a public company.” Directors who were paid about $35,000 a year are now liable to pay out millions. (Commentary: Ex-WorldCom Directors Agree to $54 Million Settlement by Bruce Carton, Executive Director, Securities Class Action Services, ISS Friday Report, 1/7/05)

The amount is said to total 20% of the directors’ aggregate net worth, not counting their primary residences, retirement accounts and certain joint marital assets. But Dan Ackman, writing for Forbes.com, says “Of course, if you exclude primary residences, retirement accounts and certain joint marital assets, most people, even fairly well-to-do people don’t have much of a net worth at all, so taking those categories out of the mix would seem to render the 20% figure fairly meaningless.”

“If company directors perceive the WorldCom settlement as a warning, then it’s a warning,” according to Ackman but class action suits recover only a pittance of what has been lost. Indictments for fraud have also leveled off. “Despite WorldCom and Enron all the whining and crying about Sarbanes-Oxley, the numbers underneath seem to show that the real story is business as usual.” (Accounting For The WorldCom Deal, 1/6/05)

The consensus, however, seems to be that it will have an impact. Charles Elson, director of the Center for Corporate Governance at the University of Delaware said, “directors will certainly seek to avoid any conflicts of interests like the plague. But will anybody want to serve on a board? That’s the question.” Roger Raber, president and CEO of the National Association of Corporate Directors said, “WorldCom was an egregious example, but now, if something goes wrong anywhere else, they’ll go after the directors. That’s a terrible precedent to set.” (WorldCom settlement could have long-reaching effect on corporate boards, Canada.com, 1/9/05)

Yet, what is so terrible about holding directors personally accountable for their actions? Why should insurance companies pay for what the New York’s State Common Retirement Fund characterized as utter dereliction of duties? “If directors want to play cheerleader, there’s a price to pay,” warns Patrick McGurn, special counsel to Institutional Shareholder Services. “Being a director isn’t what it used to be. But maybe, at last, it’s what it should be, wrote Daniel Kadlec for Time Magazine. (A Wake-Up Call For Directors, 1/17/05)

Ten former Enron directors also agreed to pay $13 million of a $168 million settlement from their own assets to settle litigation brought by shareholders whose investments were wiped out after the failed U.S. energy giant’s 2001 bankruptcy filing. In the Enron case, $60 billion of shareholder valuee wiped out. The out-of-pocket settlement by directors equaled 10% of their pretax profit from Enron stock sales. According to Lucian Bebchuk, a professor at Harvard Law School and co-author of Pay Without Performance, “the settlement hardly heralds a new era in which directors who fail to act in shareholders’ interests pay the price. If even Enron’s board members are treated this gently, then other corporate directors can rest easy.” (see NYTimes, 1/17/05, What’s $13 Million Among Friends?)

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Halliburton Resolution Still Under Contention

The American Federation of State, County and Municipal Employees Pension Fund (AFSCME) has urged the SEC to reject Halliburton’s request to exclude from its proxy a proposal (submitted with the Connecticut Retirement Plans and Trust Funds, New York City Employees’ Retirement System, and the New York City Teachers’ Retirement System) giving Halliburton shareholders the right to nominate up to two directors to the firm’s 11-member board. In mid-December, Halliburton asked the SEC staff for assurances that it might exclude the proposal from consideration. It is still pending no-action review by SEC staff

AFSCME’s shareholder rights efforts at Halliburton follow the pension system’s similar moves at Walt Disney. SEC staff announced in early December that it would not allow Disney to block a shareholder director nomination resolution but later reversed itself, decreeing the proposal may be excluded from a vote by Disney shareholders.

The SEC’s 2003 shareholder access proposal is still under consideration but faces intense opposition from business groups, whose members fear losing not only power and control, but also their jobs. While a rule is being considered, the SEC often lets shareholder proposals proceed, if they closely mirror the proposed regulation’s provisions.

This season, the SEC staff has repeatedly rejected proposals to give shareholders a greater voice in nominating corporate directors at Qwest Communications and Verizon Communications. However, according to AFSCME, drafting problems the SEC staff identified with the Qwest, Verizon and Disney proxy access proposals “are not present” in the resolution drafted on behalf of Halliburton shareholders. The Halliburton proposal specifies that an individual or group of shareholders would be eligible to nominate directors if they have owned more than 5% of outstanding shares for at least two years, exactly the same high threshold used by the SEC in its rulemaking proposal.

Gerald W. McEntee, Chairman of the AFSCME Employees Pension Plan, said “AFSCME Plan proposals are aimed at giving shareholders the voice they have been denied by insisting that failed boards be more responsive to investors. Until the SEC proposes a workable proxy access rule that is fair to investors, the Plan will push for the right to nominate directors, company by company. In 2005 we will be focusing on nominating rights, excessive pay, ignored majority votes, and insular boards that continue to show a lack of director accountability to shareholders.”

AFSCME submitted proposals at 19 companies, according to their press release. Notably, one seeks to establish a shareholder majority vote committee at Maytag because the board has not implemented multiple majority votes to declassify its board. AFSCME’s proposal would amend Maytag’s bylaws to require the creation of a board committee that would meet with shareholder proponents pursuant to any unimplemented majority vote. (see AFSCME press release)

Split Roles Pay

According to Richard Bernstein, chief U.S. strategist at Merrill Lynch, companies in the top 100 of the S&P 500 with split chairman and CEO outperformed those that combine the roles during the last decade. Corporations with split roles posted a 22% annual return since 1994, outpacing the 18% return earned by firms that did not. (Independent Board Chairs Remain a “Priority,” mentioned again in the 1/7/05 ISS Friday Report)

Push Back Escalates

California Assemblyman Keith Richman filed a ballot initiative to establish a 401(k)-style pension plan for public employees in California. The proposal calls for all new public employees of state and local governments hired after July 1, 2007, to be offered only a defined-contribution plan, rather than the traditional defined benefit pension plan.

California Governor Arnold Schwarzenegger said that “Like the budget itself, our state pension system is another financial train on another track to disaster,” in his second annual address to the legislature, where he endorsed plans to phase out the state’s defined-benefit public pensions in favor of defined-contribution plans similar to 401(k) retirement plans in the private sector.

He failed to mention that 80% of the Fotune 100 companies have a defined befit plan. The average pension benefit paid by CalPERS is less than $20,000 a year for employees with nearly 20 years of service. Most public sector workers make less than they would in the private sector. Their “fat” pension benefits are basically a form of deferred compensation.

The movement is an attempt to do away with Ameirca’s top corporate watchdogs and to channel millions of dollars to money market managers. It has nothing to do with saving taxpayer money.

CSR Demands Openness of Executive Pay

Wes Pedersen, director of communications and PR at the PublicAffairs Council advises “gather your company’s executive pay statistics for the year and be prepared to offer the board justification of your bosses’ compensation if the press comes calling. Excessive executive pay is a blot on corporate image that has defied erasure or camouflage for years. Openness is the only
way to go.”

Not since the excesses of the Gilded Age that produced 1929’s stock-market collapse and the Great Depression ‘have we witnessed so much reputation fallout in the corporate section,’ says Dr. Charles Fombrun, executive director of the Reputation Institute. An analysis in the Financial Times last month began: “Corporate social responsibility has never been more prominent on the corporate agenda. It is the subject of articles in the business press and a favorite topic at meetings of the World Economic Forum. Yet the broad view from civil society is that business’s performance on CSR has never been worse.”

Pedersen’s advice is to get CSR out of the basement. Starbucks and Unilever are succeeding in CSR because their managements see CSR as centrall to their mission, rather than an add-on. CEO pay, the Financial Times notes, is now back up to more than 500 times that of the average US worker. Sarbanes-Oxley and shareholder actions have made the corporate world more transparent. (Managers Must Emphasize CSR’S Value ’05, PR Week, 1/3/05)

Executive Confidence Wanes

A year-end survey of some 16,500 executives from 148 countries shows a significant drop in confidence. Competition is intensifying, especially in pricing. Even so, most plan to hire and pursue new markets. “The McKinsey Global Survey of Business Executives, November 2004” also poses several questions on strategy, including what factors count most when companies invest in the emerging world and how they divide their focus between short- and long-term strategies.

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Costco Vote

A resolution filed by Christian Brothers Investment Services, Domini Social Investments, Sierra Club Mutual Funds, Adrian Dominican Sisters, and other shareholders, at Costco Wholesale appears on the proxy ballot as #4 “Shareholder Proposal Relating to a Land Procurement Policy.” It asks the company to report on the development of a policy for land procurement and use that incorporates social and environmental factors.

The proposal stems, in part, from a 2001 incident in Cuernava, Mexico where the site of a new store contained what many believed to be an architecturally significant hotel, the Casino de la Selva, that had long been an artistic center and contained renowned murals. Residents were also concerned about the loss of the hotel’s wooded grounds, the presence of pre-Columbian artifacts at the site, and the project’s impact on traffic.

Thousands of Cuernavacans reportedly demonstrated against the project in 2001 and a federal lawsuit is pending in Mexico against the authorities who approved Costco’s project.

As a Costco shareholder, the publisher of CorpGov.Net endorses the proposal and believes Costco would enhance its reputation and substantially reduce the likelihood of future liabilities by requiring future property acquisitions and site development projects be subject to the equivalent of a review under the California Environmental Quality Act (CEQA), in addition to meeting any local requirements. Such a review would disclose how Costco has assessed and addressed potential impacts to air, water, noise, geology, traffic, biological resources, aesthetics, cultural resources, and several other factors. Any such process should invite and address public comments.

As Costco expands to other countries, such a process will establish their reputation as a retailer that is concerned with its customers and their environment. It would build good will and guard against potential liabilities. Please join us in voting in favor of this shareholder resolution.

Marionette Directors

The current Saudi corporate form of organization is unworkable, according to Abdelmenem Jamil Addas, a professor of financial markets, at the College of Business Administration in Jeddah. Boards of directors, elected by shareholders and acting as fiduciaries on their behalf, were supposed to keep executive managers accountable to their fiduciary duties of care and loyalty while allowing them great discretionary power over the conduct of the business.

Unfortunately, according to Addas, “directors are ‘merely marionettes’ driven by the CEO. Whenever an institution malfunctions as consistently as boards of directors have in nearly every major Saudi corporation it is futile to blame men. It is the institution that malfunctions.” The professor appears to call an end to speculation and a return to the dignity of honest trade merchants. (Are You Sure You Want to Take Your Company Public?MENAFN.COM, 1/3/04)

CalPERS Bashing

Several newspapers picked up an Associated Press item, starting the new year off with an article about businesses going after public pension funds and especially CalPERS. Recent criticism includes:

  • Published comments by officials at the American Enterprise Institute, a conservative think tank, that public pension funds shouldn’t get voting rights with their stock holdings and that their “intrusions” must be stopped with possible legal action.
  • A report by the Center for Security Policy, a group of former Reagan administration officials and conservative business interests, that raised questions about the practices of the nation’s top 100 public pension funds. It said they’ve invested $188 billion in foreign companies that do business with “terror-sponsoring” nations.
  • The Business Roundtable, a group of CEOs, many of them major financial supporters of President Bush, helped block a proposed SEC rule change giving pension fund and other shareholders rights to nominate corporate directors.
  • Some state legislators are also siding with business. California Republican Assemblyman Keith Richman recently introduced ACA 5that would eventually weaken CalPERS’ clout over time, requiring new state employees after 2007 to use individual retirement accounts. Aides deny it’s an attack on CalPERS’ influence nationally. “Assemblyman Richman is trying to reform California’s pension system because we are making commitments to employees now that we cannot pay for in the decades ahead,” said Dan Pellessier, Richman’s chief of staff.

Alongside such moves, The Wall Street Journal dubbed CalPERS, a national leader in corporate governance activism, a “corporate scold,” while Business Week called it “the pension fund that cried wolf.” (Businesses rein in activist pension funds, The Seattle Times, 1/1/04) What these articles don’t provide is adequate background on the California pension debate. That can be found on the California Professional Firefighters site.

Director Emeritus: Growing Trend

Corporate Board Member Magazine reports findings of The Corporate Library,107 former board members now hold the title of emeritus or honorary director, compared with 60 in 2003…and that’s just those reporting. Dan Dalton, director of the Institute for Corporate Governance at Indiana University’s Kelley School of Business, says many companies don’t disclose emeritus directors in their regulatory filings.

Lack of disclosure is legal, since they don’t vote and SEC rules don’t address them. Nor do directors emeritus face any specific requirements to file insider reports for stock trades, or any other restrictions. Frequently used in mergers or to ease out a company founder, the job usually offers directors the opportunity to keep their unvested options, restricted stock grants, health insurance, and other financial benefits. But Nell Minow, of The Corporate Library wants to know who they work for and what their duties are. “We have a very clear idea of the obligations and authority of directors. But we’re really in uncharted territory with the director emeritus.”

Minow worries that a company founder may chill debate. Advocates of emeritus directors cited in the article advise companies to build the position into the company’s bylaws or create a formal emeritus program that spells out the job description and compensation, including such specifics as how many meetings they’re expected to attend. Additionally, they should be required to adhere to the same blackout periods and trading disclosures required of its regular directors and insiders. (seeBoom Times for the Director Emeritus by John R. Engen)

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Frank is Doing Fine

Like we were worried. He leaves a $9 billion hole in Fannie Mae’s financial ledgers and takes a $1.3 million/year for early retirement. Peter Flaherty of the National Legal and Policy Center says “Let me get this straight. Raines apparently cooks the books, brings disgrace to the company, and imperils Fannie Mae’s standing with regulators, the Congress and administration. So for his punishment he is made wealthy for the rest of his life?”

According to a December 27 Form 8-K filing with the Securities and Exchange Commission, Raines is entitled to:

  • “Deferred compensation” of $8.7 million.
  • Stock options currently worth $5.5 million, and potentially millions more.
  • “Performance Share Payouts” through 2006, potentially worth millions more.
  • A monthly pension of $114,393 for the rest of his life, and for the life of his spouse should she survive him.
  • Free medical and dental coverage for the rest of his life, as well as for his wife for the rest of her life, and his children until age 21.
  • Free life insurance in the amount of $5 million until age 60, and $2.5 million thereafter.

Raines said that, “By my early retirement, I have made myself accountable.” Flaherty reacted by saying, “It is like Enron and Tyco never happened. I cannot even fathom the level of arrogance and self-delusion necessary for Raines to claim he’s been made accountable for his mistakes.” Flaherty continued, “The OFHEO regulators have taken the right step in reviewing Raines’ compensation. But if Fannie Mae executives inflated profits to increase their own bonuses, that is fraud. Political connections should not insulate corrupt executives from criminal prosecution, if it is warranted.”

“This is not a case of foolish or captive directors rewarding a failed executive with a golden parachute. Fannie Mae is not really a private company. It has been granted advantages in the marketplace by Congress that are worth billions of dollars. Raines is not only fleecing Fannie Mae, but also the taxpayer.”

“Raines was never really a private-sector corporate executive. His CEO position was more of a political plum. Most of his career was spent in political appointments or at Fannie Mae itself.

I guess joining the Institute for Corporate Ethics at the University of Virginiadidn’t help. Raines gains little sympathy from this publisher. Even before this recent scandal, I was upset with his strident opposition to the SEC’s proxy access rule.

Raines will rebound by returning to a top position in public service or business, his supporters said. ”This is a bump in the road — I’m sure Frank will find his way,” Leon Panetta said. Raines is a director of PepsiCo, Pfizer, and is co-chairman of the Business Roundtable. (The rise and fall of Fannie Mae’s Franklin Raines, The Morning Call, 12/30/04) Also see The Five Dumbest Things on Wall Street This Week by George Mannes, TheStreet.com, 12/31/04.

Buffett Probed

Berkshire Hathaway, controlled by Warren Buffett, says the SEC has requested information from its General Re insurance unit about the sale of products that can be used by companies to smooth earnings.

They are reportedly examining the sales of “finite” insurance products, which allow insurers to spread their risk of loss, allowing other insurers to take on additional risk in exchange for additional premiums. If the insurer agrees to return premiums at a later date, the product is considered a loan in violation of accounting rules.

Since Buffett has been a vocal critic of accounting manipulation, his reputation is on the line. (SEC probes Buffett insurer, The Sydney Morning Herald, 1/1/2005)

Calvert Publishes Sustainability Report

Calvert, published its first Sustainability Report using Global Reporting Initiative (GRI) guidelines. The 50-page report detailing Calvert’s economic, social and environmental performance is available on the firm’swebsite.

“For years, Calvert has advocated greater disclosure and transparency on the part of the companies we invest in. We believe social and environmental disclosure is not only relevant but highly material to investors” says Barbara J. Krumsiek, President and CEO of Calvert. “We therefore felt it was important to report to Calvert’s shareholders and other stakeholders on how we are discharging our own social and environmental responsibilities.”

Calvert is the first US-based socially responsible mutual fund firm and one of only a small number of US-based financial services companies to publish a Sustainability Report following the Guidelines. It attempts to integrate the GRI Guidelines with the company’s own social and environmental criteria, which it uses in researching corporate performance for its own portfolio selection purposes. The report focuses on Calvert’s performance in seven issue areas:

  1. corporate governance and business ethics;
  2. workplace issues;
  3. environment;
  4. product safety and impact;
  5. international operations and human rights;
  6. Indigenous Peoples’ rights; and
  7. community relations.

“As so much of our business involves assessing the social and environmental performance of others, it was a natural progression for Calvert to turn the mirror on ourselves,” says Ms. Krumsiek. “We hope it enables our shareholders, clients and other stakeholders to learn more about how we conduct our business and how we measure our progress towards corporate social responsibility and sustainability. We also hope that it encourages other companies – in our sector and beyond – to rise to the challenge of transparency and sustainability reporting.”


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Best Book of 2004

Pay Without Performance

Pay Without Performance: The Unfulfilled Promise of Executive Compensation was the best book published in 2004 in the field of corporate governance. Lucian Bebchuk and Jesse Fried focus on one aspect of corporate governance, executive pay, and clearly demonstrate that many features of executive pay are better explained as a result of shear managerial power, rather than arm’s-length bargaining by boards of directors.

After thoughtful analysis, they find “systematic use of compensation practices that obscure the amount and performance insensitivity of pay, and the showering of gratuitous benefits on departing executives.” The cost of current corporate governance systems is weak incentives to reduce managerial slack or increase shareholder value and “perverse incentives” for managers to “misreport results, suppress bad news, and choose projects and strategies that are less transparent.”

Their recommendations on improving executive compensation are clearly aimed at eliminating or reducing some of the most egregious of the practices of those they document. Interestingly, the recommendations are written to shareholders, apparently because there is little likelihood such reforms will be raised by even “independent” directors without further corporate governance reforms. A few examples are as follows:

  • To reduce windfalls in equity-based plans, shareholder should encourage that at least some of the gains in stock price due to general market or industry movements be filtered out. “At a minimum, option exercise prices should be adjusted so that managers are rewarded for stock price gains only to the extent that they exceed those gains (if any) enjoyed by the most poorly performing firms.”
  • Executives should be prohibited from hedging or derivative transactions to reduce their exposure to fluctuations in the company’s stock and should be required to disclose proposed sale of shares in advance to reduce perverse incentives to benefit from short-term gains that don’t reflect long-term prospects.
  • Do not provide large payments to executives who depart because of poor performance.
  • The compensation table should include and should place a dollar value on all forms of “stealth” compensation, such as pensions, deferred compensation, postretirement perks and consulting requirements.
  • Allow shareholders to propose and vote on binding rules for executive compensation arrangements.

Although many directors now own shares, their related financial incentives are still too weak to induce them to take on the unpleasant task of firmly negotiating with their CEOs. Recent reforms requiring a majority of independent directors, and their exclusive use on compensation and nominating committees, may be beneficial but “cannot be relied on” to produce the kind of arm’s length relationship between directors and executives needed. CEOs retain influence over director compensation and rewards, as well as social and psychological rewards. “The key to reelection is remaining on the company’s slate.” Remaining on good terms with the CEO and their director allies continues to be the best strategy for renominatation.

Executive compensation “requires case-specific knowledge and thus is best designed by informed decision makers.” They conclude, “While we should lessen directors’ dependence on executives, we should also seek to increase directors’ dependence on shareholders.” After discussing the now failed “open access” SEC proposal to grant shareholders the right to place a token number of candidates on the ballot after specified “triggering events,” the authors propose the following significant corporate governance reforms:

  • Access to the ballot should be granted to any group of shareholders that satisfies certain ownership thresholds. Their example is 5%, held for at least a year.
  • Such slates should be able to replace all or most incumbent directors in any given year.
  • Companies should be required to distribute the proxy statements of shareholder nominated candidates and should be required to reimburse reasonable costs if they garner “sufficient support.”
  • Legal reforms should require or encourage firms to have all directors stand for election together.
  • Shareholders should be given the power to initiate and approved proposals to reincorporate and/or adopt charter amendments.

In their conclusion, the authors recognize the “political obstacles to the necessary legal reforms are substantial” and that “corporate management has long been a powerful interest group.” The demand for reforms must be greater than management’s power to block them. “This can happen only if investors and policy makers recognize the substantial costs that current arrangement impose.” Pay without Performance will certainly contribute to such recognition. It should be required reading for every fund fiduciary, SEC board and staff, as well as all members of Congress. Shareholders should read while sitting down.

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Corporate Governance: Law, Theory, And Policy

Joo-CGCorporate Governance: Law, Theory and Policy, edited by Thomas W. Joo (Carolina Academic Press 2004), this excellent reader on corporate governance presents a cross section of mostly academic perspectives on important current issues, including: the role of the corporation, balancing interests, state and federal law, shareholder litigation, criminal and regulatory law, shareholder voice, board composition, director duties in corporate takeovers, executive compensation, and corporate lawyers as gatekeepers.

Many of the articles are modern classics by authors well know to readers of CorpGov.Net, such as Margaret Blair and Lynn Stout, Marleen O’Connor, Stephen Bainbridge, Edward Rock, Roberta Romano, John Coffee, Mark Roe, Continue Reading →

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International Corporate Governance Review 2005

The 3rd edition of Corporate Governance Review brings together the thoughts of industry experts and regulators, making the review the essential reference tool. The Review focuses on major cross-border topics and developing global trends.

Contributors include practitioners from the OECD, EBRD, and the IFC. The review also features regional and country-by-country reviews and a detailed statistical appendix listing companies and countries and their standards of corporate governance. Also included is a fully updated directory listing essential business contacts.

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