Tag Archives | SEC

Proxy Plumbing in Three Parts

According to a post by Jeff Morgan of the National Investor Relations Institute (SEC Previews Proxy Mechanics Concept Release), tomorrow’s concept release from the SEC will consist of three parts (meeting to begin at 10 am EDT):

  1. Accuracy, transparency, and efficiency in the voting process: over-voting and under-voting, vote confirmation, voting and securities lending, proxy distribution costs including e-Proxy fees and client-directed voting.
  2. Shareholder communications and participation, including: the NOBO/OBO classification system, the need to increase retail investor participation in proxy voting, investor education, shareholder forums, whether e-Proxy has been successful, and the feasibility of data tagging proxy and vote filings.
  3. The relationship between voting power and economic interest of shares, and discuss proxy advisory services oversight, record date issues (dual record date feasibility) and empty voting.
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Preliminary No-action Lessons from 2010

DavisPolk issued a client memorandum on April 15, 2010 that just come to my attention, 2010 Proxy Season Early Trends: More Proposals, and More Exclusions. (Hat tip to Timothy Smith of Walden Asset Management). The memo notes:

Last year’s Staff Legal Bulletin 14E restricted the grounds on which proposals could be excluded, which led some to predict the virtual demise of the 14a-8 no-action letter request. But based on the returns so far it appears that this demise has been exaggerated. Properly framed 14a-8 no-action letters can continue to be effective for excluding shareholder proposals.

Companies challenged 249 proposals (31% of the total). Not counting proposals later withdrawn by the proponents, the SEC staff agreed with companies 68% of the time, largely consistent with prior years. Most common challenges in descending order were: ordinary business (22%), failed ownership threshold (19%), conflicting (15%), lacked power or vague (13%), substantial implementation (13%), and other procedural deficiencies (18%).

Companies are winning on “conflicting” proposals by proposing charter or bylaw amendments allowing shareowners to call special meetings, setting the minimum percentage at 25% or even as high as 40%, as opposed to the 10% thresholds recommended by shareowner proposals. DavisPolk observes, “this may be a short-term tactic, but it appears to be successful for now.” Eventually, the SEC should recognize there is a big difference between 40% and 10% being able to call a special meeting. Shareowners will continue to argue these aren’t substantially the same and eventually the SEC may come tor their senses.

After a proponent won reconsideration of a staff decision involving Tyson Foods on December 15, 2009, companies made 35 requests for reconsideration. All were rejected but as DavisPolk notes, while reconsideration my be a low-yield tactic, it is also low cost. More paperwork for everyone.

The memo also discusses the decision in Apache v Chevedden, noting that although the court allowed Apache to exclude his proposal, “since the court case was handed down, the SEC has stuck to its position, denying exclusion when Mr. Chevedden again only provided a letter from RTS.” Apache would have likely lost a no-action request from the SEC but DavisPolk concludes, “it illustrates that procedural deficiencies continue to provide sufficient grounds for exclusion in many situations.”

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Proxy Plumbing Concept Release Expected Next Week

The SEC has given notice they will hold an Open Meeting on July 14, 2010 at 10:00 a.m. to consider issuing a Concept Release on proxy mechanics and soliciting public comment as to whether the Commission should consider revisions to its rules to promote greater efficiency and transparency in the U.S. proxy system and enhance the accuracy and integrity of the shareholder vote. The meeting will be broadcast over the Internet for anyone who cannot attend, via the SEC’s website at www.sec.gov.

One part of proxy mechanics is expected to be “Client Directed Voting.” I have prepared a post on that subject largely based on the work of Mark Latham. I anticipate it will go up at the HLS Forum CorpGov & FinReg within the next few days. In the meantime, see my recent post: Q&A on Client Directed Voting. For further background on broader issues, see my Comparison of “Proxy Plumbing” Recommendations, 11/8/09.

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SEC Adopts Pay to Play Regulations

In a unanimous vote Wednesday, the Securities and Exchange Commission adopted a regulation designed to curtail so-called “pay to play” schemes in which advisers try to curry favor with politicians by donating to their campaigns.

Under the rule, if an investment adviser or certain employees of an advisory firm contribute to a politician with influence over hiring, they cannot be paid by the pension fund for two years. Advisers would be prohibited from bundling donations from other people or political action committees for the officeholder or a party. (SEC limits political gifts from advisers to pension funds, Investment News, 6/30/10)

The new SEC rule has three key elements (SEC Adopts New Measures to Curtail Pay to Play Practices by Investment Advisers):

  • It prohibits an investment adviser from providing advisory services for compensation — either directly or through a pooled investment vehicle — for two years, if the adviser or certain of its executives or employees make a political contribution to an elected official who is in a position to influence the selection of the adviser.
  • It prohibits an advisory firm and certain executives and employees from soliciting or coordinating campaign contributions from others — a practice referred to as “bundling” — for an elected official who is in a position to influence the selection of the adviser. It also prohibits solicitation and coordination of payments to political parties in the state or locality where the adviser is seeking business.
  • It prohibits an adviser from paying a third party, such as a solicitor or placement agent, to solicit a government client on behalf of the investment adviser, unless that third party is an SEC-registered investment adviser or broker-dealer subject to similar pay to play restrictions.

The new rule becomes effective 60 days after its publication in the Federal Register. Compliance with the rule’s provisions generally will be required within six months of the effective date.

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Behavioral Economics

Remarks by Dan Ariely, author of The Upside of Irrationality: The Unexpected Benefits of Defying Logic at Work and at Home, at the SEC Investor Advisory Committee (May 17, 2010, morning session) are well worth watching. Just a few cryptic observations to whet your appetite. Duration doesn’t matter as much as intensity. High pain that goes down is less painful than low pain that increases. Useful to take breaks, if pain is going to last. He provides some great examples of visual blindspots and financial decision illusions. Opt out vs opt in inertia. Default decisions influenced more where the environment is important and complicated. The more options, the more you are likely to procrastinate. Where you are on a scale can dramatically shift your decision. Adding choices, even choices that no one wants, influences choice outcomes.

On cheating: lots of people cheat just a little, regardless of the likelihood of being caught. People who signed first cheated less than those that signed after. Cheating increased dramatically with use of tokens, one step removed from actual money. Disclosure of conflicts of interests leads people to feel free be more biased. Lots of irrational tendencies. We often don’t see them. We keep following our intuition, rather than experimenting to learn. But Ariely believes we are as limited in the cognitive domain as we are in the physical. Input from cognition much different from input from emotion… difficult to imagine what we will feel when the event happens.

It is incredibly easy to create conflicts of interest. People will feel favorable towards someone even if they simply by them a cup of coffee… it doesn’t take thousands of dollars. Higher salaries can backfire if makes you think too much of the money… it may reduce creativity. We don’t make less mistakes in investing than we do in driving but we have many more  rules for driving. He thinks we need to give investors more help… defaults that will help them save more.

See also previous post: Cognitive Bias.

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SEC XBRL Mandate For Dummies

Clarity Systems is issuing its book, SEC XBRL Mandate For Dummies, as a free download… at least on a temporary basis. It is designed to give you the basics about the U.S. Securities and Exchange Commission’s (SEC’s) XBRL mandate. It looks like a good resource for comparing Outsourced XBRL, Bolt-On XBRL, Integrated XBRL approaches.

Hey, the price is right. How can you miss? And it is written in a style that even dummies can understand.

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SEC's IAC Meeting Agenda for May 17

The Securities and Exchange Commission has posted the agenda and schedule for the Investor Advisory Committee meeting in Washington, DC for this coming Monday, May 17. Webcast should be linked from here or here. Hat tip to Committee member Mark Latham and his VoterMedia Finance Blog for the reminder.

Dan Ariely, an expert on behavioral economics and author of Predictably Irrational: The Hidden Forces That Shape Our Decisions, will discuss his work with regard to factors that influence investor decision-making. It should be worth tuning in just for this segment, even if you aren’t interested in the important work of the IAC.

The Committee will also hear from a panel of experts on the topic of mandatory arbitration provisions in customer agreements with brokers. Subcommittees will also report on the status of their activity, including analysis of potential disclosure regarding environmental, social and governance issues.

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Rock Center Proxy Access Forum

The Rock Center for Corporate Governance at Stanford University is hosting a panel discussion on May 6th with SEC Commissioner Troy A. Paredes and relevant constituencies to discuss the SEC’s proxy access proposal and how it will play out.

A summary of the SEC proposal, highlighting the principal controversies raised by various commentators and interest groups, and prepared by a group of Stanford Law School students in conjunction with Davis Polk & Wardwell LLP, is available, along with the SEC proposal here.

Professor Joseph A. Grundfest will moderate the discussion. Speakers include:

  • The Hon. Troy A. Paredes, Commisioner of the U.S. Securities and Exchange Commission
  • Francis S. Currie, Partner, Davis Polk & Wardwell LLP
  • Abe M. Friedman, Global Head of Corporate Governance and Responsible Investment, BlackRock, Inc.
  • Anne Sheehan, Director of Corporate Governance, California State Teachers’ Retirement System

This event is free and open to the public; registration is requested. The background paper speculates on potential outcomes, including the following:

  • The one-way versus two-way opt-out debate has become the primary remaining ideological battle before the SEC as it considers the structure of its final rule. An alternative opt-out proposal advanced by a number of opt-in proponents is to suspend operation of the SEC’s proxy access rule for companies who agree to pay for the cost of independent director solicitations by qualifying shareholders.
  • It would not be surprising if the SEC increased some ownership thresholds in its final rule.
  • The SEC may well adopt a two-year holding period in its final rule.
  • It is expected the SEC may require or permit related disclosure requirements so that shareholders are presented more complete information.
  • We expect the “first-to-file” aspect of the proposal to change to some variation of a “largest shareholder” rule.
  • The final Rule 14a-11 could have a single nominee per shareholder requirement.
  • We expect that the SEC may adopt suggested modifications to bar shareholders from making nominations for a period of 1 to 3 years if their candidates fail to 10% to 30% of the vote in order to prevent them from repeatedly forcing the company “into an expensive contested election or governance proposal, even if the vast majority of other shareholders opposed such actions.”

I certainly hope the SEC doesn’t yield to an opt out provision. The ownership levels proposed are already onerous, especially at small companies where institutional investors are scarce and entrenched boards are not uncommon. I expect a two-year holding period and for the SEC to move from first to file to something like the “lead plaintiff” provisions of the Private Securities Litigation Act of 1995, which favors large shareowners. Regarding the need to require additional disclosures, that tactic was used previously… to require more information for a short slate than for an actual contest. Any additional requirements should be minimal.

I don’t recall previously seeing the argument that shareowners be limited to a single nominee. No logic is provided for this recommendation, other than “Corporations, corporate law firms, and publicly traded companies have generally maintained that each nominating shareholder or shareholder group should only have one nominee.” That certainly isn’t compelling to me and I don’t expect Commissioners to find it so either. Allowing a single shareowner or group to nominate more than one director is more likely to result in a board with balanced talent, because qualifications can be better weighed in context.

Regarding the need to set voting thresholds and/or to bar resubmissions because of a fear of wasting corporate assets on expensive elections, a better solution would be to severely limit the amount that both sides can spend on such contests. Decades ago Lewis Gilbert recommended limiting the amount a company and insurgents can spend on a proxy fight, based on size of the company and number of shareowners, so as to not drain corporate treasuries. Nothing “forces” management to make these short slate contests, which don’t change control of boards, into “expensive contested elections.” Since the money they spend to entrench themselves comes out of the corporate treasury and potentially reduces shareowner value, both shareowner sponsors and the companies facing such “contests” should be barred from hiring solicitors to create expensive contests. Let shareowners decide based on the information contained in the proxy and on respective websites. Your thoughts?

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Ensuring Bad News Gets Above the 77th Floor

Recommended reading or listening: Diane Sanger Memorial Lecture by Nell Minow, sponsored by the SEC Historical Society and delivered on March 17, 2010. Her talk took on a wide range of topics, including:

  • What Karl Marx, Adam Smith, Benjamin Franklin, and Andrew Carnegie had in common,
  • Adventures with Bob Monks,
  • The impact of Lewis Gilbert, current economic problems,
  • Citizens United,
  • The problem of intermediaries,
  • Need for more tagging of SEC data,
  • Client directed voting,
  • Owning Mahowny,
  • The need of shareowners to be able to chose the state of incorporation,
  • Absolute clawbacks,
  • Option and stock grants need to be indexed to peer group (70% of option gains are attributable to the overall market).
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What Should Boards Learn From Goldman Sachs?

As most know by now, the SEC sued Goldman Sachs alleging that the bank created and sold “synthetic” collateralized debt obligations, CDOs linked to subprime mortgages without disclosing to buyers that hedge fund Paulson & Co. helped pick the underlying securities and bet against the vehicle. Goldman is strongly disputing the SEC’s allegations.

Business Week notes the Goldman Sachs Suit May Prompt Wider Probe, Regulation. “This is probably just the tip of the iceberg,” said Chizu Nakajima, director of the Centre for Financial Regulation and Crime at Cass Business School in London. “As far as other financial institutions are concerned, they are obviously very worried. If the SEC’s action is actually successful, it could well open up the gates to other litigation worldwide.”

There’s been a raft of coverage. One of the best summaries I’ve seen is Goldman Sachs vs. SEC: All You Need To Know (Latest UPDATES) on the Huffington Post. However, boardmembers of Goldman Sachs and other vulnerable banks are advised to read Wall Street beware: the lawyers are coming, by Frank Partnoy, FT.com, 4/19/10 and  The Goldman Sachs Board and the SEC History at The Bloxham Voice, 4/19/2010.

Lynn Turner, the former SEC chief accountant, and Frank Partnoy, author of the The Match King have published Off-Balance Sheet explaining how Congress could reform this area with one simple paragraph requiring that financial statements reflect reality, and by empowering lawyers to enforce that requirement after the fact.

Bloxham notes that in April 2003 the SEC settled with Goldman over conflict of interest charges. Goldman was permanently enjoined “from violations of NASD and NYSE rules pertaining to just and equitable principles of trade (NASD Rule 2110; NYSE Rules 401 and 476), advertising (NASD Rule 2210; NYSE Rule 472), and supervisory procedures (NASD Rule 3010; NYSE Rule 342).” NYSE Rule 472 which begins:

Each advertisement, market letter, sales literature or other similar type of communication which is generally distributed or made available by a member organization to customers or the public must be approved in advance by an allied member, supervisory analyst, or qualified person designated under the provisions of Rule 342(b)(1).

What was the level of supervision in the most recent example? This is a question the Goldman Sachs board will need to address. Bloxham then proceeds to go through several other requirements in a similar manner. Boards would be advised to go through the same exercise.

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"Corrected" Ballot at Altrea Tips Votes to Management

The latest development in the case of unfair ballots favoring management at Altrea is that Broadridge has now “corrected” the language on their voter information form (VIF) for the shareowner proposal to eliminate supermajority voting requirements. However, the “correction” fails to accurately portray the proposal at all, and simply places yet another hurdle in the path of shareowners.  In fact, the new language highlights the issue of what happens to blank votes and, once again, calls into question why VIFs are, according to Broadridge, exempt from the rules that apply to proxies… although, at least with the corrected VIF, Broadridge included an explanatory letter and the full text of the proposal.

I see two primary issues. First, the rules that apply to proxies should also apply to VIFs.  If VIFs go out to about 1/3 of the total number of shareowners and the rules don’t apply to them, then the SEC appears to sanction the treatment of these shareowners as second class citizens, in comparison to those who receive actual proxies.  (I don’t know the actual proportion going out as VIFs, but 1/3 seems like a reasonable guess.)

Under Broadride’s interpretation, VIF’s don’t have to be clear and impartial and they don’t have to warn about turning blank votes into votes for management. I’m told that Broadridge “tries” to summarize the issues but if that can’t be done easily, they put a general statement on the VIF, referring the shareowner to the proxy materials.  Of course, most retail shareowners don’t read the VIF… even fewer read the proxy materials. I have asked the SEC for clarification on whether or not proxy rules apply to VIFs.

Second, if the SEC finds their rules do apply to VIFs, that takes care of the issue of the “clear and impartial.” Additionally, at least more voters would be alerted to the fact that blank votes will be counted as votes in favor of the position taken by the company’s soliciting committee because warnings will have to be in bold-type, instead of in micro-type footnotes.

However, I would argue that Rule 14a-4(b)(1) still needs to be changed.  Just as the SEC finally agreed to abolish the practice of “broker voting,” because a non-vote isn’t necessarily a vote for management, the SEC should also amend 14a-4(b)(1) so that blank votes are counted as blank votes, not as votes in favor of the position taken by the company’s soliciting committee.

I previously discussed other cases when I filed a petition with the SEC last year to stop blank votes from turning into votes for management and when posted Investors Against Genocide Fighting American Funds, Broadridge and Vague SEC Requirements: More Problems Solved Using Direct Registration.

For those of you who are new to the issues, let me briefly illustrate them with the current case of the shareowner proposal at Altera.  SEC Rule 14a-4(a)(3) states the proxy “shall identify clearly and impartially each separate matter intended to be acted upon, whether or not related to or conditioned on the approval of other matters, and whether proposed by the registrant or by security holders.” Broadridge claims they don’t have to follow the rules required for proxies because they use a Voter Information Form (VIF), not a legal proxy.

John Chevedden submitted a proposal to Altera, asking them to end supermajority voting requirements. His resolved language read as follows:

Shareholders request that our board take the steps necessary so that each shareholder voting requirement in our charter and bylaws, that calls for a greater than simple majority vote, be changed to a majority of the votes cast for and against the proposal in compliance with applicable laws. This includes each 80% supermajority provision in our charter and bylaws.

Broadridge “made a mistake” and represented the proposal on the VIF, which most retail shareowners got, as follows:


In an April 1, 2010, letter to the SEC and Altera, Chevedden complained that voting would not be accurate with such a description of his resolution. On April 2nd, I posted an article entitled Abusive Practices Continue as VIFs Tilt Voting in Favor of Management and urged readers to bring this abusive practice to the attention of the SEC’s Investor Advisory Committee through use of their online comment form.

On April 9th, I heard from Timothy Smith of Walden Asset Management that Broadridge had acknowledged the error was sending out a corrected VIF.  I was able to confirm this with a Broadridge representative. However, later that day I received an e-mail from John Chevedden with the “corrected” ballot language that now appears on the new VIF. The ballot language now reads as follows:


I was told that Broadridge uses this general language when they can’t easily summarize a shareowner proposal. I would like to give Broadridge the benefit of the doubt and call the first translation an error, but it is hard to believe they couldn’t easily summarize the shareowner proposal even on their second attempt when it was brought to their attention how they had butchered the ballot statement for a proposal to eliminate supermajority requirements.

Anyone vaguely familiar with the issue could have easily summarized the proposal as “Eliminate supermajority voting provisions.” There have been dozens of submissions of this proposal, so it is hard to believe that Broadridge can’t figure out how to abbreviate the resolution for the VIF. Way back on 7/20/2007, the RiskMetrics Group Governance Blog posted an article entitled,  Strong Support for Defense Limits, which included the following:

Investor support remained high for proposals that ask companies to eliminate supermajority requirements to approve bylaw changes and other matters. These resolutions have averaged 67.2 percent across 21 meetings, about the same as the 2006 average of 67.8 percent.

Are we really to believe that Broadridge can’t easily figure out how to abbreviate a resolution to eliminate supermajority requirements… essentially the same resolution that has been submitted for years and years to dozens and dozens of companies… even after it has been brought to their attention that the resolution involves ending supermajority requirements?

Referring shareowners back to the proxy statement, as Broadridge has done in their “corrected” ballot, essentially disenfranchises shareowners. Most will conclude the opportunity cost of going to the proxy to read the language probably exceeds the expected benefit of an informed vote. Most will rationally remain uninformed and leave that item blank. Of course, if they do leave that item blank, the proxy will then be automatically changed and counted as a vote in favor of the position taken by the company’s soliciting committee… as a vote against the shareowner proposal.

Isn’t it interesting how the inability of Broadridge to “clearly and impartially” identify “each separate matter intended to be acted upon,” as required by SEC Rule 14a-4(a)(3) for proxies, seems to work in management’s favor? Broadridge has seen proposals to end supermajority requirements over and over again for years, but they are still not sure how to abbreviate such proposals for the VIF.

Their inability to understand a simple straight-forward proposal means many more shareowners will leave that item blank. Since Rule 14a-4(b)(1) allows blanks to be filled in as recommending by the company’s proxy soliciting committee, Broadridge’s apparent ineptitude works in favor of management.  And isn’t it becoming difficult to believe these errors are truly simple mistakes?

The SEC should rule that all requirements for proxy statements, such as Rule 14a-4(a)(3), also apply to VIFs. Additionally, the SEC should move to amend Rule 14a-4(b)(1) so that blank votes are counted as blank votes, not as votes in favor of the position taken by the company’s soliciting committee. Let’s put an end to what essentially amounts to rigged voting in corporate elections.

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No One Knew it Existed: The SEC's Bounty Program

Since its inception in 1989, the SEC has paid out a grand total of $159,537. Five claimants have received money from the program since 1989, with one claimant taking home the bulk, $100k. The other four split $60,000. Bounty can’t exceed 10% of the amount recovered from a civil penalty but that limitation doesn’t seem to have been the problem, according to Assessment of the SEC’s Bounty Program,” released by SEC Inspector General H. David Kotz. The SEC report recommends adopting the

“best practices obtained from DOJ and the IRS into the SEC bounty program with respect to bounty applications, analysis of whistleblower information, tracking of whistleblower complaints, recordkeeping practices, and continual assessment of the whistleblower program… improvements are needed to the bounty application process to make it more user-friendly and help ensure that bounty applications provide detailed information regarding the alleged securities law violations. We also found that the criteria for judging bounty applications are broad and the SEC has not put in place internal policies and procedures to assist staff in assessing contributions made by whistleblowers and making bounty award determinations. Additionally, we found that the Commission does not routinely provide status reports to whistleblowers regarding their bounty applications, even if a whistleblower’s information led to an investigation. Moreover, we found that once bounty applications are received by the SEC and forwarded to appropriate staff for review and further consideration, they are not tracked to ensure they are timely and adequately reviewed. Lastly, we found that files regarding bounty referrals did not always contain complete documentation, such as a copy of the bounty application, a memorandum sent to the whistleblower to acknowledge receipt of the application, and a referral memorandum showing the office or division and official to whom the bounty application was referred for further consideration.

Harry Markopolos, who tried to warn the SEC about Bernard Madoff couldn’t get the SEC’s attention and later wrote No One Would Listen: A True Financial Thriller. Let’s hope their own Inspector General can get enough attention focused on the problem to fix it. (see SEC IG’s Report Details Insider Trading Bounties, Compliance Week, 4/2/10; $159,537 In Total Payments to Whistleblowers by the SEC Since 1989, DaveManuel.com, 4/2/10; The SEC’s Bounty Program, The Corporate Counsel.net Blog, 4/6/10)

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Abusive Practices Continue as VIFs Tilt Voting in Favor of Management

SEC Rule 14a-4(a)(3) states the proxy “shall identify clearly and impartially each separate matter intended to be acted upon, whether or not related to or conditioned on the approval of other matters, and whether proposed by the registrant or by security holders.”

Broadridge claims they don’t have to follow the rules required for proxies because they use a Voter Information Form (VIF), not a legal proxy. Broadridge can apparently reference a shareholder proposal however they want, or perhaps it would be more accurate to say however the issuer wants. The SEC doesn’t appear to be either aware or concerned that retail shareowners getting VIFs, not proxies, have no idea what they are voting for or against without referencing back to the Definitive Proxy Statement. With only about 20% of retail shareowners voting (5% under e-proxy), it is likely that many who do choose to vote do so based only on the ballot description.

John Chevedden is attempting to bring this concern once again to the SEC’s attention, using his proposal at Altera as an example. (See his CheveddenToSECreAltera4-1-2010.  For additional background on this issue, see previous post Investors Against Genocide Fighting American Funds, Broadridge and Vague SEC Requirements: More Problems Solved Using Direct Registration.)

Here’s how Broadridge/Altera represent the proposal on the VIF, which most retail shareowners get:


What the…?  That’s not a statement; it is nothing but gobbledygook. Here’s how Chevedden’s actual resolved statement reads:

Shareholders request that our board take the steps necessary so that each shareholder voting requirement in our charter and bylaws, that calls for a greater than simple majority vote, be changed to a majority of the votes cast for and against the proposal in compliance with applicable laws. This includes each 80% supermajority provision in our charter and bylaws.

Of course, this and many other issues could be corrected if we moved to direct registration of all shares. However, in the meantime the SEC should simply rule that all requirements for proxy statements, such as Rule 14a-4(a)(3), also apply to VIFs.  I urge readers to bring this abusive practice to the attention of the SEC’s Investor Advisory Committee through use of their online comment form and to Chairman Mary Schapiro.

Comment: Sarah Wilson, of Manifest, made their subscribers aware of this issue (And another good reason for a proxy system overhaul, 4/3/2010) and also noted that voting problems are worldwide. Invisible democracy hits Italian board slate (4/2/2010), discusses the case of Generali, where the vote deadline is the same day as the publication of the director lists.

The award for the worst voting deadline of the year so far… (4/2/2010), where Australian-listed Qbe Insurance Group has a 32 day deadline. This contrasts with Manifest’s 15 year practice of allowing proxies submitted electronically as close as 2 days before the vote cut-off so that more informed voting decisions could be made. If you can transfer large sums of money around the work in seconds, why can voting be executed closer to the meeting date. Manifest argues, “Voting rights are legally no different to buying and selling rights. In that regard fund managers are obliged to seek best execution on behalf of their clients.”

I understand that in both cases the local market deadlines in those markets is 48 hours… the problems may lie with Broadridge. How can you have a vote deadline in the past!? Haw Broadridge become too much of a world-wide monopoly.

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SVNACD: New Proxy Rules on Executive Compensation

Networking Before SVNACD Meeting

What are the new SEC disclosure rules for executive compensation, especially the “risk” to the corporation of their compensation plans? How are companies dealing with these new rules — what do the early returns from this proxy season indicate? Are these new SEC requirements more of an annual risk assessment of compensation than disclosure rules — is any company really going to make a disclosure that its compensation policies create a risk to the entity? Will the RMG/ISS guidelines have as much, or more, impact than the SEC rules? How will these rules relate to pay for performance? Exactly what compensation programs are “unduly risky”? What mitigation practices will companies adopt? What are the “best practices” that should be considered?

Those were some of the issues taken up by panelists bright and early at 7:30 am at a monthly meeting of the Silicon Valley chapter of the NACD:

  • Lon Allan, Chairman of the Silicon Valley chapter of the NACD.
  • Katie Martin, Senior Partner at Wilson Sonsini Goodrich & Rosati’s Palo Alto office, where she practices corporate and securities law. 
  • Tom LaWer, Senior Partner at Compensia, a management consulting firm providing executive compensation advisory services.
  • John Aguirre, Senior Partner at the law firm of Wilson Sonsini Goodrich & Rosati, specializing in executive compensation and employee benefits, including tax, ERISA and federal and state securities laws.

I’m certainly no expert in this area but I’m sure it was paradise for actual practitioners in the trenches. What follows are a few items that struck me as an interested observer. Although I know I got the order of panelists right, who said what is less certain. The links are to sites I think readers might find useful. I didn’t run them by the speakers for endorsement.

Katie Martin

Katie Martin started with some discussion on changes to required disclosures. For example, directors must disclose seats held at any time during last five years.  Legal proceedings: 10 year look back, rather than 5. Disclosure is expanded to include judicial proceedings relating to mail or wire fraud, violations of state securities, disciplinary sanctions.

Disclose experience, qualifications, attribute and skill that led to selection. Most are placing disclosures right below the biography. She discussed the new RiskMetrics Group Risk Indicators GRId (their new gov scoring system). The old CGQ scores will be frozen on March 17, 2010 and retired completely at the end of June 2010. Here’s an SEC FAQ for issuers.

My own impression, reinforced at the meeting, is that the SEC rules are largely non-prescriptive, whereas the substance of disclosures will mean more when graded by RMG. Verify the facts. Look at ways to improve. Use new D&O questionnaires, which ask directors to self-identify their particular experience, qualifications, attributes and sills.

Diversity considerations. Whether, if so, and how. The SEC rules include no mandates and the definition of diversity is being interpreted broadly.

Board leadership structure. Whether and why CEO and Chair are same or separate. If same, description of Lead Independent Director is critical. Review governance policies with respect to the role of lead independent director to consider whether further clarity is needed. Discuss and document the rationale for your current leadership structure.

Risk management oversight. Disclose the board’s responsibility for risk-management oversight. For example, is it the responsibility of entire board or is the function assigned to one or more committees for different categories of risk? This is a good opportunity to discuss these issues with the board and/or appropriate committees. Discussion will normally bring some changes and more formality. There is a trend toward having a separate risk management committee, not so much in the tech sector, but in larger firms.

With the new rules regarding 8-K requirements, we’re talking close to real-time disclosure, within 4 business days after meeting. File preliminary results, if final results not known.

Non-GAAP Financial Measures: Recent SEC Interpretations. Historically, restrictive approach by SEC to non-GAAP financial measures. Recent changes have not led to full blown non-GAAP report but anything that flushes out trends would be positive. SEC filings should be consistent with other public communications. If doing an offering, get comfort from auditors. (Revised SEC Interpretations Regarding Non-GAAP Financial Measures, Cooley Godward Kronish LLP, 2/26/10)

Focus on process aspects, risk and possible litigation. Don’t let your board get blind-sided.

John Aguirre

John Aguirre – New Compensation Disclosure Rules: Policies and Practices Relating to Risk Management — Requires narrative disclosure regarding compensation policies and practices for all employees to the extent that risks arising from such policies and practices are “reasonably likely to have a material adverse effect on the company.” Reasonably likely is the same disclosure threshold used in the Management Discussion & Analysis. Whether disclosure is required is a facts and circumstances test for each company and its compensations programs (e.g., the program features and goals). Dodd bill may require comp committee to have their own attorney. Focus on process.

Risk disclosure, grants, and consultant fee disclosure… Forward-looking statements that don’t create risk.

SEC examples of practices that may have risk requiring disclosure included business unit that:

  • carries a significant portion of company’s risk profile.
  • has compensation structured significantly different from other units within the company.
  • is significantly more profitable than other units.
  • has compensation expenses as a significant percentage of unit’s revenues or compensation that varies significantly from the overall risk and reward structure of the company, such as when bonuses are awarded upon accomplishment of a task, while income and risk to company from task extend over a significantly longer period of time.

If disclosure is required, the SEC noted possible areas for discussion:

  • General design philosophy and manner of implementation of compensation policies and practices for employees whose behavior is most affected by incentives created, as related to risk-taking on behalf of company.
  • Risk assessment or incentive considerations, if any, in structuring compensation policies and practices in awarding and paying compensation.
  • How compensations policies and practices relate to realization of risks resulting from employee actions in both short and long term, such as policies requiring clawbacks or imposing holding periods.
  • Policies regarding adjustments to compensation policies and practices to address changes in risk profile. Material adjustments that have been made to compensation policies and practices as a result of changes in risk profile. Extent of monitoring of compensation policies and practices.

List of SEC’s examples is not exhaustive. SEC expects principles-based approach in the disclosure, similar to CD&A requirements. Avoid generic or boilerplate discussion. SEC does not require an affirmative statement that a company’s risks arising from its compensation policies and practices are not reasonably likely to have a Material Adverse Effect. If a company does not disclose any material adverse risks, the SEC likely will, in the course of its review, issue a comment asking the company to explain the nature of the internal analysis that was conducted in making its determination that no disclosure was required.

What should you do? Update board or comp committee on new rules. Consider whether compensation policies need updated. In addition to the examples John provided, which I expect may be referenced on the SVNACD site, here are some examples from Holme Roberts & Owen LLP.

Must disclose aggregate “grant date fair value” of awards computed in accordance with FASB ASC Topic 718. Whole value of the award, even if they may never get it. This effects who is covered in your table.

Tom LaWer

Tom LaWer – The SEC has set a very high bar for disclosure. If disclosures are made, expect disclosure of past issues along with disclosure of how the issue has been fixed. The rules provide a fresh opportunity to focus in on the risk assessment of compensation policies and practices. The examination will likely influence compensation plan design… Revising compensation programs to improve design based on issues uncovered in the risk review. You might indicate, for example, that policies are reviewed annually.

No generally accepted compensation principles. Best practice guidance is sometimes conflicting. Most guidance is conventional wisdom. Standards may evolve over time based on empirical research. SEC examples tend to focus on the issues for financial companies.

Again, RMG risk guidelines might be a more important driver than the SEC.  He went over several practices that will get further scrutiny and possible mitigating factors. It is a good time to review and assess for correct goals, mix, use, and design flow. For example, did the person who was demoted still got their bonus because there was no discretion built into the compensation plan?  Are you doubling up, because long-term and annual incentive plans are based on the same metrics? Tell shareowners how your actions ensured these problems don’t arise again.

Here are some handouts from a similar panel meeting of the Twin Cities Chapter of the National Association of Stock Plan Professionals and brief overviews from O’Melveny & Myers, Grant Thornton LLP , Seyfarth Shaw LLP., Jenner & Block, Dorsey & Whitney LLP, Ulmer & Berne LLP, Thomson Reuters, and TheCorporateCounsel.net.  I hope readers find these links helpful. The panel did a great job on a rather technical topic and brought home in many examples how requirements might be addresses, especially by the predominately high tech companies of Silicon Valley. Also be sure to see SVNACD’s page with handouts and interviews, as well as a podcast from KPMG/NACD, New SEC Proxy Disclosure Rules for 2010: What Boards Are Doing to Prepare.

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USPX to File Amicus Curiae Brief in Apache vs. Chevedden

Yesterday, Judge Lee Rosenthal of the Federal District Court in Houston issued an order  (ApacheOrder) granting the United States Proxy Exchange (USPX) leave to file an amicus curiae (friend of the court) brief in Apache vs. Chevedden. The USPX had petitioned the court for leave on February 16, stating in part:

Amicus curiae filings are often appropriate in cases where one party is pro se or where a decision might impact parties that are not litigants. Both conditions are present in this case. Mr. Chevedden is representing himself, and an adverse decision could impair property rights of most shareholders in the United States in ways the court should be made aware of.

The directors, staff and volunteers of the USPX have extensive experience with SEC Rule 14a-8 resolutions. Their perspective and expertise are complementary to, but not duplicative of, the analysis given by the parties and might assist the court in deciding this case.
The USPX is a non-government organization, incorporated in the Commonwealth of Massachusetts, dedicated to facilitating the exercise of shareholder rights, primarily through the proxy process.

Apache’s lawyers have advanced the position—contrary to standard practice followed with shareowner resolutions for years—that a broker letter is not acceptable evidence of share ownership. An ambiguous sentence in SEC Rule 14a-8 states that beneficial shareowners who are not owners of record must prove ownership by submitting “a written statement from the ‘record’ holder of your securities (usually a broker or bank) verifying that, at the time you submitted your proposal, you continuously held the securities for at least one year.” For almost all retail and institutional shareowners, the owner of record is Cede & Co. But Cede & Co. has no information about beneficial owners. Apache’s lawyers have not explained how Cede & Co. would provide letters confirming matters of which they have no knowledge. Apache’s lawyers have not addressed whether Cede & Co.-–even if it had such information— would be willing to participate in the shareowner resolution process in this way. There are no SEC rules requiring them to do so!

An adverse ruling in Apache vs. Chevedden might undermine the use of broker letters while not providing any clear alternative. This could have a chilling effect on the ability of all shareholders to submit shareowner resolutions. John Chevedden is heroic, standing up to Apache and its lawyers. All shareowners owe him their gratitude, not only for his efforts in this case, but for his tireless work on their behalf over many years of submitting shareowner resolutions.

However, pro se litigants are rarely successful. With John Chevedden representing himself against high-priced Houston lawyers, the potential for an adverse ruling was significant. Now that the USPX is involved, all shareowners can breath a little easier. That doesn’t mean we are out of the woods, but shareholders now have an independent and authoritative voice advocating for their rights before the bench.

For further information, please contact USPX Executive Director Glyn A. Holton at 617.945.2484 or [email protected].

It would be great to see participation by other shareowners assembling supporting arguments in Chevedden’s defense. As noted above, if he loses, we can expect many more companies to refuse to accept a simple broker’s letter as evidence of ownership. See previous post on this case at David vs Goliath (updated).  See also, Apache Sues Activist John Chevedden, Ted Allen, 1/19/10 Risk Metrics Group; When companies know better than shareholders, Houston Chronicle, 2/6/10. Apache’s briefs filed with the court can be found at http://www.votepal.com/.

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SEC IAC Report

The following is a quick summary from Peter DeSimone, Director of Programs of the Social Investment Forum of what happened at the beginning portion of Securities and Exchange Commission’s Investor Advisory Committee (IAC) meeting today.   First, the IAC as a whole adopted a recusal policy (draft) that recognizes that each IAC member represents specific constituencies, further defines conflicts of interest and outlines responsibilities for IAC members in these areas.

Then, the Investor as Owner Subcommittee offered and the IAC approved two resolutions:

  • The first addresses Regulation FD and recommends that the SEC staff issue interpretive guidance to suggest ways in which issuers can address Regulation FD compliance concerns surrounding the selective disclosure of material corporate governance information in private meetings with investors.  A copy of the proposal appears here.
  • The second takes up the issue of proxy voting transparency, and it asked the SEC staff, as part of its review of the U.S. proxy voting system (or proxy plumbing as it is being called), to study the costs and benefits of mandating a standardized tag-data format for certain proxy voting and related filings, including the proxy statement (DEF 14A), mutual fund disclosures of proxy votes (MDX) and voting results (8-K).  The proposal recommends that the XBRL standard be used and notes that XBRL USA plans to have a taxonomy ready on U.S. proxy voting filings and related materials in November, but it says that the SEC staff should also review alternatives.  The upshot of the proposal is that, if implemented, all agenda items, director information and other important qualitative and quantitative data points in these filings will be tagged and therefore easily placed in datasets and analyzed by investors. Link here to the proposal.

The Investor as Owner Subcommittee then advised the rest of the IAC that it would be looking into the following issues in the coming months:

  • ESG disclosure:  the Millstein Center’s Stephen Davis and Domini’s Adam Kanzer outlined a work plan for the subcommittee on ESG disclosure that would include testimony from experts in the field and look into several particular issues.  In March will call in SEC staff to brief the subcommittee on their activities to date.  Next, in April, the subcommittee will hold a meeting on the benefits of ESG disclosure to investors from a risk management perspective.  Then, in May, they will look at accounting standards and triggers for disclosure of contingent liabilities in the United States and other markets.  In June, they will review reporting standards, including the Carbon Disclosure Project and the Global Reporting Initiative, and look at information collected by the European Commission during its six meetings on ESG disclosure over the past year.  The subcommittee plans to hold a public hearing on ESG disclosure in the summer to coincide with another meeting of the entire SEC, so that other members of the IAC could easily attend if they were interested.  As far as output from this process, the subcommittee says possible outcomes could be, but are not limited to, a recommendation for an ESG disclosure rule, recommendations for areas for further study, or a white paper on the topic.  They emphasized that the group as part of the work plan would look at a broad range of ESG issues, not just climate change.  While many IAC members admitted that this was an emerging issue they did not know much about, several commended the subcommittee for taking on the issue and looked forward to a briefing on it.
  • Financial reform:  The subcommittee noted legislation pending in the House and Senate and noted that they would take up this issue again in March once they had a better idea of what would be included in the final bill.  In particular, the subcommittee said that if majority voting and/or proxy access was not included that they would be looking into ways the SEC could act. For example, it was suggested that, as it does on the separate chairman and CEO issue, that the SEC could issue new disclosure requirements for companies without a majority voting standard to explain to investors why they do not.
  • Political contributions:  While this issue was not on the agenda officially, the subcommittee noted as part of its next steps that it would take on a work plan process similar to the one it proposes on ESG disclosure, albeit shorter, to look into possible remedies at the SEC for the recent Citizens United v. FEC case and getting better disclosure or otherwise limiting corporate political contributions.

The Investor Education Subcommittee discussed the results from a FINRA national financial capability survey.

The Investor as Purchaser subcommittee discussed fiduciary duty and mandatory arbitration.

DeSimone left before the last two subcommittees presented, so has no further details. Thanks so much to him and to SIF for his report. See also, Mark Latham’s Voter Media Finance Blog, where he frequently posts on his involvement on the IAC.

I listened on and off to the IAC but my internet connection kept getting dropped… at one point being interrupted by ABC News (strange). I did hear some discussion around “majority vote” requirements for directors and the idea of a required disclosure for that as a fallback (if legislation isn’t forthcoming). The approach would be similar to recently enacted SEC requirements to explain the CEO/Chair board structure. As I recall, the discussion boiled down to something like, let’s explore what the limits of SEC authority in this and perhaps other areas.

Kayla Gillan was asked at one point during the meeting when the SEC would come out with its proxy access rules. “Soon,” was her response. Overall, I’d have to say I am impressed with the quality of work being done by the IAC and its subcommittees. Great to be able to tune in on the meetings and to be able to submit comments each time on agenda and suggested agenda items.

On a somewhat related note, the SEC now has a page devoted to investor education on proxy voting. Spotlight on Proxy Matters is a good start. However, it leaves no answers or suggestions on the most critical questions:

  • Where can I find analysis of proxy voting issues?
  • How are others voting and why?

I still like Mark Latham’s idea in this area: USA Investor Education: How should the USA Investor Ed voter community divide funding among these websites/blogs?

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CorpGov Bites

“Bank of America persuaded the SEC to drop “proxy access” provision as they negotiated a $150 million settlement of a lawsuit tied to the takeover of Merrill Lynch & Co… The U.S. Chamber of Commerce, which represents more than 3 million companies, has said “activist shareholders” would use proxy access to hijack elections to pursue “political or social issues.”” (SEC Said to Push BofA Proxy Rule in Enforcement Case, Bloomberg.com, 2/18/10)  “SOX substantially beefed up the obligations of the audit committee, at least for Exchange traded companies.  See Section 301 of SOX.  The committee was given the direct authority to supervise and to hire/fire the outside auditor.  The committee was also given the authority to hire counsel without full board approval.” “In the proposed settlement with BofA, the SEC is seeking to augment the authority of the audit committee one more time.  The Commission is giving to the audit committee (not the full board) the authority to hire counsel.  Counsel must not only review filings but must discuss possible deficiencies with the audit committee in executive session, without the presence of the non-indpendent directors.  The latter restriction is significant.” (The Board of Directors and a Review of Corporate Disclosure, theRacetotheBottom.org, 2/17/10)

Interesting, Bloomberg failed to get the Chamber’s new line. “Late last month, for the first time in more than a decade, the US Chamber of Commerce changed the boilerplate language that appears at the bottom of its press releases. The nation’s largest business lobby no longer claims to be “representing more than 3 million businesses and organizations of every size, sector, and region.” Instead, it claims to be “representing the interests of more than 3 million businesses” (emphasis added). The smallness of the tweak masks its major significance: Representing somebody, which strongly implies a direct relationship, is very different from representing their interests. The Chamber is in effect acknowleging that the “3 million” businesses aren’t actually its members… It was forced to admit that its true membership isn’t the 3 million businesses that it has claimed, but something on the order of 300,000.” (Chamber of Commerce No Longer “Represents” 3 Million Businesses, Mother Jones, 2/12/10)

I guess we at CorpGov.net should be claiming to represent the interests of the approximately 100 million Americans who own stocks or mutual funds… but why stop at Americans, since we occasionally cover corporate governance issues in other countries as well?

Apple, lags industry peers on sustainability reporting and has not made public greenhouse gas reduction commitments. Apple shareowners are beginning to vote their proxies on Moxy Vote, based on recommendations from Calvert Investments to support a resolution on on sustainability reporting. (Is Apple green enough?, Mac News)  The problem is there is another proposal seeking a bylaw requiring a board committee on sustainability… and there are all those directors to vote for or against. While I love Moxy Vote and own Apple stock, at this point, in Beta form, I’m disappointed the site has no one to advise me on how to vote the other issues or on the directors. So, I turn to ProxyDemocracy.org and even they have collected no votes in advance of the 2/25/10 meeting from “ten institutional investors that are particularly engaged in corporate governance.” I’ll wait until next week to vote.

Eric Jackson does a nice job interviewing John Gillespie and David Zweig, co-authors of “Money for Nothing.”  Gillespie says we won’t have real change until the old players like Bernanke, Geithner and Summers leave. Zweig says, “corporate governance needs a new name to encourage change, maybe corporate democracy.” (Corporate Governance Role in Meltdown, TheStreet.com, 2/17/10) See my review under the heading Fix the Boards – Fix the System. Buy the book.

“Advocates of genocide-free investing won another important victory this week, when American Funds, a family of mutual funds with more than $775 billion in investments, decided to divest virtually all its holdings in PetroChina. Before a shareowner meeting held on November 24, American Funds owned 167 million shares in PetroChina, worth $190 million.”  “Investors Against Genocide advanced a resolution asking that the Board of American Funds “institute procedures to prevent holding investments in companies that…substantially contribute to genocide or crimes against humanity.” American Funds opposed the measure, and affirmative votes for the proposal ranged from 8.5% to 11.8% at the meeting.” (American Funds Sells PetroChina Holdings, SocialFunds.com, 2/18/10) The showing on their resolution would have probably been much higher had voting instructions issued by Broadridge actually complied with the requirements for proxies to clearly indicate the voting topic instead of simply referencing “a shareholder proposal described in the proxy statement.” Broadridge could get away with it because that the language the issuer wanted and since Broadridge uses a voter information form, they don’t feel they are bound by SEC requirements that apply to proxies. (see our coverage of that issue at Investors Against Genocide Fighting American Funds, Broadridge and Vague SEC Requirements: More Problems Solved Using Direct Registration.

Corporate governance advisory firm PIRC made history again. In January 2009 they took a radical step, and began publicly disclosing via their website the voting recommendations they make for company meetings. Now they have set out have set out six best practice principles for corporate governance advisors, as follows:

  • Clear voting policy guidelines should be made available to clients, the companies whom the adviser is monitoring and to the market;
  • Clear audit trail and explanation of the process for assessing companies and making voting recommendations should be available to clients and the companies monitored;
  • Possible conflicts of interest should be disclosed to clients and to companies monitored and, where necessary, to market regulators (i.e. paid consulting with companies);
  • Companies monitored should be given reasonable opportunity to comment on voting recommendations made and the basis of such recommendations;
  • Voting agencies should routinely report to clients on actions taken on their behalf;
  • All voting recommendations made by a voting adviser should be publicly disclosed post-meeting. (Corporate governance agencies: the need for transparent voting decisions by Tom Powdrill on Responsible Investor, 2/18/10)

The Securities and Exchange Commission Investor Advisory Committee will meet in DC on February 22 at 9 a.m. The agenda for the meeting includes consideration of a Committee recusal policy, a report from the Education Subcommittee, including a presentation on the National Financial Capability Survey, a report from the Investor as Purchaser Subcommittee, including a discussion of fiduciary duty and mandatory arbitration, a report from the Investor as Owner Subcommittee, including recommendations for the Committee on Regulation FD and proxy voting transparency, as well as reports on a work plan for environmental, social, and governance disclosure and on financial reform legislation, and discussion of next steps and closing comments. I’ll be tuning into the webcast if time permits.

The Conference Board issued a new report, Directors’ Duties under the New SEC Rules on Disclosure Enhancement, available to members. From my quick review, the report appears comprehensive but written clearly and in an easy to understand format. Highly recommended for directors, their advisors and monitors. Additionally, the SEC posted six new Compliance and Disclosure Interpretations 116.07, 117.05; 119.21, 119.22 and 119.23, which offer guidance on disclosure under Items 401, 402(a), and Item 402(c) of Regulation S-K. Staff also added new question 121A.01 related to Exchange Act Form 8-K, which explains calculation of the four-business day filing period for disclosing the results of a shareholder vote. See also  guidance on the new requirements from Compliance Week issued in January and December as well as the original rule. Additional guidance from the Altman Group, Walking the Tightrope – New Proxy Disclosures on Director Qualifications, Board Risk Oversight and Board Diversity – and new Climate Change Disclosures for the 10K.

The Corporate Library’s ‘2010 Proxy Season Foresights #3: The Growth of Clawback Provisions, ($15) found that the number of companies with clawback provisions continued to increase in 2009, and almost half of such companies are smaller-cap firms outside the Russell 1000.

The Centre for Corporate Governance Research (CCGR) is organising its 8th International Corporate Governance Conference on Wednesday 23rd June 2010, to be held at the University of Birmingham, UK.  The theme of the conference is ‘Corporate Governance and Sustainability’. Keynote speakers include Colin Melvin (Chief Executive, Hermes Equity Ownership Services Ltd), Dr Michael Blowfield (University of Oxford) and Dr Beate Sjåfjell (University of Oslo). Sir Adrian Cadbury, the CCGR’s External Advisor, will be attending the event. Papers are invited on issues relating to any area of corporate governance and sustainability. Papers should be sent as an electronic copy in PDF format, by 31st March 2010 to Karen Hanson.

Moxy Vote is running a series, Here’s to the many pioneers!, Part 1 includes yours truly, Jim McRitchie, along with Mark Latham, Andy Eggers and Matt Keenan. Part 2 will include Glyn Holton, Nell Minow, and the Social Investment Forum. I’m blushing to be in such company. Thanks to Mark Schlegal and to all the fine work at Moxy Vote for facilitating involvement by retail investors and providing advocates such an important pipeline of influence.

The Council of Institutional Investors (CII) published a White Paper, The OBO/NOBO Distinction in Beneficial Ownership: Implications for Shareowner Communications and Voting, authored by Alan Beller and Janet Fisher of the law firm Cleary Gottlieb Steen & Hamilton LLP.  Mr. Beller is a former Director of the SEC’s Division of Corporation Finance. From the Executive Summary:

The SEC is likely to be cautious in seeking to change the current framework in significant ways, at least in the near term. Defining the objective is critical to developing a proposal. If the goal is to increase the ability of shareowners and companies to communicate directly, a number of incremental steps may be taken to address the OBO/NOBO distinction and facilitate direct distribution of proxy materials, without discarding the current distribution platform. Such an approach could lead to meaningful improvements, without seriously affecting the interests of many of the participants in the current framework, and we believe it has a greater chance of widespread support than more radical alternatives… On balance, we believe that the immediate interest of shareowners and companies in better communications would be better and more effectively served with an incremental approach that promotes less reliance on — or eliminates altogether — the OBO/NOBO distinction and otherwise increases the potential for direct communications.

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Firms Gone Dark: Another Reason to Abolish Street Name

Thanks to Jesse M. Fried for signing on to our draft petition to the SEC to abolish street name registration. (see also, Co-Filers Wanted on Petition to Eliminate Street Name Registration, 1/13/10 and Street Name Registration: An Antiquated Idea, HLS Forum on Corporate Governance and Financial Regulation, 1/30/2010) More important, Fried reminded us that moving to a system of direct registration would also represent a significant step in ending the abuses that often occur at Firms Gone Dark, which he explored in a paper by that name.

Securities laws generally permit firms to exit from mandatory disclosures even though their shares are held by hundreds (or even thousands) of investors and continue to be publicly traded if two
conditions are satisfied:

  1. trading in the firm’s securities is moved exclusively to the “Pink Sheets” over-the-counter (OTC) market; and
  2. the firm does not have any class of securities outstanding with three hundred or more “holders of record.” (section 12(g)(4) of the Exchange Act)

Since “holder of record” (see 17 CFR Section 240.12g5-1(a)) is the party “identified as the owner” of the security on the firm’s records, a firm with thousands of real (“beneficial”) owners can go dark. Fried describes the phenomenon, considers the desirability of mandatory disclosure and suggests that firms only be allowed to go dark if a majority of public shares (other than those held by insiders) are voted in the affirmative and it meets the two existing conditions.

Fried cites two previous efforts at reform.

  1. A Petition for Commission Action to Require Exchange Act Registration of Over-the-Counter Equity Securities was filed on July 3, 2003 by several institutional investors to include beneficial owner holding securities in “street name” as holders of record.
  2. In 2006, the SEC’s own Advisory Committee on Smaller Public Companies a recommended the SEC change the definition of “holder of record” to “beneficial owner.” (see Final Report of the Advisory Committee on Smaller Public Companies (April 23, 2006).

Either strategy (as well as that of our petition to require direct registration) would significantly reduce the number of firms going dark. However, the proposals “would not eliminate insiders’ incentives to undertake value-decreasing exits in order to expropriate value from public investors.” “Reverse stock splits and repurchase tender offers conduced in the shadow of an anticipated exit from mandatory disclosure can be used to cash out public investors at less that the actual value of their shares.”

While we favor Fried’s requirement that going dark be put to a vote of publicly held shareowners, we do believe acceptance of our petition would dramatically reduce abuses, since it is much easier to get below 300 “registered” owners when most are held in the name of Cede & Co. than it is to get below 300 actual owners under direct registration.

Take a look at some of the cases that have “gone dark.” From the petition by institutional investors:

“When the public’s investment interest was at its peak, SmartDisk was only too happy to access the public markets to finance its ideas. In these times, when capital-raising is difficult for technology companies with little or nothing in the way of earnings, SmartDisk’s management would callously plunge over 6,000 public investors into the dark, depriving them of the ability to monitor the management of the $17 million in total assets remaining from their original investment.”

United Road Services had assets of $100 million and 6,000 beneficial owners when it went dark in 203 with 294 holders of record. From Fried’s paper, “Over a twelve-month period beginning with the announcement, firms going dark experience abnormal negative returns of 16 percent, with these returns becoming more negative as the period lengthens.” The vast majority of firms not required to report provide little or no information to public investors. That makes it virtually impossible to monitor for self-dealing or for even normal business activities.

I encourage readers to sign on to our petition by e-mailing Jim McRitchie or Glyn Holton. Of course, we are also still looking for additional support in the way of papers like Jessie Fried’s Firms Gone Dark. Please let us know of additional examples where “street name” registration is problematic.

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Disclosure Enhancements May Drive Resolutions

The Corporate Library’s free new report entitled “What To Expect During Proxy Season 2010,” states, “The SEC’s new ‘Proxy Disclosure Enhancements’ will likely dominate the coming season.”

The report also anticipates increased scrutiny of executive compensation practices, and new disclosure requirements for compensation consultants. Finally, the report expects that publication of proxy voting outcomes will be “dramatically accelerated.” (SEC Ruling on Proxy Disclosure Is Likely to Lead to Increased Shareowner Activism, SocialFund, 2/1/10)

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Of Alter Egos and Solicitations

Broc Romanek, of theCorporateCounsel.net has drawn the attention of his subscribers to an online solicitation by Physicians Committee for Responsible Medicine “to essentially “borrow” shares in an effort meet the eligibility requirements of the shareholder proposal rule and be able to submit shareholder proposals at 11 companies (and thus advance their own social agenda)? Pretty blatant violation of Rule 14a-8(b) in my opinion.”

He thinks that because of their solicitation, “PCRM will have a hard time arguing that it intends to act as somebody’s agent or representative, which is the argument that John Chevedden has successfully made on a number of occasions. In this case, I think PCRM would be ‘dead in the water’ if a company raised an alter ego argument in an exclusion request to Corp Fin.” He’s already heard that a request for exclusion by Starbuck’s was granted by Corp Fin in December. However, as he notes, that was granted on the ordinary business basis, 14a-8(i)(7), and  “the company didn’t make an eligibility argument.”

Romanek is much more expert in these matters than I am but the “alter ego” argument put forth by Gibson Dunn & Crutcher and Wachtell Lipton Rosen & Katz was based on the noting that shareowners serve as Chevedden’s puppets, his “alter egos,” allowing him to circumvent the one proposal per shareholder limit for each meeting under SEC Rule 14a-8 (c) and be heard at meetings where he is not eligible. There is nothing in the solicitation by Physicians Committee for Responsible Medicine indicating they intend to submit more than one proposal at each of the firms with which they express concern.

Frankly, I don’t see anything wrong with trying to find shareowners who are sympathetic to your cause and offering to work with them to submit resolutions. Is that immoral? Illegal? Why?

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SEC Requires Disclosure of Climate-Related Impacts

The SEC issued new interpretive guidance that clarify companies must weigh the impact of climate-change laws and regulations when assessing what information to disclose to investors in terms of climate-related ‘material’ effects on business operations, whether from new emissions management policies, the physical impacts of changing weather or business opportunities associated with the growing clean energy economy.

In the 3-to-2 vote, the commission said companies in the U.S. should also consider international accords, indirect effects such as lower demand for goods that produce greenhouse gases, and physical impacts such as the potential for increased insurance claims in coastal regions as a result of rising sea levels. (SEC Sets Climate-Change Disclosure Standards for Companies, BusinessWeek, 1/27/2010)

More than a dozen investors managing over $1 trillion in assets, plus Ceres and the Environmental Defense Fund, requested formal guidance in a petition filed with the Commission in 2007, and supported by supplemental petitions filed in 2008 and 2009.

“We’re glad the SEC is stepping up to the plate to protect investors,” said Anne Stausboll, chief executive officer of the California Public Employees Retirement System (CalPERS), the nation’s largest public pension fund with more than $205 billion in assets under management. “Ensuring that investors are getting timely, material information on climate-related impacts, including regulatory and physical impacts, is absolutely essential. Investors have a fundamental right to know which companies are well positioned for the future and which are not.”

“Today’s vote is a clarion call about the vast risks and opportunities climate change poses for US companies and the urgency for integrating them into investment decision making,” said Mindy Lubber, president of Ceres and director of the Investor Network on Climate Risk, a network of 80 institutional investors with $8 trillion in collective assets.

Last June, Ceres, EDF and The Corporate Library issued a report showing that S&P 500 companies – including those with the most at stake in responding to the risks and opportunities from climate change – are providing scant climate-related information to investors. The study was based on an analysis of 10-K and 20-F filings by 100 global companies in 2008. (SEC Issues Ground-Breaking Guidance Requiring Corporate Disclosure of Material Climate Change Risks and Opportunities, Ceres, 1/27/2010)

Social Investment Forum CEO Lisa Woll said:   “This is perhaps the biggest development so far in the long-term campaign to promote wider sustainability reporting.  We welcome today’s SEC action as a critical step in the direction of fuller environmental, social and governance (ESG) or sustainability disclosure.  Today, we renew our call for mandatory corporate ESG or sustainability reporting.

Investors’ efforts to incorporate ESG information into investment decisions have been hindered by a lack of comprehensive, comparable data. Because sustainability reporting among corporate issuers is largely still voluntary, it is far from universal, and often inconsistent and incomplete.

That is why we are asking the SEC to require issuers to report annually on a comprehensive, uniform set of sustainability indicators comprised of both universally applicable and industry-specific components and suggest that the SEC define this as the highest level of the current version of the Global Reporting Initiative (GRI) reporting guidelines.” (Social Investment Forum: SEC Climate Action “Important First Step” Toward Broader Sustainability Reporting For Investors, SIF, 1/27/2010)

Commissioner Aguilar encouraged the SEC’s Investor Advisory Committee to review climate and other ESG risks to see if other disclosure requirements were needed.

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Voter Funded Investor Education Proposal

Mark Latham represents individual investors on the SEC Investor Advisory Committee (SECIAC). He reports in his VoterMedia Finance Blog on a creative Voter-Funded Investor Education Proposal. It was considered by the Investor Education subcommittee. Unfortunately, he was informed the SEC is not empowered to distribute funds to other organizations.

Hopefully, he will be able to attract the attention of FINRA, the Department of Treasury, Congress, or some other entity for funding.

Our concept for voter funded investor education is oriented toward worldwide web based education programs aimed at a broad (national or global) audience. All individual investors could vote on a web based ballot to determine the shares of funding for perhaps 15 or 20 competing education programs. The voting and funding can be conducted continuously through time, thus giving the competitors a continuous incentive to serve investors’ education needs.

The ballot web page would link to each participating education program’s website. This could be a component of a new portal at OIEA’s website investor.gov, where investors could find links to a wide range of education programs.

Read more about Latham’s Voter Funded Investor Education Proposal. See a beta-test ballot. Let us know what you think of the idea and consider voting for Corporate Governance during the beta-test.

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Apache v Chevedden: SEC Rules Don't Reflect Reality

I was delighted to see Broc Romanek coverage of the controversy surrounding Apache v Chevedden, although he did so in a members only area of theCorporateCounsel.net. I hope the case gets a lot of attention.

Yesterday, I was discussing a table I am working on that shows some of the rights denied to street name shareowners that are readily available to registered shareowners. Glyn Holton, Executive Director of the United State Proxy Exchange, pointed out something.  It is obvious those who wrote the regulations don’t know how the system works… or perhaps the rules haven’t been changed since the great immobilization, when almost all the shares were turned over to Cede & Co. and we started trading “security entitlements.”

Rule 14a-8 (b)(2)(i) says that “If you are the registered holder of your securities, which means that your name appears in the company’s records as a shareholder, the company can verify your eligibility on its own. Otherwise submit to the company a written statement from the ‘record’ holder of your securities (usually a broker or bank) verifying that, at the time you submitted your proposal, you continuously held the securities for at least one year.”

Of course, that is exactly what Chevedden did. He followed the rules and got a letter from his broker, Ram Trust. When Apache insisted that Ram Trust didn’t show on their records, he went another level up. However, Apache’s gotcha moment may have been in recognizing that the SEC rules are incorrect, since the rules assume that brokers and banks are “usually” record holders. They are not. Brokers and banks  also largely hold “security entitlements.” Cede & Co. holds the actual immobilized registered securities.

Please pull up the simple table I have begun constructing of  known instances where Street Name shareowners are being denied rights readily available to registered shareowners. (SECRuleStName2) Do you know of other similar situations? Please share your information by e-mailing James McRitchie at [email protected]

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SEC Self-Funding Authority Demanded

Members of the U.S. Senate Committee on Banking, Housing, and Urban Affairs were sent a letter today from signatories representing a broad coalition of investors and market participants (including the publisher of CorpGov.net) urging them to provide self-funding authority to the SEC so that it has the resources necessary to fulfill its mission to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.

The SEC monitors 30,000 entities, including more than 11,000 investment advisers, up 32% in the last four years. Yet, in the three years from 2005 to 2007, the SEC’s budgets were flat or declining. Self-funding could give them the resources they need and the ability to do long-term planning.

Like the letter earlier today to the same committee urging them to require proxy access and majority votes for director elections, this letter was also signed by several members of the SEC’s relatively new Investor Advisory Committee, in fact, the vast majority of Committee members signed.

The SEC collected $1.54 billion in fees in 2007 but received only $881.6 million through Congressional appropriations. The SEC’s budget could have increased by 75% that year if it had been self-funded. A 2002 GAO report concluded, the “increased funding flexibility (from self-funding) would likely allow SEC to more readily fund certain budget priorities, such as pay parity, and to more quickly respond to the ever- changing securities markets.” (SEC OPERATIONS: Implications of Alternative Funding Structures)

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CorpGov Bites

TheCorporateCouncil.net posted a transcript of a recent Webcast on the SEC’s new Proxy Disclosure requirement. Like always, they do an excellent job of sorting out issues for those getting into the weeds.

RMG reports “The wave of new federal securities lawsuits related to the global credit crisis has finally subsided, down 7-24% depending on whose data you use. The largest category of 2009 cases were those that arose from the credit crisis. (Investors File Fewer Lawsuits in 2009, 1/6/10)

theRacetotheBottom.org has covered a raft of issues lately that are worth a read. These include: Executive Compensation at Goldman Sachs, Executive Compensation, Delaware’s Top Five Worst Shareholder Decisions of 2009 and the need for reinstating Glass-Steagall.

Bowing to pressure from shareholders of On2 Technologies, 11.5% of whom voted they share through MoxyVote.com, Google raised its offer  to  $132 million, up from $106.5 million. (Shazam! Google raises its offer price for On2, 2/7/10)

Study finds Private Investments in Public Equity (PIPEs) announcement returns decrease almost linearly across the first six PIPE transactions, going from positive to negative. Firms that issue multiple PIPEs have high cash levels, and a majority make acquisitions. Successive PIPE transactions delay accessing of public markets while keeping institutional ownership low. Hence, they are greeted skeptically by the market as maintaining managerial entrenchment. (Are Private Placement Announcement Returns Really Positive? On the Information Content of Repeated PIPE Offerings, Ioannis V. Floros and Travis Sapp, SSRN, 1/7/2010)

Small ESOPs, those controlling less than 5% of outstanding shares, benefit both workers and shareholders, implying positive productivity gains. However, the effects of large ESOPs on worker compensation and shareholder value are more or less neutral, suggesting little productivity gains. These differential effects appear to be due to two non-value-creating motives specific to large ESOPS: (1) Management-worker alliances to thwart hostile takeover threats and (2) To substitute wages with ESOP shares by cash constrained firms. Worker compensation increases when firms under takeover threats adopt large ESOPs, but only if the firm operates in a non-competitive industry. (“Employee Capitalism or Corporate Socialism? Broad-Based Employee Stock Ownership”, Kim and Ouimet, SSRN, 12/1/09)

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TK Kerstetter Wrong on Board Disclosure

TK Kerstetter wrong on board disclosure proposal at the SEC. TK Kerstetter is the president and CEO of Board Member Inc. a privately held publishing, database, research, and conference company focused on corporate board issues and governance trends. Corporate Board Member is sent to all corporate directors of public companies on the NASDAQ, NYSE Euronext, and NYSE Amex stock exchanges. Usually, the publication contains excellent advice. A rare exception is Kerstetter’s Director Qualification Disclosure Will Prove Lame. (The Board Blog, 12/9/09) Continue Reading →

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CII Supports SEC Effort to Increase Potential Liability at Credit Rating Agencies

The SEC is considering a proposal to rescind an exemption that would cause Nationally Recognized Statistical Rating Organizations to be included in the liability scheme for experts set forth in Section 11, as is currently the case for credit rating agencies that are not NRSROs.

NRSROs “have generally escaped accountability for their shoddy performance and poorly managed conflicts of interest, at least in part because of their statutory exemption from liability. Rule 436(g) shields only those few rating agencies designated as NRSROs from liability as experts for making untrue or misleading statements when their ratings are included in registration statements,” according to the Council of Institutional Investors.

CII believes effective reform of the credit ratings industry hinges on the following steps:

  • Enhanced SEC oversight
  • Reduced reliance on ratings by all market participants
  • Strengthened internal controls of NRSROs
  • Expanded transparency of credit ratings
  • Heightened standards of accountability for NRSROs

See CII’s letter to the SEC in support of Concept Release on Possible Rescission of Rule 436(g) Under the Securities Act (File Number: S7-25-09) (see also Concept Release No. 33-9071A). SEC Fact Sheet. Speech by Commissioner Luis A. Aguilar.

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Investors Against Genocide Fighting American Funds, Broadridge and Vague SEC Requirements: More Problems Solved Using Direct Registration

According to Investors Against Genocide, proxies issued directly by American Funds met the SEC standard (Rule 14a-4(a)(3) of the Securities Exchange Act of 1934) by clearly indicating the vote was about not investing in companies that substantially contribute to genocide. However, according to American Funds, 50 – 60% of its shareholders hold their shares in "street name" and receive proxy materials through Broadridge Financial Solutions. Voting instructions issued by Broadridge to those American Funds shareholders simply referenced “a shareholder proposal described in the proxy statement.” Each of the other seven questions were clearly described in Broadridge’s voting instructions. Broadridge’s online voting instructions were similarly vague.

Given that the voting process encourages shareholders to vote with management across the board, and genocide was not clearly flagged to voters as an issue, many shareholders did not know that they had an opportunity to vote on a matter of important social significance. The specifics are more fully described in a letter from Eric Cohen, Chairperson of Investors Against Genocide, to the SEC. More coverage of the issue at Mutual fund activists claim more voting problems, Reuters, 11/23/09. An American Funds spokesman says the most support at any of the funds where ballots were counted Tuesday was about 12 percent. (‘Genocide-free’ measure rejected at American Funds, AP, 11/24/09)

I suspect Broadridge claims they don’t have to follow the rules required for proxies because they use a voter information form (VIF), not a proxy. This is the same logic they gave for turning blank votes into votes for management (See petition to the SEC. Send comments to [email protected] with File 4-583 in the subject line.)

By that logic, based on technicalities, none of us are shareowners either. Almost all shares are owned by Cede & Co., a subsidiary of the Depository Trust & Clearing Corporation (DTCC). For many companies, Cede & Co. is the only shareowner of record. Cede gives participants an "omnibus proxy," that they in turn issue to their customers. Or their customers use the VIF to request voter instructions. We don’t actually buy and sell shares, we buy and sell claims against the accounts of "immobilized" shares held by DTCC and Cede. This method of clearing settlements was imposed by the 1975 Securities Acts Amendments.

It was supposed to be a temporary measure. Brokers were in a panic because they didn’t have the backroom staff necessary to clear the exchange of registered certificates. In response, the markets shortened the trading day and closed on Wednesdays. Still, over a hundred brokerage firms went bankrupt or sold out. The 1975 Act ended the physical movement of securities certificates and the panic. Stocks were "immobilized" at Cede and we began trading something more akin to poker chips, as Glyn Holton characterizes it. The "immobilized" system was supposed to be temporary, until a direct registration system could be developed around "uncertified" or "dematerialized" shares. Legal changes were needed in many states and computer systems needed to gear up and integrate.

That has all happened but too many business earn money off the current system. It has become entrenched because everyone now depends on intermediaries like brokers, banks and Broadridge. Of course, brokers and banks don’t want a direct registration system because they are the only ones who know who owns what at ground level. They have all the names and names are worth money. What we have been stuck with is a system that can’t accurately count ballots because it can’t audit back to the beneficial owner, only to the bank or broker, whom we are supposed to trust to reconcile the voting… and they can do it either before or after the fact.

As a result, there is lots of "empty voting." I imagine it also facilitates tax evasion, although I haven’t seen much written about that. Since voting happens through many layers, the system is overly complex. Rules, like the one cited by Investors Against Genocide with regard to proxy requirements and the issue I petitioned the SEC on (blank votes going to management, instead of being counted as abstentions), are easily circumvented.

A growing number of us think a direct registration system, where all shareowners hold their stock directly, will solve many of these issues. The company will know who their shareowners are. Shareowners would all potentially know each other and be able to communicate directly with each other. Transparency; it is good for the market and is good for knowing who supports or opposes policies, such as those that support or fight genocide.

I’m participating with a group coordinated by Glyn Holton, of the U.S. Proxy Exchange and the Investor Suffrage Movement. We are putting together comments to the SEC advocating direct, rather than "street name," registration, which we hope they will consider as they take up "proxy plumbing/mechanics" issues." We would love to have you join us in this effort. If interested, send me an e-mail.

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Proxy Access: The Letters Are In

The deadline was August 17th, so the comment letters on proxy access have all been filed and posted. Many are well worth reading. If you don’t see yours posted, you might want to resubmit it.

TIAA-CREF, one of the more conservative shareowner activists, calls on the Commission to raise the threshold to 5% for shareowners at all companies, regardless of size. Additionally, they want to require a two year holding period and recommend instead of the “first in” approach, nominations should go to the largest owner or and (here they get creative) to the shareowner or group that has held their shares the longest. They voiced opposition to reimbursement: “Reimbursement of expenses could be used to facilitate the election of special interest directors. Reimbursement also encourages fighting and proxy contests to achieve representation at the distraction of directors rather than dialogue and productive change.” Instead, they favored “incentives for a meeting between shareholders and the board in order to identify director candidates who are acceptable to both parties… Ultimately, the best possible outcome is to avoid a proxy contest altogether… We believe that the nominee should receive at least 20% of the vote in order to be re-nominated in subsequent years.”

Cornish Hitchcock, writing on behalf of the LongView Funds warns against a state-law carve-out, praising the merits of a uniform system. Like TIAA-CREF, the LongView Funds would like to see the required holding period extended to two years and nominations going to the largest nominator.

J. Robert Brown, of theRacetotheBottom.org, offers a spirited rebuttal to comments by the Delaware Bar Association regarding their argument in favor of private ordering. “The evidence in fact suggests that in the absence of a federal requirement, companies will opt for a categorical rule denying access.” “Evidence suggests that management’s control over the drafting process and its ability to rely on the corporate treasury eliminate any real prospect of private ordering. Instead, when matters are made discretionary, they result in a categorical rule that favors management.” “The only way to ensure meaningful access to the proxy statement is to adopt a federal rule that institutes the requirement.”

Lucian Bebchuk’s letter, signed by 80 professors, favors the rulemaking and notes, “no matter how moderate eligibility or procedural requirements may be, shareholder nominees must still meet the demanding test of getting elected before they can join the board. A shareholder nominee will join the board only if the nominee obtains more votes than the incumbents’ candidate in an election in which incumbents, but not the shareholder nominee or the nominator, may spend significant amounts of the company’s resources on campaign expenses.”

As expected, the Shareholder Communications Coalition, comprised of the Business Roundtable, the National Association of Corporate Directors, the National Investor Relations Institute, the Securities Transfer Association, and the Society of Corporate Secretaries & Governance Professionals sent a letter opposing the rulemaking “until the Commission: (1) completes its intended examination of the proxy system; and (2) promulgates new regulations to modernize and reform this cumbersome and expensive system.” “A shareholder nomination process that operates in a proxy voting system that cannot produce an accurate and verifiable vote count will do little to improve the overall
corporate governance system.” I just can’t help making a snarky comment. So we should just go with the current system that elects incumbents based on inaccurate and unverifiable voting results until we can ensure the system works properly

Broadridge submitted a letter discussing various technical issues. Great for those who want to get into the weeds.

Writing on behalf of Sodali, a global corporate governance consultancy, John Wilcox asks: “Is Rule 14a-11 is sufficiently deferential to the traditional role of the states in regulating corporate governance?; and (2) Does the proposal achieve the Commission’s goal of removing burdens that the federal proxy process currently places on the ability of shareholders to exercise their basic rights to nominate and elect directors?” His analysis answers with a resounding yes.

Eleanor Bloxham, of the Value Alliance and Corporate Governance Alliance notes that “having an orderly, ongoing process for shareholder to nominate directors may produce improvements in shareholder returns. Certainty, competition in the process for board seats could, I believe, produce better candidates.” She addresses the issue of affiliation and loyalty, Bloxham recommends each candidate be required to prepare a statement as part of the proxy process that would stipulate that the candidate understands that as a director, if chosen, their  obligations are to act in the best interests of all shareholders, including minority shareholders, and to act without preferential treatment related to who may have nominated them.”

As I have previously mentioned, I signed on to a letter from the United States Proxy Exchange (USPX), endorsed by members of the Investor Suffrage Movement, Robert Monks, John Harrington and John Chevedden. Glyn Holton did a great job of putting together sixty-nine pages of comments. I urge everyone to read our common sense approach outlining the democratic option, the need for deliberation and the reasons for our recommendations, which include:

  • Mandating a federal standard that take precedence over state laws.
  • Placing all bona fide candidates on a single management distributed proxy card.
  • Not encouraging a system where corporations are willing to
    reimburse expenses shareowners incur in conducting a proxy contest, since this will only escalate costs paid by shareowners.
  • Don’t place an overt limit the number of candidates shareowners are able to nominate. If limits are need to keep the pool manageable:
    • limit individuals to five for-profit corporate boards
    • charge a modest fee
    • require a system of endorsements
    • require all candidates to file pre and post election estimates and accounting of all campaign expenditures
  • Reduce the focus on control by establishing a system that will encourage diversity. “Corporate democracy will allow shareowners to take ‘control’ away from an entrenched board and not give it to any one faction.”
  • Eliminate the arbitrary and elitist proposed thresholds, opting instead for the time-tested $2,000 of stock held for a year. “The challenge should reside in winning the election, not in making the nomination.”
  • Increase candidate statements to 750 words and specified space for graphics that can address any issue related to the election, including short-comings of the current board.
  • Measures to ensure board members nominated by shareowners are not marginalized.
  • Implementation of a broad safe harbor for individual director
    communications with shareowners.

After we had already sent the USPX comment letter, I recalled a few additional issues and sent in my own letter as an addendum, recommending the following:

  • Amendments to Rule 14a-8 also clarify that shareowner resolutions can seek to collectively hire a proxy advisor, paid by for with company funds, that isn’t precluded from offering advice on board elections.
  • Require that companies must allow shareowner resolutions to be presented during the business portion of the annual meeting.
  • An override mechanism on Rule 14a-8(i)(5) (Relevance) and (i)(7) (Management Functions).

Dozens of studies in communications and organizational behavior find current corporate structures to be inefficient. Most decision-making structures, including those now governing corporations, are designed around status needs related to dominance and control over others. They are not designed to maximize the creation of wealth for shareowners or for society at large. In order to gain higher status, individuals seek to dominate more and more people. This dynamic moves the locus of control inappropriately upward. In order to generate more wealth, we need to take advantage of all the brains in our companies, as well those of concerned shareowners. We can do so by making corporations more democratic, top to bottom.

Now, we eagerly await the Commission’s action. If they are slow in finalizing the proposed rules, I hope it is because they carefully read our letters and are rewording them to require more, not less, democracy.

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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.

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