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Alarm Bells at Waddell & Reed

Shareowners of Waddell & Reed Financial Inc. will soon receive a troubling letter from CEO Henry Herrmann in advance of the company’s April 7 annual meeting.  In a special solicitation filed alongside the company’s proxy statement, Mr. Herrmann claims in bold print that giving shareowners an advisory vote on his compensation and that of other executives could put the company “at a serious competitive disadvantage and could erode the value of your investment.”  Mr. Herrmann further exclaims that an advisory vote could “reduce executive compensation below competitive levels,” “lead to the loss of executive talent” and that a vote of disapproval on the company’s compensation policies and practices “creates the risk of unintended consequences and negative publicity.” He also sent an alarm to his own employees.

It is hard to reconcile the alarmist picture painted by Mr. Herrmann with reality.  To date, over 60 companies have pledged to implement say on pay including financial leaders such as Goldman Sachs, JPMorgan Chase, Capital One, Ameriprise Financial, Morgan Stanley, Wells Fargo, State Street, Bank of New York Mellon and hundreds of other financial institutions that received TARP funds, many of which voluntarily agreed to continue the advisory vote after their TARP obligations ended.  Furthermore, in 2009, Waddell & Reed announced that 50.6% of its very own shareowners supported an advisory vote on executive compensation.  The company later reported that just under 50% of shareowners supported the reform after the company took the extraordinary step of asking the Delaware Chancery court to re-open the polls and count missed votes it identified as being cast against the reform.

Dawn Wolfe, Associate Director of ESG Research at Boston Common Asset Management, the firm leading the advisory vote initiative at Waddell & Reed for the past three years issued the following statement:

Mr. Herrmann’s letter contradicts the positive responses from companies that have implemented an advisory vote. In addition to the numerous companies that have implemented say on pay, rejecting the notion that it will erode shareholder value, institutional investors actively involved in promoting good governance publicly support this reform, including the State of Connecticut, CalSTRS, CalPERS, TIAA-CREF, and the Council of Institutional Investors. Waddell & Reed is one of the outliers in its aggressive campaign against this important reform, and that concerns us as shareowners.

California State Teachers Retirement System (CalSTRS) and Calvert Asset Management are co-proponents of the advisory vote proposal at Waddell & Reed Financial, Inc. this year. Anne Sheehan, CalSTRS director of corporate governance, said:

CalSTRS has a long history of promoting responsible compensation policies that link pay to performance and align shareholder and management interests and that is one reason we support an advisory vote on pay. We view say on pay as a way to help improve long-term returns and as shareowners of Waddell & Reed Financial we are asking the company to adopt this important reform.

Waddell & Reed Financial’s 2010 Annual Meeting of Stockholders will take place at 10:00 a.m. CDT on Wednesday, April 7, 2010 in Overland Park, Kansas. “Financial services companies such as JPMorgan Chase and American Express have voluntarily adopted say on pay.  Waddell & Reed’s position on this reform is clearly out of line with its peers and general public opinion on executive pay,” said Aditi Mohapatra, Sustainability Analyst at Calvert Asset Management.

The Waddell & Reed letter goes on to argue the proposal would not “result in meaningful dialogue with stockholders.”  Experience simply proves this false.  “Scores of companies that have implemented an advisory vote on executive compensation are demonstrating that it can and does stimulate dialogue, especially when the company reaches out and seeks investor advice and input,” stated Tim Smith, Senior Vice President of the Environment, Social and Governance Group at Walden Asset Management and a primary organizer of the say on pay campaign with the American Federation of State, County, and Municipal Employees (AFSCME) union. See their January letter to 17 financial institutions.

“Waddell & Reed is attempting to manipulate its shareholders through scare tactics,” said AFSCME President Gerald W. McEntee. “The time has come to implement an advisory vote on Say on Pay. Sixty companies have made the commitment already. It’s time that Waddell & Reed did the same.”

Despite growing investor support for this reform, Mr. Herrmann’s alarmist letter is just the latest in a string of actions by Waddell & Reed Financial to undermine say on pay.

In February, Boston Common, CalSTRS, and Calvert submitted a letter to the SEC arguing that the company’s proposed statement formally urging a vote against say on pay in the proxy was materially false and misled shareowners in stating that none of the company’s peers had adopted a similar reform.  Waddell & Reed later altered its statement.

At the 2009 annual stockholder meeting, Waddell & Reed announced that the say on pay proposal received over 50 percent support from investors.  Over 3 months later, the company filed its 10-Q with the SEC, stating that the proposal did not receive majority support.  Investors were left in the dark about why the result changed between the annual meeting and the quarterly report.  During that period, Waddell & Reed Financial argued to the Delaware court that it should be allowed to retroactively count approximately 3.2 million additional votes, more than 2 months after the close of the polls.

Henry Hermann claims that “the company supports the goal” of letting stockholders provide feedback on compensation practices by directly contacting the Board or Compensation Committee.  Shareowners tried that method as well, only to receive correspondence from the company’s legal department on March 3, 2009 that “management does not desire, nor see any need for, further discussion.”  It appears painfully obvious that Waddell & Reed has no interest in communicating with shareholders on executive compensation in any form.

Coming on the heals of Apache’s SLAPP suit against John Chevedden, we’re beginning to see something rear guard action by desperate CEOs afraid of working in partnership with owners.  It took until 1987 for shareowners to finally win their first resolution. By 2007 shareowners were winning 24% of those taken to a vote. That has since gone up to 30% in 2008 and 37% in 2009. Last year, “say on pay” proposals averaged 46% support. The tide is turning toward more democratic forms of corporate governance. What could be more reasonable than giving shareowners some say, in the form of an advisory vote, on pay?

Mr. Herrmann earned almost $10 million dollars last year, according to Forbes. I notice he didn’t include that information in his letters to shareowners or employees. However, a recent issue of Proxy Governance Spotlight said: “Company has reasonable pay.” Additionally, The Ontario Teachers’ Pension Plan announced it won’t support shareholder proposals for “say on pay” advisory votes at companies, arguing that “say on pay” is new to many companies: “We do not wish to unfairly burden companies that are making efforts to involve shareholders in compensation matters by voting against management advisory compensation proposals.” (RI round up – 3/26/10) Although reasonable people can differ, Waddell and Reed’s opposition still appears a little over the top.

For further background on say on pay, see Say on Pay Facts and Background (compiled by the AFSCME Office of Corporate Governance and Investment Policy),  Say on Pay: Where Are We Heading in North America? (from 3XCD) and  The Herrman doth protest too much, methinks (The Corporate Library). Thanks also to the Shareholder Forum.

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CorpGov Bites

“In many ways, 2010 is the Foundation Proxy Season. By next year, the world will be changed. It is likely that both say-on-pay and proxy-access measures will be mandated. Directors will undoubtedly face greater scrutiny and more challenges than ever before. As a result of these impending challenges, boards must use the 2010 season to lay a strong foundation that prepares them for the future. That means building relationships with investors and strengthening management teams and boardroom rosters.” (This Proxy Season: Bowling for Ballots, Directorship, 2/11/10) Like always, Patrick McGurn provides the best insights into this year’s proxy season.

For excellent analysis of Citizens United, see Jay Brown’s theRacetotheBottom.org. Rallying place for action seems to be Shareowners.org.

For companies trying to figure out how to address the new disclosure requirements related to board qualifications, leadership structure, risk oversight, etc., Broc Romanek has you covered, offering up samples at TheCorporateCounsel.net Blog. (Samples: Companies Complying with the SEC’s New Rules, 2/11/10)

Ceres, in collaboration with Bloomberg and UBS, launched a new benchmarking study today called Murky Waters: Corporate Reporting on Water Risk.” The report (available here) ranks 100 publicly-traded companies in 8 water-intensive sectors on their water risk disclosure: beverage, chemicals, electric power, food, homebuilding, mining, oil & gas, and semiconductors.

Senate Bill 1007, by Democratic Sen. Loni Hancock of Berkeley, would require candidates for board seats with the California Public Employees’ Retirement System and the California State Teachers’ Retirement System to file ongoing campaign contribution and spending reports during and after an election. (Bill would boost CalPERS, CalSTRS election transparency, From The Capitol, 2/10/10)

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Directors Forum 2010

First, a precautionary note about this post. These are strictly my impressions. There is no intention here to present juicy findings with regard to any corporation, fund, individual etc. My purpose is simply to help facilitate dialogue and understanding.  Keep this in mind as you read my notes, as well as the following. One of the panelists from a government agency began with the standard disclaimers about how what he said was his opinion alone and did not necessarily reflect the views of his agency. Ted Mirvis, a partner with Wachtell, Lipton, Rosen & Katz interrupted, as I recall, saying something to the effect that he not only disavows the applicability of any of his statements to his firm, he also disavows their applicability to himself. That got a laugh, but says it all. The conference was the perfect venue for throwing out ideas and seeing what sticks… what resonates with those attending. We can learn a lot from that.  Of course, there were also plenty of hard facts.

Your comments and especially your corrections are welcome. To comment directly on the blog, you’ll need to register first. Just press the “No comments” button and it wil step you through registration, if you aren’t already registered. (This process cuts down on spam.) If you don’t want to bother registering, you can always e-mail your comments directly to [email protected]. Your feedback on my coverage, the topics and the conference itself are important to me.

Prior to the dinner, there was a networking reception held outside the Joan B. Kroc Institute for Peace & Justice… a wonderful facility in a beautiful setting overlooking the northern part of San Diego. My little point and shoot camera can’t do the place justice. I’m sure the Forum will have much better photos on their site, perhaps on the Conference Materials page where you will find a wealth of studies, books and other resources.

Keynote: The Honorable Leo E. Strine, Jr., vice chancellor, Delaware Court of Chancery.

At the dinner to kick off Directors Forum 2010, Strine’s main point seemed to be that we can’t expect corporations to act in the long-term interest of shareowners if most investors are rewarding short-term performance. He looks at corporations as republics, rather than direct democracies. Regarding proxy access, he appears to favor the opt-in option to encourage innovation without imposing a government mandate. Shareowners who propose changes should have long-term holdings, whereas most activists hold only a short time. They should have a substantial positive interest and disclosure should be required so we know they aren’t shorting.

Adolph Berle discussed separation of ownership from management and control but now we have separation of ownership from ownership. Too many fund managers are looking out for their own interests, rather than those of beneficial owners. Hedge funds are turning over their shares three times a year. Active mutual funds are holding only for a year on average. At the NYSE turnover was 130% in 2008 and 250% in 2009. Owning Intel 14 times in 10 years isn’t being a long-term owner by Strine’s measure. Institutional investors have been too little concerned with risk management and utilizing leverage. Too many are focused on getting rid of takeover defenses, stock buy-backs and replacing CEOs who don’t yield the highest short-term returns. We’ve been driven to the point that 280 out of the S&P 500 spent more on stock buy-backs than on investments.

Strine ended by quickly throwing out some reform ideas to consider. I didn’t get them all down but here are a few:

  • Pricing and tax to discourage short-termism.
  • Build fundamental risk analysis into corporate governance measures.
  • Compensation of investment managers based on the horizons of beneficiaries and beneficial owners.
  • 401(k) and college plans consistent with those time horizons.
  • Indexes should act and vote consistent with long-term
  • Limitations on leveraging and disclosure by hedge funds
  • Fixing the definition of “sophisticated investors.” Many trustees are sophisticated investors and shouldn’t be able to take their funds into unregulated pools. If pools dry up, that may lead hedge funds to disclose, since they need that capital.
  • We need to know more about hedge funds – your positions, your voting policies, etc.
  • Investors should focus less on leverage and gimmicks, more on real cash flow and perfecting business strategies. Let’s get away from checklist proposals.

See also Overcoming Short-termism: A Call for a More Responsible Approach to Investment and Business Management, The Aspen Institute.Linda Sweeney Also of note is Governance at Fortune’s 100 Best Companies to Work For, The Corporate Library Blog, 2/5/10. Most of the companies which excel in the employee satisfaction are privately held. Among those that are public, company founders or families have a disproportionate ownership stake. These firms feel less pressure to meet quarterly expectations and can take more of a long-term perspective.

Welcome & Introductions from Linda Sweeney, executive director, Corporate Directors Forum; Larry Stambaugh, conference program chairman, Corporate Directors Forum. I must say, Linda, Larry, Cyndi Richson and Jim Hale have built this conference into a premier event.

Plenary Session: Shareholder Hot Topics
Moderator Cynthia L. Richson, president, Richson Consulting Group; former member, PCAOB Standing Advisory Group, former head of corporate governance, OPERS & SWIB. Panelists – Patrick S. McGurn, special counsel, RiskMetrics Group , ISS Governance Services; Jennifer Salopek, chairman, Charlotte Russe Holding, Inc. principal, ARC Business Advisors LLC; Andrew E. Shapiro, president, Lawndale Capital Management, LLC; John Wilson, director, Corporate Governance, TIAA-CREF.

Cynthia RichsonAgain, there was some focus by panel members of long-term vs. short. Are compliance driven measures and the use of compensation consultants driving oversized compensation? Some seem concerned that directors are more focused on compliance and in developing a plan that can be explained than they are in coming up with the best package. Also of concern, last year’s rally may lead to out-sized awards implemented last March or April.

As several others at the conference also pointed out, options are a vestige of the tax system… better to see restricted stock granted as performance targets are met. The feeling expressed by many is that the tax system shouldn’t be driving the form of C-Suite pay. There is also a tendency by a shareowner elite to focus on exit that leads many companies to underinvest in strategy, R&D,  and management systems.

Shapiro sees a wave of management led buyouts on the horizon as well as activism by creditors to address over leveraged balance sheets and liquidity problems. He is buying up debt that can be converted to equity… reamortizing balance sheets. He expects this to continue for several years because of limited economic growth. Management is likely to see the light at the end of the tunnel first and will use that advanced knowledge to look for private buyout opportunities. He sees too many no-shop clauses, rights of first refusal and other deal protectors that give a control premium to management. In these situations, independent directors should seek real competition through an auction.

John Wilson was asked about how proxy access would be impacting TIAA-CREF. He responded that ideally they will have access rights and never use them. Just having that power should lead to more dialogue between shareowners and companies. They will look at each situation individually and may side with as access filer or management.

Pat McGurn said these types of contests will be management’s to lose, not to win. RiskMetrics will need to be convinced of the need for change. It will be something of a last resort, like just vote no campaigns. Many are likely to settle out before proxies are finalized, either through trade-offs or board enlargement. He also noted that out of 12,000 board candidates up for election last year, fewer than 100 didn’t get elected. Many such contests are coming at companies that don’t have majority vote requirements.

Shapiro and others pointed out the real impact of proxy access may be overblown, since not much will be saved by having a universal proxy card. Challengers will still need to campaign and that costs money. Additionally, many hedge funds won’t use it because of the change-in-control exclusion.

Asked about liquidity, Wilson said at TIAA-CREF it is driven more by economic conditions than any growing net-flow of baby boomers out of the workplace. Companies should see long-term shareowners as their allies, not those who acquire rights just before the proxy vote. Again, emphasized the need for constant communication.

Salopek said one of the advantages she has found in having a split chair is increased dialogue with shareowners. Shareowners find it more difficult to talk about concerns, such as about CEO pay, when the CEO is also the chair.

Shapiro emphasized the need for communication, citing its lack as the biggest reason for escalation by funds like his. He also sees that interaction as part of director responsibilities around “duty of care.”

Another panelist cited a university of Santa Cruz study that showed even one woman director on a corporate board led to greater board independence and better financial reports. (sorry, I did a quick search but didn’t find the study) That led to discussion around diversity and the need to apply thinking more broadly. I know that CalPERS and CalSTRS are working to build a pool of potential candidates for proxy access nominations. Diversity will play a large part in developing the list.

Shapiro gave some advice concerning annual meetings, pointing to Warrn Buffett’s practice of calling on individual committee chairs to report their respective parts of the annual report. Also some discussion around virtual meetings with Intel pulling back on their virtual-only meeting, but that web broadcast would allow many more to participate and would make them a real event that could generate a lot of publicity and positive dialogue. (see my posts on this from 1/20/10 and earlier same day)

Wilson’s final advice included papering in a day or two of engagement for directors with shareowners before the meeting. Shapiro similarly recommended calling your top 10 shareowners to hear their concerns… actually check in with several types. Keyword for the panel — communication. Further reading: Activist Shareholder Dialogue, Andrew Shapiro.

Plenary Session: Shareholder Rights AND Responsibilities

Moderator    The Honorable Leo E. Strine, Jr., vice chancellor, Delaware Court of Chancery. Panelists – Theodore N. Mirvis, partner, Wachtell, Lipton, Rosen & Katz; Brandon J. Rees, deputy director, office of investment, AFL-CIO; Lynn A. Stout, professor, Corporate and Securities Law, University of California, Los Angeles School of Law; Lynn Turner, managing director, LECG; former chief accountant, SEC; trustee, AARP, Colorado PERA.

We were reminded that individuals still own about a third of all shares, mutual funds and ETFs are the next largest holders with pensions coming in third with about 20%. Turnover by all seems to be going through the roof. While it was about 150% in the early 2000s, it accelerated to 200% and last year 300%.

Among the most pressing issues this season for labor are “say on pay” and proxy access.  Compensation plans aligned with long-term interests and holding. Restricted stock awards should be held for five years and preferably beyond retirement. When chasing return and trying to beat the market, active managers are likely to be little concerned with corporate governance or proxy issues. Yet, ideally these should factor into investment decisions. Labor would like to see reforms in the tax code and a very small transaction tax to discourage turnover.

Turner was largely in agreement with Rees up until that transaction tax. He sees the need for taxreforms, greater transparency and much more dialogue, as well as a heightened fiduciary duty that would include better disclosure of conflicts of interest. All funds should have to disclose votes and policies. He also sees too many funds voting for poorly performing corporate directors. As I heard this last point, I couldn’t help thinking, “Yes, but how do we know which are the poorly performing directors?” Maybe the new disclosures required by the SEC will begin to give clues.

Ted Mervis noted a 2003 Conference Board report that investment fundsshouldn’t compensate on a quarterly basis. Yet, that isn’t likely, because funds with the highest returns this year attract the most capital next year… even if there is no correlation in the performance for both years. Perhaps sharowner democracy amounts to “faith-based” corporate governance, since there is so little evidence that shareoweners are really in it for the long-term.

There was some mention that corporations are more likely to talk to activist funds than indexed funds, even though they are less permanent shareowners. I presume this is because activist funds are more likely to spend time and money analyzing the issues, whereas indexed funds, wanting to minimize expenses, may do less.

Stout said there is decades of evidence that trading eats up about 1.5% of return each year. The greater the sharowner power, the higher the issuers turnover.

Rees said he supported indexing, long-term investing, defined benefit plans, disclosure of proxy voting and a reassessment of securities lending practices and rules.

Mervis thinks too many directors may be knowing each other “by name tags” because of increased turnover and less collegiality.

Strine seemed to put forth the idea that shareowner rights aren’t inherently good. In fact, maybe we should embrace shareowner ignorance. Increasing leverage to chase returns can lead to ruin. He agreed with Stout, we need higher fiduciary standards for investors.

Stout seemed disposed to a small transaction tax and thought ERISA standards are needed to limit what funds can invest in. It is also time that companies looked at adopting bylaws limiting those who can file bylaw proposals to those without certain conflicts and derivative positions… maybe shareowners should have to hold for two years. That got a lot of attention from directors in the audience who virtually swarmed Stout at the panel’s conclusion.

For further reading see The Mythical Benefits of Shareholder Control (Stout, 2007) Fiduciary Duties for Activist Shareholders (Iman Anabtawi & Lynn Stout, 10 April 2009) Find more reading from several of the panelists on the Conference Materials page. Personally, Lynn Stout is one of my favorites. I don’t always agree with her conclusions, but she is certainly a creative and stimulating thinker.

Plenary Session: The Fast Changing Regulatory Landscape: Judicial, Congressional and Executive Developments

Moderator    Theodore N. Mirvis, partner, Wachtell, Lipton, Rosen & Katz. Panelists    Rhonda L. Brauer, senior managing director, corporate governance, Georgeson; Byron S. Georgiou, of counsel, Coughlin Stoia Geller Rudman & Robbins LLP, Financial Crisis Inquiry Commission member; Robert Jackson, Jr., deputy special master for executive compensation, Department of the Treasury (aka deputy “pay czar”); Frank Partnoy, George E. Barrett Professor of Law and Finance; director, University of San Diego Center for Corporate and Securities Law.

Mervis went over the pending proxy access proposal and discussed legislative push for separating board chair and CEO, push against staggered boards, mandatory risk management committees and enhanced disclosures. Some boards are getting ahead of the ball by passing their own measures granting shareowners a say on pay but limiting it to every three years.

Brauer advised boards to be ready with their own proxy access proposals.What alternative does your board want if given and opt out option. Be ready for that possibility and check with your shareowners first.

Jackson advised to look at how your compensation policies might be incentivising risk. Have a discussion before the fact with your shareowners and disclose the process you use to think about risk. Too many financial intermediaries are making decisions that extend over years but are paying bonuses based on only yearly returns.

Partnoy thinks reviewing a “worst case” scenario might be a useful exerciseFrankk Partnoy for most companies in developing a risk profile. Partnoy expressed his desire to see financial institutions treated differently.

Georgiou noted the Financial Crisis Inquiry Commission got an enormous volume of google searches during its first hearing. Regulators can’t keep up with innovation and need market mechanisms to enforce behavior.

One key reform might be a requirement to have underwriters hold a portion of the securities they create. They should be required to eat their own cooking, maybe also institute clawback provisions for their earnings. Capitalized gains and socialized losses doesn’t work. The issuer paid model is faulty. Even CEOs recently asserted no one should be too big to fail. Discussion around a resolution authority to take down such companies without risk to the larger economy. Problems at seven or eight firms shouldn’t be allowed to infect the whole system.

Further reading, see Frank Partnoy’s posts on the Huffington Post and the Conference Materials page.

Lunch Panel: Bad Loans, Gatekeepers and Regulators – Is change on the Horizon or just a Mirage?
Moderator Lynn Turner, managing director, LECG, former chief accountant, SEC; trustee, AARP, Colorado PERA. Panelists – Charles Bowsher, former Comptroller General of the United States & Head of the GAO, director, the Financial Industry Regulatory Authority (FINRA); Kristen Jaconi, former senior policy advisor, for Domestic Finance, US Department of Treasury, former senior counsel to Michael Oxley, US House of Representatives; Barbara Roper, director, investor protection, Consumer Federation of America, member, PCAOB Standing Advisory Group.

Bowsher sees at least part of the problem stemming from traders getting essential control of several banks, like at Enron. Safe and sound banking is important to reestablish. Favors a risk regulator with real stature but is worried that legislation that is 1700 pages long fails to focus.

Roper sees the idea of an individual systemic risk regulator as a reform in name only, since they wouldn’t have the tools to do the job. They need to have the staff, tools and the authority,  otherwise reform will be a mirage. See her testimony to Congress here. What we need, if anything is to be accomplished, is a fundamental shift in how we see regulation.

Jaconi says we aren’t thinking big enough. The center of arbitrage is London, not New York. We need to be thinking on the scale of the IMF. Another point she emphasized was the importance of inspections and examinations. Training inspection staff will be critical but there is little notion of that in current proposals.

The consensus of the group seemed to lean in the direction of mostly mirage with some substantive reform. The public has embraced say on pay but watered down derivative regulations appear likely to mostly miss the mark.

Plenary Session: Risk Management: Monitoring for Known and Unknown Risks Moderator   James Hale, former EVP, general counsel & corporate secretary, Target Corp.; director, The Tennant Company. Panelists    Heidi M. Hoard Wilson, VP, general counsel & corporate secretary, The Tennant Company; Stephen A. Karnas, director, Mars, Incorporated; Lynn Turner, managing director, LECG; former chief accountant, SEC; trustee, AARP, Colorado PERA.

Wilson discussed their extensive process at Tennant, from weekly meetings, board involvement, measuring probability and potential costs, disaster recovery plans, their ranking process, supply chains, etc. She discussed the need to pay special attention to sole source suppliers. You need to know who to turn to if they go bankrupt.

Karnas described his experience at Mars and their use of a chief risk officer primarily functioning as facilitator. Their process is top down as well as bottom up, a little different than that of their recent acquisition, Wrigley, which views risk primarily from a centralized perspective. He discussed how each work and how they are likely to be integrated. Interestingly, the Mars board gets very involved, apparently traveling on a bus, during quarterly Board weeks, to their factories so they can view the production process and operations and become very familiar with risk at the core business level.

Turner discussed his approach as one of finding out keeps them up at night. Ask your external auditor what are the top five risk areas at your company and at the competition. Ask the executives the same and note differences. What are the key trends in marketing, spending rates… key dashboard issues. How do you get to know risks that don’t get communicated? He stressed the need for a bottom up process, as well as top down.

The consensus of the group was that risk is an issue that should be addressed by the full board, not shuffled off to an individual committee… although it may be important for the board to get input from multiple committees.

Further reading: see Risk Management and the Board of Directors, Wachtell, Lipton, Rosen & Katz, 2009;  Managing Corporate Risk, BoardMember.com; and Risk roundup 2010, McKinseyQuarterly.com.

Plenary Session: A Compensation Committee in Action (A Socratic Dialogue)
Moderator    Larry Stambaugh, chairman & CEO, Cryoport, Inc., principal, Apercu Consulting. Panelists – James Hale, former EVP, general counsel & corporate secretary, Target Corp., director, The Tennant Company; Garry Ridge, president & CEO, WD-40 Company; Anne Sheehan, Director of Corporate Governance at CalSTRS; Matthew T. Stinner, senior managing director, Pearl Meyer & Partners.

Gary Ridge

This was an interesting play-like exercise that was so much fun, I failed to take notes. However, I do recall the pretend CEO using that famous line, “It depends on what the meaning of the word ‘is’ is,” in response to a question from the compensation committee. It was a good discussion of the factors of what goes into pay for performance and the importance of what gets left out that isn’t recognized until after the fact.

Key points: Most companies don’t factor in consideration of performance relative to peers or even the market… and they probably should. Plans should be simple and easily understood but driving compensation based on a single metric, like net income, probably results in too narrow of a focus. Payouts should be held for 3-5 years to emphasize longer term thinking. Further reading: Compensation Committee topics on BoardMember.com and Compensation Season 2010 (Wachtell, Lipton, Rosen and Katz)(PDF).

Dinner and Keynote Speaker; John J. Castellani, president, Business Roundtable

Castellani asserted there is a cultural divide between public thinking reflected by Congress and that of business leaders that is not unlike the divide between C.P. Snow’s scientists and nonscientists. The public wants many thing from business: high quality, employment, good stewardship, earnings, shared sacrifice. They see little difference between finance and other sectors… lumping all large businesses together. Board attention is generally more concentrated on good earnings and stock performance.

Congress suffers from ignorance regarding how businesses work. They think boards are constituent based. They think boards operate like Congress does. The prevailing view is that directors are rubber stamps of CEOs. Yet, the truth is that CEOs are practically an endangered species (my term, not his)… going from a tenure of 8 1/2 years in 2006 to 4.1.  He sees most of the reforms like “say on pay” and separating CEO and chair positions as a “relief valve” for American frustration with bigness and fears there will be unintended consequences.

We need to help politicians understand how businesses work.  He noted that the costs and performance of the U.S. health care system have put America’s companies and workers at a significant competitive disadvantage in the global marketplace. (see Business Roundtable Health Care Value Comparability Study) People hate insurance companies and banks. They are looking for shared sacrifice.  For further reading: John J. Castellani’s blog entries on the Huffington Post.

Plenary Session: Insider’s View of Surviving a Proxy Contest
Moderator  Karin Eastham, director, Amylin Pharmaceuticals, Inc., Illumina, Inc., Genoptix, Inc., Geron Corporation. Panelists – Daniel M. Bradbury, president & CEO, Amylin Pharmaceuticals; Daniel H. Burch, chairman, CEO & co-founder, Mackenzie Partners, Inc.; Suzanne M. Hopgood, director of board advisory services, National Association of Corporate Directors director, Acadia Trust Realty, Point Blank Solutions Inc.; James P. Melican, senior advisor, Ridgeway Partners, former chairman, PROXY Governance, Inc.; Alison S. Ressler, partner, Sullivan & Cromwell LLP

One discussion during the session was the problem that during a proxy fight, particularly in a three card proxy fight, shareowners can split their vote between cards, picking the best directors from each advocate. However, that opinion was not universal. The opposing viewpoint was that slates are good because they are more likely to result in an integrated board and directors with Suzanne Hopgoodcomplimentary vetted skills.

It was a very informative session focused mostly around Amylin Pharmaceuticals, in addition to several experiences of Ms. Hopgood. Aside from three proxy cards at Amylin, the company also had three previous CEOs on their board, one as chairman. Takeaway points for me were as follows:

  • Things generally go worse when the company refuses to talk.  Earlier is better.
  • RiskMetrics doesn’t seek to review a strategic plan from dissident slates Dan Burchunless they are seeking a change of control.
  • Most dissident groups are giving more thought to their director candidates these days… no longer mostly relatives.
  • Hire a good proxy solicitor.
  • Review corporate governance practices and consider eliminating those that are unpopular with media, like shareholder rights plans (poison pills). If you are going to make changes, do it before the contest.
  • Identify possible conflicts of interest all around.
  • Don’t retain CEOs on the board after they leave.
  • Pay close attention to board skill sets and succession planning.
  • Learn what shareowners are thinking.
  • Dissidents shouldn’t assume they’ll get the votes if the stock price tumbles.

Plenary Session: What is the Director’s Job Today, and How Does He or She Prepare for It?
Moderator    Kenneth Daly, president & CEO, National Association of Corporate Directors. Panelists – John T. Dillon, director, Caterpillar, Inc., Kellogg, Company, DuPont; Matthew M. Orsagh, director, Capital Markets Policy, CFA Institute Centre for Financial Market Integrity; Margaret M. Foran, VP, chief governance officer & secretary, Prudential; Richard H. Koppes, director, Valeant Pharmaceuticals International, former general counsel, CalPERS.

Ken Daly explained that NACD had worked with CII, ICGN, AFL-CIO, BRT and others to develop 10 principles, which they have posted on their website and on the Conference Materials page. He urged all directors to download the principles, review them and provide NACD with feedback. The idea is to empower boards to lead the way in restoring public and investor confidence. “If we don’t act, lawmakers will do so with prescriptive rules and regulation.”

One interesting finding from a recent survey was that board members are less happy with agendas than CEO/Chairmen. Strategy is top priority for boards in the coming year. Interestingly, the conference made use of their ability to rapidly survey those in attendance regarding various topics. We simply pressed numbers on a little remote control type gadget and in seconds they displayed the results. This worked smoothly until this panel where there was one glitch. Asked if information received from management engages the board’s expertise in planning and Matthew Orsaghexecuting strategy, the graph makes board members seem a little more satisfied than they really are, since there isn’t much difference between 51% and 49%.

Aside from the fun with numbers, I noted the following takeaway points:

  • Boards want to discuss strategy before it is fully baked; strategy is job #1.
  • Directors shouldn’t play the role of gotcha. Trust and respect are essential to board functioning. Dissent should be accepted.
  • IT expertise and succession planning deficient on many boards.
  • Balancing long and short-term strategies is key… see Aspen Principles.
  • Put something in your proxy regarding succession planning.

Further reading: The New and Emerging Fiduciary Duties of Corporate Directors by Elizabeth B. Burnett and Elizabeth Gomperz.

Keynote Speaker: William A. Ackman, founder and managing partner, Pershing Square Capital Management LP. Apparently, Ackman was on a recent edition of Charlie Rose, so Frank Partnoy couldn’t resist beginning the interview as if he were Charlie Rose.

With all the talk about the need for long-term holders, that was one of the first questions. Pershing Square typically holds for about 2.5 – 3 years. Ackman described his process, which mostly involves picking stocks that are undervalued (spread between price and value) and then he works on a strategy to get the market to recognize that value.

He described his efforts at Wendys, which owned Tim Hortons. The chains weren’t really a great fit because of differences in how they operate and management styles, so he worked to get Hortons spun off… yielding a hefty profit. Ackman believes competition for board seats will give us better candidates and will cause boards to do more self-examination. Choice will force board to adopt term limits to keep fresh.

He says boards should invite their largest holders and short-sellers to discuss any issues or concerns they may have. Try your best to understand your harshest critics. You’ll probably learn something. Asked how he’d do that, he suggested issuing a press release inviting the company’s biggest critics to call in and schedule a confidential meeting.

Another case he discussed extensively was Borders, which he believes had been consistently mismanaged and is now finally facing a possible turnaround, even though the CEO that helped them regrow the company had just resigned the night before for a better offer… with no warning.

One factor that appears to keep him invested for a longer term is reputation. If he bails out too quickly with a loss, his reputation suffers more than if he keeps a company for longer but ends up making something.

Where’s the next crisis? Akman thinks it is likely to be failed municipalities.

Pre-Conference Bonus Sessions – “Legal Issues in the Year Ahead: What Directors and General Counsel Need to Know”

Session 1: “What to Expect in Regulation,” presented by Frank Partnoy, director of USD’s Center for Corporate and Securities Law.

The sun was shining outside our beautiful auditorium at the University of San Diego but Professor Partnoy’s prognostications inside the hall were gloomy with his comparisons of the current financial crisis and the Great Depression. “This is 1931,” he said, noting that markets recovered from the 1929 crash but then turned down again. Because of the recovery (like the little bear market in 1930), he doesn’t see strong demand for reform. Like then, banks say they will reform themselves. Like their Pecora Commission, our Financial Crisis Inquiry Commission is mostly political theater. Pecora didn’t even arrive at the commission remembered for him until 1933. Our efforts could be similar. If history is a guide, it will take a couple of years.

Partnoy doesn’t see real reform on the horizon until more revelations of wrongdoing. He predicts the Volker rule will be watered down and sees an absence of commonsense in the process.

Proxy access is coming but there are still some vestiges of a federal versus state law battle. Delaware incorporated companies may already adopt bylaws and many may do so to preempt the proposed federal default rules. (Elsewhere at the conference the advice was more to be ready, once we know what the rules will be.) Partnoy described the basic outline of the proposed default, with its thresholds ranging from 1, 3 and 5%, depending on size – the 25% limit on board members so nominated and the one year holding period.

Broker nonvotes won’t count this year and that has hedge fund activists excited. They don’t care much about proxy access because the new rule can’t be used for a change in control, and that’s what hedge funds seek. Derivative and credit rating reforms may be the most important reforms on the horizon for 2010. However, strong action appears unlikely. Yes, they’ll probably pass something but there won’t be a central clearing platform for the derivatives that really matter.  Banks don’t like the idea of open source disclosure of all contracts, even on a lag basis.

Partnoy thinks the Fed will have to raise rates at some point and when they do, we may see derivative contracts implode.  Institutional investors who actually depend on rating agencies to grade risk are being naïve or irresponsible. He cited several commonly know examples where the rating agents gave companies high marks… even as companies tumbled into bankruptcy. Perhaps on of the more important provisions will be to expose credit rating agencies to legal liability.  See additional discussion at Proposed Credit Rating Reforms May Empower an Embattled Moody’s (HuffingtonPost, 1/4/2010) and Why Rating Requirements Don’t Make Sense (WSJ, 1/18/2010)

Session 2: What to Expect in Litigation, facilitated by Fran Partnoy. Panelists included Leo E. Strine, Jr., Vice  Chancellor of the Delaware Court of Chancery; Darren J. Robbins, Coughlin Stoia Geller Rudman & Robins LLP; and Koji Fukumura, Cooley Godward Kronish LLP.

Initial discussion focused around the issue of individual director liability and the fact that many funds are pushing for that. They want individual directors to feel the pain, not just be covered by D&O insurance. So far, it appears that most of the money that has come out of director pockets has come from CEOs who also chair their boards. Cases were down in 2009 because the market is up. Companies have spent up to $80 million to defend two directors. Strine offered up a bit of speculative advice. Separate director’s insurance from officer’s insurance.  Officers get most of the focus, often depleting the coverage available. Options backdating and earnings smoothing created a culture of corruption that led to the move by public funds to go after individual directors. See discussion at Insurance for A-Side D&O Exposures after Enron—A Riskier Proposition?, IRMI.com and Recent Developments in D&O Insurance, HLS CG&FR Bog.

There was also discussion around the fact that many disclosure only cases filed in state courts are abusive. They are filed as soon as any action happens, like an agreement to sell. Several cases discussed. Strine also cautioned to watch shortcuts regarding tax avoidance and don’t sign consents of action after the fact… like documents where management fills in the blanks later. Gimmicks are gimmicks and should be avoided. Also some discussion around a case where the company tried to sue its own internal auditors for malpractice but couldn’t.

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CorpGov News Bites

Goldman Sachs Group Inc., trying to show it is responsive to public pressure over its pay, said Chairman and Chief Executive Lloyd Blankfein would get a $9 million bonus for 2009, a fraction of the $68.5 million payout he got in 2007. (Goldman Bows on CEO Pay, WSJ, 2/6/10) My heart bleeds for him but I still haven’t earned a dime from my 2007 investment in Goldman, a company where management certainly dominates over shareowners. We did win big last year on my “simple majority vote,” with 75% of shares voted thanks to efforts by John Chevedden,  Claire Davis of the Edward G Hazen Foundation, and Timothy Smith of Walden Asset Management. If we can democratize Goldman, we can democratize anything.

Ceres is seeking a director of investor programs to lead in their work with institutional investors and asset managers on climate change and other sustainability issues. More information about the position and how to apply. This is a great opportunity to influence and work with more than 80 institutional investors with over $8 trillion in assets.

John Chevedden’s proposal for a majority voting standard for directors won 51% at Oshkosh (OSK) on Feb. 4th, even after OSK said it was not needed because they had already adopted majority vote requirements (in a lesser form).

Most of the companies which excel in the employee satisfaction measures used by Fortune to determine their “100 Best Companies to Work For” are privately held. Among those that are public,company founders or families have a disproportionate ownership stake. Maybe one key is that these firms feel less pressure to meet quarterly expectations and can take more of a long-term perspective. (Governance at Fortune’s 100 Best Companies to Work For, The Corporate Library Blog, 2/5/10)

Download a free Environmental, Social and Governance (ESG) Research Starter Kit for Investment Risk Management from The Corporate Library. The Financial Crisis is moving such assessments from the vanguard few to a part of normal fiduciary duty. Don’t get left behind.

SEC gets governance reforms as part of BofA settlement. As Broc Romanek notes, “governance by gunpoint” settlements have typically been driven by judges over the past decade, where institutional investor are plaintiffs. Will this be a new trend for the SEC? (The SEC Enforcement Division’s Use of Governance Reforms: Something New?, theCorporateCounsel.net, 2/5/10)

From the member area of theCorporateCounsel.net, “Can you get attorney’s fees for causing a company to add disclosures to its proxy materials? In this case – Pipefitters Local DB v. Oakley – the California Court of Appeal said ‘no.'” However, plaintiff’s counsel (Coughlin Stoia et al.) appears to have done a sloppy job. “The amended complaint copied identically worded paragraphs from previous complaints and even included the name of one of the defendants in the those other suits.” More importantly, the implication is that you might get attorney’s fees, if done right. (Suing for Attorney Fees: Causing Company to Add Proxy Disclosure, 2/4/10)

Investment Officer II opening at CalSTRS. One of the benefits; parking is only $28/mo. Great place to work.

As the debate about the rights of shareholders to appoint their own nominees to US boards continues, the PROXY Governance (PGI) Hybrid Boards study, sponsored by the IRRC Institute, is appearing with increasing frequency in shareholder comment letters and other governance analyses regarding the SEC’s proposed proxy access rules. The study found that total shareholder returns at ongoing companies with hybrid boards were 19.1% – 16.6 percentage points better than peers. (Proxy access – hybrid boards perform for shareholders, Manifest, 2/5/10)

The Altman Group’s 2/5/10 newsletter contains informative interviews with Charles Elson, which includes a discussion of the adoption of a reimbursement bylaw, and
a guest commentary from Robert Lamm, which provides a roundup of information for the 2010 and recommended action by boards.

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July 2009 News Archives

Mutual Funds: Pass Through Voting?

Various studies have shown that mutual funds often place their own interest in asset gathering ahead of their fiduciary duties. After studying proxy voting by US funds, Jennifer S. Taub (of UMass) concludes one option might be to “borrow from British reforms by creating a uniform set of best practices for corporate governance. Fund Advisers would be required to report and justify any departure from casting proxy votes (related to management or shareholder proposals) in line with best practices. Ideally, this comply or explain practice would be inserted at each link of the intermediation chain – from the corporation all the way to the underlying investor.” (Able But Not Willing: The Failure of Mutual Fund Advisers to Advocate for Shareholders’ Rights, Journal of Corporation Law, Vol. 34, No. 3, 2009)

A recently published study by the Shareholder Association for Research and Education (SHARE) and Fund Votes found that while Canadian mutual funds were more likely to oppose management nominees for boards of directors in 2008, the majority of mutual funds continued to vote overwhelmingly in favor of management proposals, and against proxy items proposed by shareowners.

When it came to the voting patterns of SRI funds sold by diversified fund companies, the report found that proxy voting patterns were the same as in mainstream funds offered by the same companies. “This is often the case even for shareholder proposals asking companies to be more attentive about the impacts of their operations on human rights and the environment,” the report stated. (Canadian Mutual Funds Continue to Vote Against Shareowner Proposals, SocialFunds, 7/9/09)  

In a followup e-mail, Laura O’Neill of SHARE, said,
“We noted one exception to our overall conclusion that proxy voting decisions are uniform across all funds. Phillips Hagar & North’s Community Values Fund was more supportive than the other funds on many CSR issues. The key here is that PH&N has a specific set of voting guidelines for its SRI fund. Establishing separate guidelines for SRI funds would, we think, go a long way to bringing proxy voting into line with investment strategy within these funds.”

The other coauthor, Jackie Cook, did another study in late 2008 (Mini Survey of Mutual Funds’ Votes: 2004-2008). One of her findings was that, “Mainstream
mutual fund groups’ increased use of abstentions on both governance
and CSR resolutions is puzzling, given the increased attention to the issues
covered in the media and by the investment community and deserves
further investigation by shareholder advocates.

Maybe the best solution, if mutual funds find it too difficult to vote because of conflicts of interest, is for the funds to just pass through voting rights to beneficial owners. Computerized files could gather all the bits and beneficial owners could use a platform like Proxy Democracy to vote, largely imitating funds like CalSTRS, Florida SBA, Domini, Calvert and others who think voting is worth their while.

Say on Pay Clears House

The Corporate and Financial Institution Compensation Act of 2009 (H.R. 3269), introduced by Congressman Barney Frank, Chairman of the House Financial Services Committee, passed 237 to 185, with most lawmakers voting along party lines. The bill would give shareholders a “say on pay,” an annual, non-binding vote on top executive compensation packages and “golden parachutes.” It will also require large financial institutions with more than $1 billion in assets to report incentive-based pay packages. One feature, little reported, is that it requires a GAO study of the correlation between compensation structure and excessive risk-taking. (House Approves Limits on Executive Pay, NYTimes, 7/31/09)

ShareOwners.orgAmericans for Financial Reform (“AFR”), and The Social Investment Forum had urged the U.S. House of Representatives to support “say on pay” legislation since “(i)t is apparent from the return of ‘bonus fever’ that once again is gripping Wall Street that too many American corporations are ready to shrug off the lessons that should be learned from the current financial crisis and economic downturn.”

The joint letter sent to Capitol Hill comes roughly one month after a June 25, 2009 ShareOwners.org national survey found that 83% of investors agree that “shareholders should be permitted to be actively involved in CEO pay and other important issues that may bear on the long-term value of a company to their retirement portfolio or other fund.” (see press release, 7/31/09)

Citigroup and Merrill Lynch lost more than $55 billion combined last year, adding to the massive wreckage on Wall Street that took the nation’s financial system to the brink of collapse. Yet they were among nine big banks that combined paid out more than $32 billion in bonuses — even as the banks took in $175 billion in taxpayer aid to weather the storm, according to an analysis that provides one of the most comprehensive looks ever at Wall Street pay.

Nearly 5,000 people received bonuses of $1 million or more amid the worst financial crisis since the Great Depression, according to the report by the New York attorney general’s office, released Thursday. (Bailed-out banks paid billions in bonuses last year, study shows, LATimes, 7/31/09)

Satyam, Did it Wake Up Indian Boards?

Satyam was a wakeup call for India to clean up its act. But did India Inc wake up? Experts and industry watchers remain divided in the aftermath. While there is a set of people who believe that Satyam definitely made promoters sit up and make alterations, there is an equally strong lobby that says nothing has changed in the real sense of the term.

A study of the latest ET-50 annual reports suggests companies have made minor changes in bringing on independent directors. Since January 2009, 524 independent directors have quit boards out of 2355 companies that have submitted data to the director’s database on BSE website. However, many claim “there is a sheer paucity of good independent directors” and the few good and competent ones often have multiple assignments. Out of BSE100 companies, 66 independent directors hold five directorships and more, 40% have non-executive chairman, and only 14 have a woman on board.

Perhaps India is no unlike the U.S., where many used to believe eminent personalities established a company’s commitment towards good corporate governance. Promising is this from Anjali Bansal, of Spencer Stuart: Briefs for new board positions have undergone a sea change. Now they are far more structured. “Companies are now demanding board directors who understand the business, its drivers, domain, and also its risk. Secondly, companies are also looking at audit committee members with relevant skill sets.” (Has the Satyam scandal changed corporate governance in India?, The Economic Times, 7/31/09)

Better Governance Narrows Spreads

A study by Kee H. Chung of the State University of New York (SUNY) at Buffalo, John Elder of North Dakota State University and Jang-Chul Kim of Northern Kentucky University entitled Corporate Governance and Liquidity found that stocks of companies with better governance structure exhibit narrower quoted and effective spreads, higher market quality index, smaller price impact of trades, and lower probability of information-based trading.

The estimated improvement in liquidity is economically significant, with an increase in our governance index from the 25th to 75th percentile decreasing quoted spreads on NASDAQ by about 4.5%. Results are robust to different estimation methods (including fixed effects and error component model regressions), across markets, and alternative measures of liquidity. In addition, they find that changes in our liquidity measures are significantly related to changes in governance scores over time. These results suggest that firms may alleviate information-based trading and improve stock market liquidity by adopting corporate governance standards that mitigate information asymmetries.

Governance provisions may improve financial transparency by mitigating management’s ability and incentive to distort information. (Corporate Governance and Liquidity, HLS Forum, 7/31/09)

ProxyDemocracy Keeps Growing

MMA Praxis votes in advance of corporate meetings are now reported on ProxyDemocracy.org. Proxy “season” is at something of a lull right now but you can see how several funds are voting at Schering-Plough’s meeting on their planned merger with Merck & Co., Inc. In this case all funds reporting, AFSCME, Calvert Social Index, MMA Core Stock, MMA Growth Index, and Trillium all favor the merger. On the ProxyDemocracy site you can also see MMA Praxis Funds Activism Profile and voting guidelines.

If you fund isn’t one of the 10 whose votes are reported through ProxyDemocracy, ask why. Choosing to announce votes in advance through ProxyDemocracy is simple, inexpensive and is a win-win all around. More than 90% of retail investors didn’t vote their e-proxies last year. For mail-in proxies, the numbers are only slightly better.

Overwhelmingly, investors don’t vote and don’t know how to vote even when they do vote. The ten funds listed on ProxyDemocracy spend a lot of money analyzing proxy issues before they vote to ensure their actions will benefit shareowners and plan beneficiaries. By disclosing their proxy votes in advance of meetings, these funds are beginning to influence other investors, especially retail shareowners, who increasingly rely on copying the voting behavior of their favorite brand.

If you invest in stocks or mutual funds, check out ProxyDemocracy. If you are intellectually curious about the theory behind brand voting and where this is headed, see Mark Latham’s publicationsThe Internet Will Drive Corporate Monitoring and Proxy Voting Brand Competition. Also check subscribe to his blog, where he will update activities of the SEC Investor Advisory Committee, of which he is a member.

Trouble in Proxy Access Land

“Facilitating director nominations by long term shareholders who own at least one percent of the stock would greatly help maximize long term shareholder wealth… Past directors allowed the five best paid officers of publicly held companies to increase their take of profits from 4.8 percent, in the 1993 to 1995 period, to 10 percent from 2000 to 2003. If American capitalism is to thrive, current and future directors cannot allow top executives to take an ever larger piece of the owners’ pie. Otherwise, investors will move to greener pastures.” — Excerpt from comments by Frank Coleman (Cole) Inman, Corporate Governance Adviser and Former Business Professor.  

The US leads the developed world in the use of devices like ‘poison pills’ and other anti-shareholder mechanisms which have the effect of transferring wealth away from shareholders for the benefit of managers. While the scales will still be heavily weighted in managers’ favor after this change, this rule change will be a step in the right direction. Excerpt from comments by Peter C. Kelly, Director, Determine Services Pty Ltd, and Director, Determine Consulting Ltd., Wellington, New Zealand.

While I love those comments, much more troublesome were those from James L. Holzman, Chair, Council of the Corporation Law Section, Delaware State Bar Association and Joseph A. Grundfest, William A. Franke Professor of Law and Business, Stanford Law School.

As might be expected, the comments from the Delaware State Bar Association argued the rule would “unnecessarily deprive Delaware corporations of the flexibility state law confers to deal effectively with myriad different circumstances that legislators and rulemakers cannot anticipate, and would thereby undermine a key element of the state system of corporate governance that has been largely successful for decades.”

The letter cites comments from earlier access proposals to support the suggestion that shareowners want high thresholds. “Proposed Rule 14a-11 would prohibit stockholders from exercising their state law right to adopt a bylaw incorporating any of these more demanding eligibility requirements.” The letter goes on with many other criticisms, including:

  • Stockholders would lose their state law right to adopt a proxy access bylaw that prevents a stockholder or group from making a nomination for consecutive years if the stockholder’s or group’s previously sponsored nominee were not elected or did not receive a minimum number of votes.
  • Rational stockholders may prefer limitations the Commission previously proposed to require between nominator and nominees, such as prohibiting the nominee from being a member of the immediate family, or an employee of, the nominating shareholder or group.
  • Precluding proxy access where a “traditional” election contest is underway.
  • Preventing Stockholders from Exercising Their State Law Rights to Adopt Alternative Governance Rules They Deem Appropriate, wherein they list a number of potential costs to corporations and indirectly to shareowners. Under Delaware law, stockholders and boards of directors have the right to decide that these potential costs of a mandatory proxy access procedure outweigh the potential benefits to that particular corporation.
  • Whereas the access proposal invokes “the importance of facilitating shareholders’ ability to exercise their rights to determine their own additional shareholder nomination proxy disclosure and related procedures,” it actually prohibits exercise of their rights, “including bylaws that impose more stringent requirements for proxy access than proposed Rule 14a-II.”
  • Delaware has a better dispute resolution, since no-action letters would likely be appealed to federal courts, which take a great deal more time to render decisions.

The letter discusses the move away from plurality voting toward majority voting. “This trend toward adoption of majority voting has occurred without significant controversy, or even a need for formal stockholder action.” Although many companies have caved when presented with shareowner proposals, it is clear to most, if not the Delaware Bar, they would have gone nowhere without “formal stockholder action.”

The letter advises the SEC to withdraw Proposed Rule 14a-11, focus on what disclosures would be required in exercising proxy access and the liability for material representations, and relax the election exclusion in Rule 14a-8 to permit submission of bylaw amendments on proxy access.

Grundfest’s arguments against the proposal are similar, simpler and carry a more compelling threat. If shareowers are “sufficiently intelligent and responsible to nominate and elect directors,” why would the SEC “prohibit the identical shareholder majority from establishing a proxy access regime, or from amending the Proposed Rules to establish more stringent access standards.” It certainly doesn’t replicate the annual meeting process where access could be relaxed or strengthened.

The second contradiction relates to the Commission’s assertion that the Proposed Rules replicate the physical shareholder meeting as governed by state law. Nothing in state law sets a minimum proxy access standard, defines the contours of any access proposal to be considered by shareholders, or prohibits a majority of shareholders from amending an access standard to make it more stringent while allowing the same majority to relax the standard. The Proposed Rules thus fail to achieve the Commission’s stated objective, and instead erect barriers to shareholder action that exist nowhere in state law.

Here are a few highlights from Grundfest’s comment paper:

  • The rule cites no support for the proposition that shareholders can be relied upon to nominate and vote on directors, but not to set the rules by which directors are nominated and elected. Absent a rational basis upon which to conclude that shareholders are selectively intelligent or responsible in a manner that supports discriminatory reliance on the majority’s mandate, the Mandatory Minimum Access Regime cannot withstand scrutiny under the APA.
  • Pending legislation would resolve questions regarding the Commission’s statutory authority to adopt proxy access rules, but would not affect the Commission’s obligation to comply with the APA.
  • Commission rules are subject to review under the “arbitrary and capricious” standard of the Administrative Procedure Act. “At its core, arbitrary and capricious review, or “hard look” review as it is sometimes called, enables courts to ensure that administrative agencies justify their decisions with adequate reasons… technocratic, statutory, or scientifically driven terms, not political terms.”

Like the Delaware State Bar Association, Grundfest also advises the SEC to scrap Proposed Rule 14a-11 but offers some advice to those wanting to further shareowner rights:

  • Relax the rules governing communication among shareholders seeking to organize precatory “just vote no” campaigns.
  • Impose additional disclosure and communication requirements on registrants with directors who have a majority of votes withheld, regardless of whether the corporation has a majority vote policy.
  • Impose additional disclosure and communication requirements on registrants who fail to satisfy specified majority voting standards.

“Alternatively, the Commission could conduct a series of surveys designed to identify the parameters of the proxy access regime that would authentically be preferred by the majority of shareholders if the matter were put to a vote. These surveys might indicate that different categories of corporations have shareholder bodies with different preferences regarding the design of proxy access regimes. To respect that natural variation in shareholder preferences, the Commission could adopt a family of proxy access criteria that would seek to synthesize the default rules that shareholders would prefer if the matter were put to a vote. The family of default rules could then further be subject to an opt-out rule allowing a majority of shareholders to strengthen or relax proxy access standards at individual corporations in a manner consistent with the legislative mandate.”

While I personally would like to see an access proposal move forward to be in place for next year’s proxy season, I do have to admit, Grundfest makes what appear to be good points. However, if we only end up getting disclosure requirements, liability provisions, and a relaxed Rule 14a-8, expect to see thousands of shareowner access proposals in coming years. Many won’t settle for the shareowner group thresholds currently proposed by the SEC. My aim will be much lower, especially at smaller companies where corporate governance practices tend to be worse and institutional investors are scarce. Find the latest comments to the SEC on proxy access here.

SSMII Opportunity at CalSTRS

If you are a California state employee at the SSMII level or on a list, CalSTRS has an interesting job opening in their Communications Division working on media relations, marketing publications and project management. Final filing date is 08/04/2009.

The Future of Corporate Reform

My reservation is in for the San Diego conference sponsored by The Corporate Library and I’ve got my room at the Hotel del Coronado. I’m told I can’t report on the event, so don’t expect the usual write-up. Guess I’ll just have to kick back and enjoy. Here’s a few clips from Bob Monks’ blog about just a few of the speakers:

Rich Ferlauto, director of Corporate Governance and Pension Investment for AFSCME, was recently named one of the most influential corporate governance activists by Directorship Magazine (bio). Bob writes, “Rich Ferlauto is almost an oxymoron – a seasoned governance professional. He has been a major force for more than a decade and has innovated effective strategies, including conspicuously the major litigation that marked the end of a decade of governance impotence.”

Lucien Bebchuk, Professor Harvard Law School (bio). Bob writes, Bebchuk is a home run; first he is a world class economist; second he is probably the outstanding legal corporate governance scholar; third he is the moving energy behind the Harvard Law School Governance Blog – a major information source in the governance world; and, fourth – a personal opinion – he is free from the kinds of ambition that poison much scholarship, he is honestly committed to his own sense of the truth.

Ben Stein is an economist, attorney and Hollywood personality (bio). Bob writes, “Ben Stein is a well educated polymath — with splendidly irreverent views on matters dear to the pompous.”

SEC Floods In-box

Don’t have enough in your in-box? Subscribe to Receive Free E-mail Updates from the SEC. So much to choose from. Thanks to Broc Romanek for the heads up.

Drill, Baby, Drill

Naomi Klein reflects on the rise of Sarah Palin, just before the financial melt-down. “Watching that scene on television, with that weird creepy mixture of sex and oil and jingoism, I remember thinking: ‘Wow, the RNC has turned into a rally in favor of screwing Planet Earth.’ Literally…

Capitalism will be back. And the same message will return, though there may be someone new selling that message: You don’t need to change. Keep consuming all you want. There’s plenty more. Drill, baby, drill. Maybe there will be some technological fix that will make all our problems disappear.

And that is why we need to be absolutely clear right now.

Capitalism can survive this crisis. But the world can’t survive another capitalist comeback.” (Naomi Klein: Let’s Put an End to Sarah Palin-Style Capitalism, AlterNet, 7/30)

PRI Enforcement Coming

The United Nations Principles for Responsible Investment (UNPRI) is planning to kick out around six signatories by the end of August for failing to report on whether they have taken action to implement its six environmental, social and governance principles. It is the first time the PRI has toughened its membership criteria to exclude firms that show no signs of adopting the standards despite signing up. (PRI plans to kick out six signatories for non-compliance, RI, 7/28/09)

Caution Urged: War is Good

Stephen Bainbridge (Shareholder Activism in the Obama Era) and Peter Atkins (U.S. Corporate Governance Today: A Reshaping of Capitalism) seem to think shareowner empowerment will lead to the end of capitalism as we know it. According to Atkins, “the very essence of capitalism is that it fosters risk-taking — and that ‘mistakes’ will be made.” Atkins goes on to admit, the real issue is assessing what risks are “systematically unacceptable.”

Both Bainbridge and Atkins appear to oppose proxy access and other reforms primarily because they take power from boards and give it to a more unruly mob, shareowners who are too likely to be swayed by “special interests.”

It used to be that nations could go to war for years and come out none too worse for the effort. Today, weapons of mass destruction make all out war between major powers almost unthinkable. The cost to either party would be too great. Proxy battles are also unnecessarily expensive. Too often they occur only after a company has suffered years of decline. The market is often too slow to respond to entrenched managers and boards. Proxy access, majority vote and other tools give shareowners the power to shift boards, without the cost of a bloody war or revolution.

Bainbridge wants shareowners to wait until “performance is sufficiently degraded” to “make a takeover fight worth waging.” His model is basically pre-democracy. Wouldn’t it be much more efficient to elect a better board than to wage a takeover fight?

Bainbridge relies on a study done in 1998 by Bernard Black that surveyed previous studies to demonstrate that shareowner activism doesn’t add value. Of course, Black was arguing shareowners invested too little effort to make much of a difference. That has been changing, although more effort would yield more results. Bainbridge himself argues that SEC rules “have long impeded communication and collective action” by shareowners. That’s a reason for speeding up corporate governance reforms, not slowing them down.

Because the cost of monitoring is high in relation to benefits to any one monitoring shareowner, Bainbridge says “institutional activism is likely to focus on crisis management.” Yet, what we actually see is a focus on “best practices,” especially those that guard against management and board entrenchment. Majority voting, annual elections for all board members, proxy access, a ban on broker voting, separating chair and CEO positions, granting shareowners the right to call a special meeting, even additional disclosures — all make it easier to take collective action when needed. That action is likely to be led by hedge funds, which are more likely to have a large enough percentage of their funds invested on a single firm to make monitoring and action cost-effective.

The bulk of Bainbridge’s recent argument is that shareowner activism just shifts responsibility. Quoting Kenneth Arrow: “If every decision of A is to be reviewed by B, then all we have really is a shift in the locus of authority from A to B.” Bainbridge says, “institutional investor activism does not solve the principal-agent problem but rather relocates it.” However, that characterization fails to acknowledge that when the shareowner makes the decision, there is no “agent.” When shareowners bypass the board and place their own nominees on the proxy, they are acting as principals with no agent.

Atkins’ arguments are even less cogent. While he is clear that “where the line should be drawn is often not clear,” he then asserts that “most directors… do take their jobs seriously.” “Turning the board election process into annual threatened or actual ‘vote no’ campaigns against directors based on special agendas promoted by special interest groups will further disincentivize quality directors from serving — as well as adversely influence the independent director decisions-making so avidly sought by corporate governance advocates.”

He fails to recognize the Business Roundtable and entrenched boards represents the real powerful and narrow “special interests” that too frequently lead to abuse. They can often accomplish their “special agendas” without convincing a majority of shareowners. Shareowner activist face much higher barriers and can accomplish little without consensus building among very disbursed investors. Turning board elections into real contests won’t adversely influence the decision-making of directors. Knowing they can actually turned out of office will simply make them more accountable to shareowners. It will remind them that directors work at the pleasure of shareowners and CEOs work at the pleasure of directors.

Comparing CalPERS Board Candidates

Although most CorpGov.net readers can’t vote in upcoming September CalPERS Board elections, most of you know how important CalPERS has been in the movement to increase corporate accountability to shareowners. With that in mind, I’ve included a link to a PERSWatch survey of the candidates. Download a pdf that includes their responses to ten critical questions, as well as contact information.

Three candidates failed to submit responses, even after repeated contacts. Among those who did respond, one candidate made repeated spelling and grammar errors while another didn’t adhere to the 200 word limit in responding to several questions. I personally know all the responding candidates and know each will take their duties seriously. I think the errors reflect their opinion of the limited importance of the survey as a tool in winning the upcoming election, rather than behavior we will see in their role as board members. Traditionally, candidates could essentially lock up the election by obtaining the endorsement of a few major employee unions or associations.

While I firmly believe such organizations are, and should remain, critical to the selection of Board members, I also believe we would all benefit from a broader dialogue. I sincerely hope these elections will one day be given the press coverage they deserve, considering their importance in shaping international corporate governance and the wider economy, as well as the more direct health and pension benefits of CalPERS members.

SEC Investor Advisory Committee

The SEC’s Investor Advisory Committee (IAC) held its first meeting on July 27, 2009. They had an ambitious agenda, which they didn’t get through. Some items, like proxy voting were discussed in some detail. Others, like arbitration issues, elicited virtual silence from IAC members. For the sake of those interested in issues that got passed over, I hope there will be opportunities to raise them again over the course of the next two years.

Overall, I thought the IAC made good progress. They got to know each other a bit, discussed their interests and possible subcommittees. Not bad, for a relatively brief first meeting. Interesting that some members, when introducing themselves said they represented the company or organization for whom they work. I hope this isn’t the case. I hope they are appointed to reflect a variety of backgrounds but that they are all there to represent the investing public.

Operationally, I’m curious as to when members got the staff briefing paper on Possible Refinements to the Disclosure Regime. I suspect many got it just before the meeting, perhaps while traveling. There didn’t seem to be a systematic effort to go through and respond to questions raised by staff. In future, it might be a good idea to have staff give out such papers early enough on so that IAC members could scribble responses, questions, etc., allowing for another iteration to be posted say 10 days in advance of the meeting. This would then allow the public to also provide their feedback. (Although, perhaps this one was posted well in advance and I missed it.)

All discussions were brief but some were informative. For example, during a short discussion on education, I learned of two sites aimed at elementary and high school children:

  • Jump$tart Coalition for Personal Financial Literacy, a non-profit 501c3, encourages curriculum enrichment to ensure that basic personal financial management skills are attained during the K-12 educational experience.
  • Ariel Education Initiative, created a model community school where “financial literacy is not just taught but practiced.”

And a site with a broader focus:

  • U.S. Financial Literacy and Education Commission, My Money, to coordinate the presentation of educational materials from across the spectrum of federal agencies that deal with financial issues and markets.

Some of the many issues and solutions raised during the meeting: majority voting requirements for director elections should be standard; proxy votes of all institutional investors should be disclosed, along with engagement strategies; review of proxy advisory services; OBO/NOBO issues; more timely reporting of proxy votes; blank votes; systems like Proxy DemocracyTransparentDemocracy.org, and soon MoxyVote.com that help shareowners to learn from proxy voting decisions announced by institutional investors; pilot funding for system that allows users to allocate funding to education providers; need for more guidance on Reg FD and prohibitions on investors acting in concert; split chair/CEO should be standard; and clarification needed of Staff Legal Bulletin No. 14C regarding resolutions on disclosure.

Possible subcommittees discussed for the IAC include: fiduciary duty, disclosure, education, use of technology, ESG disclosure, corporate governance. It is my understanding the two co-chairs will vet these further with members and come back with a list.

If there was any real bombshell at the meeting, it was an attempt by Stephen Davis to make a motion that the IAC recommend the Commission adopt a rule requiring all exchange listed companies require majority voting for the election of directors. There appeared to be a consensus belief among IAC members in the value of majority vote requirements, so Davis appears to have been attempting to move the agenda with what he termed a “shovel ready” proposal.

However, it soon became apparent that although other IAC members may believe in majority voting, they want more discussion around mechanics, to tie the issue to part of a larger package, or delay for some other reason. No vote was taken but expect this issue to be one of the first of many out of what appears to be a relatively dynamic committee. The SEC may actually be going back to its roots as the “investor’s advocate.” (Speech By SEC Commissioner Luis A. Aguilar: Restoring Investors’ Voices — The Launch Of Investor Advisory Committee, mondovisione, 7/27/09) (archive of meeting) SEC officialnotes of the meeting.

Board Pay

A study by Steven Hall & Partners of director pay found that total remuneration has halted its steady climb, actually falling back by 2.4% over the last year to $244,899, among the top 200 companies. In 2003, full-value stock awards represented only about 29% of the total received by directors vs. 41.5% in 2008. The use of options dropping in half from 63% prevalence in 2003 to approximately 31% in 2008. Cash retainers now comprise almost 29% of the total package. Board meeting fees and stock option awards are far less prevalent director pay elements in 2008 as compared to 2003. (Director Pay Retreats by 2.4% Says New Study, PlanSponsor.com, 7/23/09)

Should Proxy Voting at Mutual Funds be Reformed?

Various studies have shown that mutual funds often place their own interest in asset gathering ahead of their fiduciary duties. After studying proxy voting by US funds, Jennifer S. Taub (of UMass) concludes one option might be to “borrow from British reforms by creating a uniform set of best practices for corporate governance. Fund Advisers would be required to report and justify any departure from casting proxy votes (related to management or shareholder proposals) in line with best practices. Ideally, this comply or explain practice would be inserted at each link of the intermediation chain – from the corporation all the way to the underlying investor.” (Able But Not Willing: The Failure of Mutual Fund Advisers to Advocate for Shareholders’ Rights, Journal of Corporation Law, Vol. 34, No. 3, 2009)

A recently published study by the Shareholder Association for Research and Education (SHARE) and Fund Votes found that while Canadian mutual funds were more likely to oppose management nominees for boards of directors in 2008, the majority of mutual funds continued to vote overwhelmingly in favor of management proposals, and against proxy items proposed by shareowners.

When it came to the voting patterns of SRI funds sold by diversified fund companies, the report found that proxy voting patterns were the same as in mainstream funds offered by the same companies. “This is often the case even for shareholder proposals asking companies to be more attentive about the impacts of their operations on human rights and the environment,” the report stated. (Canadian Mutual Funds Continue to Vote Against Shareowner Proposals, SocialFunds, 7/9/09)

In a followup e-mail, Laura O’Neill of SHARE, said, “We noted one exception to our overall conclusion that proxy voting decisions are uniform across all funds. Phillips Hagar & North’s Community Values Fund was more supportive than the other funds on many CSR issues. The key here is that PH&N has a specific set of voting guidelines for its SRI fund. Establishing separate guidelines for SRI funds would, we think, go a long way to bringing proxy voting into line with investment strategy within these funds.”

The other coauthor, Jackie Cook, did another study in late 2008 (Mini Survey of Mutual Funds’ Votes: 2004-2008). One of her findings was that, “Mainstream mutual fund groups’ increased use of abstentions on both governance and CSR resolutions is puzzling, given the increased attention to the issues covered in the media and by the investment community and deserves further investigation by shareholder advocates.

Maybe the best solution, if mutual funds find it too difficult to vote because of conflicts of interest, is for the funds to just pass through voting rights to beneficial owners. Computerized files could gather all the bits and beneficial owners could use a platform like Proxy Democracy to vote, largely imitating funds like CalSTRS, Florida SBA, Domini, Calvert and others who think voting is worth their while.

SEC’s Proposed Rule for Audits of Investment Advisors and Hedge Funds

The SEC proposes to require registered investment advisers and hedge funds to undergo an annual surprise examination by an independent public accountant to verify client funds and securities. The proposed rule also provides a number of other provisions designed to guard against future fraud, like that of Madoff’s Ponzi scheme.

The Commission voted 5-0 in favor, so they didn’t think the rules would be controversial. However, the SEC is now being barraged with protests from advisers and funds, chiefly complaining that the audits would be disruptive and costly. As a former auditor, I think disruptions would be minimal and well worth the added security.

NAPFA suggested other measures the SEC could adopt instead, including encouraging investment advisory customers to read their statements, giving the SEC authority to pay whistleblowers who report fraud, and requiring advisory firms to give clients and employees information on how to submit anonymous tips when fraud is suspected. (see SEC’s pop-quiz proposal provokes adviser opposition, Investment News, 7/23/09)

Components on Custody of Funds or Securities of Clients by Investment Advisers File No.: S7-09-09 are due July 28, 2009. I read through all the comment form letters and many of the others. All were from advisors or funds, none from shareowners. All opposed the audit portion of the rulemaking.

Right now, I’m leaning in favor. As an auditor, I always got a lot more out of my own spot checks than I did through hot tips. On the other hand, I had a lot of computerized data to sort through, which allowed me to find various statistical abnormalities. I didn’t audit everyone, only those that looked statistically strange. What do readers think?

CorpGov Bites

SEC Gives ‘Wish List’ of 42 Changes it Wants in Securities Law (FoxBusiness, 7/16/09) Most of these are great and make you wonder why they don’t already have the requested authority, like being able to pay awards to individuals who provide information to the agency leading to the successful enforcement of the federal securities laws(see also, SEC Chairman Requests Broad Investigative Power, Washington Post, 7/16/09)

Exclusive Interview with the Chair of the New Pecora Commission (The American Prospect, 7/17/09) Former California Treasurer Phil Angelides outlines what he hopes to accomplish and his concerns that the commision may be rendered ineffective by partisan quarrels. He discussed other historical investigations: the Pecora Commission after the 1929 crash; the 9/11 Commission, highlighting the failures that made America vulnerable to a terrorist attack; the Kerner Commission in the 1960s, important moment in delineating the racial divide in this country.

The best guidepost for the commission is to seek the truth, like that all old dragnet line, ‘just the facts.’ And the facts will speak for themselves. If facts are on the table, what happened, not speculation, not political tilt, if facts are on the table about what has occurred, people will come to reasonable and rational judgments.

Does Corporate Governance Matter? (Eric Jackson, TheStreet, 7/22/09) Jackson reviews an academic study, which found, even with several problems, that “better corporate governance led to better future financial and stock performance. However, the study still raises the question of, if this link exists, why hasn’t corporate governance become more widely used by investors as a variable to consider when making investment decisions?”

Ratings agencies need to do a better job at ensuring each variable that goes into their scores actually predicts future performance. It all comes down to what you measure and how you measure it… It’s not likely that you’ll find one type of board fits all types of companies.

The investors (or insurance companies or banks) which “crack the code” to effectively track effective and ineffective governance factors that strongly predict performance will have an enormous advantage in modeling an element of risk that most investors disregard — even after the last 18 months. That smells like a great opportunity to me.

ICCI president asks family-owned firms to adopt corporate governance (TradingMarkets, 7/21/09) Only 15 percent family owned businesses survive till the third generation due to lack of good governance, rise of disputes and other factors, said Mian Shaukat Masud, President, Islamabad Chamber of Commerce & Industry (ICCI). In a statement issued here on Sunday, he said, however, creating and applying a system of corporate governance, succession planning, transparency and control is crucial for long-term survival of family owned businesses.

S’pore tops governance (The Straits Times, 7/21/09) Sinapore companies ranked first for corporate governance in Asia, excluding Japan, helped by their management, track record and ‘shareholder-oriented principles.’ Singapore obtained an average score of 5.1 out of 10 on a scale devised by GovernanceMetrics International. Thailand and India were second and third in the region, with scores of 4.7 and 4.5 respectively.

Corporate Governance in India: Is There Any? (Shiv Kapoor’s Instablog, 7/19/09) Provides a good discussion of evaluating corporate governance:

  • First we look at the values, morals and ethics of society in general.
  • Then we look at corporate charter, bylaws, formal policy, internal controls, which guide corporate behavior.
  • Then we look at the laws.
  • Finally, we look at the conscience.

Kapoor goes on to discuss several recent scandals.

UNEP Hones Legal Argument for ESG Incorporation in Investments in New Study (SocialFunds, 7/22/09) Whether asset managers have a fiduciary, and even legal, responsibility to incorporate environmental, social, and governance (ESG) issues into the investment decisions they make on behalf of their clients has long been a matter of debate. Fiduciary Responsibility: Legal and Practical Aspects of Integrating Environmental, Social and Governance Issue into Institutional Investment (Fiduciary II), the report argues that consultants may well have a legal duty to proactively raise ESG issues with their clients. The report also recommends that ESG issues be embedded into legal contracts between asset owners and asset managers.

Conclusions include that “research to determine the financial materiality of these criteria should use longer time spans than is currently the norm for financial analysis” and that “Governments can reduce barriers to environmental, social and corporate governance analysis by mandating and standardizing the inclusion of these criteria in national and international financial disclosure frameworks.”

SEC Proposes to Curtail “Pay to Play”

The measures are designed to prevent an adviser from making political contributions or hidden payments to influence their selection by government officials at public pension plans, retirement plans in which teachers and other government employees can invest, and 529 plans that allow families to invest money for college.

Under the proposed rule, an investment adviser who makes a political contribution to an elected official in a position to influence the selection of the adviser would be barred for two years from providing advisory services for compensation, either directly or through a fund.

The rule would apply to the investment adviser as well as certain executives and employees of the adviser. Additionally, the rule would apply to political incumbents as well as candidates for a position that can influence the selection of an adviser.

There is a de minimis provision that permits an executive or employee to make contributions of up to $250 per election per candidate if the contributor is entitled to vote for the candidate. (SEC Proposes Measures to Curtail “Pay to Play” Practices, 7/22/09) At first glance, the provisions look stricter than those adopted by CalSTRS in 2007.

Governance Exchange

Governance Exchange provides an innovative, secure and high-quality online environment designed to facilitate communication between the primary stakeholders involved in corporate governance – exclusively institutional investors, board directors and corporate executives. Members also have access to a diverse range of corporate governance viewpoints and research through webcasts, white papers, surveys, and expert analysis. Learn more about the Exchange by listening to a brief podcast. (Inside Track with Broc: Jill Lyons and Stephen Deane on RiskMetrics’ Governance Exchange (7/13/09))

Apparently, directors were initially the most active members on the platform, representing themselves as individuals, rather than representatives of their companies. Institutional investors soon requested a subgroup on the proxy voting process.

Walmart and Sustainability

Bill Baue does a great job of looking their Sustainable Product Index. He’s “keenly skeptical of the Goliath’s conversion to the religion of sustainability, and cautiously hopeful of the promise of grander conversions that Walmart’s change of heart heralded.”

For Baue the question always returns to first principles: “is product consumption really the path to sustainability, or is it more through de-materialization — products not consumed, sold, or produced in the first place?” “Walmart ain’t going away any time soon, so I also root for it to change the world for the better, if it can, he concludes. (The Latest Corporate Social Responsibility News: Walmart and Sustainability: Oxymoron or Salvation – or Both?, CSR press release, 7/21/09)

China & India

Yan Zhang and Nandini Rajagopalan examine the evolution of corporate governance reforms in the emerging economies of China and India. They examine how privatization and globalization are driving reforms. They identify four major obstacles that impede their implementation in both countries, namely:

  1. lack of incentives,
  2. power of the dominant shareholder,
  3. underdeveloped external monitoring systems, and
  4. shortage of qualified independent directors.

They conclude that foreign firms that are sensitive to context-specific challenges are more likely to put in place appropriate contractual or other safeguards, as well as identify more practical and meaningful forms of participation in the governance of their ventures. (Corporate Governance Reforms in China and India: Challenges and Opportunities, HarvardBusiness.org)

Twitter-Based Petitions

I’m posting this as much for my own future reference as anything, since I used Internet based petitions in the past to drum up support for shareowner reforms, such as proxy access. How to: Start a Petition on Twitter reviews several sites that facilitate the process.

Say on Auditors

Eight major audit firms have been named in nearly a dozen securities class action suits related to the Bernie Madoff scandal. Six have been named in cases related to the credit crisis, and those cases likely are just the beginning, says Mark Cheffers, CEO of Audit Analytics.

Audit Analytics sorted out the top 50 accounting malpractice settlements since 1999 and said Ernst & Young has paid the largest amount in settlements related to those cases at $1.92 billion. KPMG follows with settlements totaling $1.42 billion, followed by PricewaterhouseCoopers at $1.27 billion and Deloitte & Touche at $1.25 billion, the firm said. (Audit Firms Sure to Face New Litigation, Experts Say, Compliance Week, 7/22/09)

After Andersen and Enron, how can we still believe appointment of an auditor is “routine.” Maybe it is time shareowners had a “say on auditors.” Better yet, let them make the actual pick from a qualified group.

Suit Anticipation Accurate

Researchers find the more likely a firm is to be sued, the larger is the partial anticipation effect (shareholder losses capitalized prior to a lawsuit filing date) and smaller is the filing date effect (shareholder losses measured on the lawsuit filing date). Their evidence suggests that previous research that typically focuses on the filing date effect understates the magnitude of shareholder losses, and such an understatement is greater for firms with a higher likelihood of being sued. (Shareholder Lawsuits and Stock Returns, HLS Forum, 7,22,09)

Green Century: First With Carbon Footprint Disclosure

The Green Century Balanced Fund is the first U.S.-based mutual fund to disclose its own carbon footprint. Based on measuring the tons of carbon emissions per million dollars of revenue of the companies held by the Balanced Fund and those of the companies included in the S&P 500® Index, Trucost found the carbon intensity of the Balanced Fund is two-thirds less than that of the S&P 500® Index.

According to Green Century Funds President Kristina Curtis, “This information will better inform investment decisions and will strategically enhance our efforts to encourage companies to further measure, report, and reduce their carbon emissions.”

Other key findings of the carbon audit include:

  • The majority of the Green Century Balanced Fund’s low carbon intensity is attributable to the Fund’s underweighting or avoidance of the utilities, oil and gas, and basic resources sectors. Being free of fossil-fuel production or manufacturing companies contributed to the relative positive environmental impact of the Fund.
  • The carbon footprint of the Green Century Balanced Fund (126 tons of carbon per million dollars of revenue of each of the Fund’s portfolio holdings) is almost half the average footprint of 16 other sustainability and socially responsible investing funds (226 tons of carbon per million dollar of revenue of each of those funds’ portfolio holdings) analyzed by Trucost.

Let’s hope that others soon follow their lead.

Pre-paid Variable Forward Contracts

A recent Gradient Analytics report found that many of these contracts, which protect executives from declines in their company share holdings, are often are struck not long before “unusual levels of negative corporate events” resulting in price declines. In November 2006, Chief Executive Charles Raymond entered forward contracts in which he committed shares at a price of about $27, according to regulatory filings. In exchange, he was given $5.3 million. By the time the contracts matured in early 2009, the stock had fallen to below $5 a share.

Some companies, such as Pitney Bowes Inc., have banned the arrangements. Investing in Corporate Governance: Forward Sales, from The Corporate Library offers advice for shareholders who wish to identify companies that prohibit forward sale contracts and lists the names of several companies that allow them and those that have banned them.

Two directors at Freeport-McMoRan. Both B.M. Rankin, who is a member of the company’s public policy committee, and James Moffett, the current chairman of the board and former CEO, have engaged in pre-paid forward contracts via a limited liability company and a limited partnership, respectively, of which they are members or sole partners. (Forward sales – why lose your own money when you can lose someone else’s?, The Corporate Library Blog, 7/22/09)

SEC Investor Advisory Committee (updated 7/21/09 evening)

I’ve discussed the newly appointed SEC Investor Advisory Committee previously. The Committee will hold its first meeting on Monday (7/27/09). They’re inviting input. Comments were due 7/19/09 but the work of the Committee certainly won’t be completed at this first meeting. Therefore, I’m hoping they will review all comments… even those that are late. Of course, I’d like to get the issue of “blank votes” on their agenda.

You might want to get a statement of your own priorities to the Committee. See posted comments. Some of the existing comments address:

  • Get a real representative of individual investors on the Committee.
  • Get rid of mandatory arbitration for stockbrokers and brokerage firms and, more broadly, protect the legal rights of defrauded shareowners.
  • Better definitions and disclosure re mutual funds, financial advisors, and brokerages.
  • Better disclosure of executive pay.
  • Expand SEC’s role in education.
  • Strengthen regulation of the markets.
  • Increase the accountability of boards and corporate executives.
  • Improve financial transparency, including disclosure of climate change-related risks and material environmental, social and governance risks in securities filings.
  • Reexamination of XBRL requirements to ensure user friendly.
  • Extend proxy vote disclosure requirements to include all institutional investors.
  • Product neutral disclosure requirements to consumers.
  • Better disclosures for municipal securities, credit rating agencies, and target retirement funds.

Written statements can be submitted using the Commission’s Internet submission form or by send an e-mail message to [email protected]. Include File Number 265-25 on the subject line.

Here’s my own draft wish list:

  • Support increased intelligent proxy voting by individual investors by encouraging development of information infrastructures that will help individuals vote by providing them with better information on the specific issues. The best efforts I’ve seen in this area are those by ProxyDemocracy.org, TransparentDemocracy.org, and Moxyvote.com.
  • Develop educational programs that would be posted on the SEC Internet site and would be widely distributed through brokers, investor associations, and retirement plan vehicles (such as 401(k) plans), that explain the importance of proxy voting, how it relates to corporate governance, and how proxy voting provides an opportunity to influence both the earning power and social/environmental values of companies.
  • Require better disclosure of proxy votes and policies by all institutional investors in a uniform format for posting to the Internet. Encourage disclosure of votes, including the reasons for each specific vote, prior to annual meetings. Retail shareowners and beneficial owners should be able to see how institutional investors are voting and why. In voting their own proxies, they should be able to copy from a combination of trusted “brands.” In monitoring institutional investors who vote on their behalf, they should be provided ample opportunity to influence those votes.
  • Review the integrity of the proxy voting process to ensure it truly reflects the wishes of the electorate. Get rid of “blank vote” mechanisms (see rulemaking petition File 4-583), share lending that may extend to votes, etc. Consider a self-regulated “proxy exchange” that would hold all proxies and would ensure proxies are cleared and counted properly, without interference by corporations. Corporations and shareowners should have the same access to proxy votes and counts.
  • Encourage funds to pass through votes to beneficial owners. This is especially critical at Employee Stock Ownership Plans (ESOPs) to ensure they are not used as management entrenchment devices. Given that mutual funds are increasingly voting abstentions, they may embrace this option if it is specifically sanctioned by the SEC. Alternatively, examine how funds are structured to obtain input from beneficial owners in corporate governance issues.
  • End the ability of stockbrokers and brokerage firms to require mandatory arbitration.Support proxy voting by individual investors by encouraging development of information infrastructures that will help individuals vote intelligently.

I congratulate Mark Latham, one of the Advisory Committee members assigned to represent individual investors, who is already posting the Committee’s agenda and his own thoughts about where it should be headed. Although it looks like a lot of work, I hope he will continue to keep investors informed of the Advisory Committee’s happenings and progress.

I’m a little concerned that he will get so much feedback that he won’t be able to read it all. However, at least initially, the apathy of individual investors may turn out to be underwhelming. I’ve created a permanent link to Latham’s VoterMedia Finance Blog on my Links page under Government/Securities and Exchange Commission/Investor Advisory Committee/VoterMedia Finance Blog. If I learn of other Committee members posting blogs, I’ll post links to them as well. I certainly hope they follow his example in reaching out to the investing public.

Words Create Worlds

Stephen Viederman, former president of the Jessie Smith Noyes Foundation, begins a useful discussion of responsible investment terms with the quote from civil rights leader Rabbi Abraham Heschel that I use for the title of this post. “Confusion over terminology describing an investment approach that considers environmental, social and governance (ESG) factors obscures the point of our work linking investing and corporate change.” If you’ve ever been confused about the differences between SRI, RI, SI, etc. you’ll find his discussion useful. (The semantics of RI: what are we talking about?, responsible investor, 7/6/09)

Demand for More ESG Disclosure

More than 50 major investment firms and professionals, including CorpGov.net, joined the Social Investment Forum (SIF) in calling on the SEC to strengthen financial markets and foster sustainable business practices by requiring publicly traded companies to report annually on a range of environmental, social and corporate governance (ESG) matters. The organizations are asking the SEC to require companies to report:

  1. Standardized sustainability disclosures: First, we are asking the SEC to mandate that companies report annually on a comprehensive set of sustainability indicators comprised of both universally applicable and industry-specific components. To ensure consistent reporting, we would like issuers, after an appropriate implementation period, to adhere to the highest reporting level of the current version of the Global Reporting Initiative (GRI) guidelines.
  2. Materiality guidance and risk disclosures: In addition, we ask the SEC to issue interpretative guidance to clarify that issuers are required to disclose short- and long-term sustainability risks in the Management Discussion and Analysis section of the 10-K (MD&A). This would give companies guidance on reporting in general and particularly on emerging issues that GRI might not directly address. It would also require companies to highlight their most pressing sustainability challenges and opportunities for investors.

Given the current economic crisis and developments in ESG disclosure globally, we believe that the time is right for the SEC to explore and institute requirements for corporate sustainability reporting. (full text of 7/21/09 letter)

SIF is also one of the sponsors SRI in the Rockies. Learn more about the 20th Anniversary 2009 Conference to be held October 25–28, 2009 at the JW Marriott Starr Pass Resort & Spa in Tucson, Arizona.

Shareowner Forums

More than a year ago, the SEC adopted amendments to the proxy rules to facilitate the creation and use of electronic shareholder forums. Communication on such forum aren’t deemed proxy solicitationas, as long as certain conditions are met, and operators aren’t liable for content posted by others (the users). Abe Wischnia has apparently facilitated several and asks, IR 2.0 Wake Up Call: Why Aren’t You Using Web 2.0 in Your Shareholder Communications? (IRalert, 7/20/09)

Wischnia cites Oxygen Biotherapeutics, Inc. as one example. What do you think? (Thanks to Dominic Jones for bringing this to my attention.)

“A February survey by Thomson Financial found only 4 percent of 42 public companies surveyed planned to create a shareholder e-forum or were seriously considering it. Another 56 percent were not considering the idea, and 40 percent said they were only beginning to think about it.” (Companies shrug off shareholder e-forum idea, Reuters, 5/16/09)

Apparently, most don’t see the point, since retail shareowners are the ones who typically show up on these forums and they don’t vote. Therefore, at this point such forums appear destined to serve only small companies with few institutional investors.

Broadening Fiduciary Duty

Janice J. Sacldey posts a good discussion regarding the Obama administration’s goal to widen the applicability of fiduciary duty to establish a fiduciary duty for broker-dealers. Sacldey makes a substantial contribution to the dialogue when she suggests investment professionals be clearly in one of three camps:

  1. The first group would be advisers who are held to the highest fiduciary standards such as those of a trustee, not merely the SEC fiduciary standard of “best interests,” but one in which the adviser solely represents the interests of the client as discussed above. Positive client consent would be required (absent statutory authority) for all self-dealing.
  2. The second camp would be brokers who sell products, clearly disclosing to the consumer that they aren’t fiduciaries and don’t represent solely client interests, and that they get paid based on commissions from products or securities sold. This is somewhat equivalent to insurance agents who represent their firms, make commissions and don’t have a fiduciary obligation to customers.
  3. The third camp would be the broker order-taker who isn’t authorized to give any advice, isn’t permitted to push products and is relieved of any duty to establish suitability. This level of broker is paid a salary by his or her firm and not a commission, and has no obligations to the consumer other than to follow their instructions for trade execution in a prompt and fair manner. (What, exactly, does fiduciary really mean?, InvestmentNews, 7/19/09)

ShareOwners.org (updated 7/20/09)

Since its debut, I’ve posted several times about the new social networking site, ShareOwners.org. Given my near complete devotion to corporate governance and some would say nonexistant personal life, I’ll rarely be checking Facebook, Linkedin, etc. with this option. The conversation is just so much more interesting.

The Corporate Boardmember, a trade publication aimed at corporate directors, has taken note of the site and has a very good interview with Rich Ferlauto, chairman of ShareOwners.org/the ShareOwner Education Network. (“It’s Time That Directors Step Up To The Plate”) Here’s a few things he says that are noteworthy:

  • We’re working with a number of institutions to organize and reach out to their memberships. (I’d love to see the site include the ability to setup subgroups… like those who are members or or are interested in CalPERS, Fidelity, TIAA-CREF or shareowners in specific companies.)
  • 17% of investors surveyed (24 million people) are interested in joining an organization that would educate them and give them a voice. (As I post this, almost 300 have signed up; only 23,999,700 to go. Plenty of room to grow.)
  • Also see the site as a vehicle for shareowners to talk with boards, as well as their financial intermediaries and financial professionals— brokers and mutual funds, to ensure they put the interests of the clients first.
  • Advocating for ownership rights and educating shareowners and beneficial owners.

He ends the interview with a plea for board members to use the site as a way of reaching out directly to their shareowners. OK progressive board members, here’s your chance to be on the vanguard. Register on shareowners.org and start a conversation about your company and how it might be improved.

Listen to a great interview of Ferlauto by Broc Romanek of CorporateCounsel.net. (Inside Track with Broc: Rich Ferlauto on Launch of Shareowners.org (7/16/09)) Another reason to subscribe toCorporateCounsel.net. Good on history and where the site is headed.

Proxy Access

Les Greenberg and I petitioned the SEC for proxy access back in 2002, so we both have a longstanding interest in seeing a proposal move forward. The Council of Institutional Investors said our proposal “re-energized” the “debate over shareholder access to management proxy cards to nominate directors.” (See Equal Access – What Is It?) Of course, AFSCME deserves most of the credit and nothing moved the issue like AFSCME vs AIG. The SEC’s latest attempt, File No. S7-10-09 Facilitating Shareholder Director Nominations, is by far the Commission’s best effort. I’m attempting to formulate myown comments and would welcome your thoughts. (send to [email protected])

On June 11th Greenberg, on behalf of the Committee of Concerned Shareholders, was among the first to submit extensive comments in this round. He argues mutual funds are too conflicted to run dissident director candidates, whereas large pension funds already have the resources but have stayed on the sidelines. The SEC’s proposed percentage ownership requirement are “arbitrary,” without legal basis or precedent. The thresholds will be nearly impossible to meet except “in extremely rare circumstances”… like when a company is in near bankruptcy (my interpretation). Don’t limit the number of shareowner nominees to 25% and stick with the time-tested threshold of $2,000.

Where this would result in more than two candidates per seat, borrow the “lead plaintiff” concept from the Private Securities Litigation Act of 1995 and include a “lead nominator” provision, something we suggested in amendments to our original submission.

With a ‘lead nominator’ provision, there is absolutely no need for a percentage stock ownership threshold. The ‘lead nominator’ solution would allow Individual Shareholders to act as watchdogs of their investments at 9,000+ corporations that have publicly traded securities. Institutional Investors do not have the interest, desire and/or resources to seek Director accountability on such a scale.

I would love to see the SEC move in this direction. As far as I’m concerned, let’s have contests at every company. Retail investors might then begin to think of themselves as shareOwners, not betting slip holders. They might even begin to vote!

No government agency can match the vigilance of millions of shareowners. We have the incentive; just give us the tools. In most cases, the only extra expenditure for companies would be for slightly expanding the proxy. Mildly dissatisfied shareowners, aren’t likely to be swayed by the arguments of dissidents… unless they are spot on. If they aren’t spot on, the company will just call them nuts and won’t bother with a campaign.

The long-term result would be that many more shareowners like Les Greenberg at Lubys and Eric Jackson at Yahoo would emerge with thoughtful analysis that could benefit all shareowners. Maybe organizations like the American Association of Individual Investors would then focus just a little on how to add value as owners, instead of exclusively on how to pick and trade stocks.

Phillip Goldstein, representing Opportunity Partners L.P., goes even further in raising fundamental issues in his July 16th comments.

Consider two stockholders who are substantially identical in every respect except (1) Stockholder A did not acquire his shares for the purpose of changing or influencing the control of the issuer but has now become convinced that change is needed in the boardroom while (2) Stockholder B, who was arguably more prescient, bought her shares with the intention of eventually proposing just such a change.

Of course, both have a legal right at the meeting to nominate directors but almost all votes are cast through proxies. While page 9 of the rulemaking says “The proxy rules seek to improve the corporate proxy process so that it functions, as nearly as possible, as a replacement for an actual in-person meeting of shareholders,” but the proposed rules disenfranchise Stockholder B, presumably the brighter of the two.

Goldstein argues, “Consequently, the Commission should junk its quixotic attempts to create a Rube Goldberg-like mechanism to balance the interests of various special interest constituencies that are less than committed to truly free corporate elections.” Instead, “The Commission can craft a simple common sense rule to require that any proxy card that that excludes the name of any bona fide nominee known to the soliciting party is materially misleading and hence a violation of rule 14a-9(a).”

Goldstein’s proposal is straightforward and within the SEC’s current legal authority, whereas the SEC’s proposal may be neither.

I know of no state that requires a holding period or a minimum investment before a stockholder can propose a nominee. Why then should the Commission discriminate between long and short-term stockholders or between large and small stockholders? More importantly, there is no legal basis to do so…

The Commission should have banned “one party” proxy cards years ago. It is obvious that such a proxy card frustrates the free exercise of voting rights because it results in the “election” of directors who might not have otherwise been elected if a proxy card with all bona fide nominees was provided to shareholders.

A better model than the proposed “Rube Goldberg-like mechanism to balance the interests of various special interest constituencies that are less than committed to truly free corporate elections,” which includes directors and management, would be to craft a rule more akin to those governing union elections requiring:

Every labor organization refrain from discrimination in favor of or against any candidate with respect to the use of lists of members, and whenever such labor organizations or its officers authorize the distribution by mail or otherwise to members of campaign literature on behalf of any candidate or of the labor organization itself with reference to such election, similar distribution at the request of any other bona fide candidate shall be made by such labor organization and its officers, with equal treatment as to the expense of such distribution.

Goldstein concludes:

A rule requiring every proxy card to include all known bona fide nominees as well as rules modeled after Section 481 of The Labor-Management Reporting and Disclosure Act of 1959would ensure “the free exercise of the voting rights of stockholders” and would almost certainly be upheld by a court as a valid exercise of the Commission’s rulemaking authority.

Both Greenberg and Goldstein get to the real issues. I’m afraid too many will be distracted by the hundreds of questions raised by the SEC, the labyrinth of language only an SEC attorney could love, and the need to arrive at a consensus document that all with a vested interest in the status quo can at least live with.

So far, the best start of an analysis I’ve seen in this direction is posted in bits by J. Brown attheRacetotheBottom.org. Brown goes as eagerly into the weeds as a Labrador Retriever. For example, he says language in proposed Form 14N-1, which requires the person signing to certify their shares aren’t held for the purpose of changing changing control,

is unnecessary and likely to provide grist for the litigation mill. Boards may decline to include nominees if they can develop an argument that submitting shareholder has a control purpose. The fact that the director was submitted at all is evidence of some desire to influence control. Anyone with a history of sometimes trying to get control will be an easy target. Moreover, the Commission is not limiting its analysis to the current motivation of shareholders. Instead, they must represent that when they were acquired (one year ago, five years ago), there was no intent to effect a change of control or acquire more than a ‘limited number’ of seats…

To the extent that the agency wants to reduce the use of Proposed Rule 14a-11 for any attempted change in control, it would be enough to provide that nominees may only be submitted by those shareholders who meet the ownership requirements and who are not otherwise engaged in a proxy contest (or in league with anyone who was) under Rule 14a-11. In that way, the issue wouldn’t turn on control but on the number of directors nominated in any given election.

Brown also goes into an interesting analysis of the SEC’s attempt to address exclusion of shareowner nominees through board adopted qualification requirements.

To the extent that a company uses qualifications to exclude a nominee from the proxy statement, it will be in violation of the proxy rules and risk a federal law suit. If the nominee is allowed, the company may nonetheless refuse to seat anyone elected if they violated the board imposed qualification requirements. This in turn may precipitate a law suit in state court over the validity of the qualification requirement.

In another post, Brown criticizes the rush to the courthouse approach, endorsing instead the SEC’s 2003 proposal in this area giving priority to nominees from the largest shareholders. He also express concerns about the proposed threshold, especially with respect to smaller companies.

While the release notes that many companies below $75 million have 5% shareholders, it is also likely the case that these companies more often have controlling shareholders. Thus, the 5% shareholders may already have control of the board. In those circumstances, there may be even greater need to enable minority shareholders to elect their own nominees. This may require a lowering of the percentage.

I look forward to much more from J. Brown. If anyone else is posting comments on the proxy access proposals or is willing to share preliminary thoughts, please let me know. (send to [email protected]) Comments to the SEC are due August 17, 2009. Voice your opinion by sending an e-mail to [email protected]. Be sure to include “File S7-10-09” in the subject line. (linkhttps://www.corpgov.net/news/news.html#ProxyAccess until sometime in August)

Dell (Updated 7/17)

Dell’s annual meeting was held on July 17th. I see Proxy Democracy gathered the votes of AFSCME Employees Pension Plan, CBIS, Calvert Social Index Fund, CalSTRS, Trillium Asset Management and Florida SBA. CalSTRS withheld votes on all directors, voted against ratifying the auditor, and favored both shareowner proposals:

  1. Reimburse Proxy Contest Expenses
  2. Reduce Supermajority Vote Requirement (my proposal)

Supermajority requirements are most often used to block initiatives supported by shareowners but opposed by management, such as entrenchment. Eight of our directors use “Accelerated Vesting” of stock options to avoid recognizing related costs. Additionally, we have no shareowner right to: An independent Board Chairman or To call a special meeting by 10% of shareholders. Vote along with CalSTRS to send a clear message. (Disclosure: The publisher of CorpGov.net owns shares in Dell.)

All company recommended directors were elected. Shareowner proposal 1 by AFSCME won a very respectable 35%. My proposal, #2, won 69%, so we now hope each shareowner voting requirement in our charter and bylaws that calls for a greater than simple majority vote will be changed to a majority of the votes cast for and against related proposals. This includes each 67% shareholder provision in our charter and/or bylaws. Thanks to John Chevedden for all his work on the proposal with me and to Scott Adams of AFSCME for presenting it at the meeting.

Institutional Investor Complicity with Bad PE Governance Practices for IPOs?

Posted by Andrew Shapiro (Lawndale) on July 15, 2009 at 3:38pm to ShareOwners.org: The recent June 10, 2009 Corporate Library and IRRC Institute study entitled What Is the Impact of Private Equity Buyout Fund Ownership on IPO Companies’ Corporate Governance? examined whether private equity buyout firms institute more shareholder-friendly corporate governance structures in their IPO companies than non PE-backed IPO companies.

One question I have posed at several past meetings of the Council of Institutional Investors (CII) is – “Why do Public and Private pension plan CII members, who spend substantial resources to fight to implement shareholder-friendly corporate governance structures in public portfolio companies, invest monies with ANY private equity firm that take their portfolio companies public with the very poor and shareholder-UNfriendly corporate governance structures these same plans spend resources to remove?”

Corpgov.net: Andrew, your point is excellent. CalPERS, CalSTRS, Florida SBA and others who have shown leadership should take the lead on this issue and should limit their investments to private equity firms with a good governance policies. Are other CII members also members of ShareOwners.org? If so, I don’t see them.

Shapiro: I believe most if not all CII member funds (eg. CalPERS, CalSTRS) presently participate in PE funds that bring out unshareowner friendly IPO as their investment groups don’t extend public investment policies into PE area to limit their investments to private equity firms adhering to a good governance policy. These funds may argue (though I think it a bunk argument) that best mgmt is only attracted to start-ups that provide job security and entrenchment protections. Yet before the company is even brought public these managers don’t have such protections from the controlling private equity principals. So why do these mechanisms suddenly become needed in their new to go public form?

Just a flavor of the kind of dialogue you’ll find at ShareOwners.org. As I reported earlier, 80.6% of polled delegates at The International Corporate Governance Network conference in Sydney agreed that investors encouraged the risky behavior that led to the the global financial crisis. (Forum finds investors responsible for GFC, InvestorDaily, 7/15/09) Now it looks like they’re complicit with poor IPO practices by PE funds. Let’s help them fix it. What drives corporate governance? Good practices by investors.

Being a Director Should be Considered a Real Job

Jonathan Drance and Edward Waitzer compare and contrast private-equity and public boards and conclude we should Make directors work. (National Post, 7/16/09) I’ve seen the comparisons before; it’s the conclusion that is novel.

In private equity, CEOs are clearly subordinate to their board. This contrasts with many public companies where, absent a crisis, directors often effectively view themselves as virtual employees of the CEO. Private-equity boards tend to be smaller and comprised of individuals with or representing substantial ownership stakes — many of whom would not be considered “independent” under the regulatory frameworks governing public company boards. The primary focus for board selection tends to be effectiveness. The issue, when it comes to independence, is on a director’s ability to bring informed and objective judgement to their role. Conflicts of interest tend to be faced and managed (rather than pretending they can be avoided). Private-equity directors devote more time, and receive better information and more (and longer-term equity-based) compensation. Social customs tend to differ as well, with discussions at the board level and between directors and management being more forthright and focused.

While private-equity directors devote 40-60 mostly hands-on days a year, public company directors average of 18-25 days, largely at or preparing for board and committee meetings. “What if, instead of spending 25 days, public company directors were expected to dedicate 80-100 days a year to their responsibilities?”

When I first ran for the CalPERS Board in 1986 it was a part-time job. The Government Code limited CalPERS to reimbursing the employers of directors elected by state, school or public agencies to 25% their salary. The implication was, they were expected to spend no more than 25% of their yearly time on CalPERS related matters.

Over the years, CalPERS adopted various internal policies, which I believed were in conflict with that limitation. I understood directors couldn’t do the job working only 25% time. However, I felt CalPERS should be clearly in compliance with the law. My advice was, “Admit the job is bigger than it once was. Go to the Legislature to get the law changed.” To urge them down that path, in December 2000 I filed apetition with the Office of Administrative Law, arguing their policies constituted underground regulations. Language operative in 2003 removed that restriction from Section 20092 of the Government Code.

Isn’t it time shareowners, CEOs and corporate boards admit, if we really want directors of public companies do their jobs they need to be reimbursed for more than 20 days a year? If serving on the CalPERS Board is practically a full-time job, why isn’t that the case for the directors serving on the board of GM or Exxon Mobil? For years, CalPERS was in denial. Then they finally woke up and got clear legal authority to allow directors to devote far more than 25% of their time to their work. CalPERS had to go to the Legislature, so they were reluctant. What’s the excuse for public corporations?

Barriers Remain

Chris Mallin, Professor of Corporate Governance and Finance & Director of the Centre for Corporate Governance Research at the University of Birmingham, argues that “companies do not always take as much notice of the votes cast as one would like,” citing a largely ignored vote at Marks and Spencer. She points out that withhelds in the UK are not counted as votes cast and may facilitate sitting on the fence, whereas in the US such votes have meaning where majority vote requirements are in place.

Mallin goes on to note our “blank vote” petition to the SEC. “Clearly the area of voting is a complex one and changes are being brought in over time to remove barriers to voting and to help ensure that votes are cast in a way which fairly reflects the owners’ intentions.” (Voting and Corporate Governance: Having a Say, OUPblog (7/16/09) and Corporate Governance (7/13/09)

Preventing Failed Director Elections

Georgeson offers excellent advice regarding “the increased risk for a failed director election in the wake of the elimination of the broker discretionary vote, particularly in the circumstance of a company with majority voting or a director resignation policy in place.” Everyone involved in director nominations or proxy voting, especially re directors, should read the post.

On item caught my eye. “We recommend that companies take steps to analyze its impact based on a number of factors, including: …The likelihood that some brokers may adopt ‘client directed voting’–a system in which the shareholder would give standing instructions to brokers on how to vote their shares on director elections and other issues.” (SEC Approves Elimination of Broker Discretionary Voting in Uncontested Director Elections, 7/14/09)

Those of you who are developing systems to help retail shareowners vote intelligently should start working with brokers now. We sure don’t want options for “client directed voting” to be limited to what was proposed in A modest proposal? Speak for yourself (Corporate Secretary, 6/2007)

  1. vote as management recommends
  2. vote against management
  3. abstain on all matters
  4. vote in accordance with the brokerage firm’s published voting policies
  5. vote proportionally with the firm’s other clients’ instructed votes on the same issue.

We’ve made too much progress building intelligent vote gathering systems since then. Brokers shouldn’t expect these limited options either. Contact me if interested. If you are a shareowner, don’t sign anything your broker offers you with regard to “client directed voting.” We already have Proxy Democracy andTransparentDemocracy.org. Both systems are improving and much more is on the way to help you vote easily.

Corpgov Bites

The Sustainable Endowments Institute (SEI), a special project of Rockefeller Philanthropy Advisors, seeks highly motivated and reliable individuals for part-time fellowship opportunities this fall. The work will build on the success of the last three College Sustainability Report Cards, which have been viewed by more than 350,000 people.

“There’s a lot of widely accepted evidence that good corporate governance pays off.” Chris Jones at the Motley Fool tries to convince his readers it is worth looking at governance scores. (Does Good Governance Make Great Stocks?, 7/15/09) Not easy when most of his readers are probably focused on the next quick pick tip.

The long-awaited review of UK corporate governance by Sir David Walker, former chairman of Morgan Stanley, has proposed a raft of recommendations including a requirement for fund managers to reveal whether they have a policy on engagement with investee companies under a set of Principles of Stewardship. The review says the Principles would also oblige fund managers to vote their shares and then disclose their voting record. (Engage and vote or explain, Walker tells investors in major UK governance review, Responsible Investor, 7/16/09)

Barack Obama’s plan to give the Federal Reserve extensive powers over all large US financial groups is attacked by a coalition of investors, analysts and ex-regulators who say the Fed’s credibility has been “tarnished” by its role in contributing to the crisis. The Systemic Risk Oversight Regulator, proposed by the investors, would have a full-time staff led by a chairman and four members appointed by the president and confirmed by the Senate, and would be accountable to Congress. (Coalition to attack plan for Fed powers, FT, 7/15/09; see also President’s Financial Regulatory Plan Comes Under Attack, Washington Post, 7/16/09) In theory the Federal Reserve is accountable to Congress. Let’s hope the proposed Systemic Risk Oversight Regulator would be more so.

Timothy Smith of Walden Asset Management sent a thoughtful letter to the SEC on 7/14/09 in support of the Commission’s proposal to mandate Shareholder Approval of Executive Compensation of TARP Recipients. The letter is detailed and summarizes some of the history of work on the Advisory Vote, as well as calling for the SEC to move to mandate the vote to companies beyond TARP recipients. I might just write in and say, “me too.” (Thanks to the Social Investment Forum for alerting me to this item.)

80.6% of polled delegates at The International Corporate Governance Network conference in Sydney agreed that investors encouraged the risky behavior that led to the the global financial crisis. (Forum finds investors responsible for GFC, InvestorDaily, 7/15/09)

Democrats named former California State Treasurer Phil Angelides to serve as chairman of the Financial Crisis Inquiry Commission. Republicans named former Ways and Means Committee Chairman Bill Thomas as vice chairman. The Commission will have wide-ranging subpoena power to investigate the financial crisis and must release a report by Dec. 15, 2010. (Congress announces financial commission members, The Hill, 7/15/09; Thanks to the Social Investment Forum for alerting me to this item.)

Considering the fact that most disclosure instruments are sophisticated and disseminate information to a selected group of individuals (such as institutional investors and analysts), Twitter enables a wider dissemination to all public through a cost-free mechanism, which is a good reason for the in (Investor relations community to adhere to the tool. Twitter certainly does not eliminate the use of standard communication instruments, but rather compliments a company’s communication effort. (Twitter, the New Investor Relations Communication Tool, IR Global Rankings, 7/15/09) And from Dominic Jones, viaTwitter, “All those IR consultants advising pubcos to use Twitter, do you tell clients about Twitter’s security & stability history?”

A “legislative backstop” would be “helpful.” During a House of Representatives hearing on Tuesday, SEC chair Mary Schapiro said she would support legislation that would confirm the authority of the commission to issue a proxy access rule. (Schapiro Welcomes Legislation on Proxy Access and Rating Firms, Ted Allen, RiskMetrics Group Blog, 7/15/09)

TIAA-CREF, the nation’s largest pension system, proclaims itself a leader in corporate/social responsibility, as well as in customer satisfaction. And yet, some of its members question its practices. (At the CREF Annual Meeting, Shareholder Say “How Hypocritical can You be? Let Me Count the Ways,” CSRwire, 7/14/09)

So much is good at the HLS Forum on Corporate Governance and Financial Regulation but Delaware’s Art of Judging deserves special mention. 7/14, 2009

A recently published study by the Shareholder Association for Research and Education (SHARE) and Fund Votes found that while Canadian mutual funds were more likely to oppose management nominees for boards of directors in 2008, the majority of mutual funds continued to vote overwhelmingly in favor of management proposals, and against proxy items proposed by shareowners. Also of note, when it came to the voting patterns of SRI funds sold by diversified fund companies, the report found that proxy voting patterns were the same as in mainstream funds offered by the same companies. (Canadian Mutual Funds Continue to Vote Against Shareowner Proposals, SocialFunds, 7/9/09) Thankfully, most SRI funds now recognize that corporate governance and proxy voting matter. Why would anyone put money in an “SRI fund” that doesn’t recognize that basic fact?

“Stakeholders” will have diminished rights under the Philippines Revised Code of Corporate Governance, which has essentially dropped references to individuals and entities — apart from stockholders — with legal and business standing to ensure that companies are well-managed. The SEC “seems to have lost the heart and just decided to go back to the old corporate maxim that the duty of the Board of Directors of every corporation is to maximize its profits,”said Ateneo Law School Dean Cesar L. Villanueva. (New governance code ‘abandons’ stakeholders, BusinessWorld, 7/15/09)

Jamie Allen, secretary general of the Asian Corporate Governance Association, said the bulk of corporate governance action occurs outside of Asia because within the region institutional investors have not been supportive. (Corporate governance needs national voice, FinancialStandard, 7/15/09) Agreed, if Asia wants to play a major role in shaping global governance standards, institutional investors need to be involved in organizations like ACGA.

York University’s Richard Leblanc, a professor of Corporate Governance, Law and Ethics, suggests directors often poorly understand risk management. A competencies and skills matrix would combat this lack of understanding by exposing areas where a board lacks expertise. Canadian firms are ahead of those in the US in this area as well as in splitting CEO and Chair positions and assessing individual directors. (US corporate governance reforms should follow Canada’s lead, Exchange, 7/13/09)

The Society of Corporate Secretaries and Governance Professionals is broadcasting a special program from the NASDAQ MarketSite on Wednesday, July 15, 2009. The program will feature the Society’s former Chairman, William Mostyn, who will host a panel discussion highlighting the most compelling themes from this year’s Society National Conference held in San Diego, June 25 – 28, 2009. Webcast link.

Auditing Governance

The July 3rd edition of Compliance Week contained an article by Dan Swanson entitled Internal Audit’s Seat At The Governance Table that discusses the Institute of Internal Auditors’ global position statement regarding organizational governance on the many roles that internal auditing can play in an organization’s governance effort. Key takeaways:

“Auditors provide independent, objective assessments on the appropriateness of the company’s governance structure and the operating effectiveness of specific governance activities. Second, they act as catalysts for change, advising or advocating improvements to enhance the organization’s governance structure and practices. By providing assurance on the risk management, control, and governance processes within an organization, internal auditing is one of the cornerstones of effective organizational governance.”

“When there is much to do in formalizing and strengthening governance efforts, internal audit will likely focus more on providing advice regarding best structure and good practices to consider. Where governance is very structured and operating relatively effectively, the audit would likely focus on identifying further improvement opportunities and assessing the performance of key controls and practices. Benchmarking the company’s governance practices to similar organizations could be very beneficial. “

Internet Evolution and TCL’s 2009 Public Funds Forum

The Internet Will Drive Corporate Monitoring. Mark Latham wrote a paper by that title about ten years ago before the dot.com bust and now it finally seems to be unfolding. I’ve been raving for several years about Proxy Democracy and the Investor Suffrage Movement. Both are making substantial progress. New entries are Shareowners.orgTransparentDemocracy.orgVoterMedia.orgMoxyVote.compromises to take it to a new level. Right when individual investors have just about stopped voting entirely, new internet platforms are being developed to make sharing and obtaining advice from others easy. Initially, this movement came from grassroots efforts by concerned people who toiled the fields selflessly. Now, others are beginning to recognize that individual investors and beneficial owners must have a role in corporate governance. Who will influence how they vote and how they pressure their funds to vote.

Two primary sources in providing advice that may populate the data sets of such platforms are theSocial Investment Forum, the Council of Institutional Investors, and the individual members of these organizations. Individual investors used social networking concepts because they had no alternative. Now, we see another new and interesting development in The Corporate Library’s use of social networking tools to promote and enhance its upcoming conference, The Future of Corporate Reform. In some ways, this upcoming conference comes from the other end of the spectrum, not grassroots but global. The goal of providing solutions “through changes in investment strategy, litigation and public policy to restructure the public corporation and ensure that it delivers on the promise of wealth creation for shareholders and society” is much the same as what drives grassroots efforts. Now we see them beginning to use some of the same internet tools.

TheCorporateCouncsel.net and CompensationStandards.com have long been leaders in sponsoring conferences and making lots of deep content available on their web sites to enhance the experience. However, The Corporate Library is the first I know of (I’m sure readers will correct me, if I’m wrong.) to use a social networking site (in this case, Linked in). Registered attendees can begin networking before the conference. News is being posted. Discussions have already started. Will we see subgroups developing? While others will probably be checking with friends on Linkedin to see if they are yachting or riding hot air balloons, I’ll be using it to try to find a roommate at the Hotel del Coronado.

Shareowners.org at 250

Checking in at Shareowners.org on Friday 7/10/09 and I see this social networking community on shareowner issues has already grown to 250 members. That seems like quite a few on a relatively obscure subject in two weeks time. However, it isn’t just the numbers, it’s the quality. A lot of these folks are policy wonks and activist who will have significant influence in the Obama Administration.

Take the 250th member, Bob Laux of Redmond Washington. Google him and learn that he’s the Director of External Reporting at Microsoft Corporation. He’s a member of the Accounting Standards Executive Committee (AcSEC), authorized to set accounting standards and liaisons with the Financial Accounting Standards Board (FASB), the Governmental Accounting Standards Board (GASB), the Federal Accounting Standards Advisory Board (FASAB), the Securities and Exchange Commission (SEC), and the International Accounting Standards Board (IASB). You can see his comments to the SEC on “Allowing U.S. Issuers to Prepare Financial Statements in Accordance With International Financial Reporting Standards” and his SSRN paper (with others) on “Acceptance from Foreign Private Issuers of Financial Statements Prepared in Accordance with International Financial Reporting Standards Without Reconciliation to U.S. GAAP.” And, of course, you can find much more on Laux.

Going back halfway through the list is Tim Smith, Senior Vice President, Environmental, Social and Governance Group at Walden Asset Management. Prior to joining Walden and Boston Trust, Tim served as Executive Director of the Interfaith Center on Corporate Responsibility (ICCR). Until recently, he served as the Chair of the Social Investment Forum, an industry trade group. Smith is fellow who got me interested in proxy voting.

Keep the exercise up and you’ll find an amazing list of who’s who. And in the few minutes it took to write this, there’s another new member. At 251 is Joshua Humphreys of the Center for Social Philanthropy. Humphreys has advised numerous organizations on issues in social and environmental finance, including the Environmental Grantmakers Association, Green Harbor Financial, Proxy Democracy, Rockefeller Philanthropy Advisors, the Social Investment Forum, Sustainable Endowments Institute, and the World Bank Group.

All this to say, “sign up.” Act quick and you can be member #252.

UK Advice of Note

David Wilson, Director, Policy and Strategy at the Institute of Chartered Secretaries and Administrators, offers UK companies recommendations going forward in Setting the New AgendaGovernance, June 2009:

  • Consider putting less emphasis on the role of board committees and more on the role of the board, so it is better aware of its collective responsibilities.
  • Consider an independent external appraisal of risk management and internal control systems.
  • Consider limiting the number of directorships board members can accept, increasing their pay, and requiring a specified course of instruction on their duties and obligations.
  • Consider continuing education requirements.
  • Consider not only an annual review of each member, but reporting results to shareowners.
  • Consider a specified course of instruction.
  • Consider an adequately resourced company secretariat, reporting to the board, not to management.


BusinessWeek profiles the open book management practices of WorldBlu List awardees Tracer Corporation, Menlo Innovations, and SRC Holdings Corporation in “To Beat the Recession, Open Your Books.”

Workplace democracy advocate Rune Kvist Olsen released a paper entitled The DemoCratic Workplace: Empowering People (demos) to Rule (cratos) their own workplace. The paper discusses preliminary steps for designing and transitioning to a democratic workplace and key topics personnel should explore in order to create a shared vision of their desired workplace. Olsen also elaborates on the power dynamics intrinsic to a vertically-structured workplace, and differentiates between leadership and leading-ship and Inner Democracy versus Outer Democracy.

Boardroom Insider

Ralph Ward is telling his readers, “Many of the same outcomes we saw for audit committees are now in the works for pay panels. Greater professionalism in operations, strict standards for independence, resources allowing the committee to seek outside counsel, and direct, confidential links between the committee and its main external resource (in this case compensation consultants).”

At Boardroom Insider, he goes on with more specifics and offers several pages of tightly packed advice, including that “if your board wants to stay informed on who’s saying what about your company, visit (and bookmark)” this: Shareowners.org. I would add, if you want to see how shareowner activists are voting, visit Proxy Democracy.

BRT Seeks Delay for Proxy Access

In a comment letter dated June 30, 2009, the Business Roundtable requests the SEC extend the 60 day comment period to at least 90 days due primarily to the rule’s complexity (including more than 500 questions) and to the fact that the rules weren’t released until about a month after the open meeting. BRT also claims “the Commission has shifted the burden of data collection and analysis to the public in many respects.”

While the proxy access proposals are lengthy, I’m not sure they are really all that complex. Given BRT’s historic opposition to proxy access, I’m concerned their letter mey be more of a delaying tactic than a real need.

Governance Standards Slipping

In Australia, the 2009 WHK Horwath Large Cap and Mid-Cap Corporate Governance reports show a marked increase in the number of listed companies that were totally lacking in corporate governance structures and policies based on their 2008 annual report disclosures. There was a sharp contrast between large caps and mid caps with 5.6% of large caps scoring only one star, whereas 15.6% of mid caps were low ranked.

“At the top end our companies would have governance standards that they can be proud of on an international level and would match standards anywhere in the world, but at the bottom end some of our companies are being run like the local tuck shop,” said Associate Professor Jim Psaros of the University of Newcastle.

On a positive note, the study found that most of Australia’s top 250 listed companies are making quite reasonable attempts to inform their stakeholders of their carbon emission actions and future intentions, even though there are no legal requirements or established guidelines. (Reports find corporate governance standards slipping across large and mid-caps sectors, seekingmed!a, 7/8/09)

A Primer for Boards

Cornelis A. de Kluyver, an academic and practitioner with global experience, has written A Primer on Corporate Governance published by Business Expert Press. While not nearly as extensive as recent textbooks by Bob Tricker or Monks and Minow, this is a quick read that provides most of the basics for future directors and those who work with them.

He very briefly reviews the history of corporations, rise of fiduciary capitalism, recent moves to federalize corporate governance, various conflicts of interest, and provides a thumbnail international sketch. However, his short explanations sometimes over simplify. For example, in reviewing director duties he states, “the primacy of shareholder value maximization wa affirmed in a ruling by the Michigan State Supreme Court in Dodge vs. Ford Motor Company.

Unfortunately, he’s not alone in perpetuating this myth. In Why We Should Stop Teaching Dodge v. Ford(pdf, Virginia Law & Business Review, spring 2008), Lynn Stout argues more convincingly that credit for the concept that corporations exist only to make money for shareholders should go to law professors, not the courts. Dodge v. Ford is best viewed as a case that deals not with directors’ duties to maximize shareholder wealth, but with enforcing the fiduciary duty of controlling shareholders to minority shareholders. Because different shareowners have different investment time frames, tax concerns, attitudes toward risk, etc. it is impossible to discern a single, uniform measure of shareholder wealth to be maximized. Additionally:

  • Articles of incorporation typically don’t say they are organized primarily to profit shareholders but, instead, for anything lawful.
  • Similarly, state corporation codes typically provide their purpose is “to conduct or promote any lawful business or purpose” and many authorize corporate boards to consider other stakeholders.
  • Judges routinely refuse to impose any legal obligation on directors to maximize shareowner wealth.

De Kluyver does explore stakeholder theory but concludes shareholder value maximization “will continue to dominate the U.S. approach to corporate law for the foreseeable future,” with the courts giving boards increasing latitude.

Elsewhere, he discusses governance reforms and concludes, “There is real danger, however, that the rise in shareholder activism, the new regulatory environment, and related social factors are pushing boards towards micromanagement and meddling.” Many of us wish there had been a lot more “meddling” by boards prior to the current financial crisis, but de Kluyver is writing for board members, not shareowners.

Although he appears to reject recent moves to require specific subsets of directors to be independent, he appears to agree they should be more allied with shareowners than with management and that separating the roles of chairman and CEO “gives boards a structural basis for acting independently.”

In discussing stock options, de Kluyver notes, “Until recently, many U.S. companies were not very diligent in assessing the cost and value of options and treated options as being cost-free.” He says nothing about the Business Roundtable’s campaign to undermine the Financial Accounting Standards Board. An uninformed reader could be left with the impression that CEO’s had no role in this effort to hide costs. Likewise, he says “most of the pressure on boards on the last 25 years has come from shareholders.” Hasn’t more pressure come from CEOs who are there providing direction at every board meeting? Even with recent steps empowering shareowners, CEOs still hold more sway over boards, including who is nominated.

In discussing shareowner proposals, de Kluyver says, “One of the most popular shareholder proposals today demands that shareholder be allowed to directly nominate and elected directors rather than work with the slate recommended by the board’s nominating committee.” Popular in what sense?

The SEC allowed such proposals for many years until it looked like the proposals would obtain majority votes. Then the SEC, without changing the governing regulations, decided such resolutions violated the rules. That position stood for many years until challenged by AFSCME. When the underground regulations were overturned by the court only about three such proposals were introduced before the SEC, under Cox, banned them through new regulations. Now, under Schapiro, such proposals will again be legal, probably in 2010. To describe “proxy access” proposals in 2009 to be “the most popular shareholder proposals today,” without much explanation, seems misleading.

In the book’s epilogue de Kluyver revisits the issue of “proxy access.” However, rather than clarifying the issue he informs readers that the SEC considered proposed rules to allow it, but rejected them. Of course this is true, but de Kluyver gives the impression the issue is dead, whereas everyone following this issue has known for years that “proxy access” would be back on the table under a new administration. It would be important to note that majority voting requirements, the end to “broker voting” and proxy access will require boards to cooperate more closely with shareowners.

The book is at its best in borrowing liberally from thought leaders and consensus shaping organizations by providing various lists of best practices: Succession Planning is an Ongoing Process; CEO Selection: Common Board Mistakes; Succession Planning: Best Practices; Red Flags in Management Culture, Strategies, and Practices; 10 Questions About Ethics and Compliance for the Board; Five Questions About Hedging; Enterprise Risk Management: The Board’s New Tool; Executive Compensation: Best Practices, What Defines Best In-Class Boards?,; etc.

Regardless of my nitpicking, de Kluyver gets the big picture right. “The tug of war between individual freedom and institutional power is a continuing theme of history. Early on, the focus was on the church; more recently, it was on the civil state. Today, the debate is about making corporate power compatible with the needs of a democratic society.” De Kluyver offers readers information that can help them to become better directors and better corporate citizens.

Best Boards

They operate in a virtual black box, so taking a stab at which boards are best is a shot on the dark. Eric Jackson, the CEO of Ironfire Capital and a co-filer of our blank vote petition to the SEC, courageously offered his on TheStreet.com. (Best in Class: America’s Top Boards, 7/7/09) Ric Marshall, of The Corporate Library, was quick to agree with two of Jackson’s picks (Berkshire Hathaway and Amazon.com) but disagreed with the choice of Johnson & Johnson because CEO William C. Weldon’s compensation “seems not only excessive in absolute terms but is poorly aligned with sustainable shareholder interests as a matter of policy. In particular Weldon’s ‘long-term incentive compensation’ is based on too short a period to be considered long-term (three years) and is not tied to any performance metrics.” (Best In Class?, 7/7/09, with a rebuttal from Jackson)

Looking at the ratings given to these companies by RiskMetrics it seems obvious they wouldn’t be in total agreement either. As of 7/1/09 Berkshire Hathaway’s Corporate Governance Quotient was better than 87.5% of all companies and 52.5% of insurance companies; Amazon’s Corporate Governance Quotient is only better than 18.4% of the S&P 500 and 69% of retailing companies; J&J’s Quotient was better than 38% of S&P companies but 95% of pharma, biotech and life sciences companies (a group with very low ratings).

More important than his picks is Jackson’s process, weighing such factors such as equity ownership, director independence, diversity (including business experience), time availability, and disclosure. However, Marshall’s point is also valid. CEO compensation is another important factor which is increasingly outside the black box and is often a good demonstration of the board’s decision process. (Disclosure: I own very small portions of Amazon.com and Berkshire Hathaway)

SEC Posts Colorful Comment

Colorful language regarding Madoff in proxy access comment. I’m not sure why Mr. Paul thinks the rulemaking is “useless information.” I guess commenting has become an avenue for venting. Who can blame him. However, as one who plans to read through these, I hope most are more focused. (Thanks to Phillip Goldstein of Bulldog Investors for drawing the comment to my attention.)

Expanding Fiduciary Duty

Writing for The Corporate Board, John C. Bogle says that all money managers should be governed by a federal fiduciary standard. (Building a Fiduciary Society, July/August 2009)

He argues that money managers too often place their own interest above that of customers and fund beneficial owners. Whereas turnover of stocks ranged from 20-30% during his first twenty years in the business, they reached about 300% in 2008. “Such turnover is not investment, focused on long-term cash flows and intrinsic values. It is speculation, focused on short-term bets on stock prices.”

We need an education program to help citizens understand this difference. “Investors must care about corporate governance. Speculators, however, do not care, and arguably should not care.” If we turn speculators into investors, we’ll get better corporate governance, better returns and more responsible corporations.

Bogle reprises Supreme Justice Harlan Fiske Stone’s 1934 warning, “Those who serve nominally as trustees, but relieved, by clever legal devices, from the obligation to protect those whose interests they purport to represent… consider only last the interests of those whose funds they command.”

Beta Sites Facilitate Voter Branding

Beta versions of TransparentDemocracy.org and VoterMedia.org facilitate civic and proxy voting by brand reputation. Much of the information listed on both sites is most directly related to past elections. However, both systems allow users to input information for upcoming contests.

TransparentDemocracy.org (partially funded by SEIU) publishes sample ballots and corporate proxies, encouraging individuals and groups to publish their recommendations so that voters and shareowners can easily see how people and organizations they trust recommend they vote. Currently featured communities range from various state elections to corporate proxies from Abbott Labs to Yahoo! to elections at Stanford University. In theory, you be able to view how a trusted source is voting and will be able to use thier choices to influence your own.

VoterMedia.org allows you to vote on media that cover elections. It’s designed to have a page of voter-ranked media (blogs and others) for each voter community in the world. You can add new communities and new media to this voting system. Currently featured communities are Vancouver, British Columbia. Canada, Iran, UBC AMS, U Calgary Students, Fair Voting BC, CBC, Microsoft, Chattanooga, and CalPERS. In theory, your vote will reward better information providers with a higher rating and more traffic, leading to a virtuous circle of better reporting.

Both sites need a little work and welcome feedback from beta testers. Both are ambitious and promising.

Get Your Union Involved

I’m very fortunate to collect a pension from CalPERS and to have input into their policies, both directly as an individual and indirectly as a member of my CSEA Retirees, Inc., which is loosely affiliated withSEIU. CalPERS has long been a leader in corporate governance but that hasn’t stopped me from suggesting additional measures they could take to improve both corporate governance and their own internal governance. I’m submitting two resolutions at CSEA’s General Council this fall and thought I’d post them here, in case readers want to consider introducing similar resolutions to their own unions.

  1. Resolution 1 (download in Word) seeks to increase the availability of information on CalPERS proxy votes and encourage CalPERS involvement in organizations like Investor Suffrage Movement & Proxy DemocracyShareowners.org and TransparentDemocracy.
  2. Resolution 2 (download in Word) seeks to increase the availability of information during internal elections at CalPERS so that members have a better understanding of where their own board candidates stand on the issues.

If you know of governance resolutions being introduced at other unions, please let me know so that I can share the information. For tips on how to organize, see Why David Sometimes Wins: Leadership, Organization, and Strategy in the California Farm Worker Movementby Marhall Ganz, architect of the Obama Field Program; lead organizer of the United Farm Workers for 12 years. Join him in the Los Angeles July 16: 6-9pm or San Francisco Bay Area July 19: 6:00-9:00pm.

Stocks Down, Advisor Pay Up

Financial advisers earned $215,345 this year, up from $195,394 in 2008, and have shifted more toward fees, rather than commissions, according to a study by Cerulli Associates Inc. and the College for Financial Planning. “As people watch their retirement savings or a child’s college fund shrink, they are increasingly asking advisers for solutions to help live their lives, rather than simply grow their stock investments,” said Bing Waldert, director of Cerulli Associates. (Advisers’ paychecks rise in dismal year, Investment News, 7/6/09)

Golden Peacock Award Nominations Due

Here is your opportunity to apply for the following Institutional Awards of the year 2009.

  1. Golden Peacock Global Award for Training
  2. Golden Peacock Global Innovation Award
  3. Golden Peacock Global Award for Excellence in Corporate Governance

The completed applications with all enclosures should reach Director General, GPA Secretariat, IOD House, M- 64 G K Part-II, New Delhi- 48 by 30th July 2009 or through email at [email protected].

The Training Award identifies excellence in training practices and shows how effective training improves business and individual performance. All corporate training departments / institutions industries and independent training establishments are eligible to apply.

The Innovation Award identifies innovations in the form of new ideas, new products, patents, inventions, services, processes, new financial techniques or business structures at your organization. This Award has been instituted to encourage greater commitment among employees to achieve competitive edge. Any organization, however large, medium or small, whether in manufacturing, trading, service or profession or in govt, public or private, research organization, NGOs and any sector is eligible to apply.

The Corporate Governance Award, which looks for transparency and excellence in Corporate Governance, is not merely for meeting legal and financial requirements, but for bringing out the role of non executive directors and social & environmental commitments. All listed companies in India and abroad, whether public or private in any sector are eligible to apply.

This year’s above Golden Peacock Awards will be presented in Mayfair London during the 10th International Conference on Corporate Governance being held on 8- 9 October 2009. Details atwcfcg.net.

The application form and guidelines can be downloaded directly from goldenpeacockawards.com.

Results of SEC July 1 Meeting

Say on Pay for TARP Companies. The Commission voted 5-0 to release a proposal implementing a statutory requirement that TARP bailout recipients provide an advisory shareowner vote on executive compensation.

Corporate Disclosure Amendments. The Commission voted 5-0 on a package of corporate disclosure enhancements related to:

  • compensation policies;
  • director nominee qualifications;
  • company leadership structures (e.g. separation of Chairman/CEO roles);
  • the board’s role in a company’s risk management process;
  • potential conflicts of interest involving company compensation consultants.
  • a new rule to require a company to report the voting results from a shareholder meeting within 4 business days;
  • several amendments to the proxy solicitation process.

Rule 452 Amendments. The Commission voted 3-2 in favor of approving the NYSE proposal to ban brokers from voting in contested or uncontested corporate board elections on behalf of customers who did not return voting instructions, effective in most instances January 1, 2010. (Final Order, which discusses the comments received by the agency and the Commission’s rationale for approving this NYSE proposal: http://www.sec.gov/rules/sro/nyse/2009/34-60215.pdf) The dissenting votes were from Commissioners Casey and Paredes. Both Commissioners voted against the NYSE proposal because, in part, of their view that this issue should be one component of a broader review of the proxy voting and communications system. Commissioner Paredes also mentioned in his remarks the 93 comment letters received (out of a total of 136) that urged a comprehensive review of the proxy system. (This was due to a big push by the Chamber backed Shareholder Communications Coalition, while shareowner interests slept, knowing they already had the votes.) All Commissioners acknowledged the importance of studying proxy “plumbing” issues and committed to undertake such a review during the balance of this year. I hope this will include consideration of our petition on “blank votes.”

Broc Romanek, who’s coverage is excellent (see The Big Kahuna: SEC Approves NYSE’s Elimination of Broker Discretionary Voting, TheCorporateCounsel.net Blog, 7/2/09), says elimination of broker vote “is the biggest of the reforms that companies face – bigger than proxy access, say-on-pay, etc.”

Beth Young noted Broadridge’s estimate that broker votes accounted for 16.5% of votes at shareholder meetings in 2008. (It’s About Time: SEC Votes to Change NYSE Broker Vote Rule, The Corporate Library, 7/2/09) Loss of those votes will certainly make it more difficult for management to win without real shareowner approval. Great summary of the proceeding by Ted Allen of RiskMetrics at A Momentous Day for Investors, 7/2/09.

Chamber Sponsored Study Agrees with Chamber

Nell Minow uses her typically colorful language to attack Chamber sponsorship of another Navigant Consulting study that purports to show “key-votes” by the AFL-CIO haven’t improved stock prices. The Chamber claims companies “have driven the American economy to unparalleled heights.” (apparently they haven’t noticed the economic plunge). Minow says, “The Chamber of Commerce should draw a lesson from Johnson & Johnson’s response to the Tylenol poisonings and devote its efforts to restoring the brand of American capitalism. Instead, the Chamber of Commerce is once again confusing what is best for American corporations with what is best for American corporate executives, engaging in its usual subversion of public policy with thuggishness, subversion, name-calling, and bait and switch.”

She goes on to note the Chamber is spending $100 million of shareholders’ money for a what they, themselves claim is a “sweeping national advocacy campaign encompassing advertising, education, political activities, new media, and grassroots organizing to defend and advance America’s free enterprise values in the face of rapid government growth and attacks by anti-business activists.”

For those interested in refuting the Chamber’s recent efforts and the Navigant study, Minow’s post contains excellent citations. (Another Shell Game from the Chamber of Commerce, The Corporate Library, 7/2/09)

I analyzed last Navigant study back in July 2008 under the heading Chamber Attacks Resolution Process. bs I said then, businesses should ask their local and state chambers, which may be members of the US Chamber of Commerce, to seek new leadership at the federal level. Sure, shareowner resolutions and annual meetings are a bit of a pain, but they keep us in touch with what is coming. For example, ICCR filed resolutions on subprime loans for years. Too bad banks didn’t listen.

The resolution process is an early warning system that allows us to gauge the popularity of a given issue. Often we can avoid regulations by working out less burdensome voluntary measures. Even when businesses fully adopt resolutions, the costs can be substantially less than complying with mandatory rules.

Tell your local chamber that the U.S. Chamber should spend its time and money on more important efforts. For example, they could push Congress to legislate higher margin requirements for speculators. That might lower the cost of oil. They could push for universal health insurance to put an end to our competitive disadvantage due to rising health care costs. They could seriously address global climate change. Failure to resolve that issue will cost trillions of dollars and millions of lives. Fighting wildfires now takes nearly half of the U.S. Forest Service budget. That’s up from just 13% in 1991.

Support Petition to Keep Blank Votes Blank

This morning, the SEC held a hearing on proxy access. By a three to two vote, Commissioners voted for proxy access. Democracy in corporate governance will dramatically improve with our right to nominate and elect directors, even if limited to 25% of the board. Directors may actually begin to feel dependent on the will of shareowners.

While waiting to see the actual language of the rule proposal, please take a few minutes to read and submit comments on a rulemaking petition that a group of ten filed with the SEC on Friday, May 15th, to amend Rule 14a-4(b)(1). The petition seeks to correct a problem brought to our attention by John Chevedden. See petition File 4-583 http://www.sec.gov/rules/petitions.shtml. Send comments to [email protected] with File 4-583 in the subject line.

The problem is that when retail shareowners vote but leave items on their proxy blank, those items are routinely voted by their bank or broker as the subject company’s soliciting committee recommends. Current SEC rules grant them discretion to do so. As shareowners who believe in democracy, we have filed suggested amendments to take away that discretionary authority to change blank votes, or non-votes, as they might be termed. We believe that when voting fields are left blank on the proxy by the shareowner, they should be counted as abstentions.

This problem is not the same as “broker voting,” which has already been repealed on “non-routine” matters and, we hope, will soon be repealed for so-called “routine” matters, such as the election of directors. For example, even though “broker voting” has been repealed for shareowner resolutions, if a shareowner votes one item on their proxy and leaves shareowner resolutions blank, unvoted, those blank votes are routinely changed to be voted as recommended by the company’s soliciting committee.

See two examples. At Interface, I voted only to abstain on ratification of the auditors. Yet, you can seeProxyVote automatically fills in my blank votes with votes as recommended by the soliciting committee. A second example, at Staples, shows much the same. You can see blank votes that are changed also include the shareowner proposal to reincorporate to North Dakota, even though such proposals are not considered routine and are not subject to “broker voting.”

Just as broker votes should be eliminated so that votes counted reflect the true sentiment of shareowners, the practice of converting blank votes to votes for management should also end.

In our petition, we also highlight a secondary concern. When shareowners utilizing the ProxyVoteplatform of Broadridge vote at least one item and leave others blank, the subsequent screen warns them that their blank votes well be voted as recommended by the soliciting committee. This provides an opportunity to the shareowner to change their blank vote before final submission, if they don’t want it to be voted as recommended.

Of course, if we are going to have a system that allows the votes of shareowners to be changed, it is salutary of Broadridge to provide advanced notice. We applaud them for that effort. However, we note that it may fall short of what the SEC requires. Rule 14a-4(b)(1) requires that when a choice is not specified by the security holder, a proxy may confer discretionary authority “provided that the form of proxy states in bold-face type how it is intended to vote the shares represented by the proxy in each such case.” (my emphasis)

Broadridge says that shareowners using ProxyVote are communicating “voting instructions” to their bank/broker. They are not voting a proxy. Since Rule 14a-4(b)(1) pertains to “forms of proxy,” not the “voting instruction form,” there is no violation. However, subdivision (1) refers to the “person solicited” and the need to afford them opportunity to specify their choices. The person being solicited is the beneficial shareowner. Therefore, unless the subdivision applies both to a voting instruction and a proxy, the requirements to indicate with bold-face type how each field left blank will be voted loses meaning.

However the SEC interprets the current rule, we hope they move forward with a rulemaking to remove discretion to change blank votes and to require blank votes to be counted as abstentions. While the petition is being considered for action, we hope Broadridge will modify its system to clearly indicate in red bold-face type how votes will be cast for each item where a blank vote will be changed.

A few months ago, The Millstein Center for Corporate Governance and Performance released Voting Integrity: Practices for Investors and the Global Proxy Advisory Industry. While this important briefing was primarily focused at the proxy process for institutional investors, the need for integrity applies equally to the votes of retail investors:

At the heart of any discussion about proxy voting is the humble shareholder ballot. In its simplest interpretation, the ballot is arguably the principal method by which a company’s shareholders can, while remaining investors in the company, affect its governance, communicate preferences and signal confidence or lack of confidence in its management and oversight. The ballot is the shareholder’s voice at the boardroom table. Shareholders can elect directors (and, in several jurisdictions, have the right to remove them), register approval of transactions, supply advisory opinions and (increasingly) authorize executive pay packages, all through the medium of the ballot. It is one of the most basic and important tools in the shareholder’s toolbox… Safeguarding the intention of a voting instruction is of paramount importance to system integrity.

Co-filing with James McRitchie, Publisher of CorpGov.net, are:

Again, please submit comments on the petition to [email protected] with File 4-583 in the subject line. (posted 5/20/09; link https://www.corpgov.net/news/news.html#BlankVotes)

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CalSTRS Breaking Ground with Broadridge and ProxyDemocracy

Yes, the huge California teachers fund is moving into a beautiful new headquarters building along the Sacramento River on June 22, but more importantly they are also taken what Gary Lutin, of the Shareholder Forum, says is "a major step in the development of a clearinghouse for shareholder voting recommendations."

CalSTRS has become the first institutional investor to pre-disclose their voting decisions through Broadridge’s ProxyEdge® integrated vote recommendation service. This will now allow other institutional investors with voting policies similar to CalSTRS to compare and align their votes with them.

ProxyEdge is Broadridge’s suite of electronic voting services that help simplify the management of institutional proxies by providing access to third-party recommendations and/or pre-disclosure of third-party vote decisions. ProxyEdge allows institutions to manage, track, reconcile and report proxy voting through electronic delivery of ballots, online voting, and integrated reporting and record keeping to help institutions satisfy their SEC requirements.

MaryEllen Andersen, Vice President, Issuer & Institutional Relations at Broadridge, says, "By pre-disclosing votes via ProxyEdge, institutional investors which have voting policies similar to CalSTRS are able to weigh their proxy decisions against those of CalSTRS, enabling greater voting consistency among like-minded investors." (CalSTRS Turns to Broadridge for Electronic Voting Proxy Services, Earth Times, 5/27/09)

In addition, and much more important to retail shareowners, CalSTRS has joined an exclusive group of nine respected institutional investors whose votes are announced in advance on Proxy Democracy. CalSTRS will make its votes known before the annual meetings
of its more than 3,800 holdings in North America. Last year CalSTRS cast more
than 47,000 individual proxy votes.

"CalSTRS has called for greater transparency from its portfolio companies and we intend to lead
the way with comprehensive disclosure of our votes,” said Anne Sheehan, CalSTRS director of
corporate governance. “Information is vital for shareholders to make informed decisions about
the companies they own and CalSTRS intends to let fellow shareholders, as well as management,
know how we intend to vote." "Announcing our votes in advance will open the door to engagement with more of our
companies. This discussion will bear fruit in better corporate governance practices," Sheehan
said. CalSTRS will also archive its votes starting from 2007 on

CalSTRS was already among the leaders in corporate governance. This move should accelerate that position as it will enable other funds look to see how CalSTRS is voting before they cast their own votes. I’m sure none will simple copy CalSTRS but their recorded votes may give them pause and should lead to more dialogue among institutional investors about their reasons for voting. The nine funds now listed on ProxyDemocracy are beginning to change how retail shareowners vote.

In other news, CalSTRS will discuss their policies regarding placement agents at an upcoming June 3 board meeting. See a letter from Nicholas Bienstock, a managing partner at New York-based private real estate firm Savanna Investment Management LLC included in the agenda. (Find it here; search for ‘placement agents’ to get to the exact link.) Although their existing policy is stricter than most, CalPERS is looking to enhance disclosure requirements. (Placement Agent Furor: The (Smaller) GP Strikes Back, WSJ
Private Equity Beat, 5/26/09) (posted 5/27/09)

Previously, CalSTRS asked 300 of its portfolio companies to develop
comprehensive executive compensation policies and to allow
shareowners advisory votes on those policies. (CalSTRS Guidelines Offer Substance on Executive Pay, press release, 5/5/09) The CalSTRS principles offer companies a five-part approach that calls for:

  • A clear overarching philosophy that aligns the interests of shareholders and management
  • A well designed, comprehensive compensation policy that takes a detailed look at all of its components Transparency through a plain-English description of a well-crafted compensation plan
  • Accountability through a responsible compensation committee
  • A compensation committee comprised of independent directors using only independent advisors and consultants
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Archives: November 2008


Where Were the Directors?

Citigroup Saw No Red Flags Even as It Made Bolder Bets (NYTimes, 11/22/08) provides a good look at how one bank faltered. Was the board just stupid? No, says MIT’s Michael Schrage, “it’s NOT stupidity; it’s the absence of rigor and skepticism combined with incentive systems that encouraged people to ‘cheat’ on their risk assessment… again, people are entitled to be ‘wrong’ – they are not entitled to say that it’s OK to make $100 billion bets [loans/securitization, etc.] based on models that don’t allow real estate prices to go down… or worse yet, assume historical ‘default rates’ for people who have literally put nothing down on their ‘homes.’ At least one or two directors should be asking: how is our exposure hedged? Where were those questions? Will it take another round of shareholder suits to get answers? Sad… and (even worse) unprofessional.”

Being a director in these difficult times has obviously gotten less attractive. Not only are they now expected to ask those “difficult” questions, they also need to meet more frequently. “So far this year, 46 outside directors who are CEOs or chief financial officers left the boards of 42 companies in three struggling industries — financial services, retail and residential construction — concludes an analysis for The Wall Street Journal by Corporate Library in Portland, Maine… The departures come as CEOs had already been trimming their outside board commitments. CEOs of Standard & Poor’s 500 companies held an average of 0.7 outside directorships this year, down from one in 2003, according to recruiters Spencer Stuart.” (As Firms Flounder, Directors Quit, WSJ, 11/24/08)

CorpGov Bites

Fully half of the California’s 400 largest public companies have no women in top executive positions. Just over 3% of the state’s CEOs are women. One bright spot, “Women occupied 10 percent of board seats, up from 9.4 percent in 2007 and 8.8 percent in 2006.” (UC Davis study: Women still lag in holding top business posts, SacBee, 11/24/08)

Eliot L. Spitzer, former governor of New York and state attorney general from 1999-2006, offers his recommendations for revitalizing corporate governance and the market in Capitalism’s beneficiaries must compete in reworked market. (Newsday, 11/24/08)

RiskMetrics Group says will advise investors to withhold votes from corporate directors who approve tax “gross-ups” to cover executives perks. “A 1984 law imposed a special 20% tax when such packages exceed a certain limit. But many companies agree to pay the taxes — often at huge cost.” (Proxy Firm Targets Practice of Paying Executives’ Tax Bills, WSJ, 11/24/08)

“CEOs of large U.S. corporations averaged $10.8 million in total compensation in 2006, more than 364 times the pay of the average U.S. worker, according to the latest survey by United for a Fair Economy.” Peter Drucker suggested “CEO salaries should be a maximum of 20 times the salary of the lowest paid worker.” Haruka Nishimatsu, CEO of Japan Air Lines, gets $90,000 annual salary to run one of the worlds top 10 airlines. Bob Selden argues 20 is the magic number (Management-Issues, 11/21/08) with several bonus possibilities based on 20.

CalSTRS CEO Jack Ehnes has joined the board of Ceres, a national network of investors and environmental organizations. “Joining the Ceres board is a natural fit for CalSTRS. We’ve a history of considering climate change and other risks in assessing investment opportunities,” Ehnes said. “Together, we will move sustainability principles more prominently into the investment equation, for the good of the planet and the bottom line.” (press release, 11/21/08)

In the 20 years of publishing an annual list of the 10 Worst Corporations of the year, this year’s group is “in many ways, emblematic of the worst of the corporate-dominated political and economic system that we aim to expose with our annual 10 Worst list.” (The 10 Worst Corporations of 2008, Robert Weissman, Multinational Monitor, 11/24/08.

Behind the first tsunami wave, there may be another on the way which is potentially more lethal. $55 trillion in credit derivatives built around $16 to $17 billion of corporate debt. Yet, Vince Cable MP, Liberal Democrat Shadow Chance, says “These staggering figures – many times the size of the world economy – are less overpowering than they appear since most institutions have hedged any exposure they have to credit derivatives… There will have to be a strengthening and redefinition of multilateral bodies if we are to steer clear of the beggar-my-neighbour, nationalistic, economics which helped to turn the global financial crash of the inter-war period into a major slump. Whether or not this process is christened Bretton Woods II is less important than a recognition that there have to be strong, respected, multilateral rules and institutions. (Strengthen our systems of global governance, eGov Monitor, 11/24/08)

Activism Pays

The Impact of Shareholder Activism on Financial Reporting and Compensation: The Case of Employee Stock Options Expensing provides additional evidence that shareowner activism works. They examined the economic consequences of more than 150 shareholder proposals to expense employee stock options (ESO) submitted during the proxy seasons of 2003 and 2004.

Targeted firms were more likely to adopt ESO expensing relative to a control sample of S&P 500 firms, particularly when the proposals received a high degree of voting support. Non-targeted firms were more likely to adopt ESO expensing when a peer firm was targeted by an ESO expensing shareholder proposal, suggesting the presence of spillover effects of this shareholder initiative.

Targeted firms also experienced a decrease in the level of CEO compensation relative to a control sample of S&P 500 firms.

Guide for Pension Turbulence

A new guide from the Principal Financial Group offers advice to employers reviewing the their retirement programs. Navigating Your Way through Market Turbulence takes a look at how the market volatility may be affecting four retirement plan types: defined benefit, defined contribution, Employee Stock Ownership, and nonqualified deferred compensation. (Principal Guide Outlines a Course, PlanSponsor.com, 11/18/08) Elsewhere, PlanSponsor.com noted that stock investments of state and local government retirement systems have declined 35% so far this year. I’m sure it is more by now.

Directors Pay

The Corporate Library’s latest report, “The Corporate Library’s Preliminary 2008 Director Pay Survey” finds:

  • S&P 500 index companies spent an average of more than $2 million on board compensation last year
  • the median increase in total board compensation was just under 11%;
  • the median increase in compensation for individual directors was almost 12%, the third year of double-digit increases for directors and boards, though the rate of increase appears to have slowed;
  • median total board compensation for the S&P 500 is over $2,000,000; and
  • median total compensation for individual directors of S&P 500 companies is just under $200,000.

The report is available for $45.00 at The Corporate Library’s online store. See also S&P 500 Cos’ Median Board Compensation Rises 11% – Survey, CNNMoney.com, 11/19/08)

Executive Compensation and Coming Targets

As Dave Lynn notes, the first issue of the new quarterly “Proxy Disclosure Updates” Newsletter, free for all those that try a no-risk trial to Lynn, Romanek and Borges’ The Executive Compensation Disclosure Treatise & Reporting Guide, has now been posted. The first issue focuses on key new disclosures all companies will need to address in the wake of the Emergency Economic Stabilization Act of 2008 (EESA) and other regulatory responses to the crisis. (Your Upcoming Proxy Disclosures – The EESA Effect, TheCorporateCounsel.net Blog, 11/20/08)

Bonuses and Layoffs

Of note, companies that participate in the various relief programs administered by Treasury (hundreds are expected), that pay bonuses to CEOs or NEOs, and have laid off employees during the year will need to disclose in their CD&As whether the bonus formula would have been met without the cost savings from the layoffs. If they can’t show the bonuses resulted from real growth and they are essentially paying bonuses “on the backs of fired employees,” not only will their CD&A be deficient, they will soon be facing outrage from their shareowners and the general public. The newsletter says, “we expect that, at many companies, CEOs and other executives will forgo their bonuses this year.” Look for companies that did pay bonuses and that laid off employees to be targeted from every angle.

Pay Deductibility

Also of note in this excellent newsletter is a discussion of the reduction in the annual deduction limit from $1 million to $500,000 for senior executive compensation at companies getting relief. Mark Borges and David Lynn write, “it’s difficult to see how financial institutions that exceed the cap won’t have to disclose that fact (including the amounts paid to each NEO in excess of the cap) and explain why in their CD&A.” “The more stringent cap imposed by the new standard will likely cast the spotlight on compensation deductibility for all companies, not just financial institutions.” (my emphasis) “Boilerplate” language won’t suffice. They further note that in the current environment, “foregoing a compensation deduction is likely to be considered material by most investors.” Therefore, they recommend including the aggregate amount of the foregone deduction. Even better, would be to address the deductibility of each element as they are discussed.

Whether such disclosures will be enforced by Treasury or the SEC may, in some sense, be immaterial, since failure is likely to bring on the wrath of shareowners and the general public. Failure to follow the advice offered in Proxy Disclosure Updates could be costly.

Of related interest, scientists found that people in experiments “offered medium bonuses performed no better, or worse, than those offered low bonuses. But what was most interesting was that the group offered the biggest bonus did worse than the other two groups across all the tasks.” (What’s the Value of a Big Bonus?, 11/19/08) Maybe cutting those bonuses will actually improve performance.

While investors in the U.S. stock market have lost more than $9 trillion since its peak a year ago, a WSJ survey finds that Before the Bust, These CEOs Took Money Off the Table (11/20/08) Top executives at 120 public companies cashed out a total of more than $21 billion. “The issue of compensation and other rewards for corporate executives is front-and-center in the wake of the financial meltdown.”

Planet Hero Dies

Ceres Founder Joan Bavaria passed away on 11/18/08 after a battle with cancer. She was the co-founder of the Social Investment Forum, a collection of research, advisory, banking and community loan fund organizations dedicated to advancing socially responsible investing. She founded Trillium Asset Management, the first U.S. firm dedicated to developing social research on publicly traded companies. Bavaria also co-founded Ceres, with a mission to move companies, financial markets and policy makers to find solutions to sustainability challenges such as global climate change. Few have done so much in so little time. See Ceres Honors the Life of its Visionary Founder Joan Bavaria.

They Took on Napster: Who’s Next?

Corporate Secretary ran an interesting article by Brendan Sheehan on three outsiders who launched a proxy fight at Napster. (The outsiders, 11/08) “What makes this situation startlingly unique is the demographic of the dissident group: the action was begun by a young investor with a very small holding in the company who was joined by two other small retail holders, none of whom had any prior history with leading a shareholder fight against a company.” It is a tale of shareowner empowerment worth reading.

The shareholder action has been credited by some as being the catalyst for the sale of Napster to Best Buy. The three involved were Perry Rod, a 29 year-old professional investor, Kavan Singh, an entrepreneur who operates ice cream franchises, and Thomas Sailors, an investment manager. Perry Rod is involved in Market Rap, a discussion board hoping to “bring together, embolden, entertain, and empower investors with tools that have never before been a part of the investment community.” We’ve added a link to Market Rap on our Forums page. We’re always looking for good conversation on corporate governance. Let us know what you think of Market Rap.

ISPs and Privacy

Trillium Asset Management Corporation (TAMC) is filing a number of proposals at internet service providers (ISPs) on freedom of speech and privacy issues. Trillium filed resolutions with AT&T and co-filed at CenturyTel (NYC Pension Funds lead) and Verizon (Harrington lead) and will be filing at Comcast (NYC Pension Fund lead) in the next few days.

ISPs serve as gatekeepers to the Internet. They have extraordinary power over political, social, artistic and commercial use of the Internet. With this power comes the responsibility to protect human rights and democratic values. It also presents the companies with a number of financial, legal, commercial, reputational and regulatory risks. As such, these funds are asking ISPs to issue a report “examining the effects of the company’s Internet network management practices in the context of the significant public policy concerns regarding the public’s expectations of privacy and freedom of expression on the Internet.”

The effort is being coordinated by Open MIC, which TAMC founded using the Ceres and IEHNorganizing model and includes participation by NYCPF, Harrington InvestmentsCalvert Investments, and Boston Common Asset Management. (see also: FCC shouldn’t tolerate abuses by Internet’s corporate gatekeepers, The Seattle Times, 8/15/08)

Accountability of Bailout Questioned

Naomi Klein, author of The Shock Doctrine: The Rise of Disaster Capitalism, has described the bailout as “borderline criminal” when she spoke to Amy Goodman of Democracy Now!

  • Rather than being used to get banks lending again, the bailout money “is instead going to bonuses, is instead going to dividends, going to salaries, going to mergers.”
  • Without Congressional authorization, “the Treasury Department pushed through a tax windfall for the banks, a piece of legislation that allows the banks to save a huge amount of money when they merge with each other. And the estimate is that this represents a loss of $140 billion worth of tax revenue for the US government.”
  • Dwarfing the $700 billion bailout itself, is “$2 trillion that’s been handed out by the Federal Reserve in emergency loans to financial institutions, to banks, that actually we don’t really know who they’re handing the money out to, because, apparently, it’s a secret.”

She also describes the conflicts of interests with the law firm Treasury hired to work on the language of the bailout bill. It is no wonder we didn’t get the same rights the UK got, like board seats, voting rights, higher dividends, suspension of dividends to shareholders, restrictions on bonuses and requirements the money be loaned. “It is not the banks that were partially nationalized, it is Treasury that has been partially privatized.” Klein argues Congress should challenging violations of the bailout legislation. Instead they are saying “we can’t afford to enforce the law … that somehow, because there’s an economic crisis, legality is a luxury that Congress can’t afford.” (Naomi Klein: Bailout is ‘multi-trillion-dollar crime scene,’ David Edwards and Muriel Kane, rawstory.com, 11/18/08)

It isn’t a bailout, Kine says, but a parting gift to Bush’s base, looting the Treasury on the way out the door. Will Democrats and Obama address the issues or simply use the looting to justify coming cuts?

Bank Directors Under Fire

MIT Sloan School researcher Michael Schrage writes, “The most important governance reform in financial services would make risk management the explicit duty of the board. The experience of the past decade shows that non-executive directors cannot rely on representations by management about risk exposure.” That isn’t new; boards have always had this responsibility.

However, Schrage goes on to say they should be required to disclose “the most serious exposures of their companies in trades, positions, investments and operations,” as well as their approach to monitoring and managing those risks. Additionally, “the Fed would have the right to interview the company’s non-executive directors to hear their reasons and rationales for their risk assessments.” They could then pass along the transcripts to regulators and post them for shareowner review. Schrage also recommends that bailout bank boards also have government “observers” on their boards, nominated by regulators. (How to sharpen banks’ corporate governance, Financial Times, 11/17/08) Banks think they have trouble attracting board candidates now. If Schrage’s recommendations went through it might be nearly impossible. Still, he has some creative thoughts worth exploring.

Auto Questioned

A 10Q filed by Capital Corp. of the West (CCOW) reveals the CEO, who gets paid $500,000 a year, also gets a $55,000 car. Footnoted.org suggests that “in light of the fact that the bank is asking the feds (read: taxpayers) for a $46 million helping hand… couldn’t Cupp settle for a Nissan Versa?” ($55K for a bailout-mobile?, 11/18/08)

Pension Funding Dips

The 100 largest corporate pension plans posted an asset value loss of more than $120 billion. “We’ve been issuing this index for eight years and have never seen a monthly asset loss so large,” said John Ehrhardt, co-author of the Milliman 100 Pension Funding Index, in the announcement. Funding now stands at 92.7%, a 12-percentage-point decline from the funded ratio at the beginning of the year. (100 Largest Pensions Face Record Loss in October, PlanSponsor.com, 11/17/08)

Tell Obama: Truth to Both Capital and Labor

Drivers for DHL Express recently learned they would be losing their jobs next year, but many of them didn’t learn it from their employer. They heard the news from customers, while dropping off packages. Fifty-four percent of American workers said they’ve heard nothing from their employers about the economy and how it is affecting business, and 71 percent said they want to hear more from the top in this moment of uncertainty. (For employers, a quandary: speak of woes or wait?, Boston Globe, 11/15/08)

Publicly traded companies are legally obligated to make any disclosure that could have a “material” effect on their share price to all stockholders at the same time and they are prohibited from lying to their shareownrs. This helps create more efficient markets for capital flows. Unfortunately, similar rules do not apply to their communications with employees.

Boston college law professor, Kent Greenfield, lays out why such a law would create a competitive market that more efficiently allocates labor in his book “The Failure Corporate Law.” It is very simple and is modeled after SEC Rule 10b-5. See also his paper “The Unjustified Absence of Federal Fraud Protection in the Labor Market” available online through the Social Science Research Network.

Such a law could be an important move for the Obama administration in addressing the economic crisis and also in establishing the dignity of labor. Fraud should be treated as theft, whether it is perpetrated on shareowners or employees. Contact the Obama-Biden Transition Team. Tell them we want a level playing field and more efficient labor markets. We want a law protecting workers modeled after the current SEC Rule 10b-5 that prohibits lies to shareowners.

Incentives Channeled Greed

“The shareholders who financed the risks had no real understanding of what the risk takers were doing, and as the risk-taking grew ever more complex, their understanding diminished… No investment bank owned by its employees would have levered itself 35 to 1 or bought and held $50 billion in mezzanine C.D.O.’s.” Michael Lewis, who chronicled the excesses of 1980’s Wall Street in Liar’s Poker, returns to his old haunt to figure out what went wrong this time.

Grab a cup of coffee; its a long article but it reads more like a novel than your typical report on the meltdown. Toward the end, Lewis takes John Gutfreund, who took Salomon Brothers public, out to lunch. “It’s laissez-faire until you get in deep shit,” says Gutfreund. I guess that’s where we all come in with the bailout. But who’s going to bailing us out… oh, right.. our children and our children’s children. Thanks to Mark Latham for alerting me to The End (Portfolio.com, 11/11/08). If you still have energy after reading Lewis, take a look at Latham’s VoterMedia Finance Blog. He actually offers some interesting solutions to the mess.

China has done a much better job of the bailout than the US with the largest stimulus package in history (20% of GDP), focused on construction and social services… health care, low-income housing, rural infrastructure, water, electricity, transportation, the environment, and technological innovation. This sounds more productive in the long run than buying into banks so they can buy other banks.

As Joshua Holland writes, “China is not in the same position as the United States — they’ve got huge cash reserves and a trade surplus, while we’ve got massive debt and a trade deficit. China also isn’t hemorrhaging cash to maintain 700 military bases and occupy a couple of far-flung countries. But the “full faith and credit” of the U.S. government is still worth something, and we may not have any option but to follow their lead.” (Our Economy May Be in a Death Spiral — Will Washington Stop the Bleeding?, AlterNet, 11/15/08)

Two Posts: One for Us, One for Obama

Two posts worth noting. First, Broc Romanek notes the SEC now accepts interpretive queries in writing via online form. (Corp Fin’s New Bag of Tricks: E-mail Your Questions!, TheCorporateCounsel.net Blog, 11/14/08) News you can use… if they answer.

Second, Nell Minow offers an Agenda for a New President: Improve Corporate Governance on The Ichan Report (11/14/08). Minow quickly lays out eight recommendations, all well worth implementing. Here’s a few more:

  • Proxy access. Shareowners need to be able to avoid the cost of a separate solicitation and should have the ability to place the names of their director nominees on the corporate ballots. Ownership thresholds should be at 3% or 100 shareowners, holding at least $2,000 of stock for a year. We need that provision for groups of small shareowners (like they have in the UK) because many small companies in need of corporate governance reform have no significant institutional share ownership. We need proxy access so that “independent” directors will know they ultimately answer to shareowners, not CEOs.
  • Proxy exchange. Shareowners shouldn’t have to instruct management as to how they want their proxies voted. Instead, they should provide their instructions to an independent proxy exchange.
  • Proxy assignment. Institutional investors should be encouraged to announce their votes in advance so that retail shareowners can “vote by brand,” imitating the decisions of trusted investors. The law should facilitate the assignment of proxies to voting agents without fear of penalty for solicitation.
  • Expand fiduciary duty. The ultimate purpose of corporations should be to serve the interests of society as a whole, not just shareowners. As Kent Greenfield notes, “there is no such thing as a limited liability society.” Extending fiduciary duties to employees would begin the process of making the internal governance of companies more responsible to the larger society. Many studies have shown that companies with employee ownership and participation are more productive and efficient. (Greenfield, Reclaiming Corporate Law in a New Gilded Age)
  • No More Lies to Labor. The law attempts to protect investors, but not investors, from corporations that lie. A very simple law modeled after SEC Rule 10b-5 could create more competitive and efficient markets for the allocation of labor. The rights of labor to the truth should be no less than the rights of investors. (Greenfield, The Unjustified Absence of Federal Fraud Protection in the Labor Market)

Advice on Corporate Website Disclosure

Jane K. Storero and Yelena Barychev offer advice on the SEC’s August interpretive guidance concerning the use of company websites for compliance with disclosure requirements. (Corporate Governance of Public Web Sites, Law.com, 11/14/08)

Back to the top

Harrington Resolution Would Broaden Fiduciary Duty

In response to the global economic meltdown brought on by the country’s largest financial institutions,Harrington Investments, a socially responsible investment (SRI) advisory firm, announced they have submitted binding bylaw amendments at Citigroup, Bank of America and Goldman Sachs to create board committees on “U.S. Economic Security.”

Together, the banks have received a total of $60 billion in Federal assistance under the Troubled Asset Relief Program (TARP) of the U.S. Treasury. Citigroup and Goldman Sachs received $25 billion each and Bank of America received $10 billion. The bylaw requires bank boards to consider the impact of bank policies on U.S. economic security as part of their fiduciary duty:

Considerations may include:

  1. the long term health of the economy of the U.S.,
  2. the economic well-being of U.S. citizens, as reflected in indicators such as levels of employment, wages, consumer installment debt and home ownership,
  3. levels of domestic and foreign control, and holdings of securities and debt, of companies incorporated or headquartered in the U.S.  and
  4. the extent to which our company holds securities of foreign companies or has employees or representatives holding positions on the boards of directors of foreign companies.

The U.S. Treasury has purchased preferred stock in these companies but waived all voting rights.  This effectively leaves no mechanism for U.S. taxpayers to intervene, should these banks act irresponsibly or against the interest of their most important shareowner – the American people.

“Following recent government interventions, there can be no doubt that the financial integrity of these companies is interdependent with a strong and secure U.S. economy, said John Harrington, CEO of Harrington Investments.

“The time has come for shareholders and members of the public to demand that bank managers and boards work to ensure that recent events are not repeated and that the investment by the US taxpayers brings reciprocal benefit to U.S. economic security in general,” stated Harrington.

The shareowner resolution argues that such a dramatic taxpayer effort to stabilize the U.S. economic system was precipitated by “years of irresponsible lending and business practices.  Unregulated trading in speculative derivatives and a general lack of management and board oversight at major U.S. financial institutions has brought the global economy to the brink of disaster.”

Harrington Investments has a long history of advocating that corporations act in the interests of all stakeholders in society, a strategy they believe is also in the long-term interest of shareowners.

Although buying bank stock is a better strategy than buying toxic assets, TARP still puts the cart before the horse because it doesn’t address the fundamental problems. Full investor confidence won’t return until laws are changed and regulations promulgated to build a safer market. Broadening the fiduciary responsibility of boards to include all stakeholders, rather than just shareowners, is one of many ideas outlined by Kent Greenfield in his important book, The Failure of Corporate Law: Fundamental Flaws & Progressive Possibilities.

More fundamentally, Greenfield argues that corporate law should not be seen as a narrow field of private-law, but should be part of the larger social and macroeconomic policy, like environmental and tax laws. The so-called “free market” is not the creation of nature but of laws, defining the rights of property, contracts, and the rules of internal governance for the largest and most powerful institutions in the world — corporations.

Free market defects such as externalities, collective action, lack of transparency, “tragedies of the common,” short-termism and many more are better addressed not by imposing more laws to constrain corporations from the outside but by building more democratic mechanisms into corporations themselves. The resolutions offered by Harrington Investments move in that direction and deserve support. Harrington Investments has taken the lead in recognizing corporate governance as a public policy tool.

Taxpayers Say NO to Bonuses

U.S. taxpayers, who feel they own a stake in Wall Street after funding a $700 billion bailout for the industry, don’t want executives’ bonuses reduced. They want them eliminated, writes Christine Harper for Bloomberg News. Compensation at Goldman Sachs, Morgan Stanley, Citigroup and the six other banks that received the first $125 billion of the federal funds is under scrutiny.

Goldman paid CEO Lloyd Blankfein a record $67.9 million bonus for 2007 on top of his $600,000 salary. Goldman’s profit is down 47% this year and is expected to report its first loss as a public company in the fourth quarter that ends this month. The stock price has dropped 67% this year and Goldman received $10 billion from the U.S. government in the bailout last month.

“I’d advise the CEO to say he can’t take anything if it’s one of these firms getting bailed out by the government,” said former compensation consultant Graef Crystal. (Bonuses for Wall Street Should Go to Zero, U.S. Taxpayers Say, 11/11/08) I couldn’t agree more.

Of course, bonuses and executive pay aren’t simple matters. For those who want to dig beneath the surface, I recommend Crystal’s page of recent reports. In the Spring of 2009, he will be teaching a course in executive compensation at the University of California at Berkeley’s Boalt School of Law. Too bad he won’t be getting a few million for all the effort he’s put into this field during the past several decades. For an education on stock options and repricing, read his paper on Apple. How would Steve Jobs have fared had he kept his 55 million underwater option shares and not exchanged them for 10 million free shares? Instead of $647 million, they’d be worth $4.4 billion. “Steve Jobs is a terrific innovator and one of the most admired people in America. But in this one instance, he sure got it wrong.” (Disclosure: The publisher of CorpGov.net is a shareowner in both Goldman and Apple)

Call for Climate Risk Disclosure

In response to the SEC’s request for public comment on its 21st Century Disclosure Initiative, which proposes to modernize the disclosure system so that the information is more useful and transparent to investors, the Investor Network on Climate Risk (INCR) called on the SEC to consider environmental, social and governance (ESG) reporting as a key element of the project. They called on the SEC to “integrate reporting of material ESG risks into its new disclosure system.” (Institutional Investors Call on SEC to Require Climate Change Disclosure, SocialFunds, 11/5/08)

INCR is a network of institutional investors and financial institutions overseeing more than $7 trillion in assets. The 14 signatories to the letter include institutional investors such as CalPERS, CalSTRS, and the Maryland, New Jersey, New York City, and New York State public pension funds or treasurers.

In December 2007, Congress required the U.S. EPA to propose a reporting rule for industrial plants and other large sources of greenhouse gases. The EPA has yet to comply with the law. Let’s hope there is a change with the Obama administration.


According to a survey conducted for the Network for Sustainable Financial Markets, as reported inPIRC Alerts, three things are judged almost certain to happen in an attempt to address the financial meltdown: more intrusive regulation with stronger penalties; greater scrutiny of executive pay and rewards; and governance of financial institutions will be much tighter, with greater involvement in governance seen as the most likely development. Only 11% of the respondents said they will not change their professional behavior as a result of this crisis. (Blame game, latest installment, 11/11/08)

You Don’t Ever Want a Crisis to Go to Waste

So says Rahm Emanuel, President-Elect Obama’s new chief of staff. We’re all trying to anticipate and influence the direction of this rare opportunity. Consider this, in 2002 scandals at Enron and WorldCom totalling $80 billion or so led to Sarbanes-Oxley. The current melt-down has vaporized $6.5 trillion, according to Jay Whitehead, publisher of CRO. The response will be massive.

Paul Krugman notes that “what really saved the economy, and the New Deal, was the enormous public works project known as World War II, which finally provided a fiscal stimulus adequate to the economy’s needs.” Krugman hopes Obama’s economic plans have the “necessary audacity.” (Franklin Delano Obama?, NYTimes, 11/10/08) Gretchen Morgenson’s How the Thundering Herd Faltered and Fell, says Obama should ensure that finance officials in charge of taxpayer-financed bailouts operate them with more transparency. She also suggests banks be forced to raise additional capital in the markets and develop and exit strategy. (NYTimes, 11/8/08)

FT points to a speech made during the campaign for clues to Obama’s direction. “The change we need goes beyond the laws and regulation. We need a shift in the cultures of our financial institutions and our regulatory agencies . . . It’s time to realign incentives and the compensation packages so that both high-level executives and employees better serve the interests of shareholders.” He then called for the creation of a “financial market oversight commission” to update the president, Congress and regulators about the state of financial markets. (Obama has told financial industry what to expect, 11/08/08)

Pay is for the general public, the hot-botton issue. Congressman Henry Waxman, chairman of the Committee on Oversight and Government Reform, sent a letter instructing State Street and eight other banks to provide details about the compensation packages of their 10 best paid executives by 11/10/08. “You might as well put on your red flannel pajamas and run around in a field of bulls if you’re going to pay State Street’s CEO more this year than you paid him last year,” said Frank Glassner, a consultant with Design Compensation Group in San Francisco. (The compensation question, Boston Globe, 11/9/08) See also Why We Need to Limit Executive Compensation, BusinessWeek, 11/4/08)

Of course, Obama’s first order of business is making appointments. Doug Halonen, writing for P&I, speculates on possibilities for the SEC, the Department of Labor’s Employee Benefits Security Administration assistant secretary’s post and director of the Pension Benefit Guaranty Corporation. (Help wanted sign is out for top jobs, 11/10/08)

Topping the legislative wish list of corporate governance experts, according to Barry Burr, are proposals giving shareholders a say on pay and proxy access. Patrick McGurn expects a bill within the first 100 days. Charles Elson agrees, the election results “will mean an increase in government involvement, for better or worse, through the SEC and Congress.” (Shareholders see victory in Obama administration, P&I, 11/10/08) Rep. Barney Frank, says he wants to reintroduce “say on pay” legislation early next year—and pair it, perhaps, with a provision allowing proxy access.

Of course, everyone isn’t just waiting on January. Rich Ferlauto, of AFSCME, has announced their “signature shareholder proposal” will be to require executives to hold stock options until after retirement. The proposal will target as many as a dozen companies next year. Ed Durkin, of the United Brotherhood of Carpenters, says they will focus on “core executive comp issues” at financial services firms, such as freezing new stock option awards to senior executives unless those options are indexed to peer-group performance and limiting severance to double an exec’s annual salary. Golden coffins and parachutes will also be a popular target in 2009, according to Nicholas Rummell, who also cites proposals by John Chevedden to request reincorporation in North Dakota, which enacted shareholder-friendly laws. (Proxy activists upping exec-pay ante, Financial Week, 10/9/08)

RiskMetrics-ISS will feature an 11/12/08 webcast “What’s Next on Say on Pay?” at 1 pm EST.  A second forum on the subject will be held in the New York on the 13th, hosted by the Drum Major Institute for Public Policy to address social interests in executive compensation issues. See also, Gary Lutin’s Shareholderforum.com, which has been focused on the subject for several months with excellent posts from a large number of experts.

ICGN issued a statement on the global financial crisis emphasizing the importance of shareholder rights and responsibilities. (press release) It call for more transparency of derivative positions held by hedge funds, proxy access and say on pay. “Stronger rights will enable shareholders to hold boards more firmly to account for the longer term consequences of their actions. This is important because more effective boards are vital to prevent a recurrence of the crisis.” These issues and others will be further debated at the next ICGN Event being held in Delaware on the 9th and 10th of December.

Broc Romanek’s TheCorporateCounsel.net Blog alerts us to SEC Legal Bulletin 14D, the latest installment in pre-proxy season guidance on shareholder proposals from the Staff. According to Romanek, the Staff Legal Bulletin tackles these topics:

  • Inability of proponents to seek companies to amend board charters if state law empowers board to initiate amendments
  • Sending defect notices if registered owner proponent hasn’t met holding period
  • Requirement that proponents send copy of their correspondence to the SEC Staff
  • New e-mail address for the Staff to which no-action requests and correspondence can be sent
  • Corp Fin has created a new page for incoming no-action requests that the Staff has not yet processed. This will be helpful for those in-house folk who like to track the other companies that have received a similar proposal during the proxy season.

Within a few years, I anticipate a very different landscape. Proxy access and say on pay will empower shareowners to police their own companies. However, the Business Roundtable isn’t likely to yield the power of its members easily. Their Shareholder Communications Coalition calling on the SEC to initiate a comprehensive evaluation of the shareholder communications process could very well lead to the increased ability of management to communicate directly with shareowners at about the same time as broker votes are removed. No one can offer reasonable arguments against increasing the ability of parties to communicate, even if one side has access to corporate coffers to get their points across.

Therefore, at least part of the next frontier may be efforts to educate retail shareowners. It is unrealistic to expect individuals with small investments to thoroughly read proxies and digest the issues before voting. Expect efforts that rely on reputational brands, such as the United Shareholders of America: The Icahn Plan, the Investor Suffrage Movement and Proxy Democracy to take a greater role as they get organized.

Aristotelian Corporate Governance

Modern democratic states have “cast aside meaningful deliberation about the end or purpose of human life.” The minimalist state attempts only to guarantee peace and facilitate the accumulation of wealth by its citizens. Likewise, the modern corporation.

Corporate Social Responsibility (CSR) widens the dialogue and scope of obligations from economic and legal to social and ethical. Both CSR and Alejo José G. Sison’s Corporate Governance and Ethics: An Aristotelian Perspective would move us from a minimalist approach of freedom from oppression or maximum return to one that focuses on the common good, fostering ties and promoting virtue.

Corporate citizenship should move beyond protecting the rights required for the pursuit of economic interests, to engaging in sociopolitical actions based on a broader mission. Instead of a “nexus of contracts,” Sison, though his study of classic political theory grounded in Aristotle, sees a “corporate polity,” reciprocally dependent on the flourishing of stakeholder-constituents.

Under a liberal-minimalist approach to corporate citizenship, each constituent is invited to actively participate in the deliberation and execution of the common corporate good. But not only is that not practical, it doesn’t fit Sison’s Aristotelian notion of a more civic-republican notion of communitarian corporate citizenship where shareholding managers “represent the stakeholder group best equipped to govern the corporation,” since they are fully invested in, and impacted by, their collective actions in the corporation.

Sison provides a strong critique of Coase’s “the nature of the firm,” Jensen and Meckling’s “agency theory,” and the “shareholder or financial theory” of the firm formulated by Friedman. “Under the guise of asceptic, value-neutral, amoral and ‘scientific’ theory, immoral business and management practices have in fact been promoted.” Prophecies tend to be self-fulfilling in the social sciences because the knower cannot be separated from the actor.

Behind these oversimplified theories is “an unenlightened subservience to mathematical models as the only vehicles worthy of the name of science.” While math may be neat, “real life is messy.” I like Sison’s call for a new theory of the firm grounded in realistic and ethical views of human nature that acknowledge the symbiotic relationship between working toward a common goal and perfecting the self.

Sison also moves readers nicely through a number of case studies that approach Weberian like “ideal types,” from “corporate despots and constitutional rulers” to “aristocratic and oligarchical corporate governance regimes.” Finally in that framework, he reviews an example of a “corporate democracy” and a “corporate polity.”

In democracies, “the majority that governs pursues their own particular interests,” whereas in a polity “the many that participate in governance seek the good of all, the common good.” Democracies, which strive after particular interests within a legal framework characterized by “an emphasis on justice as equality and freedom in the best, and doing whatever one likes in the worst, of cases,” are seen as less noble and inspiring than polities, with their greater focus on the common good.

Sison provides good critiques of United Airlines (the democratic model) and IDOM (the polity model), pointing to where they failed to live up to ideal types. However, I was disappointed that he did not conclude by positing a new theory of the firm that would draw on the lessons of Aristotle.

Instead, he ends with what I suspect he views as more practical advice. For example, those on nominations committees should look for loyalty, administrative capacity and justice as the most relevant characteristics in potential candidates.

Those on compensation committees should focus on moderation of temperance. CEO’s should be more interested in virtues rather than excessive pay. Aristotle, he notes, “advocated the education of desire,” such that “people would not crave more than what they actually need.”

The compliance committee should strive for the spirit of obedience to the law, especially in small matters for “small errors or faults are always easier to remedy or rectify than bigger ones.”

At bottom, Sison emphasizes the need for corporate governance to analyze and evaluate not only how changes impact the firm but how they cultivate virtues in those who govern the firm. Only virtue can ensure delivery of the good, since we must depend on virtue to ensure the rules are properly interpreted and implemented. Sison would place less emphasis on developing foolproof instruction manuals and more on developing virtuous habit and customs, since “it is only from habit and custom that the law could draw force and strength.”

“The key to good governance ultimately lies in the education of the governors or rulers,” writes Sison. It is a powerful notion, sure to be embraced by university professors and associations focused on training, such as the NACD. While in no way wishing to diminish the important role of education, I wish Sison had continued with a further exposition of how democratic and polity based business models could be improved. What fertile conditions foster both the common good and the proper education of virtue in employees and leaders? How can we restructure organizations to encourage active engagement in decision-making and the development of virtues in individual participants? Please give us a second volume.

CGQs in Stock Picking

Many studies have shown a correlation between some corporate governance elements and positive returns. The more such correlations can be found, the more shareowners will demand reforms. TheLENS fund (sadly gone), led the way in actively pursuing investments in companies that have unrealized value, pushing for governance reforms, and earning a good return. Now, Rich Duprey, at the Motley Fool, is running a series of articles that look at RMG’s Corporate Governance Quotient, or CGQas one factor to be analyzed in stock picking decisions.

“There are many factors that an investor should consider in deciding whether a company is good, and how well it treats shareholders shouldn’t be least among them. View these rankings as a way to gauge how these businesses stack up against one another relative to their shareholder policies,” he says. Do These Stocks Deserve Your Support? (11/6/08), Duprey should be praised for at least broaching the subject. I hope others follow his example.

As I’ve written many times in the past, you can easily look up the CGQ of many companies on the Yahoo! Finance website. Just look up a company and then go to the “profile” page. You’ll then find the CGQ in the lower right corner. Sure, its something of a box ticking approach. A truly effective corporate governance rating system might be more “path-dependent.” Still, I find it to be a good rough guage. In my own investing, it is one of many considerations. However, I am much likely to submit proxy resolutions at companies in my portfolio with low CGQ scores.

For example, look at Whole Foods Market, which scores almost in the bottom 20% of the S&P 500. The company has lots of potential, even in this melting market. I like their emphasis on natural foods, their use of renewable energy, empowerment of workers through teams and many other features. I’m not giving up on them and have submitted a proposal seeking reincorporation in North Dakota, which provides an advisory vote on pay, majority voting in director elections, separation of the chairman and CEO positions, annual board elections, and the right of 5 percent shareholders owning stock for two years or more to nominate corporate directors, as well as another half-dozen or so measures to empower investors. WFMI could move from a laggard to the vanguard… maybe even on to one of Rich Duprey’s future lists.

Draft Minow (updated)

Speculation on Obama appointments now abound. One of my favorites is a post by footnoted.org that Nell Minow would be a natural to chair the SEC. Wow, just the thought of it! Putting a shareowner’s advocate like Minow in charge of the SEC would be like putting an environmentalist in charge of the EPA.

For eight years, appointments have been given to people who disagree with the fundamental mission of the agency they’re appointed to. How would the world change if the regulators actually believed in their agency’s mission? With her experience at OMB, LENS, ISS, and The Corporate Library, it would be hard to find anyone more qualified. Minow is ready for the SEC. Is Obama ready for Minow?

Other names being mentioned are former Commissioner Harvey Goldschmid, now at Columbia University; current Commissioner Elisse Walter; New Jersey Governor Jon Corzine; New York Attorney General Andrew Cuomo; Damon Silvers of the AFL-CIO; John Olson, a partner with Gibson, Dunn & Crutcher; former SEC commissioner Mary Schapiro, now CEO of the Financial Industry Regulatory Authority; and Robert Pozen of MFS Investment Management. (Risk & Governance Weekly, 11/7/08)

Bloomberg says potential successors include William Brodsky, chief executive officer of the Chicago Board Options Exchange; Mellody Hobson, president of Ariel Capital Management; and Gary Gensler, a former Treasury Department undersecretary and partner at Goldman Sachs Group Inc., as well as former SEC Commissioner Harvey Goldschmid, former Fidelity Investments Vice Chairman Robert Pozen, AFL-CIO Associate General Counsel Damon Silvers, and Federal Deposit Insurance Corp. director Martin Gruenberg. (Obama Faces `Urgent’ Task in Replacing SEC’s Cox, Lawmakers Say, 11/7/08) For more names, see Rumors: Who Will be the Next SEC Chair? (TheCorporateCounsel.net Blog, 11/7/08)

Whoever gets the position, I hope they will be an advocate not only for large institutional investors but also for small retail investors. In this presidential election, we’ve seen what a difference can be made when people think their votes count. One of the benefits of increased involvement is increased legitimacy. Today the markets face their greatest failure of legitimacy since the Depression. Under e-proxy, less than 6% of retail shareowners are even bothering to vote.

The next SEC Chair can help bring back confidence in the markets by focusing on the legitimate roleall shareonwers should share, including the ability to place the names of director nominees on the corporate proxy. We need a rule like the UK’s that allows not only groups holding 3-5% of a corporation’s shares to access the proxy but also groups of 100 shareonwers. Many companies with the worst governance have no substantial institutional investors, leaving out a 100 shareowner provision would leave shareowners without the tools needed to regulate their own interests. In his approach to regulations, Obama should look first to mechanisms, such as access, that promise high value with very little cost.

Back to the top

Board Leadership

Ralph Ward, publisher of Boardroom INSIDER, editor or The Corporate Board magazine and author of several books offers an important new volume on the boardroom leadership. Whatever differences people have concerning the direction of corporate governance, it is clear that much comes down to the deliberations of a very small group of people — corporate directors.

For many decades boardroom leadership came from the CEO who also chaired the board. Now, even where those two positions remain with the CEO, we are seeing a new locus of leadership among newly defined “independent” directors. While there are many good books that lay out the legal obligations of directors, none so clearly examines the concept of “leadership” in the boardroom. As this volume hits the bookstores, let’s take a brief look at the corporate governance environment.

A recent Booz Allen Hamilton study of the world’s largest 2,500 publicly traded corporations found that forced turnover among CEOs rose by 318% since 1995. Over the last several years, there has been a gradual change in board leadership structures. According to The Corporate Library’s 2008 Governance Practices Report, “focus on board independence has led many companies to separate the positions of CEO and Chair of the Board or to name an independent board member to serve as a lead or presiding director.” Their study found the chair position is completely independent of the company at 21% of the almost 3,000 companies studied. Large cap companies are less likely to split the positions than are small cap companies — 26% of small cap companies, 19% of mid cap, and only 13% of large caps split the positions.

Examining the principles of four very prominent associations we find all recognize this shift to board empowerment. CII says boards should be chaired by independent directors. If they are not, the board should provide a written statement in the proxy materials discussing why combining those roles is in the best interest of shareowners and they should name a “lead” independent director with approval over information flow to the board, meeting agendas, etc. to ensure an appropriate balance of power between CEO and directors.

ICGN principles say the chair of the board should neither be the CEO nor a former CEO and should be independent. The NACD says boards should consider formally designating a nonexecutive chairman. If they don’t, they should designate independent members of the board to lead its most critical functions. Even the BRT’s principles say that it is “critical that the board has independent leadership.”

Ward’s book is certainly timely. It is also fairly comprehensive, without getting bogged down in unreadable details. Although he acknowledges an independent chair may be the dominant model many years down the road, Ward also addresses what many shareowner activists view as interim models involving “lead” and “presiding” directors. He even has a chapter for combined CEO/Chairs on how to cope with the new realities. No matter where your company falls on the spectrum from board “independence” to board “capture,” you’ll find your board’s leadership needs addressed.

Ward begins with a very short history of boards that takes us from when they were composed primarily of the largest shareowners, to an era of employee directors, and on through Sarbanes-Oxley, which “used the audit committee to bash its way into the boardroom.” Sure, you already know this history but don’t skip it. Ward keeps it brief and provides the reader with a good grounding to take the measure of our current trajectory.

The next several chapters cover the new legalities of directors, like meeting in “executive session.” There are better books for systematically laying out these requirements. One of the best is The Role of Independent Directors after Sarbanes-Oxley by Bruce F. Dravis. However, Ward’s focus is not so much the requirements themselves but on how they are being met and what best practices leaders are struggling to develop in board evaluations, board logistics, acting as a liaison with the CEO, educating the board, etc.

The book is chocked full of interesting statistics, legal requirements, but most importantly, opinions from experts who have faced the same problems your board is facing now. For example, how important is it to name a new independent chair from existing board members? Whatever you decide, you’re very likely to benefit from the advice of others who have already done it. Plus, he provides a large number of valuable references and links to additional resources, like job descriptions for presiding directors, lead directors, and independent chairs. His discussion of how these roles differ and what skills are needed for each is the best I’ve seen.

At one point, Ward points to the irony that “by forcing independent boards to wrestle more with the regulatory nuts and bolts of the business, we may have actually weakened their powers in relation to management,” presumably because they must depend on management for this information. Luckily, boards have risen to the challenge by developing specialized skills and processes.

How are governance, audit and compensation committees coping? Ward gives us an excellent picture of what is going on inside such committees, what problems they are grappling with, and how they are adapting to new demands. He sees the chairs of each of these committees and the board itself as moving in the direction of approaching these positions “as full-time, consulting-like jobs.” Ward is probably right that better pay and professionalization are next steps.

Further along the trajectory, I couldn’t put it any better than his final words. Directors will support management, but not to a fault; they don’t owe their position on the board to the CEO. Rather, the other outside board members and major shareholders elected them to their leadership position, and the latter will lay claim to their loyalty… These next generation board leaders may not have all the answers when it comes to independent board leadership. But they definitely won’t be afraid to ask questions.” The New Boardroom Leaders: How Today’s Corporate Boards are Taking Chargeprovides an excellent guide to those wanting to take charge of corporations, the most pivotal institutions in our society.

Walden Calls Out State Street

Sometimes shareowners simply must call out companies who don’t live up to their own ideals. A case in point is State Street Corporation, a respected leader in the financial services industry. Their State Street Global Advisors (SSgA) has a long track record of responsive service to investment management clients, according to Walden Asset Management (Walden). Yet, Walden now finds itself in the position of filing a shareowner’s resolution to officially ask for a review of the guidelines and voting record of SSgA.

Last year according to a Ceres report, SSgA voted against all 50 shareholder resolutions addressing climate change. Walden wants State Street to look back at this history. The letter transmitting their resolution included the following:

SSgA has stated publicly that it understands how ESG factors can affect companies financially and has heralded its investment in Innovest. However, when it comes to proxy voting, it appears that State Street’s practice contradicts statements in its own Corporate Social Responsibility Reports and other public venues that recognize the importance of ESG factors in contributing to long term business success.

Further on in the letter, Walden notes that the central guiding principle in proxy voting “is whether a resolution would advance shareholder value by protecting reputation, reducing risk, or supporting a forward thinking strategic plan by the Board.” They go on to cite other financial institutions that have taken a more “nuanced” approach to ESG issues.

The resolution itself notes that SSgA’s annual Corporate Social Responsibility (CSR) Report claims that “corporate social responsibility is good for business.” SSgA was managing $80 billion in assets incorporating environmental, social and governance factors as of 2007. Yet, their proxy voting record “seems to ignore State Street’s proclaimed environmental commitment and stated position regarding the impact of key environmental factors on shareholder value.”

“Ironically, State Street reports its own greenhouse gas emissions in its CSR Reports and further describes the company’s active role in addressing climate change.” The resolution seems to ask why State Street doesn’t support efforts to require such disclosures at other firms, since failure to address this issue could lead to a decline in long term shareholder value. The resolved portion of the resolution reads as follows:

Shareholders request the Board to initiate a review of SSgA’s Proxy Voting Policies, taking into account State Street’s own corporate responsibility and environmental positions and the fiduciary and economic case for the shareholder resolutions presented. The review should consider updating State Street policies. The results of the review, conducted at reasonable cost and excluding proprietary information, should be reported to investors by October 2009.

I found it interesting to go onto the SSgA site to see what they are telling clients. Here’s one sentence from a report entitled Climate Change Poses Risks and Opportunities for Fiduciaries by Bill Page, dated, January 7, 2008: “Since, on average, more than 70% of pension fund portfolios consist of exposure to public corporations, trustees should seek to understand the potential of climate change to affect their portfolio companies and their underlying assets.” It isn’t difficult to see the irony here. How can trustees better understand the potential of climate change to affect their portfolios if State Street is out there opposing resolutions seeking such disclosures? I’m glad Walden is holding their feet to the fire.

First Field Agents Named

The first 10 field agents have been named to the Investor Suffrage Movement. These agents will begin by performing shareholder-related services on behalf of activists or institutional investors—tasks such as contributing their own proxies or attending a shareowner meeting to present a proposal. Moving forward, field agents will contribute in a myriad of ways to the development, testing and implementation of a Global Proxy Exchange.

Of the pioneers who signed on in October, most have made significant contributions to shareholder activism, corporate governance and/or socially responsible investing. Several are famous for those efforts. For example, the first agent named was John Cheveddan who learned at the arm of John Gilbert. John is the most active individual shareowner in submitting proxy proposals. Last year, he was involved in submitting 40 proposals and received a majority vote on 20 that were adopted by management.

The tenth agent named was John Harrington, President of Harrington Investments. Harrington is the author of Investing With Your Conscience: How to Achieve High Returns Using Socially Responsible Investing (1992) and The Challenge to Power: Money, Investing and Democracy (2005). He is the former President & Chairman of the Board or Working Assets Management Company and former Chairman of the Board of Progressive Asset Management. Those of us in between aren’t too shabby either.

The program is off to a great start. I expect that within a few years, we will have field agents in every major city and on every university campus.

Shareholder Communications Coalition

The Business Roundtable has formed a Shareholder Communications Coalition calling on the SEC to initiate a comprehensive evaluation of the shareholder communications process. The Coalition comprises five associations: Business Roundtable (BRT), National Association of Corporate Directors (NACD), National Investor Relations Institute (NIRI), the Securities Transfer Association (STA), and Society of Corporate Secretaries & Governance Professionals (SCSGP). See 10/29/08press release. According to the Coalition, this evaluation should include the following principles and recommendations:

  1. Direct Communications with Individual Investors. The SEC should eliminate the NOBO/OBO distinction thereby giving companies access to contact information for all of their beneficial owners and permit companies to communicate with them directly. Shareholders desiring to remain anonymous should bear the cost of maintaining their privacy, such as through the establishment of nominee accounts.
  2. Voting By Retail Investors. The SEC should examine how to protect the vote of the retail investor, particularly in the case of unvoted shares. Institutional investors generally vote 100% of the time, in response to their legal responsibilities and facilitated by electronic systems. They also are aided, as noted above, by proxy advisory services. Retail investors have no similar voting facilitators or proxy advisory services, and, in fact, often have no motivation to vote their shares. Among the alternatives that the SEC should consider to protect the interests of retail investors are: (a) pass through of voting rights directly to beneficial owners; (b) proportional voting; and (c) client directed voting.
  3. Competition among Proxy Service Providers. Brokers, banks, and other intermediaries should not stand in the way of direct communications between companies and the beneficial owners of their securities. Companies should have the ability to determine the distributors of their communications, and should not be forced to pay for the costs of a system in which the fees and the service providers are determined by third parties.
  4. Proxy Voting Integrity. The SEC should consider additional steps to ensure that the proxy voting system is transparent and verifiable. In this regard, the SEC should examine its ownership disclosure requirements and consider requiring disclosure of both voting and economic ownership along with both positive and negative economic ownership.
  5. Proxy Advisory Services. The SEC should review the role of proxy advisory services and the procedures used by these firms in generating recommendations.
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