The Corporate Library Blog

Financial Executive Magazine: The Year of the Shareholder

Paul Sweeney has an excellent article in Financial Executive Magazineas a part of its special issue on what's ahead for 2010.  Provocatively entitled "Will 2010 Be the Year of the Shareholder," it opens:

A constellation of forces is coalescing to give investors more clout over such thorny issues as executive pay, the composition and election of corporate boards, board transparency and responsiveness to shareholder concerns....In addition, continued shareholder outrage at overly generous pay packages to top executives — often at poorly performing companies — is further tilting the balance of power.

While Sweeney predicts some pushback from corporate executives, who argue that these pay packages are necessary for retention and to provide incentives,

even a respected source such as the executive search firm Spencer Stuart urges boards of directors to recognize that much governmental and shareholder scrutiny is deserved. “The perceived — or, in some cases, real — disconnect between company performance and executive compensation is fanning the flames of shareholder discontent,” Spencer Stuart notes in its comprehensive 2009 survey on the state of corporate boards. “In light of these pressures,” the report adds, “boards need to be sure they are operating as effectively as possible and have good governance practices in place.”

Sweeney quotes Hye-Won Choi, the head of corporate governance at TIAA-CREF, on the impact of the rule change that eliminates automatic votes in favor of board candidates.  “The end of discretionary broker voting means that management can no longer expect elections to be routine. It will level the playing field. Now the vote will be a clearer expression of shareholder sentiment.”  And he notes that even before this rule change went into effect, the percentage of votes against directors has been rising. 

Through August 2009, 9.8 percent of unopposed director nominees had at least 20 percent of shares voted against them or withheld, a 78-per- cent increase above the 5.5 percent figure in 2008.  The percentage of directors with a majority of shareholders registering opposition to their candidacy tripled, to 0.6 percent in 2009 compared with 0.2 percent in 2008. It may seem a tiny number, but amounts to 84 director nominees at 49 companies.

Sweeney predicts a rise in shareholder resolutions on compensation, governance, and climate change. 

The proxy season, in combination with significant congressional legis- lation and additional SEC rule making, could make the year 2010 among the most historic in the annals of corporate governance. The consultancy Spencer Stuart puts it this way: Events this year “could potentially reshape the corporate governance landscape as dramatically as Sarbanes-Oxley. And just as with SOX, it may take several years before the full impact of the changes becomes apparent.”

Nell Minow - Editor

SEC Staff Reverses Two Controversial Interpretations of Rule 14a-8's Ordinary Business Exclusion

In Staff Legal Bulletin 14E released last week, the Staff of the Securities and Exchange Commission’s Division of Corporation Finance backed off of two troublesome interpretations of the SEC’s shareholder proposal rule, Rule 14a-8.  Rule 14a-8’s “ordinary business” exclusion allows companies to omit from their proxy statements proposals dealing with day-to-day matters that are more appropriately handled by management without shareholder input.

Although the SEC has provided some guidance in its releases regarding the application of the ordinary business exclusion, it has been left to the Staff to decide whether companies can exclude the many proposals challenged each year by companies.  In doing so, the Staff formulates decision rules, such as allowing exclusion of proposals dealing with legal compliance programs, choice of suppliers and a company’s code of ethics.

One such decision rule has allowed the omission of proposals dealing with an internal “evaluation of risk” or “risk assessment.”  This reasoning was developed for highly technical proposals asking companies to do detailed cost/benefit analyses of environmental liabilities.  In the past few years, however, the Staff had expanded the application of this rationale to allow exclusion of a wide variety of proposals, including proposals addressing topics the Staff had held to be “significant social policy issues” to which the ordinary business exclusion should not apply.  Companies began to cite this reasoning even when proposals didn’t mention or suggest risk evaluation or a cost/benefit analysis.

Unsurprisingly, companies were able to frame many kinds of proposals as touching on or somehow involving risk.  For example, a proponent might support a labor rights proposal by arguing that irresponsible practices could harm the company’s reputation or endanger a valuable contract; a company seeking exclusion would describe the proposal as requiring the company to assess the risks and benefits associated with its current labor practices, as compared with the practices urged in the proposal.  Governance proposals likewise often have a nexus with risk of some kind.

Sponsors began drafting to avoid this reasoning, which was difficult given its potential boundlessness and the existence of contradictory Staff determinations on the same proposal formulation.  Rather than squarely asking companies to disclose steps they were taking to respond to rising pressure to reduce greenhouse gas emissions—a formulation that was deemed excludable—proponents began filing proposals asking companies to set greenhouse gas emissions targets, one of the few climate-related proposals to survive the no-action process.

Sensibly, the SEC Staff has realized that the “evaluation of risk” decision rule resulted in the “unwarranted exclusion of proposals that relate to the evaluation of risk but that focus on significant policy issues.”  From now on the Staff will look to the underlying subject matter of the proposal in deciding whether it can be omitted on ordinary business grounds.  Although this approach does not eliminate all need for the Staff to exercise subjective judgment—a goal that is unachievable given the open-ended nature of the exclusion--it is an important step in the right direction.

A second change made by the Staff in SLB 14E relates to proposals on succession planning.  In the wake of the high-profile botched leadership transitions at Citigroup, Merrill Lynch and other financial companies, shareholders submitted proposals asking companies to adopt policies on CEO succession planning that included certain elements.

In a breathtaking example of missing the forest for the trees, the Staff allowed companies to exclude these proposals in reliance on the ordinary business exclusion, reasoning that they dealt with the “termination, hiring or promotion of employees.”  In other words, the Staff believed there was no meaningful difference between CEO succession planning by the board and the day-to-day managerial choice about whether John Doe gets promoted from grade 1 to grade 2.  SLB 14E reversed that interpretation and stated that proposals on CEO succession planning would not be excludable as ordinary business.

Activists will likely respond to SLB 14E by retooling proposals on key corporate accountability issues to ask for the precise changes they want to see, whether in disclosure or behavior.  Proposal formulations will likely vary more according to company-specific factors such as industry and current policies and practices.  Finally, sponsors will revive the CEO succession planning issue, which was in the spotlight again recently when Bank of America CEO Ken Lewis announced that he would retire at the end of 2009 and the board admitted that no successor had been identified.

Beth Young — Senior Research Associate

Proxy Access: Our Comment Letter to the SEC

Via Email

Aug. 14, 2009

Elizabeth M. Murphy, Secretary

United States Securities and Exchange Commission

Re: Facilitating Director Nominations (File No. S7-10-09)

Dear Ms. Murphy:

On behalf of The Corporate Library, an independent corporate governance research firm, we are writing to express our support for the Securities and Exchange Commission’s (SEC) proposed rule, Facilitating Shareholder Director Nominations.  The current financial crisis underscores both the complacency within some boards to protect long-term shareholders’ interests and the need to strengthen accountability of boards and management.

We believe granting long-term shareholders the right to nominate directors, thereby ending the de facto monopoly the board and management has in picking director slates, is an important component of achieving the goals of effective oversight of U.S. publicly traded companies’ boards and of broad financial reform.  Therefore, we concur with the SEC that the reforms outlined in the SEC’s proposed Rule 14a-11 and revisions to Rule 14a-8(i)(8), following decades of debate over proxy access, are long overdue and should be adopted swiftly.  We support the application of Rule 14a-11 as proposed and welcome the opportunity to comment on points still under consideration.

We agree with the SEC’s position that the proposed rule should:

• Permit shareholders to aggregate their holdings to meet the minimum share ownership thresholds.
• Grant only long-term shareowners, those holding stock for at least one year, access to nominate directors.
• Employ safeguards to ensure that access is not used as a takeover mechanism by short-term profit seekers.
• Require strong independence standards for director nominees.
• Require full and accurate disclosure by nominating groups, including all pertinent information about nominated directors.
• Allow nominating shareholders to make statements of opposition against the election of other board members on the company’s slate in the proxy statement.
• Authorize shareholders to file resolutions related to the issue of board elections.
• Become effective immediately without a lengthy implementation period, associated triggering mechanism, or exemption or delay for smaller issuers.

We also would like to take this opportunity to comment in greater detail on several features of the proposed rule that are of particular interest to us:

• Priority access: We favor an approach whereby the largest beneficial owner or group of owners gain proxy access, as opposed to awarding access to the first shareholder or group of shareholders filing. We are concerned that a first come, first served approach might force shareholders to rush to file and result in a less thoughtful process than is otherwise possible. In the end, we also believe that the investor or group with the greatest stake in the director election and the company’s long-term financial performance should prevail in these situations.
• Failed nominations and resubmitting candidates: We believe that there should not be any waiting period for resubmitting candidates failing to win election to a board.
• Shareholder proposals: We oppose permitting companies subject to Rule 14a-11 to exclude shareholder proposals that they otherwise would be required to include. We believe the shareholder proposal rule 14a-8 is an important conduit for opening dialogue between management and shareholders on key ESG environmental, social, and governance policy issues that have significant consequences for long-term shareholder value as well as society.
• A uniform federal rule: We would also like to stress that we favor a uniform federal rule on proxy access. While some of those commenting on the rule have urged that the Commission instead allow access regimes to be adopted on a company-by-company basis (with, for example, different ownership thresholds, holding periods, or triggering requirements), we believe this would result in an unworkable administrative burden for broadly invested shareholders that need to track deadlines and requirements at many different companies. In addition, the very companies that would benefit most from a shareholder access regime are likely to put up the stiffest resistance to adopting access. Some companies may have or adopt supermajority voting requirements to amend the bylaws or, in states that permit it, eliminate shareholders’ right to amend the bylaws altogether. Similarly, although Delaware has recently adopted changes to its corporation code designed to clarify the validity of proxy access bylaw proposals, other states have not done so. As a result, a company incorporated outside Delaware could stymie shareholder efforts to press for access by litigating the validity of a shareholder proposal, which would entail substantial expense and delay. Even Delaware-incorporated companies could mount challenges to the statute or particular drafting choices made by a proposal’s sponsor, or their boards could repeal shareholder-adopted bylaws providing for access. (Unlike the Delaware statute on shareholder-adopted majority voting bylaws, the statute authorizing access and reimbursement bylaws does not state that such bylaws may not be repealed unilaterally by the board.)

Finally, we would like to express our view that the Commission has ample authority to adopt a uniform proxy access rule, contrary to the assertions of some who have commented on the proposed rule.  Section 14(a) of the Securities Exchange Act empowers the Commission to issue rules regarding the solicitation of proxies.  The Proposed Access Rule would not create a new substantive right for shareholders; indeed, it would operate only where state law gives shareholders the right to nominate directors.  Like Rule 14a-8, the Proposed Access Rule serves a disclosure function.  It would address the inclusion of an item in the company’s proxy statement used to inform shareholders of matters management knows will be brought to a vote at the upcoming meeting.  The Proposed Access Rule’s eligibility criteria and procedural requirements for using the proxy access process are similar to those found in Rule 14a-8 and reflect the Commission’s judgment regarding which items merit company-financed proxy disclosure.  Put another way, both the Proposed Access Rule and Rule 14a-8 allow shareholders to exercise in a particular venue—the company proxy statement—a right they already have.

In sum, we feel there is a strong case for proxy access based on the issues of equity, good governance, transparency and accountability.  Proxy access is a matter of fair corporate suffrage, necessary and appropriate for the protection of investors and the greater public good.  Therefore, we strongly favor the SEC’s approach to proxy access and appreciate the opportunity to express our views on this matter.

Sincerely,

Kimberly Gladman, CFA, Ph.D., Director of Research and Ratings

Beth Young, J.D., Senior Research Associate

Annalisa Barrett, MBA, Senior Research Associate

Another Shell Game from the Chamber of Commerce

Thomas Quaadman, Executive Director for Financial Reporting Policy and Investor Opportunity with the U.S. Chamber of Commerce's Center for Capital Market Competitiveness, has written a column titled: “If It Isn't Broke, Don't Fix It!”arguing that “The recent Navigant Consulting study, released by the U.S. Chamber of Commerce, found no evidence that the 166 shareholder proposals key-voted by the AFL-CIO improved stock prices over the short or long term” and that “evaluating these proposals [for governance reform] we must ask if we are trying to atone for the past sins of the financial services sector, or are we going to shackle the engines that have driven the American economy to unparalleled heights?”

Apparently Mr. Quaadman missed a meeting.  It is broke – or should I say, we are.  Despite his effort to draw some nonexistent line between Wall Street and the rest of corporate America, the engines he refers to have sunk the American economy to unparalleled lows and critically injured the credibility of our financial markets.  The Chamber of Commerce should draw a lesson from Johnson & Johnson’s response to the Tylenol poisonings and devote its efforts to restoring the brand of American capitalism.

Instead, the Chamber of Commerce is once again confusing what is best for American corporations with what is best for American corporate executives, engaging in its usual subversion of public policy with thuggishness, subversion, name-calling, and bait and switch.  As announced last month, the Chamber is spending $100 million of shareholders’ money for a “sweeping national advocacy campaign encompassing advertising, education, political activities, new media, and grassroots organizing to defend and advance America’s free enterprise values in the face of rapid government growth and attacks by anti-business activists.”  Apparently, anyone who disagrees with them is anti-business.  The Wonk Room has an excellent analysis of the propagandistic efforts by the Chamber and their captive outlets. Responsible Investor discusses US SRI firms' response to the Navigant study here.

The best they could do to support this effort was the Navigant study on shareholder proposals cited by Mr. Quaadman, a classic example of a useless and distracting set of data.  This highly trumpeted study has no relevance whatsoever to the points the Chamber is trying to use it to support.  The study purports to show that shareholder proposals cannot be shown to be predictors or influencers of increases in shareholder value.  It poses the wrong questions and manipulates the wrong data.  There is nothing in the study about the impact of shareholder resolutions that are filed and then withdrawn following negotiations; therefore the proposals studied are by definition the least effective and management of those companies by definition the least responsive.  More important, shareholder proposals and the short-term market returns of a limited time period are no indicator whatsoever of anything relevant to the governance reforms currently at issue.  I could argue that what the study does show is that the current system for shareholder proposals limits investors to too narrow a range of subjects and too compromised an exercise of voting rights.  But it would give this study and this effort too much credit.  It is merely an effort to distract policy-makers and reformers from the issues and at that I trust it will be even less successful, reflecting once again on the Chamber’s methods and priorities rather than on the merits of the issues. 

Nell Minow — Editor

Say on Pay: The ayes have

In the May 2009 issue of Governance, the leading international monthly newsletter on issues of corporate governance, boardroom performance and shareholder activism, Senior Analyst Paul Hodgson looks at the differences between the UK and the US in the say-on-pay debate.

"The most recent votes on executive remuneration show a marked difference between the UK and the US. ‘No’ votes at RBS and Shell versus ‘yes’ votes at Verizon and Bank of America? In the US it would certainly seem that the ‘ayes’ have it.

Admittedly, RBS’s current woes are significant. And Shell’s decision to pay out its performance shares even though the company didn’t hit the targets it had set itself is not one to garner much support. So perhaps it is no surprise that shareholders revolted there. But with all the talk of pitchforks, torches, and angry mobs on Wall Street, what happened at Verizon, where the pay package received a 90 per cent shareholder support at a company that is hardly the doyen of remuneration best practice? And Bank of America, where support topped 70 per cent? Surely the Merrill Lynch bonus fiasco would have been enough to provoke some protest. Higher
still, Goldman Sachs’ remuneration plan received a 98 per cent support rate, perhaps because total remuneration dropped from more than $70m to a ‘mere’ $26m. And around 85 per cent of Citigroup’s shareholders backed its pay proposal even though the company’s CEO and chairman were hauled in front of a congressional committee earlier this year to answer questions about their involvement in the financial crisis.

Why is the furore over pay so much louder in the UK than it is in the US at the moment? Perhaps with six years of voting on executive remuneration under their belt, UK shareholders felt it was time to exercise their rights in larger numbers, while in the US shareholders are so surprised at having the right in the first
place that they don’t seem quite to know what to do with it.

So where is the US with ‘Say-on-Pay’, the name given to the campaign to have a non-binding management proposal to approve executive remuneration on the agenda at every company’s annual general meeting?

Management proposals to approve pay
During the 2008 proxy season, only two companies subjected themselves to a shareholder vote on pay, insurance company Aflac and risk management firm RiskMetrics, both voluntarily. Both had their executive remuneration packages overwhelmingly supported by shareholders.

Until March this year, that figure of two was going to be swelled to around ten, with further companies reacting to shareholder pressure to add the vote to their proxy ballots. But then in March the Securities and Exchange Commission (SEC) reacted to legislation in the American Recovery and Reinvestment Act
(ARRA) that would require all companies receiving funds from the US Treasury to place a say on pay vote on their ballot, confirming that roughly 400 additional companies – mostly financial –would have to have such a vote. This rule applied to all proxy statements filed after 17 February 2009.

Shareholder proposals
Say-on-pay has been the subject of more than 200 shareholder proposals over the three proxy seasons 2007–2009, with support for such proposals waxing and waning. Some companies, like Apple and Motorola, have reacted to majority support for such resolutions by introducing or promising to introduce a say on pay
vote. Others, such as Ingersoll-Rand, have ignored the majority of their shareholders and made no such moves.

But the various legislative acts appear to have taken the wind out of the sails of the shareholder campaign, with support levels for shareholder say-on-pay proposals in the current proxy season remaining on average at the 40 per cent level seen in 2007 and 2008.

Legislative change
For the present, only TARP companies (those companies that received financial assistance from the Troubled Asset Relief Program fund) must propose a vote, and then only during the period when they are in receipt of Treasury funds. But this may soon change.

A bill put forward by Senator Charles Schumer – the Shareholder Bill of Rights Act of 2009 – includes say on pay among a larger set of governance proposals. Support for the idea from the current administration is clear, as President Obama had already sponsored a say on pay bill while he was a senator during 2008.
If the Shareholder Bill of Rights Act were to be signed into law then say on pay would become a universal requirement for all listed companies."

Paul Hodgson — Senior Research Associate

A 'Real' Board for Exxon

Exxon has long had its own way of doing things – from exploration policy to public, government and shareholder relations. Exxon invites comparison with other companies based on its record. The company says simply – we are better than everyone else according to every system of measure, why should we listen to anybody telling us to do anything different. This line of argument compels the ancient wisdom – he who knows what he knows knows, he who knows not what he knows not knows not. The experience of participating in Exxon’s Annual Meeting is a classic of people talking past each other – Exxon management simply does not comprehend what its shareholders are trying to tell them. And, here’s the rub – lack of understanding results in failure to try to understand and that is why I persist.

The Yale School of Management has recently concluded that best practice for American corporations is to have a separate individual as Chairman of the Board from the Chief Executive Officer. Senator Schumer of NY has recently introduced legislation that would require as a matter of federal law that all corporations should separate Chair and CEO. There is, therefore, much current wisdom learning and agreement on this subject – enough that I will not attempt anything beyond the very simple question – how can you have a “real” board without having an energy separate from the management to compile its agenda, assure availability of appropriate information, conduct the meetings? How can you monitor CEO conduct? One size does not fit every company, but American publicly traded companies universally are required to have boards of directors in order to represent the interests of owners. Does this not necessarily mean a “real” board?

Robert A.G. Monks — Co-Founder

Petition To End Tipping Blank Votes To Management

As Jim McRitchie from CorpGov.net reported yesterday, a rulemaking petition was filed on May 15 to amend Rule 14a-4(b)(1) and is available for public comment. Jim wrote, “The problem is that when retail shareowners vote but leave items on their proxy blank, those items are routinely vote by their bank or broker as the subject company’s soliciting committee recommends. Current SEC rules grant them discretion to do so. ...  We believe that when voting fields are left blank on the proxy by the shareowner, they should be counted as abstentions.”  Read in-depth about this important issue at http://www.corpgov.net/news/news.html.

Bob Monks Discusses Shareholder Activism

Nell Minow's post last week discussed the website set up by The Corporate Library co-founder and board member Bob Monks in support of shareholder proposals at Exxon. Yesterday, Bob discussed the website on the Maine Public Broadcasting Network and talked about corporate governance, accountability and the role of shareholders. Listen to the interview here. 

Carl Icahn and Biogen: The Value of Shareholder-Centered Corporate Governance

Carl Icahn and investment funds he controls have undertaken a proxy contest at Biogen Idec, nominating four candidates for election to the board and asking shareholders to approve two proposals at the company’s annual meeting to be held on June 3rd. If this sounds familiar, there's a good reason:  It's the second contest Icahn has mounted at Biogen Idec in as many years.  He lost a challenge last year where he claimed that a 2007 failed auction had been set up in a way that ensured no buyer would be found.  The ownership of Biogen Idec shares by Icahn and his allies does not appear in the proxy statement because it is not in definitive form, but their most recent 13D filing indicated that they own approximately 5.5% of the company’s outstanding shares.

             Icahn is going to shareholders with two proposals:  (1) a binding proposal to amend the company’s bylaws to fix the size of the board at 13 (to prevent the company from expanding the board upon election of Icahn’s nominees in order to dilute their influence) and (2) a non-binding proposal asking the board to take the steps necessary to cause the company to reincorporate in North Dakota and opt to be subject to the North Dakota Publicly Traded Corporations Act (“NDPTCA”).  This second proposal is interesting because it's a long- term bet on the value of governance that empowers shareholders.  The NDPTCA reads like an activist wish list:  among other things, it imposes a majority vote standard for director elections; prohibits classified boards; requires a shareholder advisory vote on executive compensation; mandates the separation of the chairman and CEO roles; and gives significant shareholders access to the company proxy statement for the purpose of nominating director candidates.

 Icahn lobbied for the NDPTCA when it was enacted in 2007 and he has proposed reincorporation to North Dakota at two other companies in which he has invested:  Amylin Pharmaceuticals, where he has also mounted a director challenge, and American Railcar Industries, where he controls the board.  That he's willing to expand the rights of shareholders even where he has obtained or is seeking to obtain board representation--in other words, where shareholders may use their power to thwart actions taken by directors he has backed--suggests that his commitment to shareholder rights is not simply a tactic to be used against recalcitrant boards.

 Companies can adopt all of the NDPTCA's governance features voluntarily regardless of their state of incorporation.  The advantage of the NDPTCA is that it bundles shareholder-friendly governance reforms--allowing an activist like Icahn to ask for all of them in one fell swoop--and gives them some teeth by precluding the board from undoing the reforms unilaterally.  (The opt-in to the NDPTCA is in the company's charter and thus shareholder approval is required to change it.)  Even if Icahn's proposal passes, Biogen Idec's board is under no obligation to implement it, since it's non-binding.  A strong showing, however, especially one coupled with the election of one or more of Icahn's nominees, would send a strong message to Biogen Idec's board that shareholders believe in the value of more shareholder-centered corporate governance.

For further details on the Biogen Idec proxy contest as well as the proxy contest at Trico Marine Services, please visit our online store to purchase the newly released "Proxy Contest Update: Biogen Idec (BIIB) and Trico Marine Services (TRMA)".

Beth Young — Senior Research Associate, Shareholder Issues, M&A and Takeover Defenses

Exxon: Mutual Fund Voting Should Be Informed By Investors

The AP reports on Salon.com on the website set up by TCL board member Bob Monks and Neva Rockefeller Goodwin in support of the shareholder proposals on climate control, renewable energy, and splitting the chairman/CEO at Exxon.  To my knowledge, this is the first time shareholder proponents have called on beneficial holders to put pressure on their mutual funds to vote against corporate management.

The site allows investors to click on a fund company and send a message that says, in part, "As a mutual fund shareholder, I am concerned about both the future of the environment and the future of my retirement nest egg."

"We intend to watch how these mutual funds respond to this feedback from their customers and then let mutual-fund investors know whether their input was heeded or ignored," Monks and Rockefeller Goodwin said in a statement.

Activist groups often petition funds to vote certain ways, but "it's unusual for activists to try to work through the fund's shareholders," said Mike McNamee, spokesman for the Investment Company Institute, the mutual fund industry's biggest trade group.

TCL reports have consistently shown that mutual funds vote contrary to the interests of investors on executive compensation and other issues.  While the SEC now makes the mutual funds disclose their votes, the information is still difficult to get and holders have very little idea of how the votes of the shares they own are being cast and even less idea of how to direct a better vote.  Instead of (or in addition to) petitioning the funds directly, the people filing these proposals have set up a very user-friendly site that lets investors send their views on to the companies that manage their money.  I hope this starts a trend – and that future such sites disclose how the funds voted on previous votes.

Nell Minow — Editor