Monthly Archives: June 2010

Market Upheaval and Investor Harm Should Not be the New Normal

Editor’s Note: Luis A. Aguilar is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on Commissioner Aguilar’s remarks at the recent Compliance Week 2010 conference, the complete version of which is available here. The views expressed in Commissioner Aguilar’s remarks are his own and do not necessarily reflect those of the SEC, the other Commissioners, or the SEC staff.

A year ago I discussed the perils of “too big to fail,” how the capital markets regulator should be structured coming out of regulatory reform, and why the SEC was best suited to that role. [1] These issues, and many more, are still very much before us.

In recent decades, financial regulation has been guided by a philosophy that presumed that the market could be trusted to regulate itself, to take care of investors, and to support our nation’s economic development. As a result, new products and ways of doing business were developed in unregulated and opaque markets without proper oversight by regulators and without transparency to the public. While a lot of people in the financial sector were enriched, [2] the majority of Americans are now paying the price.


The Financial Reform Bill’s Implications for the 2011 Proxy Season

Francis H. Byrd is Managing Director and Corporate Governance Advisory Practice Co-Leader at The Altman Group. This post is based on an Altman Group Governance and Proxy Review by Mr. Byrd and Mark Garofalo.

We’re not yet through 2010 and we’re already writing about 2011?  Well, given the Senate’s passage of the Financial Reform Act we are now much closer to a new reality of major governance changes being imposed on companies of all sizes by regulation.  This proxy season, we have all been operating in the shadow of these potential wide-ranging corporate governance reforms. Even as companies and governance advocates have gone about business-as-usual, our anticipation of change – and the desire to see a settled landscape – has been enormous. It has been difficult to go more than a few days with no headlines from The Wall Street Journal or Financial Times, or our alerts or those from other industry players, keeping you aware of the latest twists and turns on the status of governance-related legislation.

In this article, we provide you with our perspective on the pending changes and their prospective impact for the remainder of 2010 and the 2011 proxy season.  Our analysis will attempt to take into account the fast changing legislative environment in Washington, D.C. Of the eight corporate governance-related items that need to be integrated by a House/Senate conference committee, only two at present appear to be close enough that observers (and political insiders) view them as relatively done deals: Say on Pay and Proxy Access.  Of the other changes being considered, majority voting for directors in uncontested elections would, if in the final bill, clearly have the most impact.


Is Delaware’s Antitakeover Statute Unconstitutional? Further Findings and Reply to Commentators

Guhan Subramanian is the Joseph Flom Professor of Law and Business at Harvard Law School. This post relates to a response by Professor Subramanian, Steven Herscovici and Brian Barbetta that is available here to comments on an original paper by those three authors that was discussed on the Forum here.

In an Article published in the May 2010 issue of the Business Lawyer (discussed on the Forum here, and available for download here) Steven Herscovici, Brian Barbetta, and I make three straightforward points:

  • 1. Three federal district courts held in 1988 that Delaware’s antitakeover statute must give bidders a “meaningful opportunity for success” in order to be valid under the Supremacy Clause of the U.S. Constitution.
  • 2. These three courts upheld Section 203 because the empirical evidence available at the time appeared to show that bidders were able to achieve an 85% tender on a hostile basis reasonably often, but these courts left open the possibility that future empirical evidence could change this constitutional conclusion.
  • 3. No bidder in the past nineteen years has been able to achieve 85% in a hostile tender offer against a Delaware target.


System and Evolution in Corporate Governance

Simon Deakin is a Professor of Law at the University of Cambridge.

In the paper, System and Evolution in Corporate Governance, which was recently made publicly available on SSRN, my co-author, Fabio Carvalho, and I explore the relevance of systems theory for an understanding of legal evolution, with specific reference to the law and practice of corporate governance. Evolutionary ideas play an important role in the contemporary corporate governance debate, being regularly deployed to support deregulatory initiatives and encourage belief in the likelihood of the global convergence of governance regimes. Close inspection suggests that many of these analyses are based on false analogies, drawn from misunderstandings of natural selection processes in the biological realm. They also suffer from a failure to address the issue of the social ontology of law. The key assumption in most law and economics analyses is that legal rules operate as surrogate prices. Given the importance of this step in law and economics reasoning, it is surprising that so little attention has been given to articulating and defending it. The effect, though, is severely to limit the value of the resulting analyses, by dissolving the distinction between the legal and economic systems.


Financial Institution Recovery and Resolution Plans

This post comes to us from Barnabas Reynolds, a partner at Shearman & Sterling LLP and head of that firm’s global Financial Institutions Advisory & Financial Regulatory Group, and is based on a Shearman & Sterling client publication by Bradley K. Sabel and Gregg L. Rozansky.

As part of the response to the recent financial crisis, lawmakers and bank supervisors have put forth proposals that would require some financial institutions to prepare, review, outline and report on recovery and resolution plans (“RRPs”), which are sometimes known as “living wills.” Recovery plans, which come into play when a firm falls under extreme stress, outline actions to maintain the firm as a going concern. Resolution plans would be resorted to in the event of failure of a financial institution and would aim to manage its resolution in a controlled manner with minimum cost and systemic disruption.


Currently, the U.S. is considering requirements for systemically important financial institutions to develop plans to take appropriate action to reduce the risk of failure and the impact of a failure. RRPs would generally provide regulators with an inside view of a systemically important financial institution’s concentration of risk. Under relevant U.S. legislative proposals, a financial institution is considered systemically important if its failure would have economically significant effects that could destabilize the financial system, with a potential negative macroeconomic impact. A systemically important financial institution would be required to prepare and provide to regulatory authorities a plan for orderly resolution in a material financial distress or failure event, intended to give regulators a more comprehensive understanding of the institution’s ownership structure and exposures to and connections with other affiliated and unaffiliated institutions.


New SSRN e-journal on Compensation of Executives & Directors

More from:

This post is part of a series introducing journals published by SSRN’s new Corporate Governance Network (CGN). CGN publishes and distributes electronic journals covering the full range of areas in corporate governance. It seeks to provide its readers with full exposure to new corporate governance research placed on SSRN irrespective of the author’s discipline. CGN’s director is Lucian Bebchuk, Director of the Program on Corporate Governance at Harvard Law School.

This post seeks to draw the attention of readers of the Forum to the new e-journal on Compensation of Executives and Directors of SSRN’s Corporate Governance Network (CGN). This journal distributes abstracts of, and links to, selected recent working papers that deal with compensation of top executives, compensation of mid-level executives, director compensation, and similar topics.

The journal collects abstracts on these topics from all new submissions to the entire SSRN database irrespective of discipline. It brings together contributions from accounting, economics, finance, law, management, sociology and psychology. Thus, this e-journal provides its readers with full exposure to all new papers related to its subject matter placed on SSRN.


The Design of Corporate Debt Structure and Bankruptcy

This post comes to us from Ernst-Ludwig von Thadden, Professor of Economics and Finance at the University of Mannheim, Erik Berglöf, Chief Economist and Special Adviser to the President at the European Bank for Reconstruction and Development, and Gérard Roland, Professor of Economics and Political Science at the University of California, Berkeley.

In our paper, The Design of Corporate Debt Structure and Bankruptcy, forthcoming in the Review of Financial Studies, we analyze the design of bankruptcy rules and debt structure in an optimal-contracting perspective. If cash flow is not verifiable and only the asset value of the firm is verifiable, then when a firm borrows from a single creditor and has all bargaining power, its debt capacity is limited to the value of its asset base. The reason is that the creditor can never expect to receive more than the asset value in liquidation and in renegotiation. However, when a firm borrows from more than one creditor, it can increase its debt capacity by pledging its asset base to more than one creditor by giving each the right to foreclose individually. If the debt structure of the firm is designed appropriately, this creates a commitment for the firm to pay out more in good states to prevent the exercise of individual foreclosure rights and thus raises the firm’s debt capacity. Having multiple creditors thus helps to reduce the negative effects of the lack of commitment in contracting by distinguishing between individual foreclosure rights and joint liquidation rights achieved under bankruptcy.


Understanding RiskMetrics Compensation “GRId”

Adam Emmerich is a partner in the corporate department at Wachtell, Lipton, Rosen & Katz focusing primarily on mergers and acquisitions and securities law matters. This post is based on a Wachtell Lipton firm memorandum by Mr. Emmerich, Eric S. Robinson, Jeannemarie O’Brien, David E. Kahan, Gordon S. Moodie and Justin S. Rosenberg. The RiskMetrics GRIds system has been previously discussed on the Forum in a series of posts, which are available here; Another aspect of the RiskMetrics system – its independence from a company’s ownership structure – is discussed in a study by the Program titled The Elusive Quest For Global Governance Standards, which is available here.

As discussed in our memos of March 16, 2010 and May 13, 2010, RiskMetrics has recently released the guidelines for calculations under its Governance Risk Indicator (GRId) rating system. The GRId instructions include over 50 pages of compensation questions, the answers to which result in a stand-alone Compensation GRId rating.

The Compensation GRId questions and scoring generally reflect the substantive positions in RiskMetrics’ corporate governance policies and proxy voting guidelines, but in some cases are more punitive. For example, the proxy voting guidelines penalize excise tax gross-ups only in new or materially amended agreements, but the Compensation GRId deducts even for existing agreements with gross-ups. More significantly, the rigid scoring system by its nature codifies the level of emphasis on particular issues. While we do not think the one-size-fits-all GRId approach provides a useful picture of governance practices, most public companies will, given the prominence of RiskMetrics, find it useful to familiarize themselves with the GRId guidelines and identify areas where points can be scored with little risk of substantive harm. For example, in a number of cases addressing an issue in the annual proxy statement may increase a company’s score.


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