Microcap Board Governance

Annalisa Barrett is a clinical professor of finance in the University of San Diego School of Business and the founder and CEO of Board Governance Research LLC; and Jon Lukomnik is Executive Director of the Investor Responsibility Center Institute (IRRCi). This post is based on an IRRCi publication authored by Professor Barrett.

As investors seek returns in non-traditional asset classes, some have turned to microcap public equity (defined here as companies with less than $300 million in market capitalization). Most of these companies are not included in major indices and many do not have analysts following them. Therefore, their governance practices have not received the same level of scrutiny as larger capitalization companies.

Despite microcap public companies’ importance in our capital markets, there is a paucity of studies examining their board composition and governance practices. This post provides insights into the current governance landscape in this asset class. Where available, comparisons are made to the boards of the companies included in the Russell 3000 Index.

Additionally, as calls increase for companies to have more diverse boards, a broader pool of director candidates must be considered. Larger capitalization companies’ boards often desire director candidates to have prior public company board experience in order to be considered for an open board seat. Directors serving on microcap company boards have boardroom experience, but may not have previously come to the attention of larger companies’ nominations and governance committees via traditional board searches. The complete publication provides an examination of the pool of these experienced directors from which larger company boards can draw.

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Corporate Governance; Stakeholder Primacy; Federal Incorporation

Martin Lipton is a founding partner of Wachtell, Lipton, Rosen & Katz, specializing in mergers and acquisitions and matters affecting corporate policy and strategy. This post is based on a Wachtell Lipton memorandum by Mr. Lipton.

Related research from the Program on Corporate Governance on adding a federal incorporation option includes Federal Corporate Law: Lessons from History; and Vigorous Race or Leisurely Walk: Reconsidering the Competition Over Corporate Charters, both by Lucian Bebchuk and Assaf Hamdani.

Senator Elizabeth Warren has introduced legislation to make all corporations with $1,000,000,000 of annual revenue subject to Federal corporate governance (by requiring them to be chartered as a United States corporation). The Bill rejects shareholder primacy and embraces stakeholder governance; not less than 40% of the directors to be elected by the employees.

The Federal charter would provide that directors consider the interests of all corporate stakeholders—including employees, customers, suppliers, shareholders, and the communities in which the corporation operates. The Bill also has a director business judgment provision, promoting long-term investment and facilitating rejection of takeover bids, modeled on constituency statutes in some 30 states.

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Weekly Roundup: August 10-16, 2018


More from:

This roundup contains a collection of the posts published on the Forum during the week of August 10-16, 2018.

SEC Concept Release on Compensatory Offerings


Shedding the Status of Bank Holding Company


Circuit Split on Morrison Application


Proposed Amendments to SEC’s Whistleblower Program


Women in the C-Suite: The Next Frontier in Gender Diversity


Director Skill Sets


FCPA Successor Liability


Urban Vibrancy and Firm Value Creation


Self-Dealing Without a Controller


The Misplaced Focus of the ISS Policy on NOL Poison Pills


New Amendments to Delaware General Corporation Law

New Amendments to Delaware General Corporation Law

Matthew M. Greenberg is partner and Christopher B. Chuff and Taylor B. Bartholomew are associates at Pepper Hamilton LLP. This post is based on their Pepper Hamilton memorandum and is part of the Delaware law series; links to other posts in the series are available here.

On August 1, several amendments to the Delaware General Corporation Law, 8 Del. C. § 1-101 et seq. (the DGCL), became effective. The most notable amendments alter (1) the availability of statutory appraisal rights and (2) the availability of, and procedures for, ratifying defective corporate acts.

Statutory Appraisal Rights

The 2018 amendments to section 262 extend the applicability of the “market out” exception to appraisal rights in a so-called “intermediate form” merger, in which there is an exchange offer followed by a back-end merger consummated without the vote of stockholders pursuant to section 251(h). Section 262(b)(1) of the DGCL provides a market-out exception to stockholders’ appraisal rights when stock of the target corporation is (1) listed on a national securities exchange or (2) held of record by more than 2,000 holders. Section 262(b)(2) of the DGCL provides an exception to the market-out exception, under which appraisal rights remain available to target stockholders (even if the target corporation’s stock was listed on a national exchange or held by more than 2,000 holders), when the target stockholders receive consideration of any form other than stock, depository receipts in respect thereof, cash in lieu of fractional shares, or any combination thereof.

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The Misplaced Focus of the ISS Policy on NOL Poison Pills

Keith Gottfried and Sean Donahue are partners at Morgan, Lewis & Bockius LLP. This post is based on a Morgan Lewis memorandum by Mr. Gottfried and Mr. Donahue. Related research from the Program on Corporate Governance includes Toward a Constitutional Review of the Poison Pill by Lucian Bebchuk and Robert J. Jackson, Jr. (discussed on the Forum here).

Since 2009, Institutional Shareholder Services, Inc. (“ISS”) has differentiated between traditional poison pills used to protect against unsolicited takeovers and other coercive transactions and NOL poison pills used to protect and preserve a company’s tax assets, primarily tax operating loss carryforwards. According to ISS’ most recent published proxy voting manual, ISS’ voting policy applicable to management proposals to approve or ratify the adoption of an NOL poison pill has as its purported rationale the evaluation of “the terms and purpose behind the NOL poison pill, as well as the company’s existing governance structure, to assess whether the structure actively promoted board entrenchment or adequately protects shareholder rights.” The proxy voting manual further indicates that “[w]hile ISS acknowledges the high estimated tax value of NOLs, which benefit shareholders, the ownership acquisition limitations contained in an NOL poison pill coupled with a company’s problematic governance structure could serve as an antitakeover device.”

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Self-Dealing Without a Controller

Jason M. Halper and Ellen V. Holloman are partners and James M. Fee is an associate at Cadwalader, Wickersham & Taft LLP. This post is based on a Cadwalader memorandum by Mr. Halper, Ms. Holloman, and Mr. Fee and is part of the Delaware law series; links to other posts in the series are available here. Related research from the Program on Corporate Governance includes Independent Directors and Controlling Shareholders by Lucian Bebchuk and Assaf Hamdani (discussed on the Forum here).

On July 26, 2018, Vice Chancellor Glasscock of the Delaware Court of Chancery denied in part and granted in part Defendants’ motion to dismiss in Sciabacucchi v. Charter Communications Corporation et al. We discussed the Court’s prior ruling in this action here. In brief, the action challenged certain transactions between Charter Communications, Inc. and its largest stockholder, Liberty Broadband Corporation, which owned approximately 26% of Charter’s outstanding common stock and had the right to designate four of ten directors on Charter’s Board. In particular, a Charter stockholder challenged a voting proxy agreement between Charter and Liberty and two stock issuances worth $5 billion made by Charter to Liberty, allegedly as a part of the “financing” of Charter’s $78.7 billion merger with Time Warner Cable and its purchase of Bright House Networks, LLC. Ultimately, 86% of Charter stock not affiliated with Liberty voted, in a single vote, to approve (i) the share issuances and the voting agreement, (ii) the merger with Time Warner Cable and (iii) the purchase of Bright House. Both third-party transactions were conditioned on Charter stockholders’ approval of the share issuances to and voting agreement with Charter.

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Urban Vibrancy and Firm Value Creation

Christopher A. Parsons is Professor at the University of Washington Foster School of Business. This post is based on a recent paper authored by Professor Parsons; Casey Dougal, Assistant Professor of Finance at Drexel University LeBow College of Business; and Sheridan Titman, Professor of Finance at University of Texas at Austin McCombs School of Business.

Financial economists have long been interested in the reasons some organizations create more value than others. One common measure takes the difference between a firm’s market value and the replacement cost of its assets, under the notion that when management adds little value, the firm should be worth approximately the value of its plants, equipment, and other physical assets. On the other hand, when managers can squeeze more value out of these assets, the “market-to-book” ratio can substantially exceed one, the wedge representing value created for its shareholders. In this paper, we ask whether the location of a firm’s headquarters represents a source of comparative advantage, and accordingly, whether market-to-book ratios differ meaningfully between headquarter cities.

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FCPA Successor Liability

James Gatta and Derek Cohen are partners at Goodwin Procter LLP. This post is based on a Goodwin Procter memorandum by Mr. Gatta and Mr. Cohen.

In its continuing efforts to encourage companies to self-report Foreign Corrupt Practices Act (FCPA) violations, the Department of Justice (DOJ) announced [July 25, 2018] that it intends to apply the principles of its FCPA Corporate Enforcement Policy to successor companies that uncover wrongdoing in connection with mergers and acquisitions. Accordingly, successor companies that voluntarily disclose such wrongdoing to the DOJ, cooperate with a government investigation of the conduct, and enact effective remedial measures will be positioned to benefit from the principles of the policy, including being presumed eligible for a declination of prosecution. The announcement made clear that the FCPA Corporate Enforcement Policy will apply to companies that uncover corrupt conduct through due diligence in advance of an acquisition as well as to companies that learn of such conduct subsequent to an acquisition. This extension of the policy to mergers and acquisitions was announced on July 25, 2018, by Deputy Assistant Attorney General (DAAG) Matthew S. Miner of the Criminal Division of the Department of Justice, at the American Conference Institute’s Eighth Global Forum on Anti-Corruption Compliance in High-Risk Markets, held in Washington, D.C.

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Director Skill Sets

Renée B. Adams is Professor of Finance at the University of Oxford’s Saïd Business School; Ali C. Akyol is Senior Lecturer at the University of Melbourne; and Patrick Verwijmeren is Professor of Corporate Finance at the Erasmus School of Economics and the University of Melbourne. This post is based on a recent paper by Professor Adams, Dr. Akyol, and Professor Verwijmeren.

Boards of directors are multi-dimensional and the optimal board combines monitoring and advisory roles to varying degrees. We examine how individual director skills map into these roles. Do directors specialize as “advisors” or “monitors,” or, like boards, do they combine roles? And how do directors’ skills aggregate to the board level—are individual skills independent of each other or do they complement/substitute each other? The answers to these questions are important for understanding what boards do, why they are structured the way they are, and how they can be improved.

In our paper, we answer these questions by exploiting an amendment to Regulation S-K in 2009, which requires public U.S. firms to describe their reasons for nominating directors. According to this rule, firms have to disclose the skills they believe each director brings to the table. A particular strength of these data is that the descriptions represent the firm’s perspective rather than a perspective chosen by researchers. The data allow us to document the skills that directors have and allow us to test how these skills cluster at the board level. We then examine whether some boards have skill sets that lead them to systematically outperform other boards.

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Women in the C-Suite: The Next Frontier in Gender Diversity

Subodh Mishra is Executive Director at Institutional Shareholder Services, Inc. This post is based on an ISS Analytics publication by Kosmas Papadopoulos, Managing Editor at ISS Analytics.

Despite recent advances in female board participation globally, gender diversity among top executives remains disappointingly low across all markets, with some improvement discerned in the past few years. Moreover, there does not appear a correlation between board gender diversity and gender diversity in the C-Suite at the market level. Some of the markets that have implemented gender quotas on boards and have achieved the highest rates of female board participation, such as France, Sweden, and Germany, appear to have embarrassingly low rates of female top executives. In fact, many of the markets with progressive board diversity policies have lower gender diversity levels in executive positions compared to several emerging markets like South Africa, Singapore, and Thailand. Thus, achieving higher rates of gender diversity in the C-Suite will require deeper cultural shifts within organizations in order to overcome potential biases and hurdles to gender equality.

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