Monthly Archives: June 2019

Irrelevance of Governance Structures

Zohar Goshen is the Jerome L. Greene Professor of Transactional Law at Columbia Law School and Doron Levit is Assistant Professor of Finance at The Wharton School of the University of Pennsylvania. This post is based on their recent paper.

The central theme in the theory of corporate governance is that allocating more control rights to shareholders will allow them to hold disloyal managers accountable and reduce agency costs. The common empirical prediction that follows is that a weak governance structure will be associated with weak firm value and performance due to high agency costs. However, a review of empirical studies of the last forty years reveals that every aspect of corporate governance that was studied yielded conflicting empirical findings as to its effect on firm value and performance. For instance: the level of cash flow rights held by management; dual-class firms; anti-takeover defenses, such as poison pills, staggered boards, and protective state legislations; hedge-fund activism; and the strength of corporate governance as measured by several indices.

Interestingly, despite the inconclusive empirical evidence, institutional investors with common ownership are consistently pushing toward strong governance structure for publicly traded firms, via, for instance, destaggering boards, limiting the use of poison pills, excluding dual-class firms from the indices, demanding mandatory sunsets for dual-class firms, and supporting hedge funds’ governance initiatives.


Post-Cyan Ruling on Discovery Stay

Vincent Sama is a partner and Brendan Gibbons is an associate at Arnold & Porter Kaye Scholer LLP. This post is based on their Arnold & Porter memorandum.

In May 15, 2019, a Connecticut Superior Court found that defendants in a claim under the Securities Act of 1933 (Securities Act) were entitled to the mandatory discovery stay pending a motion to dismiss under the Private Securities Litigation Reform Act of 1995 (PSLRA)—a significant ruling due to its reasoning and the possibility that other state courts may follow the decision.


The Securities Act states that suits brought under the Act may be filed in either state or federal courts and includes an anti-removal provision that prevents defendants from removing a case from state to federal court.

The Securities Act also allows for class-action suits. In 1995, in order “to stem perceived abuses of the class-action vehicle,” Congress amended the Securities Act and the Securities Exchange Act of 1934 (the primary mechanism for bringing anti-fraud class action suits) and enacted the PSLRA. In its discovery stay subsection, the PSLRA states: “In any private action arising under this subchapter, all discovery and other proceedings shall be stayed during the pendency of any motion to dismiss, unless the court finds, upon the motion of any party, that particularized discovery is necessary to preserve evidence or to prevent undue prejudice to that party.”


Baby on Board: Remarks before the Society for Corporate Governance National Conference

Hester M. Peirce is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on her recent remarks before the Society for Corporate Governance National Conference, available here. The views expressed in this post are those of Ms. Peirce and do not necessarily reflect those of the Securities and Exchange Commission or its staff.

A few months ago there was an article in the Washington Post about the baby on board signs that seem to be on so many cars. [1] The article’s timing was perfect because I had just seen one of those signs and remember wondering why they seemed to be making a come-back. At one point, those signs were everywhere, on almost every car. Then they seemed to disappear for a while, but now they are back. The article gave the history of the signs, which first hit rear windows in 1986, assessed the psychology behind their popularity, and reported on people’s reaction to them. The article speculates that for parents driving their infants around on dangerous roadways, these signs serve as “protective talismans.” Less superstitious parents might also use the signs to signal emergency responders in case of an accident that there is a baby in the car. Other drivers see the signs as a way of announcing to the world that you are a parent or as pleas for others to drive carefully. At bottom, the article suggests, the signs seem to reflect a jumble of parental emotions—anxiety, pride, love, and deep respect for the preciousness of life. Also reflecting a jumble of emotions, is the recent “Lady on Board” trend. Before I turn to this topic, I better give my disclaimer. The views that I represent are my own and not necessarily those of the Securities and Exchange Commission or my fellow Commissioners.


Spotlight on Boards

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 and is part of the Delaware law series; links to other posts in the series are available here.

The ever-evolving challenges facing corporate boards prompt periodic updates to a snapshot of what is expected from the board of directors of a major public company—not just the legal rules, or the principles published by institutional investors and various corporate and investor associations, but also the aspirational “best practices” that have come to have equivalent influence on board and company behavior. A very significant June decision by the Delaware Supreme Court interpreting the Caremark doctrine that limits director liability for an oversight failure to “utter failure to attempt to assure a reasonable information and reporting system exists” prompts this update. Our memo discussing the decision is available here. The Court said to “satisfy their duty of loyalty,” “directors must make a good faith effort to implement an oversight system and then monitor it” themselves.  Without more, the existence of management-level compliance programs is not enough for the directors to avoid Caremark exposure. Today, boards are expected to:


Dual-Class Shares: Governance Risks and Company Performance

Kosmas Papadopoulos is Managing Editor at ISS Analytics. This post is based on an ISS Analytics memorandum by Mr. Papadopoulos. Related research from the Program on Corporate Governance includes The Untenable Case for Perpetual Dual-Class Stock (discussed on the Forum here), and The Perils of Small-Minority Controllers (discussed on the Forum here), both by Lucian Bebchuk and Kobi Kastiel, and the keynote presentation on The Lifecycle Theory of Dual-Class Structures.

Initial public offerings of companies with dual-class shares have made headlines in recent years. An increasing number of newly listed companies have introduced classes of stock with superior voting rights, which typically allow company founders and top executives to maintain company control even as their economic stake in the business may diminish. Dual-class companies include some of the most successful and highly-valued companies in the world, such as corporate giants Facebook Inc., Alphabet Inc. (parent of Google), and Berkshire Hathaway Inc. In 2019, some of the largest U.S. IPOs involved classes of stock with superior voting rights, including ride-hailing services company Lyft Inc., social media platform Pinterest Inc., and jeans maker Levi Strauss & Co.

Many investors and corporate governance experts sound the alarm about the growing prevalence of dual-class share structures, given the potential risks that such ownership arrangements pose to common shareholders. They argue that the discrepancy between control and economic ownership reduces accountability to the economic owners of the business, entrenching management and skewing incentives. Meanwhile, proponents of the dual-class share structure contend that control is necessary to protect the company from the short-term pressures of the market and to allow management to focus on growth and long-term strategy.

In this post, we review some of the key trends in dual-class share structures in the U.S., and we examine the links between dual-class share structures with corporate governance and company performance. Based on our analysis, we highlight the following key findings:


Overview of Recent Stock Exchange Proposals

Cydney S. Posner is special counsel at Cooley LLP. This post is based on a Cooley memorandum by Ms. Posner.

Time to catch up on some of the recent proposals at the Exchanges.


Family member. Most recently, at Nasdaq, there is a new proposal to modify the definition of a “family member” for purposes of Listing Rule 5605(a)(2). The proposal would exclude “stepchildren” and domestic employees from the definition of “family member” in the context of defining director independence. Under the proposed new definition, a “family member” would mean a person’s spouse, parents, children, siblings, mothers and fathers-in-law, sons and daughters-in-law, brothers and sisters-in-law, and anyone (other than domestic employees) who shares the person’s home.

Rule 5605(a) identifies relationships that preclude a finding of director independence, including relationships involving a family member of the director. Currently, “family member” refers to a person’s spouse, parents, children and siblings, whether by blood, marriage or adoption, or anyone residing in such person’s home. “Children by… marriage” includes stepchildren. Nasdaq believes the category of “stepchildren” became a part of the definition in 2002 inadvertently when the definition was revised to simplify it—not with the intent of making any substantive change. That revision has apparently not worked out the way it was intended, particularly because, as revised, the Nasdaq definition was not consistent with the NYSE’s. Nasdaq also believes that the category of “stepchildren” may represent too attenuated a relationship for purposes of determining director independence. Nasdaq is now proposing to modify the definition to revert to the language of the rule before it was “simplified.”


Weekly Roundup: June 21–27, 2019

More from:

This roundup contains a collection of the posts published on the Forum during the week of June 21–27, 2019.

An Activist Gold Rush?

Rent-A-Center: A $1.37 BN Reminder on Reminders

The Timing of Schedule 13D

The Standard of Review for Challenged Director Compensation

Celebrity Stock Market

Do Investors Care About Carbon Risk?

OMB’s Guidance Memorandum to Independent Agencies

New SEC Interpretation of Advisers Acts

Strategies to Increase Representation of Women and Minorities—Testimony Before the Committee on Financial Services, House of Representatives

Chelsa Gurkin is Acting Director, Education, Workforce, and Income Security at the U.S. Government Accountability Office. This post is based on her recent testimony before the House of Representatives Committee on Financial Services.

I am pleased to be here today to discuss our prior work on strategies for increasing diversity on corporate boards of directors. Corporate boards take actions and make decisions that not only affect the lives of millions of employees and consumers, but also influence the policies and practices of the global marketplace. Many organizations have recognized the importance of recruiting and retaining women and minorities for key positions to improve business or organizational performance and better meet the needs of a diverse customer base. Academic researchers and others have highlighted the importance of diversity among board directors to increase the range of perspectives for decision making, among other benefits. Our prior work, however, found challenges to increasing diversity on boards and underscored the importance of identifying strategies that can improve or accelerate efforts to increase the representation of women and minorities on boards. Our reports on workforce and board diversity span multiple years and cover different industries, types of boards, and workers. These include reports examining the diversity of publicly-traded company boards (corporate boards) and the boards of federally chartered banks, such as the Federal Home Loan Banks. [1] We have also published reports on workforce diversity in the financial services and technology sectors, including representation of women and minorities in management positions, and practices to address workforce diversity challenges. [2]

Why Do Investment Funds Have Special Securities Regulation?

John Morley is a Professor of Law at Yale Law School. This post is based on his recent article, published in the Research Handbook on the Regulation of Mutual Funds (2018, William A. Birdthistle and John Morley, eds.).

America’s securities laws are generic. We have only a single body of securities law for all types of companies. The two centerpieces of American securities regulation, the Securities Act of 1933 and the Securities Exchange Act of 1934, regulate almost every industry imaginable, from software making to clothing retail to food service, banking, coal mining, insurance, for-profit higher education, hotels, book publishing, art dealing, and real estate investing. American securities regulation contains multitudes.

Except, that is, for one very special industry: the investment company industry. Unlike all other companies, mutual funds, closed-end funds, hedge funds and private equity funds have their own special securities regulatory regime in the form of the Investment Company Act of 1940. This act is administered by the Securities and Exchange Commission, the same agency that administers the other securities laws, but it imposes a different body of regulations in place of (and sometimes on top of) the generic securities regulations that apply to every other kind of company. No other large industry has a special securities regulatory scheme of this scope and magnitude. The investment company industry is one of a kind.


New SEC Interpretation of Advisers Acts

Amran Hussein, Udi Grofman, and Marco V. Masotti are partners at Paul, Weiss, Rifkind, Wharton & Garrison LLP. This post is based on a Paul Weiss memorandum by Ms. Hussein, Mr. Grofman, Mr. Masotti, Matthew Goldstein, Conrad van Loggerenberg, and Lindsey WiersmaRelated research from the Program on Corporate Governance includes The Trilateral Dilemma in Financial Regulation by Howell Jackson (discussed on the Forum here).

The SEC recently issued a final interpretation (the “Interpretation”) [1] of the federal fiduciary duty that an investment adviser owes to its clients under the Advisers Act. [2]

The SEC thought it would be beneficial to address in one release and reaffirm, and in some cases clarify, its understanding of certain aspects of the fiduciary duty. The SEC does not regard the Interpretation as new rulemaking or as the exclusive resource for understanding an investment adviser’s fiduciary duty, but rather views it as a summary of existing law in the area. While many practitioners may disagree with that assessment on various individual points in the Interpretation, the overall fiduciary duty described in the Interpretation is one that private fund advisers will find to be generally in line with their prior understandings.

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