Yearly Archives: 2020

The Revival of Large Consulting Practices at the Big 4 and Audit Quality

Eldar Maksymov is Assistant Professor at the  Arizona State University W. P. Carey School of Accountancy. This post is based on a paper, forthcoming in Accounting, Organizations and Society, by Professor Maksymov; Dain C. Donelson, Professor of Accounting at the University of Iowa Tippie College of Business; Matthew Ege, Associate Professor at the Texas A&M University Mays Business School; and Andy Imdieke, Assistant Professor of Accountancy at the University of Notre Dame Mendoza College of Business

Audit firms provide many services beyond those related to the audit of financial statements (FS). Historically, many of these “non-audit” services were provided to audit clients, causing regulators to be concerned about potential auditor independence impairment. The basic idea behind this concern is that by selling significant non-audit fees to their audit clients, auditors might compromise the quality of their FS audits. Thus, the Sarbanes-Oxley Act of 2002 (SOX) banned the sale of many non-audit services to public audit clients and required public-company audit committees to pre-approve all other non-audit services. Subsequently, three of the current Big 4 accounting firms spun off their consulting arms but have since rebuilt their consulting practices both organically and through acquisitions, with a focus on selling non-audit services to non-audit clients. In our study, we examine how the acquisition of consulting practices by the Big 4 might affect the quality of the audits they provide.

Though today the Big 4 provide most of their consulting services to non-audit clients, regulators have expressed concern about whether the shift in focus towards growing consulting practices could negatively affect audit quality. Specifically, regulators are concerned that the growth of consulting business at the Big 4 could lead to the firms becoming primarily consulting firms rather than primarily audit firms. This could result in the audit practice, and thus, audit quality, not being of primary importance to firm leadership. Overall, regulators are concerned that firm culture could shift away from an audit mindset to a consulting mindset (one focused on client advocacy).


Diversity Strategy, Goals & Disclosure: Our Expectations for Public Companies

Richard F. Lacaille is Global Chief Investment Officer at State Street Corporation. This post is based on a letter sent by State Street to board chairs of public companies in its investment portfolio. Related research from the Program on Corporate Governance includes Politics and Gender in the Executive Suite by Alma Cohen, Moshe Hazan, and David Weiss (discussed on the Forum here).

As a long-term investor in more than 10,000 public companies across the world, State Street Global Advisors believes that the single most important driver of long-term value is a strong, independent and effective board exercising high-quality oversight. In turn, we have long appreciated the positive correlation among diversity at the workforce and board levels, effective boards and oversight and sustainable long-term financial performance. As such, whether through our long-standing stewardship focus on gender diversity and board effectiveness, amplified by our Fearless Girl campaign, or the integration of Sustainability Accounting Standards Board (SASB—see Figure 1) diversity metrics into our Environmental, Social and Governance (ESG) scoring system, R-Factor,™ [1] we have called on companies to disclose more details regarding the diversity of their boards and workforces.

The ongoing issue of racial equity has caused us to focus more closely on the ways in which racial and ethnic diversity impacts us as investors. As such, we are writing to inform you that starting in 2021, State Street Global Advisors will ask companies in our investment portfolio to articulate their risks, goals and strategy as related to racial and ethnic diversity, and to make relevant disclosure available to shareholders.


Order Approving NYSE Rule Change Stayed

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

On August 26, the SEC’s Division of Trading and Markets took action, pursuant to delegated authority, to approve a proposed NYSE rule change that would allow companies going public to raise capital through a primary direct listing.  (See this PubCo post.) This week, that rule change hit a “snag,” as the WSJ put it—the SEC notified the NYSE that the approval order had been stayed because the SEC had received a notice of intention to petition for review of the approval order. What’s that about?


Essentially, a “direct listing” involves a registered sale directly into the public market with no intermediary underwriter, no underwriting commissions (just advisory fees) and no roadshow or similar expenses. The initial pricing is set during the opening auction, not by agreement among the company and underwriters, as in a traditional IPO. Prior to this new approval, under NYSE rules, only secondary sales were permitted in a direct listing. Of course, the absence of proceeds to the company put a definite crimp in the potential popularity of direct listings, as only companies that did not need to raise capital for their own use were likely to opt for that alternative.


A View on the SEC Rule Regarding Human Capital Disclosures

Thomas Riesenberg is the Director of Legal Policy and Outreach at the Sustainability Accounting Standards Board. This post is based on his SASB memorandum.

The Securities and Exchange Commission issued its long-awaited amendments to Regulation S-K, the regulation which contains the detailed disclosure requirements (other than financial statements) applicable to registration statements, periodic reports, proxy statements, and other filings under the United States federal securities laws. The rulemaking includes a new requirement that public companies disclose information about “human capital resources” in these filings.

We have several observations on the new rule:

1. The SEC stopped short of addressing a broad range of ESG issues, such as climate change, and this led two Commissioners, Allison Herren Lee and Caroline A. Crenshaw, to vote against the rule and to issue dissents. Although SASB has long believed that existing regulatory requirements (in particular, the Management Discussion and Analysis requirement) should prompt companies to disclose financially material ESG risks and opportunities such as climate change, there is little doubt that a broad regulatory ESG mandate would help lead to more (and more comparable) disclosure. But we should not lose sight of what the SEC accomplished via this amendment: this is the first time that the Commission has issued a specific ESG disclosure requirement. This is a step forward.


Directors’ Right to Access Privileged Communication

James Langston, and Mark McDonald are partners and Christopher Austin is senior counsel at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary memorandum by Mr. Langston, Mr. McDonald, Mr. Austin, Rahul Mukhi and Elizabeth Carlson. This post is part of the Delaware law series; links to other posts in the series are available here.

A recent decision of the Delaware Court of Chancery in the ongoing WeWork/SoftBank litigation addressed a previously unresolved question: can management withhold its communications with company counsel from members of the board of directors on the basis that such communications are privileged? Building on past Delaware decisions concerning directors’ rights to communications with company counsel, including in the CBS case we previously discussed here, the court clarified that directors are always entitled to communications between management and company counsel unless there is a formal board process to wall off such directors (such as the formation of a special committee) or other actions at the board level demonstrating “manifest adversity” between the company and those directors. See In re WeWork Litigation, C.A. No. 0258-AGB (Del. Ch. August 21, 2020). In other words, management cannot unilaterally decide to withhold its communications with company counsel from the board (or specified directors management deems to have a conflict).


This case concerns a series of transactions involving The We Company (“WeWork”) and SoftBank and its affiliate (collectively referred to here as “SoftBank”) that resulted in SoftBank acquiring effective control of WeWork from Adam Neumann, one of the company’s founders. As part of the transactions, SoftBank also agreed to commence a tender offer to acquire additional WeWork shares from existing stockholders. Due to control of the company shifting from Neumann to SoftBank, a Special Committee of WeWork’s board of directors was empaneled and negotiated the transactions with SoftBank and Neumann. In April of this year, however, Softbank terminated the tender offer, claiming that certain closing conditions were incapable of being satisfied. Shortly thereafter, the Special Committee brought an action on behalf of WeWork against SoftBank for breach of contract and breach of fiduciary duty. Neumann separately commenced litigation against SoftBank based on similar allegations.


What to Do About Annual Incentive Plans in the Pandemic

John Borneman and Blair Jones are managing directors and Andres Ibarra is a senior consultant at Semler Brossy Consulting Group LLC. This post is based on their Semler Brossy 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).

When the Covid-19 pandemic began in March 2020, its economic impact significantly affected the annual incentive plans at many companies. In those early days, thinking the pandemic’s impact would be short-lived, directors discussed several ways to respond. Ideas included resetting goals in light of the macroeconomic impact, calculating bonuses on a ten-month basis (excluding the worst of March and April), or setting a new six-month plan for the second half of the year.

Now, with more than half of the year already past, the level of uncertainty remains extraordinarily high for many companies and industries. A ‘reset’ or other adjustment to incentive plans under ‘business as usual’ is fraught with challenges; for most companies, it is practically impossible for management and Boards to adjust existing plan goals or establish new goals for the second half of the year. That said, Boards can still work to ensure they position their companies as well as possible to enter FY2021. Some companies, facing financial constraints, will decide they just can’t pay bonuses this year, but others want to recognize management’s herculean efforts to preserve the company’s ability to thrive in the future. How can the Board best keep management motivated in these circumstances?

SEC Changes Rules Affecting Risk Factors, Litigation and Disclosures by US Public Companies

Valerie Ford JacobPamela L. Marcogliese and Michael Levitt are partners at Freshfields Bruckhaus Deringer LLP. This post is based on their Freshfields memorandum.

The SEC issued new rules on August 26, 2020 which affect the business description, litigation disclosure, and risk factor disclosure of SEC-reporting companies in their annual and quarterly reports (10-K and 10-Q), registration statements (S-1 and S-3), and M&A disclosure filings (S-4 and 14A) filed with the SEC. [1] These provisions had not been significantly revised for more than 30 years.

One or another of these rules could affect some of the disclosure of virtually every US public company, and we recommend that public companies review their existing disclosures in light of the new rules, particularly their risk factors. The new rules will become effective in about 1 month.

Described below are the key changes adopted by the SEC and how they impact company disclosures.

Risk Factors

Summary of Risk Factors

If the risk factor section exceeds 15 pages (which is often the case for many companies), the company must include a 2-page summary of the risk factors using “concise, bulleted or numbered statements” in the forepart of the prospectus or annual report. This will require a change for many companies—the SEC estimates that 40% of companies have risk factor sections which exceed 15 pagesREAD MORE »

Weekly Roundup: September 4–10, 2020

More from:

This roundup contains a collection of the posts published on the Forum during the week of September 4–10, 2020.

Exit vs. Voice

Meaningful Communications with Stakeholders During COVID-19

SEC Expands Population Eligible to Participate in Certain Private Offerings

Delaware Chancery Court Clarifies the “Ab Initio” Requirement

The Illusion Of Reasoning

Cyber Risk and the Corporate Response to COVID-19

Incentive Design Changes in Response to Covid-19

Designing More Durable JV Agreements

DOL Proposes Rules Clarifying When ERISA Fiduciaries Need to Vote Proxies

Comment on the Proposed DOL Rule

On the COVID-19 Vaccine Corporate Pledge

An ASX Executive Remuneration Study

An ASX Executive Remuneration Study

Aniel Mahabier is CEO and Founder; Alex Co is a Research Analyst APAC; and Edna Frimpong is Lead Research Analyst EU/APAC at CGLytics. This post is based on a CGLytics report by Mr. Mahabier, Ms. Co, Ms. Frimpong, and Danai Kekatou. 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).

COVID-19 and the Impact on Remuneration

  • 61 ASX 300 companies reduced director and/or CEO remuneration.
  • 60 out of the 61 companies reduced CEO pay.
  • Qantas Airways reduced board and executive
    pay1, forfeited CEO and Chair salaries.
  • Myer CEO voluntarily suspended his remuneration.

The COVID-19 pandemic has had a severe negative impact on the global market. Australia is no exception, with nearly one million Australians losing their jobs. Amidst the crisis, various companies called on their board of directors to develop and implement crisis management strategies to maintain cash positions and ensure the health and well-being of their employees. Some companies have taken drastic measures by standing down employees or reducing executive, director, and employee remuneration to maintain liquidity.

61 of ASX 300 companies reported the lowering of director and/or Chief Executive Officer (CEO) remuneration from March 2020 until the first week of August 2020. Out of the 61 companies, five companies modified remuneration for just the CEO, one for just the directors (chairman and directors excluding CEO), and 55 for both the CEO and directors. In total, 60 companies initiated pay cuts for their CEOs, and 56 companies announced pay cuts for their directors.


On the COVID-19 Vaccine Corporate Pledge

Barak Orbach is Professor of Law at the University of Arizona James E. Rogers College of Law.

The COVID-19 pandemic created a race for the development of vaccines. On September 8, 2020, CEOs of nine major pharmaceutical companies signed a pledge promising not to file for regulatory approval or authorization of their experimental COVID-19 vaccines until their safety and efficacy are demonstrated through established scientific standards. Fearing that political pressures would compromise regulatory processes, the CEOs agreed to curb competition among their companies.

The companies’ commitments to “high ethical standards” and “sound scientific principles” are critically important to the success of public health policies and the long-term profitability of pharmaceutical companies. Agreements among competitors to defer competition, however, could be unlawful under U.S. antitrust laws and competition laws of other countries. Should the antitrust agencies investigate the nine companies and their CEOs? The devastating costs of the COVID-19 pandemic create powerful incentives to discount the virtues of antitrust enforcement.

The relationship between national emergencies and antitrust enforcement is an old antitrust theme that one of my recent papers examines. The United States partially suspended antitrust enforcement in three prior national crises: WWI, WWII, and the Great Depression. Approving the WWII suspension, President Franklin D. Roosevelt explained the rationale underlying the suspensions: “For unless [our effort to win the war] is successful, the antitrust laws, as indeed all American institutions, will become quite academic.”


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