Yearly Archives: 2010

Implications of Beneficial Ownership Distinctions for Shareowner Communications and Voting

Posted by Alan L. Beller and Janet L. Fisher, Cleary Gottlieb Steen & Hamilton LLP, on
Thursday, March 18, 2010
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Alan L. Beller and Janet L. Fisher are partners in the New York office of Cleary Gottlieb Steen & Hamilton LLP. This post is based on a white paper prepared by Mr. Beller and Ms. Fisher for the Council of Institutional Investors. The white paper is available here.

A shareowner’s right to vote on matters as allowed under state or federal law, stock exchange rules or otherwise is a key right. Shareowner voting has also become an increasingly important element in the consideration of public company corporate governance. Recent developments have spotlighted the nature and quality of the communication process and its impact on shareowner voting and governance. These developments include adoption by a number of public companies, especially larger companies, of majority voting in uncontested director elections, the amendment of New York Stock Exchange (NYSE) Rule 452 to prohibit broker discretionary voting in uncontested director elections and the increased influence of activist shareowners and proxy advisory firms. The confluence of these developments has heightened the likelihood of more meaningful, and contested, shareowner votes and elevated the importance of shareowner communications in the context of voting and governance.

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Corporate Governance and Executive Compensation in the New Dodd Bill

Posted by Richard J. Sandler, Davis Polk & Wardwell LLP, on
Wednesday, March 17, 2010
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Richard J. Sandler is a partner at Davis Polk & Wardwell LLP and co-head of that firm’s global Capital Markets Group. This post is based on a Davis Polk client memorandum.

The past 18 months have been witness to tremendous legislative and regulatory activity in the area of corporate governance and executive compensation. The 1,336-page Restoring American Financial Stability Act of 2010 (“2010 Dodd Bill”), introduced yesterday by Senate Banking Committee Chairman Christopher Dodd, contains meaningful governance and executive compensation mandates that extend beyond financial institutions. The provisions are similar to those in Senator Dodd’s prior attempt in November 2009 to overhaul financial regulation (“2009 Dodd Bill”), [1] but with some notable changes. In some cases, these changes bring the 2010 Dodd Bill closer to the provisions of the Wall Street Reform and Consumer Protection Act of 2009 passed in the House on December 11, 2009. [2] These governance and compensation sections are a small part of the overall 2010 Dodd Bill, which is expected to undergo significant discussion and debate in Congress.

As with the 2009 Dodd Bill, rather than simply preempting state corporate law, which might have been the more straightforward approach, other than say on pay, the governance and compensation elements of the 2010 Dodd Bill work through the SEC’s power to approve the listing standards of national stock exchanges. The 2010 Dodd Bill would authorize the SEC to promulgate rules that would, within one year after the date of enactment, prohibit the listing of any US public companies that fail to adopt the bill’s standards. The SEC would have the authority to exempt companies from any of the requirements based on size, market capitalization, number of shareholders or other criteria that the SEC deems appropriate. The 2010 Dodd Bill would also empower the SEC to provide for transition and cure periods.

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Regulation Fair Disclosure and the Cost of Equity Capital

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Wednesday, March 17, 2010

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This post comes to us from Zhihong Chen, Assistant Professor of Accounting at City University of Hong Kong, Dan Dhaliwal, Professor of Accounting at the University of Arizona, and Hong Xie, Associate Professor of Accounting at the University of Kentucky.

In our paper, Regulation Fair Disclosure and the Cost of Equity Capital, which is forthcoming in the Review of Accounting Studies, we examine the effect of Regulation Fair Disclosure (Reg FD) on the cost of capital using methods recently advanced in the accounting and finance literatures for estimating ex ante or implied cost of equity capital.

Given the critical importance of the cost of capital measures for our study, we use two approaches to estimate the cost of capital. The first approach estimates the cost of capital and long-term growth simultaneously for a portfolio of firms at a particular point in time. The second approach estimates the cost of capital for a firm at a particular point in time using assumed long-term growth and analysts’ earnings forecasts as expected earnings. These two approaches complement each other and thus enhance the reliability of our findings.

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Treasury Proposes “Volcker Rule” Legislative Text

Posted by Annette L. Nazareth, Davis Polk & Wardwell LLP, on
Tuesday, March 16, 2010
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Annette Nazareth is a partner in the Financial Institutions Group at Davis Polk & Wardwell LLP. This post is based on a Davis Polk client memorandum.

On March 3, 2010, the Department of the Treasury delivered to the Hill proposed legislative text to implement the “Volcker Rule” announced by the Obama Administration on January 21st. The following bullets briefly summarize the provisions of Treasury’s proposal, which takes the form of new sections 13 and 13a of the Bank Holding Company Act of 1956.

Prohibition on Proprietary Trading

Not self-executing. The “appropriate Federal banking agencies” are directed by statute to prohibit proprietary trading by covered companies.

Who is covered?

  • Insured banks and thrifts; bank, thrift and other depository institution holding companies; and any company “treated as a bank holding company for purposes of the [Bank Holding Company Act]”, including
    • foreign banks with a U.S. branch, agency or commercial lending company subsidiary (but subject to Section 4(c)(9) exemption discussed below).
  • Broker-dealers and other non-bank affiliates appear not to be subject to the prohibition, but their proprietary trading may be subject to additional capital requirements and quantitative limits as discussed below.

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Regulatory Dualism as a Development Strategy

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Monday, March 15, 2010
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This paper comes to us from Ronald Gilson, Professor of Law and Business at Stanford and Columbia Law Schools, Henry Hansmann, Professor of Law at Yale Law School, and Mariana Pargendler, JSD Candidate at Yale Law School.

In our paper Regulatory Dualism as a Development Strategy: Corporate Reform in Brazil, the U.S., and the EU, which was recently made publicly available on SSRN, we examine the promise of regulatory dualism as a strategy to diffuse the tension between future growth and the current distribution of wealth and power. Countries pursuing economic development confront a fundamental obstacle. Reforms that increase the size of the overall pie are blocked by powerful interests that are threatened by the growth-inducing changes. This problem is conspicuous in efforts to create effective capital markets to support economic growth. Controlling owners and managers of established firms successfully oppose corporate governance reforms that would improve investor protection and promote capital market development.

Regulatory dualism seeks to mitigate political opposition to reforms by permitting the existing business elite to be governed by the old regime, while allowing other firms to be regulated by a new parallel regime that is more efficient. Regulatory dualism goes beyond similar but simpler strategies, such as grandfathering and statutory menus, by incorporating a dynamic element that is key to its effectiveness, but that requires a sophisticated approach to implementation.

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Proxy Solicitation Through The Internet

Posted by James Morphy, Sullivan & Cromwell LLP, on
Sunday, March 14, 2010
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James Morphy is a partner at Sullivan & Cromwell LLP specializing in mergers & acquisitions and corporate governance. This post is based on a Sullivan & Cromwell client memorandum.

On February 22, 2010, the SEC adopted amendments to the Internet proxy delivery rules in order to increase retail shareholder participation in the proxy voting process and to improve the notice and access model. The amendments will:

  • provide flexibility regarding the format and content of the Notice of Internet Availability of Proxy Materials;
  • permit issuers and other soliciting persons to accompany the Notice of Internet Availability of Proxy Materials with an explanation of the reasons for the use of the notice and access model and the process of receiving and reviewing proxy materials and voting; and
  • permit a soliciting person other than the issuer to use the notice and access model and send its Notice of Internet Availability of Proxy Materials by the later of
    • 40 days before the shareholders meeting, or
    • the date on which the soliciting person files its definitive proxy statement if the soliciting person’s preliminary proxy statement is filed within 10 days of the issuer’s filing of its definitive proxy statement.

The amendments, which were adopted largely as proposed in October 2009, become effective 30 days following publication in the Federal Register. The SEC staff has indicated to us informally that they are considering whether early compliance with the new rules will be permitted.

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The SEC’s New Short Sale Rule: Implications and Ambiguities

Posted by Annette L. Nazareth, Davis Polk & Wardwell LLP, on
Sunday, March 14, 2010
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Annette Nazareth is a partner in the Financial Institutions Group at Davis Polk & Wardwell LLP. This post is based on a Davis Polk client memorandum.

After months of deliberation and consideration of several alternatives, the Securities and Exchange Commission (the “SEC” or “Commission”) announced on February 24, 2010 the adoption of a new short sale rule — Rule 201 of Regulation SHO (the “Rule” or “Rule 201”). The Rule institutes what the marketplace has termed a “circuit breaker with a passive upbid requirement” rather than a full-time restriction on short sales. The restriction goes into place upon a 10% decline in the price of an NMS stock from its previous day’s closing price. Rule 201 effectively restricts the display or execution by exchanges and other trading centers of a short sale order in such stock to a price above the national best bid for the remainder of the trading day and the next trading day (the “Price Restriction”). The Rule will be implemented through policies and procedures of trading centers and broker-dealers that are not, themselves, trading centers.

There are limited exceptions from the basic requirement, including for arbitrage and odd lot transactions, but far fewer exceptions than market participants had advocated. Notably, there is no exception for market making in NMS stocks or options market making.

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Court Upholds Exclusion of 14a-8 Proposal For Deficient Proof of Stock Ownership

Posted by Trevor Norwitz, Wachtell, Lipton, Rosen & Katz, on
Friday, March 12, 2010
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Trevor Norwitz is a partner in the Corporate Department at Wachtell, Lipton, Rosen & Katz, where he focuses on mergers and acquisitions, corporate governance and securities law matters. This post is based on a Wachtell Lipton firm memorandum by Mr. Norwitz and Gordon S. Moodie. The post relates to the case of Apache Corporation v. Chevedden, which was previously discussed on the Forum in this post.

In the first federal judicial decision addressing the requisite proof of share ownership for submission of proposals under Rule 14a-8, a U.S. District Court has upheld, on narrow grounds, a company’s exclusion of a shareholder proposal for failing to comply strictly with the proxy rules. Apache Corporation v. Chevedden, C.A. H-10-0076 (March 10, 2010).

The case involved a precatory shareholder proposal from activist John Chevedden to eliminate supermajority voting. To prove his eligibility to submit the proposal under the proxy rules (which require continuous ownership for one year of just $2,000 in market value of a company’s voting securities), Chevedden provided a letter from Ram Trust Services (RTS), his “introducing broker”. Apache rejected this as deficient because RTS was not a record holder of its stock and gave Chevedden the requisite 14 days to provide proper proof of ownership. Chevedden later – more than 14 days after the deficiency notice – gave Apache a letter from Northern Trust, RTS’ custodian participant in the Depository Trust Company (DTC), the registered holder of the shares in question. Apache asserted that it could exclude Chevedden’s proposal because neither RTS nor Northern Trust was a record holder. Rather than seeking a “no action” letter from the SEC staff, Apache filed suit seeking a declaratory judgment that only a letter from DTC, the actual registered holder, would suffice.

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The New Enhanced Proxy Disclosure Rules: Putting More “A” and Less “D” in CD&A

Posted by Charles M. Nathan, Latham & Watkins LLP, on
Friday, March 12, 2010
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Charles Nathan is Of Counsel at Latham & Watkins and is co-chair of the firm’s Corporate Governance Task Force. This post is based on a Latham & Watkins Corporate Governance Commentary by Mr. Nathan, Laurie Smilan and Scott Herlihy.

As the SEC staff has acknowledged, the new enhanced proxy disclosure rules — requiring information about board qualifications, leadership and oversight — are the latest installment in the ongoing effort to push companies to provide more “analysis” and not just “discussion” in their disclosures. They are also the latest installment in what some characterize as the SEC’s ongoing effort to regulate corporate governance by the imposition of targeted disclosure obligations, notwithstanding that the SEC lacks a clear mandate to regulate corporate governance, an area traditionally the province of state law’s more laissez-faire approach.

In crafting the new required disclosures about board qualifications, leadership and role in risk oversight both during the rapidly approaching 2010 proxy season, and also in preparing the Compensation Discussion and Analysis (CD&A) in current filings, boards and their advisors should heed the SEC’s not-so-positive feed back with respect to CD&A disclosure compliance. In that context, the SEC has lamented that “far too many companies continue to describe — in exhaustive detail — the framework in which they made the compensation decision, rather than the decision itself. The result is that the “how” and the “why” get lost in all the detail.” [1]

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Performance-Based Incentives for Internal Monitors

Posted by David F. Larcker, Stanford Graduate School of Business, on
Friday, March 12, 2010
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David Larcker is the James Irvin Miller Professor of Accounting at Stanford University.

In the paper, Performance-Based Incentives for Internal Monitors, which was recently published on SSRN, my co-authors (Christopher Armstrong and Alan Jagolinzer) and I investigate the choice of performance-based incentives for the general counsel (GC) and chief internal auditor (IA) and assess whether these incentives enhance or impair monitoring.

We use proprietary and public data that provide details about the incentive-compensation contracts of the GC and the IA to identify the determinants of performance-based incentives of internal monitors. More importantly, we also examine the impact these incentives have on either alleviating or exacerbating agency problems within the firm. We draw inferences regarding the implications of compensating internal monitors with performance-based incentives using a propensity score matched-pair research design, which helps address econometric concerns related to the endogenous design of compensation contracts.

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