Volume 1:Issue #8
Edited by Francis H.Byrd
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The Way We See It – Commentary from The Altman Group

By Francis H. Byrd, Managing Director, Corporate Governance Practice Co-Leader

Remodeling the Corporate Governance/Proxy Dream House: Architecture versus Plumbing

The physician can bury his mistakes, but the architect can only advise his clients to plant vines.” – Frank Lloyd Wright

Fashion is architecture: it is a matter of proportions.” – Coco Chanel

Not only is there no God, but try getting a plumber on weekends” – Woody Allen

A long expected decision was finally made official on July 1, 2009, when the Securities and Exchange Commission (“the Commission”) voted to change what its Chairman Mary Schapiro has so aptly identified as the “plumbing” of proxy voting, by approving the New York Stock Exchange proposal eliminating the broker discretionary vote in uncontested director elections (NYSE Rule 452).  The Commission also took aim at corporate governance architecture through the release of two proposals for public comment.  The first regards "say on pay" votes for TARP recipients (no surprise as this was already approved as a measure in the stimulus package). The second proposal, put out for public comment, is a package of proposed amendments to enhance corporate disclosures and to change several other proxy rules. 

Before diving into the changes and proposals let me say a quick word about the importance of the plumbing as it relates to the architecture.  Chairman Schapiro made a point of stating, and individual Commissioners concurred, that a key goal of the Commission would include a review of the proxy "plumbing" issues during the balance of this year.  We, along with many other commentators (issuers and institutions) are heartened by her statement, seeing in it a real understanding of the mechanics of the proxy process, as opposed to the lofty language usually associated with “corporate democracy, provided however that a more thoughtful and balanced process is followed than we believe was undertaken in the 452 change.  Our thoughts are discussed in the letters (links) we filed with the Commission during the comment period ”.

Discussions of corporate governance improvements usually focus on the architecture – board structure, independence of directors, committees and their consultants,  the value of the split Chair/CEO roles, or how the board defines the company’s appetite for risk.  Rarely is there a discussion relating to the plumbing and how best to improve it.

Among the issues still requiring action are insuring that all stock owners are enfranchised, insuring that shareholder votes are properly recorded and counted; and providing functional systems for issuers and dissident shareholders to communicate with all beneficial owners. 

A note to the activist institutions: You need to focus on these issues not only when you believe they affect your goals (empty voting or improperly counted votes or adoption of majority vote), but as they affect the whole proxy voting/corporate governance system. Now that the discretionary broker vote has been eliminated, it behooves all of us (issuers and institutional investors, those of us that advise these two constituencies and regulators) to seek out and implement the best mechanisms for expanding and protecting “shareholder democracy”.

Amendments to Rule 452 and Potential Negative Impacts

The debate over whether Rule 452 provided issuers with an unfair advantage (institutions say “yes”) or whether it provided a base level of votes from which a quorum could be called and a company’s business conducted (issuers say “yes”) is now immaterial.  The plumbing has been changed and the issue for companies now is how to obtain the satisfactory level of participation in the election of directors.  As we noted in our ‘Governance News’ section, The Conference Board, in a story in Compliance Week, is advising companies to start planning now for the coming decrease in retail shareholder votes.  The concerns are real, especially for small and medium sized companies.  Like The Conference Board, we have also alerted our clients about what to expect. To see details, please click this link.

Future Implications of the Commission’s Proposed Director Qualification Disclosure Amendment:

Elimination of Rule 452 was not the only action taken by the Commission on July 1st. The Commission also proposed for comment amendments on disclosure of director qualifications. Could this further complicate the picture? We believe it could. While the Commission has not prescribed specific qualifications directors must possess, we expect activist institutional investors and proxy advisory services will be developing their own criteria. We also expect that issuers will need to rethink how directors’ backgrounds, experience, and nominating committee selection criteria are set forth in the proxy statement.

The prospect of director elections becoming more like political elections will require companies to think long and hard about not only their board processes (architecture), but how to identify and capture shareholder votes (the plumbing). One thing that is absolutely clear is that the reforms to the proxy system are quite far from finished.

The Legal Opinion

Blank Rome reviews the proposed SEC changes regarding proxy access and director nominations.

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Morrison and Foerster discusses an important element for issuers developing a liability management strategy under the umbrella of the SECís tender offer rules.

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