Monthly Archives: October 2013

Boards Should Minimize the Role of Proxy Advisors

James Woolery is Deputy Chairman of Cadwalader, Wickersham & Taft LLP, Co-Chair of its Corporate Department and head of its Business Development Group. The following post is based on a Cadwalader publication by Louis J. Bevilacqua, Co-Chair of the firm’s Corporate Department and the head of its Mergers & Acquisitions and Securities Group.

The boards of public companies are increasingly being assessed by a hoard of short-term focused “activist” investors and an increasingly third-party-advised stockholder base that relies heavily on proxy advisory firms to make important voting decisions for them. It is estimated that over 75 percent of all shares of public companies are held in a managed fund or institutional account.

Institutional Shareholder Services (ISS) and Glass Lewis control 97 percent of the market for proxy advice; and the two dominant proxy advisors reportedly affect 38 percent of votes cast at U.S. public company shareholder meetings. Their dominance in the proxy marketplace not only affects numerous votes but, more importantly, how companies manage and deal with their shareholders. Both firms wield enormous influence without having “skin in the game.” Perhaps even more concerning, given the influence they have on public companies, the proxy advisors (i) are understaffed and therefore establish generic voting recommendations and (ii) profit from engaging in activities involving material conflicts of interest, including marketing their advisory services to many of the same companies for which they provide proxy recommendations. In addition, Glass Lewis is owned by an activist fund with an agenda.

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Shareholder Votes and Proxy Advisors: Evidence from Say on Pay

Fabrizio Ferri is an Assistant Professor of Accounting at Columbia University. An earlier version of the empirical study mentioned in this post was previously discussed on the Forum here.

In our paper, Shareholder Votes and Proxy Advisors: Evidence from Say on Pay, which was recently accepted for publication at the Journal of Accounting Research, my co-authors (Yonca Ertimur of the University of Colorado at Boulder and David Oesch of the University of St. Gallen) and I examine the economic role of proxy advisors. As non-binding shareholder votes have come to increasingly affect firms’ governance practices, there has been growing interest in understanding the value of proxy advisors’ recommendations, a key driver of shareholder votes.

To shed light on this question, we follow the entire process surrounding proxy advisor activities and examine the analyses underlying proxy advisor recommendations, how firms, stock prices and voting shareholders respond to the release of these recommendations, firms’ reactions to the votes triggered by them and, ultimately, whether they have an impact on firm value. The setting we use for our examination is based on the analyses provided by the two most influential proxy advisors, Institutional Shareholder Services (ISS) and Glass Lewis & Co. (GL) to arrive at voting recommendations for the non-binding shareholder vote on executive pay mandated by the Dodd-Frank Act in 2010, commonly known as say-on-pay (SOP).

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Towards Board Declassification in One-Hundred S&P 500 and Fortune 500 Companies

Editor’s Note: Lucian Bebchuk is the Director of the Shareholder Rights Project (SRP), Scott Hirst is the SRP’s Associate Director, and June Rhee is the SRP’s Counsel. The SRP, a clinical program operating at Harvard Law School, works on behalf of public pension funds and charitable organizations seeking to improve corporate governance at publicly traded companies, as well as on research and policy projects related to corporate governance. Any views expressed and positions taken by the SRP and its representatives should be attributed solely to the SRP and not to Harvard Law School or Harvard University. The work of the SRP has been discussed in other posts on the Forum available here.

In a news alert released yesterday, the Shareholder Rights Project (SRP), working on behalf of SRP-represented investors, announced the substantial results of the work by the SRP and SRP-represented investors during 2012 and in 2013, the SRP’s first two years year of operations. (The results reported below reflect 2013 outcomes through the end of October 2013.)

As discussed in more detail below, major results obtained include the following (for full details on all outcomes see the SRP’s preliminary 2012-2013 Report released yesterday):

  • 99 S&P 500 and Fortune 500 companies (see more details here) have entered into agreements to move toward declassification;
  • 79 S&P 500 and Fortune 500 companies (listed here) have declassified their boards; these companies have aggregate market capitalization exceeding one trillion dollars, and represent about two-thirds of the companies with which engagement took place;
  • 58 successful declassification proposals (listed here), with average support of 81% of votes cast; and
  • Proposals by SRP-represented investors represented over 50% of all successful precatory proposals by public pension funds and over 20% of all successful precatory proposals by any proponents.

Expected Impact by End of 2014: As a result of these outcomes and the ongoing work of the SRP and SRP-represented investors, it is estimated that, by the end of 2013, the work of the SRP and SRP-represented investors will have resulted in:

  • Close to 100 board declassifications by S&P 500 and Fortune 500 companies;
  • Declassification of the boards of over 60% of the S&P 500 companies that had classified boards as of the beginning of 2012; and
  • A decrease in the incidence of classified boards among S&P 500 companies to less than 10%.

Below are further details about these substantial results:

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Harnessing Crowdfunding to Help Small Businesses, While Protecting Investors

Luis A. Aguilar is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on Commissioner Aguilar’s statement at a recent open meeting of the SEC; the full text is available here. The views expressed in the post are those of Commissioner Aguilar and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

Today [Oct. 23, 2013], the Commission is proposing new rules to implement Title III of the JOBS Act, which exempts qualifying crowdfunding transactions from the registration and prospectus delivery requirements of the Securities Act. The new Regulation Crowdfunding is expected to be used primarily by small companies. As is well known, although personal savings is the largest source of capital for most start-ups, external financing is very important to many small and medium-sized businesses. Unfortunately, as is also well known, many small businesses have difficulty finding external capital. It is worth noting that the need for outside investment is even greater among minority entrepreneurs, who tend to have lower personal wealth than their non-minority counterparts.

Supporters of crowdfunding believe that it may offer a potential solution to the small business funding problem. Observers point to the success of existing crowdfunding services around the world, which raised almost $2.7 billion in 2012, an increase of more than 80% from the prior year.

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SEC Proposes Crowdfunding Rules Under JOBS Act

The following post comes to us from Michael Kaplan, co-head of Davis Polk’s global Capital Markets Group, and is based on a Davis Polk client memorandum.

On October 23, 2013, the Securities and Exchange Commission proposed rules under the JOBS Act that would permit startups and other businesses to raise investment capital through “crowdfunding”—the process of seeking relatively small investments from a broad group of investors via the Internet. Crowdfunding has historically not been used to raise investment capital (as opposed to being used, for example, to solicit donations) because offers and sales of securities to the public generally require compliance with the registration requirements of the Securities Act of 1933.

The proposed rules provide a limited exemption from the Securities Act registration requirements in order to—

  • permit companies to raise investment capital through crowdfunding, up to certain offering-size and per-investor dollar thresholds;
  • require disclosure from companies raising capital; and
  • create a regulatory framework for intermediaries that facilitate crowdfunding transactions.

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Hedge Funds—A New Era of Transparency and Openness

Mary Jo White is Chair of the U.S. Securities and Exchange Commission. This post is based on Chair White’s remarks to the Managed Funds Association Outlook 2013 Conference; the full text, including footnotes, is available here. The views expressed in this post are those of Chair White and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

Private funds, including hedge funds, play a critical role in capital formation, and are influential participants in the capital markets. And, perhaps more than ever before, the hedge fund industry as a whole is experiencing dynamic change—moving from what some would say was a secretive industry, to a widely-recognized and influential group of investment managers.

Today [Oct. 18, 2013], I want to focus on this change within your industry, as well as on what the SEC must do as the primary regulator in this space.

There is little doubt that hedge funds have entered a new era of transparency and public openness—a transformation that I believe will benefit investors, the public and regulators. And, one that I believe will ultimately and significantly redound to your benefit as well.

It is a substantial and fairly sudden change brought on as a result of two recent and significant pieces of legislation: the Dodd-Frank Act and the JOBS Act. Although both are designed to promote additional transparency, they do so from different, but complementary perspectives.

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Out of Context—Delaware Clarifies on “Weak” Fairness Opinions

Daniel Wolf is a partner at Kirkland & Ellis focusing on mergers and acquisitions. The following post is based on a Kirkland memorandum by Mr. Wolf and Matthew Solum. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

A footnote in a recent Delaware decision should relieve some of the anxiety felt in the investment banking community that the courts were inviting plaintiffs to allege fiduciary duty breaches by a target board in any sale where the fairness opinion analysis could be perceived as “weak”.

In the never-ending quest to construct claims to attack virtually every announced public M&A transaction, plaintiff attorneys continuously seek to exploit new angles that appear to gain any amount of traction with the Delaware courts. In a May 2013 decision in Netspend, the court found that the plaintiffs had shown a likelihood of success on the merits of a Revlon claim arising out of a single-bidder sale process. Among the factors cited by VC Glasscock as giving rise to the likely breach of fiduciary duties was the board’s reliance on what he termed a “weak” fairness opinion. The court noted that the deal price of $16 was well below the valuation range implied by the financial adviser’s discounted cash flow (DCF) analysis ($19.22 to $25.52), although within the range of values implied by the other two primary methodologies (comparable companies and comparable transactions, both of which the court discounted because of the lack of similarities to the precedents cited).

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Empiricism and Experience; Activism and Short-Termism; the Real World of Business

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 that replies to a post published by Professor Lucian Bebchuk, available here, which in turn responds to two Wachtell Lipton memoranda posted by Martin Lipton, available on the Forum here and here. These memoranda criticize the recently-issued empirical study by Bebchuk, Brav, and Jiang on the long-term effects of hedge fund activism. The study is available here, and its results are summarized in a Forum post and in a Wall Street Journal op-ed article.

Harvard Law School Professor Lucian Bebchuk believes that shareholders should be able to control the material decisions of the companies they invest in. Over the years, he has written numerous articles expressing this view, including a 2005 article urging that shareholders should have the power to initiate a shareholder referendum on material corporate business decisions. In addition to his writings and speeches, Prof. Bebchuk has established and directs the Shareholder Rights Project at Harvard Law School for the purpose of managing efforts to dismantle classified boards and do away with other charter or bylaw provisions that restrain or moderate shareholder control of corporations (see “Harvard’s Shareholder Rights Project is Wrong” and “Harvard’s Shareholder Rights Project is Still Wrong”). In addition, Prof. Bebchuk has been at the forefront in arguing to the SEC that, despite the specific action of Congress in 2010 to empower the SEC to adopt a rule to require fair and prompt public disclosure of accumulations of shares by activist hedge funds and other blockholders, the SEC should not do so because it would limit the ability of activist hedge funds to attack corporations. In short, Prof. Bebchuk believes that shareholders should have the power to control the fundamental decisions of corporations—even those shareholders who bought their shares only a few days or weeks before they sought to assert their power, and regardless of whether their investment objective is short-term trading gains instead of long-term value creation.

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Surrender in the Forum Selection Bylaw Battle

Theodore N. Mirvis is a partner in the Litigation Department at Wachtell, Lipton, Rosen & Katz. The following post is based on a Wachtell Lipton memorandum by Mr. Mirvis, William Savitt, and Ryan A. McLeod.

Earlier this month, the stockholder plaintiffs who unsuccessfully challenged the legality of forum selection bylaws in the Court of Chancery dropped their appeal to the Delaware Supreme Court. This capitulation leaves Chancellor Strine’s well-reasoned June 2013 decision in the Chevron case—holding that directors have the power and authority to adopt bylaws limiting the courts in which stockholder internal-affairs litigation may be filed—as the last word on the subject. Affirmance by the Supreme Court was widely expected. That would have been a welcome answer to those who still harbor doubt on the issue. The plaintiffs’ decision to dismiss their appeal only underscores the incontestability of the Chancellor’s ruling. And that surrender should not diminish the significant advance that the forum selection bylaw represents as a potential solution to the epidemic of duplicative, multi-jurisdictional stockholder litigation.

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Bankruptcy Court Denies $20 Million Severance for American Airlines CEO, Again

The following post comes to us from Alan W. Kornberg, partner and chair of the Bankruptcy and Corporate Reorganization Department at Paul, Weiss, Rifkind, Wharton & Garrison LLP, and is based on a Paul Weiss client memorandum.

For the second time in six months, Judge Sean H. Lane of the United States Bankruptcy Court for the Southern District of New York declined to approve a $20 million severance payment to Thomas Horton, Chief Executive Officer of AMR Corporation. Earlier this year, as described in our April 18, 2013 client alert (discussed here), Judge Lane reviewed and denied the Horton severance payment as part of the $11 billion merger of US Airways and AMR Corporation but he left open the possibility—without expressing a view—of pursuing such a payment under the chapter 11 plan. In a September 13, 2013 decision, Judge Lane reviewed the same $20 million severance payment, this time included as part of AMR Corporation’s plan of reorganization, and, while confirming the plan of reorganization, again denied the severance payment. [1]

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