Monthly Archives: June 2014

Proxy Advisory Firms and Corporate Governance Practices: One Size Does Not Fit All

The following post comes to us from Bill Libit, partner concentrating in corporate and securities and municipal finance at Chapman and Cutler LLP, and is based on a Chapman publication by Mr. Libit and Todd Freier.

The 2014 proxy season, like previous seasons, has provided shareholders of public US companies with an opportunity to vote on a number of corporate governance proposals and director elections. Throughout this proxy season, proxy advisory firms have provided shareholder vote recommendations “for” or “against” those proposals and “for” or to “withhold” votes for directors. Certain proxy advisory firms, such as Institutional Shareholders Services Inc. (“ISS”) and Glass, Lewis & Co., LLC (“Glass Lewis”), have also published updated corporate governance ratings reports on public companies, including evaluations of a company’s corporate governance risk profile.

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Boards of Directors, Corporate Governance and Cyber-Risks: Sharpening the Focus

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 “Cyber Risks and the Boardroom” Conference; the full text, including footnotes, 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.

I am pleased to be here and to have the opportunity to speak about cyber-risks and the boardroom, a topic that is both timely and extremely important. Over just a relatively short period of time, cybersecurity has become a top concern of American companies, financial institutions, law enforcement, and many regulators. I suspect that not too long ago, we would have been hard-pressed to find many individuals who had even heard of cybersecurity, let alone known what it meant. Yet, in the past few years, there can be no doubt that the focus on this issue has dramatically increased.

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How Foreign Firms Communicate with US Investors

The following post comes to us from Russell Lundholm, Rafael Rogo, and Jenny Li Zhang, all of the Accounting Division at the University of British Columbia.

Foreign companies that trade their equity in the US face serious obstacles. They must navigate a complex set of SEC disclosure requirements, while at the same time satisfying US investor expectations about the frequency and content of voluntary disclosures. Their home country may be far from the US, speak a different language, use different accounting rules, and offer different types of investor protection than the US, and each of these differences presents a friction that must be mitigated in order to attract US investors. Given these cultural, procedural, and linguistic differences, one might expect that the disclosures of foreign firms would be of lower quality than their US firm counter-parts. Nonetheless, in our paper, Restoring the Tower of Babel: How Foreign Firms Communicate with US Investors, forthcoming in The Accounting Review, we find that foreign firms traded in the US present more numerical data and write more readable text in the Management Discussion and Analysis (MD&A) section of their 10-K, and write more readable text in their earnings press releases, than comparable US firms. More importantly, we find that the readability of text and amount of numerical data in both the MD&A and earnings press releases increase with the foreign firm’s distance from the US. Finally, we find that within a country, firms with relatively more readable disclosures attract relatively more US institutional investment.

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The Functional Regulation of Finance

Steven L. Schwarcz is the Stanley A. Star Professor of Law & Business at Duke University School of Law.

How should we think about regulating our dynamically changing financial system? Existing regulatory approaches have two temporal flaws. The obvious flaw, driven by politics and human nature, is that financial regulation is overly reactive to past crises. The Dodd-Frank Act, for example, puts much weight on reforming mortgage financing.

There is, however, a less obvious flaw: that financial regulation is normally tethered to the financial architecture, including the distinctive design and structure of financial firms and markets, in place when the regulation is promulgated. This type of grounded regulation can have value as long as it is monitored and updated as needed to adapt to changes in the financial architecture. Yet without that monitoring and updating, it can quickly become outmoded—such as occurred in 2008 when the pre-crisis financial regulatory framework, based on the dominance of bank-intermediated funding, failed to address a collapsing financial system in which the majority of funding had become non-bank intermediated.

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Board Oversight of Compliance Programs

The following post comes to us from Jeffrey M. Kaplan, partner at Kaplan & Walker LLP, and is based on an article by Mr. Kaplan and Rebecca Walker that first appeared in Compliance & Ethics Professional; the full article is available here.

Strong oversight by boards of directors—meaning typically by authorized board committees—of compliance-and-ethics (“C&E”) programs can be essential to promoting legal and ethical conduct within companies. In a variety of ways, board oversight should help to ensure that a program is effective and that directors and companies are otherwise meeting applicable C&E-related legal standards. Nonetheless, this is an area of uncertainty for many boards and managers, and can even be a struggle for some.

In Reporting to the Board on the Compliance and Ethics Program, published in the June issue of Compliance & Ethics Professional, we examine various aspects of such oversight from a law and good-practices perspective.

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Asset Manager SIFI Designation: Enter SEC

The following post comes to us from Dan Ryan, Leader of the Financial Services Advisory Practice at PricewaterhouseCoopers LLP, and is based on a PwC publication.

Asset managers who tuned in to last month’s Financial Stability Oversight Council’s (“Council”) conference regarding the industry’s potential systemic importance heard no surprises. The US Treasury Department and regulators did not defend the September 2013 report by the Office of Financial Research (“OFR Report”) which had suggested that the industry’s activities as a whole were systemically important. [1] Rather, officials continued to emphasize that they hold no predisposition toward designation. It was left to academics at the conference to argue that asset managers could pose systemic risk.

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The Extraterritorial Effect of the EU Regulation of OTC Derivatives

The following post comes to us from Alexandria Carr, Of Counsel with the Financial Services Regulatory & Enforcement group at Mayer Brown LLP, and is based on a Mayer Brown Legal Update; the complete publication, including footnotes, is available here.

1. On 10 April 2014 some of the legislation that provides for the extraterritorial effect of the European Markets Infrastructure Regulation (“EMIR”) came into force. The remaining legislation will come into force on 10 October 2014. This post considers this legislation and the counterparties to which it applies. It also considers whether some counterparties might be able to avoid the extraterritorial effect as a result of the European Commission making an equivalence decision in respect of third country jurisdictions. It considers the European Securities and Market Authority (“ESMA”) advice to date on the equivalence of the regulatory regimes in the US, Japan, Australia, Canada, Hong Kong, India, Singapore, South Korea and Switzerland and notes that even in the US ESMA did not find full equivalence. Finally this post also considers the requirements that third country central counterparties (“CCPs”) and trade repositories must meet in order respectively to provide clearing services to their EU clearing members and to provide reporting services to EU counterparties which enable those counterparties to satisfy their clearing reporting requirements under EMIR.

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Corporate Distress and Lobbying: Evidence from the Stimulus Act

The following post comes to us from Manuel Adelino of the Finance Area at Duke University, and Serdar Dinc of the Department of Finance and Economics at Rutgers University.

In our paper, Corporate Distress and Lobbying: Evidence from the Stimulus Act, forthcoming in the Journal of Financial Economics, we contribute to the long literature on corporate behavior in distress, as well as to studies of the consequences of financial distress. Using the financial crisis in 2008 as a negative shock to nonfinancial firms’ financial conditions, we document a novel fact on the relation between firms’ financial health and their lobbying activities. We compare the lobbying activities of firms before and after the onset of the crisis and find that firms with weak financial health—as measured by their CDS spread—lobby more. This result is robust to controlling for such firm-specific variables as size, profitability, and market-to-book ratio, all the firm characteristics that remain unchanged during the short window before and during the passage of the stimulus act, sector-wide time trends, and the adoption of different time windows for comparison in the difference-in-differences framework.

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California Superior Court Enforces Exclusive Forum Bylaw

The following post comes to us from Sullivan & Cromwell LLP, and is based on a Sullivan & Cromwell publication by Glen T. Schleyer, Joseph B. Frumkin, John L. Hardiman, and Alexandra D. Korry. The complete publication, including footnotes and annex, is available here. 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.

Following the Delaware Court of Chancery’s decision in July 2013 upholding the validity of exclusive forum bylaws, a number of corporations, including over two dozen S&P 500 companies, amended their bylaws to include these provisions, and the provisions were commonly included in the charters or bylaws of companies in initial public offerings. Many public companies, however, determined to take a wait-and-see approach, in order to assess whether non-Delaware courts would enforce the bylaw and whether companies that adopted the bylaw received negative investor feedback in the 2014 proxy season or otherwise.

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The Executive Turnover Risk Premium

The following post comes to us from Florian Peters, Assistant Professor of Finance at the University of Amsterdam and Alexander Wagner, Professor of Finance at the University of Zurich.

In our forthcoming Journal of Finance paper, The Executive Turnover Risk Premium, we make the simple point that forced turnover risk explains an important part of the cross-sectional variation of compensation for the CEOs of public U.S. corporations. The empirical magnitude of the turnover risk premium—about 7% greater subjective compensation for a one percentage point increase in turnover risk—is in line with calibrated theoretical predictions.

To identify the turnover risk premium, we use sources of job risk that are arguably outside the CEO’s control such as changing industry conditions. This strategy relies on the idea that, in practice, firing occurs not only when the CEO reveals low general ability. Rather, a board may fire a CEO when industry conditions change in such a way that his skill set no longer matches the new industry requirements. It is this kind of exogenous risk exposure that should plausibly be compensated in CEO pay.

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