Monthly Archives: June 2018

Weekly Roundup: June 8-June 14, 2018

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This roundup contains a collection of the posts published on the Forum during the week of June 8-June 14, 2018.

The Enforceability of Employment Arbitration Agreements

Cost of Experimentation and the Evolution of Venture Capital

Implementation of MFW Standard in New York

Index Fund Stewardship

Rolling Back the Dodd-Frank Reforms

Stock Buyouts and Corporate Cashouts

Marking to Market Versus Taking to Market

The Big Thumb on the Scale: An Overview of the Proxy Advisory Industry

The Big Thumb on the Scale: An Overview of the Proxy Advisory Industry

David F. Larcker is James Irvin Miller Professor of Accounting and Brian Tayan is a Researcher with the Corporate Governance Research Initiative at Stanford Graduate School of Business; and James R. Copland is the director of the Manhattan Institute’s Center for Legal Policy. This post is based on their recent paper.

Proxy advisory firms have significant influence over the voting decisions of institutional investors and the governance choices of publicly traded companies. However, it is not clear that the recommendations of these firms are correct and generally lead to better outcomes for companies and their shareholders. We recently published a paper on SSRN (“The Big Thumb on the Scale: An Overview of the Proxy Advisory Industry”) that provides a comprehensive review of the proxy advisory industry and the influence of these firms on voting behavior, corporate choices, and outcomes, and it outlines potential reforms for the industry. [1]

Shareholder Voting


The Main Street Investors Coalition is an Industry-Funded Effort to Cut Off Shareholder Oversight

Nell Minow is Vice Chair of ValueEdge Advisors.

Here’s a tip from a long-time Washington DC lawyer: the more folksy or patriotic the name of the group, the more likely that it is funded by people who are promoting exactly the opposite of what it is trying to pretend to be. And thus we have the Main Street Investors Coalition, which bills itself as “bring[ing] together groups and individuals who have an interest in amplifying the voice of America’s retail investor community.”

In reality, it is a corporate-funded group with no real ties to retail investors, and its advocacy is as fake as its name. MSIC uses inflammatory language, unsupported assertions, and out-and-out falsehoods to try to discredit the institutional investors who file and support non-binding shareholder proposals. While these proposals are filed at a very small fraction of publicly traded companies and even a 100 percent vote does not require the company to comply, somehow, this very foundational aspect of free market checks and balances is so overwhelming a prospect to corporate executives that they are unable to provide a substantive response and instead establish what in Washington is referred to as an “astroturf” (fake grassroots) organization, setting up a false dichotomy between the interests of large and small shareholders.


Board Ready: Shareholder Activism, Corporate Governance and the Hunt for Long-Term Value

Sabastian V. Niles is a partner at Wachtell, Lipton, Rosen & Katz, focusing on rapid response shareholder activism and preparedness, takeover defense and corporate governance. This post is based on a Wachtell Lipton memorandum by Mr. Niles.

Related research from the Program on Corporate Governance includes The Myth that Insulating Boards Serves Long-Term Value by Lucian Bebchuk (discussed on the Forum here); The Long-Term Effects of Hedge Fund Activism by Lucian Bebchuk, Alon Brav, and Wei Jiang (discussed on the Forum here); and Who Bleeds When the Wolves Bite? A Flesh-and-Blood Perspective on Hedge Fund Activism and Our Strange Corporate Governance System by Leo E. Strine, Jr. (discussed on the Forum here).

As the spotlight on boards, management teams, corporate performance and governance intensifies, as articles like the Bloomberg and Fortune profiles of Elliott Management (“The World’s Most Feared Investor—Why the World’s CEOs Fear Paul Singer” and “Whatever It Takes to Win—How Paul Singer’s Hedge Fund Always Wins”) and other activist investors become required reading in every boardroom and C-suite, and as activist campaigns against successful companies of all sizes increase worldwide, below are fifteen themes expected to impact boardroom, CEO and investor behavior and decision-making in the coming years.

  1.  The CEO, the Board and the Strategy.
  2.  Activism Preparedness Grows Up.
  3.  Companies Standing Up, Playing Offense and Showing Conviction without Capitulation.
  4.  Activists Standing Down.
  5.  “Shock, Awe & Ambush” Meets the Power of Behind the Scenes Persuasion.
  6.  Better Index IR and Not Taking the Passives (or Other Investors) for Granted.
  7.  Quarterly Earnings Rituals.
  8.  Embracing the New Paradigm and Long-Termism.
  9.  Convergence on ESG and Sustainability.
  10. Dealing with the Proxy Advisory Firms.
  11. Board Culture, Corporate Culture and Board Quality.
  12. Capital Allocation.
  13. Directors as Investor Relation Officers.
  14. The General Counsel as Investor Relations Officer.
  15. The Nature of Corporate Governance.


Marking to Market Versus Taking to Market

Guillaume Plantin is Professor at Sciences Po and Jean Tirole is Chairman at the University of Toulouse School of Economics. This is post is based on their recent article, forthcoming in the American Economic Review.

Accounting statements are the primary source of verified information that firms provide to their stakeholders, and therefore an important ingredient of corporate governance. Accounting measurements are in particular explicit inputs in executive compensation contracts, debt covenants, and regulations such as prudential rules for financial institutions. They also play a more implicit but pervasive role in the enforcement of stakeholders’ rights during events that are defining for corporations, such as takeovers, proxy contests, bankruptcy procedures, or rounds of venture-capital and private-equity financing.

Amidst a global debate that has been raging for years, accounting conventions have evolved from the use of historical costs towards “fair-value” measurements of assets and liabilities. The International Accounting Standard Board defines fair value as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date”. This contrasts with historical-cost accounting whereby, broadly, balance-sheet items remain recorded at their entry value instead of reflecting all relevant data accruing from markets for similar items.


Stock Buyouts and Corporate Cashouts

Robert J. Jackson, Jr. is a Commissioner at the U.S. Securities and Exchange Commission. The following post is based on Commissioner Jackson’s recent public statement, available here. The views expressed in the post are those of Commissioner Jackson and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

Related Program research includes Paying for Long-Term Performance by Lucian Bebchuk and Jesse Fried (discussed on the Forum here); The Wages of Failure: Executive Compensation at Bear Stearns and Lehman 2000-2008 by Lucian Bebchuk, Alma Cohen, and Holger Spamann (discussed on the Forum here); Insider Trading Via the Corporation by Jesse Fried (discussed on the Forum here); and Short-Termism and Shareholder Payouts: Getting Corporate Capital Flows Right by Jesse Fried and Charles Wang (discussed on the Forum here).

Thank you so much, Neera, for that very kind introduction. I’ve long admired all that you and everyone here at the Center for American Progress do to promote a progressive economic agenda. And I share your commitment to making sure our markets are safe and efficient—and fair for all Americans. So it’s a real honor to be with you here today. [1]

I also want to thank my friend Andy Green, who in addition to being Managing Director of Economic Policy here at CAP, has been a critical source of wisdom for me since my swearing in at the Commission back in January.

Today [June 11, 2018], I’d like to share a few thoughts about corporate stock buybacks—and some research produced by my staff that raises significant new questions about this activity. As Neera mentioned, I’m a recovering researcher. Before I was appointed to the SEC, I was a law professor who spent most of my time thinking about how to give corporate managers incentives to create sustainable long-term value. I’d often ask my students: are we making sure that executive pay gives managers reason to invest in the long-term development of their workforce and their communities? Or are we paying executives to pursue short-term stock-price spikes rather than long-term growth?

Little did I know that, so soon into my tenure, I’d have a sobering case study to put these questions to the test. That’s because the Trump tax bill, promising to bring overseas corporate cash home, became law last December.

Rolling Back the Dodd-Frank Reforms

Mark V. Nuccio is partner and Richard Loewy is counsel at Ropes & Gray LLP. This post is based on a Ropes & Gray publication by Mr. Nuccio, Mr. Loewy, and Gideon Blatt.

On May 24, 2018, President Trump signed into law the Economic Growth, Regulatory Relief, and Consumer Protection Act (the “Act”), marking the first set of much anticipated roll-backs of the Dodd-Frank Act of 2010. Although heralded in the media as a dramatic step away from regulatory reforms introduced by Dodd-Frank, the changes included in the Act will generally have the greatest impact on small banks. However, in the coming weeks, financial regulators are expected to unveil proposed revisions to the Volcker Rule regulations that are expected to have a more significant impact on large banking institutions.


Index Fund Stewardship

Lucian BebchukAlma Cohen, and Scott Hirst teach at Harvard Law School and are affiliated with its corporate governance program. This post is based on their article, The Agency Problems of Institutional Investors.

In an article published in the American Economic Association’s Journal of Economic PerspectivesThe Agency Problems of Institutional Investors (Bebchuk, Cohen and Hirst (2017) or “BCH”), we put forward and applied an analytical framework for understanding the monitoring and engagement decisions made by index funds. (Our article also extend the framework to actively managed funds). In light of the current policy discussions regarding the rise of index investing, this post discusses some of the implications of our article’s results and conclusions for this discussion.

A significant body of recent work has expressed serious concerns that the rise of indexing leads to increase in “common ownership” that produces anti-competitive effects (e.g., Azar, Schmalz & Tecu (2018)Elhauge (2016)Posner, Scott Morton & Weyl (2017)). These writers worry that index funds, which have substantial ownership in many companies that operate in a given industry, can induce corporate managers to act in a more anti-competitive fashion than they would do without such institutional owners. We show that this line of work fails to take into account the incentives of index fund managers that we analyze. As a result, it makes implausible assumptions regarding the extent to which index fund managers influence the business decisions of their portfolio companies. Our incentive analysis should temper the concerns of index-fund-alarmists.

At the same time, our incentive analysis should also temper the enthusiasm of those who expect large governance benefits to flow from the rise of index investment. On the view of index-fund-enthusiasts, because index funds do not have the option of exit, they have a strong incentive to improve governance and thereby improve value, and their substantial stakes in companies enable them to do so. Indeed, the leaders of the largest index fund managers have made public announcements stressing their commitment to stewardship and improving corporate governance, and these fund managers have been expanding the number of staff that are dedicated to voting and engagement.

Such governance commitments by index fund managers are encouraging, and we recognize that well-meaning index fund managers may make stewardship decisions that are superior to those predicted by an incentive calculus. However, a key premise in the fields of corporate governance and financial economics is that incentives matter. Our analysis sheds light on the structural incentive problems that impede the ability of index funds to produce governance benefits.

To give readers a sense of these problems we discuss below two structural factors that sharply limit the benefits to index fund managers from bringing about value-enhancing changes. (Among other things, our article also analyzed private costs that index fund managers bear that discourage them from seeking governance changes that the managers of portfolio companies resist; see BCH, pp. 101-104.) Our discussion below proceeds in three steps:

  • We first identify an analytical benchmark, the actions that would be optimal from the perspective of the beneficial investors in index funds;
  • We then analyze how the tiny fraction of governance-generated gains captured by index fund managers provides incentives to under-invest significantly compared to this benchmark; and
  • Finally, we analyze how the competition for investment assets among rival index fund managers provides no incentives to seek value gains.


Legislative Threat to Shareholder Rights

Dimitri T.G. Zagoroff is Content Manager and Internal Consultant at Glass, Lewis & Co. This post is based on his Glass Lewis memorandum.

Shareholder rights are once again under legislative threat.

Introduced May 10, HR 5756 would require the SEC to adjust resubmission thresholds for shareholder proposals. The language mirrors that of the Financial CHOICE Act in calling for substantial increases to the level of support required for proposals to stay on the ballot: the threshold for first-year submissions would double from 3% to 6% support; more than double from 6% to 15% for second-year, and treble from 10% to 30% in the third-year.


Implementation of MFW Standard in New York

David Berger and Amy Simmerman are partners and Nate Emeritz is Of Counsel at Wilson Sonsini Goodrich & Rosati. This post is based on a WSGR publication by Mr. Berger, Ms. Simmerman, and Mr. Emeritz, and is part of the Delaware law series; links to other posts in the series are available here.

In another significant M&A decision from the New York Supreme Court, the controlling stockholder of a Delaware corporation failed to obtain judicial deference under the so-called “MFW” framework for its merger with the corporation. The MFW framework allows a controlling stockholder transaction that would otherwise be subject to the difficult entire fairness standard of judicial review in litigation to regain the protection of the deferential business judgment rule if the transaction is properly subjected to approval by an independent committee of the board of directors and the company’s minority stockholders. [1]

This new case, In re Handy & Harman Ltd. Stockholder Litigation[2] was decided by the same judge who recently enjoined Fujifilm’s acquisition of Xerox [3] and is important reading in the context of deals that might benefit from use of the MFW framework and for related litigation over Delaware corporations outside of the Delaware Court of Chancery. The case also reflects the ongoing stream of corporate litigation occurring outside of Delaware.


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