Monthly Archives: March 2020

Is Managerial Entrenchment Always Bad and Corporate Social Responsibility Always Good?

Ruth V. Aguilera is Professor at the D’Amore-McKim School of Business at Northeastern University. This post is based on an paper, forthcoming in Strategic Management Journal, by Professor Aguilera; Jordi Surroca, Associate Professor of Management at Universidad Carlos III de Madrid; Kurt A. Desender, Associate Professor of Management at Universidad Carlos III de Madrid; and Josep A. Tribó, Professor of Corporate Finance at Universidad Carlos III de Madrid. Related research from the Program on Corporate Governance includes What Matters in Corporate Governance? by Lucian Bebchuk, Alma Cohen, and Allen Ferrell and Socially Responsible Firms by Alan Ferrell, Hao Liang, and Luc Renneboog (discussed on the Forum here).

Corporate governance research is highly concerned with how to ensure that senior management acts in the benefit of the firm’s shareholders. Through the adoption of corporate governance provisions or through the engagement in CSR, scholars predict there will be less room for managerial opportunism and stronger incentives for generating shareholder value. The empirical evidence has, however, yield mixed findings regarding the influence of takeover provisions, CSR, and other governance arrangements on firm value. Some research attributes these inconclusive findings to the independent evaluation of the impact of each provision, neglecting the configurational relationship of these arrangements as well as where they are embedded (Aguilera, Desender, Bednar, & Lee, 2015; Aguilera, Filatotchev, Gospel, & Jackson, 2008; Misangyi & Acharya, 2014). Building on the governance bundle literature, we argue that bundles of governance practices interact with the institutional system to create or destroy firm value. In particular, we propose that each set of countries in an institutional system, has its own bundle of interrelated corporate arrangements that reinforce one another by generating shareholder value if they are adopted with the same rationale (i.e., they are coherent).

In our paper entitled, Is managerial entrenchment always bad and corporate social responsibility always good? a cross-national examination of their combined influence on shareholder value, forthcoming in Strategic Management Journal, we explore the effectiveness of governance bundles by focusing on the interplay between managerial entrenchment provisions and CSR activities. We argue that their combined effect on firm value is explained by their complementarity (or lack thereof), which in turn depends on the governance rationale behind their adoption—rationales that may vary from country to country. When managerial entrenchment provisions and CSR are adopted with the same rationale (i.e., they are coherent between them), they will work together as complements by mutually reinforcing each other to enhance firm value. Yet, as each national institutional system may possess a distinctive dominant governance logic (Aguilera, Judge, & Terjesen, 2018; Crossland & Hambrick, 2011), we expect this coherence between managerial entrenchment provisions and CSR to be fundamentally different across countries, therefore affecting firms’ ability to create value differently.


New Report on California Board Gender Diversity Mandate

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

As required by SB 826, California’s board gender diversity law, the California Secretary of State has posted its March 2020 report on the status of compliance with the new law. The report combines information gathered in the July 2019 report (see this PubCo post) with data for the additional six-month period of July 1, 2019 through December 31, 2019. The report counts 625 publicly held corporations that identified principal executive offices in California in their 2019 10-Ks, but indicates that only 330 of these “impacted corporations” had filed a 2019 California Publicly Traded Corporate Disclosure Statement, which would reflect their compliance with the board gender diversity requirement. Of the 330 companies that had filed, 282 reported that they were in compliance with the board gender diversity mandate.

As you may recall, California’s board gender diversity legislation requires that publicly held companies (defined as corporations listed on major U.S. stock exchanges) with principal executive offices located in California, no matter where they are incorporated, include minimum numbers of women on their boards of directors. Under the new law, each of these publicly held companies was required to have a minimum of one woman on its board of directors by the close of 2019. That minimum increases to two by December 31, 2021, if the corporation has five directors, and to three women directors if the corporation has six or more directors. Notably, the statute provides that a “female director having held a seat for at least a portion of the year shall not be a violation.” (See this PubCo post.)


Executive Pay Matters—Say-on-Pay 2019 Annual Update

Laura Elmore and Brian Myers are consultants and Henry Mbom is a senior associate at Willis Towers Watson. This post is based on their Willis Towers Watson memorandum. Related research from the Program on Corporate Governance includes Paying for Long-Term Performance by Lucian Bebchuk and Jesse Fried (discussed on the Forum here).

1. Say-on-pay (SoP) voting results are very similar to the prior year results

  • Absolute number of companies failing the SoP vote increased by one from 2018 (56) to 2019 (57), while the overall failure rate (3%) held steady
  • Average support for SoP proposals has remained generally flat at around 90% for the past nine years

2. Forty companies failed the SoP vote for the first time in 2019, representing 70% of total failed votes

Top three issues of concern for first-time failures were:

  • Majority of long-term incentives (LTI) not performance-based
  • Substantial compensation increase from prior year
  • Lack of rigor of incentive plan metrics

3. Compensation committee members continue to be held accountable for shareholder engagement efforts and response to shareholder concerns

21% of compensation committee members at companies that failed the SoP vote also received a negative vote recommendation

  • The difference between a positive and negative vote recommendation for a compensation committee member is 35 percentage points

4. Companies can recover after a failed SoP vote: 75% of companies that failed in 2018 passed in 2019

  • The average year-over-year increase in shareholder support was 34 percentage points for companies with a failed SoP result in 2018
  • Most reported adding or changing performance metric(s), adjusting compensation mix, and/or increasing clarity and transparency in Compensation Discussion and Analysis (CD&A) disclosures


The Long Rise and Quick Fall of Appraisal Arbitrage

Wei Jiang is the Arthur F. Burns Professor of Free and Competitive Enterprise at Columbia Business School; Tao Li is Assistant Professor of Finance at University of Florida Warrington College of Business; and Randall S. Thomas is John S. Beasley II Chair in Law and Business at Vanderbilt Law School. This post is based on their recent paper, and is part of the Delaware law series; links to other posts in the series are available here. Related research from the Program on Corporate Governance includes Using the Deal Price for Determining “Fair Value” in Appraisal Proceedings (discussed on the Forum here) and Appraisal After Dell, both by Guhan Subramanian.

Appraisal is a legislatively created right for shareholders to seek a judicial determination of the fair value of their shares that they choose not to surrender in a takeover or another change-of-control transaction. For many decades, appraisal was a little used, and even frequently maligned, corporate law remedy. Beginning at the turn of the 21st century, this all changed when a group of financial investors, especially some specialized hedge funds, began filing appraisal cases to garner high returns from litigation rather than seek remedy on their pre-existing investment. Appraisal arbitrage, as it became known, grew rapidly in popularity.

Appraisal arbitrage’s success soon attracted negative attention. In 2016, the Delaware legislature amended its appraisal statute to address two major criticisms of the existing system by eliminating small shareholders’ appraisal rights and by permitting companies to pre-pay merger consideration to appraisal petitioners to avoid paying interest at a lucrative rate – 5% above the federal discount rate. In 2017, the Delaware Supreme Court issued two important decisions on DFC Global and Dell, both assigning more weights to deal prices as the primary measure of fair value. Appraisal filings plummeted soon thereafter.


2019 Developments in Securities and M&A Litigation

Roger CooperJared Gerber, and Mark McDonald are partners at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary memorandum by Mr. Cooper, Mr. Gerber, Mr. McDonald, Ryan Madden, and Suzannah Golick.


In 2019, the Supreme Court issued an important securities law decision in Lorenzo v. SEC, which clarified the scope of “scheme liability” under Rule 10b-5(a) and (c). However, the Supreme Court’s year was noteworthy more for the cases the Court declined to decide than for the cases it did decide. The Court declined to rule on several significant issues arising from the Ninth Circuit, including whether plaintiffs must show that the defendant acted with scienter when bringing claims under Section 14(e), whether foreign issuers can face liability with respect to unsponsored American Depositary Receipts under Morrison, and the standard for establishing loss causation.

The circuit and district courts also addressed several contested securities laws topics, including a significant ruling from the Tenth Circuit in SEC v. Scoville, which held that the Dodd-Frank Act permits the SEC to bring claims based on sales of securities that do not constitute domestic transactions within the meaning of Morrison. The Second Circuit also found limits to the extraterritorial reach of the CEA in Prime International Trading v. BP P.L.C. when the transactions at issue were “predominantly

With respect to M&A litigation, the Delaware Supreme Court continued to clarify its jurisprudence with respect to appraisal methodology as well as the protection MFW affords to controlled transactions. The Court also released important opinions pertaining to oversight duties for boards of directors and the fiduciary duties of activist investors. The Delaware Court of Chancery continued to see a rise in litigation pertaining to books and records demands under Section 220. It also issued decisions reflecting its continued strict enforcement of the plain language of provisions in merger agreements.


More than 1,000 Empirical Studies Apply the Entrenchment Index of Bebchuk, Cohen and Ferrell (2009)

This post relates to a Program on Corporate Governance study published by Lucian Bebchuk, Alma Cohen and Allen Ferrell, What Matters in Corporate Governance, available here and discussed on the Forum hereLucian Bebchuk is James Barr Ames Professor of Law, Economics, and Finance and Director of the Program on Corporate Governance, Harvard Law School. Alma Cohen is Professor of Empirical Practice, Harvard Law School. Allen Ferrell is Harvey Greenfield Professor of Securities Law, Harvard Law School.

In a study issued by the Harvard Law School Program on Corporate Governance, Bebchuk, Cohen, and Ferrell (2009), put forward a corporate governance index – the Entrenchment Index (E Index). The study has had substantial influence on subsequent research work. According to Google Scholar citations data, as of the end of 2019, the study was cited by 2,539 research papers; a list of these papers is available here. Furthermore, a review of these research papers has identified more than 1,000 studies that applied and empirically used the E index.

A list of 1,002 empirical studies using the E index in their empirical analysis is available here. The list includes many empirical studies published in:

  • Leading journals in finance such as The Journal of Finance, The Journal of Financial Economics, and The Review of Financial Studies;
  • Leading journals in economics such as the Journal of Political Economy and the Review of Economics and Statistics;
  • Leading journals in law and economics such as the Journal of Law and Economics and Journal of Law, Economics, and Organization; and
  • Leading journals in accounting, such as the Journal of Accounting and EconomicsJournal of Accounting and Public Policy, and The Accounting Review. 

The Bebchuk, Cohen, & Ferrell study was first circulated in 2004 and was published in 2009 in the Review of Financial Studies. The study identified six corporate governance provisions as especially important, demonstrated empirically the significance of these provisions for firm valuation, and put forward an “Entrenchment Index” based on these six provisions.

The study putting forward the Entrenchment Index is available here.

To Lead or Not to Lead: Contrasting Recent Statements by SEC and ESMA Chairs on ESG Disclosure

Donna Mussio is corporate special counsel, Mary Beth Houlihan is corporate special counsel resident, and Taylor Souter is a special counsel at Fried, Frank, Harris, Shriver & Jacobson LLP. This post is based on their Fried Frank memorandum.

The topic of environmental, social and governance (“ESG”) or sustainability disclosure has attracted considerable attention from investors, reporting companies and regulators in recent years. Recent statements by the Chairs of the Securities and Exchange Commission (“SEC”) and the European Securities and Markets Authority (“ESMA”) reflect the starkly different views by securities regulators in the United States and Europe on the current role of market regulators in promoting such ESG disclosure.

In the United States, where the SEC adheres to a principles-based disclosure regime based on materiality, there are few line-item or explicit mandatory ESG disclosure requirements. Instead, ESG disclosure is typically made pursuant to voluntary frameworks in corporate sustainability reports, websites or other channels outside of reports filed under the Securities Exchange Act of 1934.

By contrast, since the 2014 Non-Financial Reporting Directive (the “NFRD”), [1] the European Union and the United Kingdom have mandated environmental and social disclosure by certain large companies and continue to propose and enact regulatory requirements aimed at increasing and standardizing ESG disclosure in periodic reporting and offering documents published in the European Union and the United Kingdom.


Board and Director Assessments that Matter

Rusty O’Kelley III and Justus O’Brien are co-leaders of the firm’s Board & CEO Advisory Partners and Laura Sanderson is a consultant at Russell Reynolds Associates. This post is based on a Russell Reynolds memorandum by Mr. O’Kelley, Mr. O’Brien, Ms. Sanderson, and PJ Neal.

Many observers have been vocal in their perception of a decline in director quality in recent years. According to the 2019 PwC Corporate Directors Survey, 49 percent of US directors say one or more fellow board members should be replaced, and 23 percent say two or more should go. [1] These numbers are up from both 2017 and 2018. If that perception is true, then one must question why boards do not do a better job undertaking assessments and acting on their findings.

One issue to begin with is that not enough boards are doing impactful board and individual director assessments. While most companies have a mechanism for collective board assessment, just one in seven Russell 3000 companies, and fewer than one in three S&P 500 companies, have an annual review process for individual directors. The majority of boards are failing to fully implement even a basic approach to evaluating director performance. Unfortunately, among those that do, many use a survey-centric approach, with a director survey being the primary data-gathering effort. Directors often fail to give these surveys the real candor and insights required. The result is that a growing number of institutional investors and governance experts are acknowledging that assessments which rely primarily on electronic surveys are close to worthless.


Canadian Proxy Contest Study

Brad Freelan is a partner and Dana Gregoire is an associate at Fasken Martineau DuMoulin LLP. This post is based on their Fasken memorandum. Related research from the Program on Corporate Governance includes The Myth of the Shareholder Franchise by Lucian Bebchuk (discussed on the Forum here); Private Ordering and the Proxy Access Debate by Lucian Bebchuk and Scott Hirst (discussed on the Forum here); Universal Proxies by Scott Hirst (discussed on the Forum here); and Does Shareholder Proxy Access Improve Firm Value? Evidence from the Business Roundtable Challenge by Bo Becker, Daniel Bergstresser, and Guhan Subramanian (discussed on the Forum here).

The year 2019 saw a number of interesting developments in Canadian proxy contests. The volume of
board-related contests reached a low point. In formal contests, outcomes were split between management and dissidents, but dissidents fared much better in broadcast-only board-related contests. Unlike in previous years, most of the action occurred among mid/large cap companies, rather than primarily micro caps. The use of universal proxy cards also became more frequent, although they were used mostly by dissidents.

1. The volume of board-related contests reached a low point

After seeing a bump in the number of contests last year, 2019 saw just six board-related contests (the
lowest number since we began tracking in 2007) and two transaction-related contests. The downward
trend in the number of contests continues from the period of heightened public activity in 2007–2014.

A board-related contest involves an attempt by a dissident to have some of its own nominees elected to the target board, while a transaction-related contest involves a dissident that solicits shareholders to vote against a transaction proposed by the issuer.


Cybersecurity: An Evolving Governance Challenge

Phyllis Sumner is a partner at King & Spalding LLP; and Jonathan Day is Chief Executive and Michael Mahoney is a partner at Tapestry Networks. This post is based on a joint King & Spalding and Tapestry Networks memorandum authored by Ms. Sumner, Mr. Day, Mr. Mahoney, Zach Harmon, and Scott Ferber.

The increasing speed, miniaturization, and power of computing, as well as the connectivity of billions of devices, has led to deep change for even the most basic of industrial firms. “We are fast becoming a tech company,” said a director of one such enterprise. [1] “If Amazon were to own our company, how would they reinvent us?” Technologies such as 3D printing, 5G communication, augmented reality, and artificial intelligence offer alluring opportunities to the leaders of large, global firms. At the same time, they introduce unprecedented risks, unlike almost any that boards have thus far encountered. The director continued, “It’s a different conversation in the boardroom than we have had in the past. A cyberattack could wipe out a significant amount of our enterprise value. The wrong hiccup could cause a ripple effect throughout our economy.”


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