Monthly Archives: July 2021

Statement by Chair Gensler on Investor Protection Related to Recent Developments in China

Gary Gensler is Chair of the U.S. Securities and Exchange Commission. This post is based on his recent public statement. The views expressed in the post are those of Chair Gensler, and do not necessarily reflect those of the Securities and Exchange Commission or the Staff.

Recently, the government of the People’s Republic of China provided new guidance to and placed restrictions on China-based companies raising capital offshore, including through associated offshore shell companies. These developments include government-led cybersecurity reviews of certain companies raising capital through offshore entities.

This is relevant to U.S. investors. In a number of sectors in China, companies are not allowed to have foreign ownership and cannot directly list on exchanges outside of China. To raise money on such exchanges, many China-based operating companies are structured as Variable Interest Entities (VIEs).

In such an arrangement, a China-based operating company typically establishes an offshore shell company in another jurisdiction, such as the Cayman Islands, to issue stock to public shareholders. That shell company enters into service and other contracts with the China-based operating company, then issues shares on a foreign exchange, like the New York Stock Exchange. While the shell company has no equity ownership in the China-based operating company, for accounting purposes the shell company is able to consolidate the operating company into its financial statements.


Trust: A Critical Asset

Don Fancher is Principal of Risk & Financial Advisory at Deloitte Financial Advisory Services LLP; Robert Lamm is an Independent Senior Advisor and Debbie McCormack is Managing Director, both at the Center for Board Effectiveness, Deloitte LLP. This post is based on their Deloitte memorandum.


The responsibilities of boards of directors continue to evolve and increase, particularly given the events of the past year. In addition to perennial topics such as strategy, succession, financial reporting, compliance, and culture, boards are experiencing broader demands on their oversight from expanding stakeholder and shareholder considerations; continuing challenges of the ongoing global pandemic and its aftermath; and addressing the changing role of the corporation in society at large on matters such as racial justice and climate. The growth in the number and complexity of board responsibilities is taking place in an environment of growing skepticism towards our various institutions.

Against that background, companies and their boards can help to address these multiple challenges by considering one of the most critical assets not on their balance sheets―trust.

What is trust?

Trust has been defined as “our willingness to be vulnerable to the actions of others because we believe they have good intentions and will behave well toward us.” [1] However, particularly for a business enterprise, trust is not an ephemeral quality or attitude. Rather, it is a critical asset, albeit one that is not reported on the balance sheet or otherwise in the financial statements, as it has no intrinsic value.

However, trust is very real and concrete. When invested by leaders in relationships with stakeholders, it enables activities and responses that can help build or rebuild an organization and enable an organization to achieve its intended purpose. Trust can also be created across various groups within the organization―between the board and management, employer-employee, among the workforce, organization and stakeholder, vendors and customers. Conversely, a breach of trust can cause a company to lose significant value. For example, a Deloitte Canada analysis found that three large global companies, each with a market cap of more than $10 billion, lost from 20% to 56% of their value, or a total of $70 billion, when they breached their stakeholders’ trust. [2]


Five Elements of Activist Stewardship: Insights from Two Letters

Robert G. Eccles is Visiting Professor of Management Practice at Oxford University Said Business School. Related research from the Program on Corporate Governance includes The Long-Term Effects of Hedge Fund Activism by Lucian Bebchuk, Alon Brav, and Wei Jiang (discussed on the Forum here); Dancing with Activists by Lucian Bebchuk, Alon Brav, Wei Jiang, and Thomas Keusch (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).

Engine No. 1 and Elliott Advisors each invested millions of dollars to do careful and in-depth analyses prior to launching their campaigns to improve the performance of ExxonMobil and GSK, respectively. While Engine No. 1’s campaign has been successfully concluded, Elliott’s is still in its fairly early stages. Nevertheless, some insights can be gained by studying the letters which publicly launched each campaign. They reveal five elements of activist stewardship. They also raise five important questions every board member needs to be asking her or his self.

The proxy contest campaign against the Houston-based oil and gas giant ExxonMobil by the new activist investor Engine No. 1 continues to receive attention and accolades and deservedly so. With a tiny investment of $40 million but with strong support from CalSTRS, followed by CalPERS and Legal & General Investment Management and other major asset owners and asset managers, Engine No. 1 successfully placed three of its four candidates on the board of directors.

From its earliest days, in January Colin Mayer and I were optimistic about its prospects. I wrote about the campaign as it evolved, starting with ExxonMobils’ Magical Mystery Tour for its investors. Not long after I saw A Bad Moon Rising for the company, yet ExxonMobil bravely responded with six cute fables inspired by Aesop it prepared in advance of the annual shareholder meeting on May 26, 2021. The annual meeting itself was a well-choregraphed play in three acts, produced, directed, and starred in by Chairman and CEO Darren Woods. Following the meeting, ExxonMobil’s shareholders cheered Here Comes the Sun!


The Small, Young Company Board

Adam J. Epstein is Founder at Third Creek Advisors LLC; Robert Lamm is an Independent Senior Advisor at the Center for Board Effectiveness, Deloitte LLP; and Jim Parkin is Partner at Deloitte & Touche LLP. This post is based on their Deloitte memorandum.

Small companies, big challenges [1]

Small, growing companies can be faced with numerous challenges in addition to those noted. These challenges may include:

  • Thin trading volume
  • Limited or no interest on the part of equity research analysts
  • The absence, or the immaturity and/or lack of sophistication, of internal controls, disclosure controls, and other processes for timely, accurate, and complete financial reporting
  • A limited ability to forecast and prepare forward-looking financial plans
  • Limited or no C-suite experience in leading a public company [2]
  • Inadequate understanding of regulatory matters, including SEC and stock exchange rules, or accounting principles and what they require, including the costs of compliance and/or the consequences of noncompliance
  • A lack of attitudinal preparedness for being public and the many corporate and personal matters that need to be disclosed—the “goldfish bowl” syndrome
  • A lack of understanding of fiduciary duties and to whom they are owed


Weekly Roundup: July 23-29, 2021

More from:

This roundup contains a collection of the posts published on the Forum during the week of July 23-29, 2021.

Commenters Weigh in on SEC Climate Disclosures Request for Public Input

Was the Exxon Fight a Bellwether?

SEC Increasingly Turns Focus Toward Strength of Cyber Risk Disclosures

Connecting the Dots: Breaking the ESG Code

Outsourcing Active Ownership in Japan

Stewardship Excellence: ESG Engagement In 2021

Voluntary Environmental and Social Disclosures

Open Access, Interoperability, and the DTCC’s Unexpected Path to Monopoly

Supreme Court’s Impending Decision Concerning Whether PSLRA Discovery Stay Applies in State Court

SEC’s Recent Decision Regarding “Qualified Client” Status

Delaware Supreme Court’s Response to Chancery for Turning Away Stockholder’s Claims

Remarks by Chair Gensler Before the Principles for Responsible Investment “Climate and Global Financial Markets” Webinar

Gary Gensler is Chair of the U.S. Securities and Exchange Commission. This post is based on his recent remarks before the Principles for Responsible Investment “Climate and Global Financial Markets” Webinar. The views expressed in the post are those of Chair Gensler, and do not necessarily reflect those of the Securities and Exchange Commission or the Staff.

Thank you, Fiona, for the kind introduction. It’s good to be here with the Principles for Responsible Investment. As is customary, I’d like to note my views are my own, and I’m not speaking on behalf of the Commission or the SEC’s staff.

So what does the SEC have to do with climate?

Before we get to the main event—on climate and finance—I’d like to discuss something a lot of us are watching these days: the Olympics.

In the Olympics, there are rules by which we measure an athlete’s performance.

In gymnastics, for example, the scoring system is both quantitative and qualitative. Athletes are evaluated based on the numeric difficulty of the skills and the judges’ qualitative impression of how well they perform those skills.

This system brings comparability to evaluating the athletes across performances or across generations.

Another thing about the Olympics is that the sports change over the years. If the organizers never made any changes, we’d only get to watch the events from the first modern Olympics back in 1896. [1] No soccer, no basketball, no women’s sports. That wouldn’t exactly reflect where sports are today.


Does Socially Responsible Investing Change Firm Behavior?

Daniele Macciocchi is Assistant Professor of Accounting at University of Miami Herbert Business School. This post is based on a recent paper by Mr. Macciocchi; Davidson Heath, Assistant Professor of Finance at the University of Utah Eccles School of Business; Roni Michaely, professor of Finance and Entrepreneurship at The University of Hong Kong; and Matthew Ringgenberg, Associate Professor of Finance at the University of Utah Eccles School of Business. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); Companies Should Maximize Shareholder Welfare Not Market Value by Oliver Hart and Luigi Zingales (discussed on the Forum here); and Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee by Max M. Schanzenbach and Robert H. Sitkoff (discussed on the Forum here).

Over the last decade, investors have shown a growing appetite for socially responsible investing (SRI). SRI funds, who advertise that they care about environmental and social issues in addition to maximizing returns, have more than doubled their assets under management. This trend is consistent with the proposals of some academics (e.g. Bérnabou and Tirole (2010) and Hart and Zingales (2017)) that corporations should seek to maximize shareholder welfare and that SRI funds should play a role in addressing environmental and social issues. Whether this approach can increase social welfare is an issue of heated debate in the literature (see, for example, Bebchuk and Tallarita, 2021).

One important aspect of this debate is how effective SRI funds are at bringing about environmental and social change. SRI funds have an official mandate in their prospectus to promote and implement socially responsible objectives. Further, these funds often advertise themselves as having environmental and social goals and in many cases the fund’s name alludes to these goals. As a result, investors in these funds expect them to improve corporate conduct (Levine, 2021). On the other hand, it may be costly for funds to change corporate behavior. First, monitoring corporate conduct is, itself, costly. Second, investing in accordance with environmental and social goals may actually cause the fund to earn lower returns by constraining the fund’s investment universe. These opposing forces make it unclear, ex-ante, what SRI funds actually do. There are several possibilities: (1) SRI funds might choose firms with better environmental and social conduct; (2) SRI funds might actively work to improve the environmental and social conduct of the companies in their portfolio; or (3) SRI funds might greenwash. Put differently, they might advertise and promote themselves as SRI but de facto do nothing (or close to nothing). Most SRI funds claim they both select ‘good’ firms and push firms to consider environmental and social goals more favorably; however, to date, there is little empirical evidence on this.


Delaware Supreme Court’s Response to Chancery for Turning Away Stockholder’s Claims

Jason M. Halper and Jared Stanisci are partners and Victor Bieger is an associate at Cadwalader, Wickersham & Taft LLP. This post is based on a Cadwalader memorandum by Mr. Halper, Mr. Stanisci, Mr. Bieger, and Annika Conrad, and is part of the Delaware law series; links to other posts in the series are available here.

Despite being one of the more well-known doctrines in corporate law, the rule articulated in Blasius [1]—that directors who act with the primary purpose of interfering with a stockholder vote must have a compelling justification for their conduct—has received little attention from the Delaware Supreme Court. Delaware’s highest court has not mentioned the Blasius test in over a decade [2] and has not held that a board’s conduct triggered the Blasius test since 2003. [3]

During those intervening years, Blasius has been questioned, diluted, and declared all but subsumed by other doctrines. As one vice chancellor put it, a consensus has taken root that “Blasius ‘ main role, to the extent it has one, is as a specific iteration of the intermediate standard of review laid out in Unocal.” [4]

That view of Blasius may change with the Delaware Supreme Court’s recent decision in Coster v. UIP Companies, [5] which sent a case back to the Court of Chancery for giving Blasius short shrift. Coster arose out of a dispute between the two 50% owners of a real estate investment company. After the two stockholders deadlocked on a director election, one of the stockholders—who was already on the board—proposed a dilutive stock sale to one of his fellow incumbent directors, which the board ultimately approved. The stock sale diluted the outside stockholder’s shares below 50%, breaking the deadlock.


Managing ESG Data and Rating Risk

Anna Hirai is Co-Head of ESG Research and Andrew Brady is Senior Analyst at SquareWell Partners. This post is based on their SquareWell memorandum. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); For Whom Corporate Leaders Bargain by Lucian A. Bebchuk, Kobi Kastiel, and Roberto Tallarita (discussed on the Forum here); Socially Responsible Firms by Alan Ferrell, Hao Liang, and Luc Renneboog (discussed on the Forum here); and Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock by Leo E. Strine, Jr. (discussed on the Forum here).

I. Introduction

Assets in sustainable funds hit a record high of USD 1,258 billion as of the end of September 2020, with Europe surpassing the USD 1 trillion mark according to Morningstar’s research. The increased integration of Environmental, Social and Governance (ESG) factors into investment decision-making, whether it be for active or passive investment styles, has made the quality and availability of well-structured and digestible data provided by ESG rating and data agencies ever more important.

The growing influence of ESG data and ratings on the allocation of capital will undoubtedly bring with it increased scrutiny. Two main areas that have drawn media attention and investor criticism towards ESG ratings providers are: (1) their focus on past performance and lack of predictive value over future performance; and (2) the sometimes-diverging opinions of ESG ratings providers for the same

The lack of global reporting standards and agreement on what should be deemed as material for each sector has led to ESG data and ratings providers each adopting their own methodologies and processes, making it difficult for companies to manage their narrative on sustainability and determine
how best to allocate internal resources regarding sustainability reporting. Further complicating the landscape for companies is the fact that a growing number of investors are developing their own ESG ratings by leveraging multiple data sources.

Given the increasing importance of ESG data and ratings, for this Progress Group SquareWell Partners (“SquareWell”) interviewed representatives from companies, institutional investors, ESG ratings and data providers, and academia. We have split the Progress Group report into two sections
where we provide: (1) an overview of the ESG data and ratings landscape; and (2) key takeaways for companies to navigate this increasingly complex market force.


SEC’s Recent Decision Regarding “Qualified Client” Status

David Blass and Michael Wolitzer are partners and Allison Bernbach is senior counsel at Simpson Thacher & Bartlett LLP. This post is based on a Simpson Thacher memorandum by Mr. Blass, Mr. Wolitzer, Ms. Bernbach, Manny Halberstam and Radhika Kshatriya.

The U.S. Securities and Exchange Commission recently issued an Order raising the “net worth test” from $2.1 million to $2.2 million and raising the “assets under management test” from $1 million to $1.1 million for purposes of the “qualified client” definition in Rule 205-3 under the Investment Advisers Act of 1940. The new thresholds are effective beginning August 16, 2021, and registered investment advisers charging performance-based compensation should timely revise their fund or client documentation accordingly.

To qualify as a “qualified client” on or after the August 16, 2021 effective date, a natural person or company must:

  1. have at least $1.1 million of assets under management with the adviser immediately after entering into the investment advisory contract with the adviser;
  2. have a net worth (together, in the case of a client who is a natural person, with assets held jointly with a spouse) of more than $2.2 million (excluding the value of such natural person’s primary residence and indebtedness secured by such residence) immediately prior to entering into the contract;
  3. be a “qualified purchaser” as defined in Section 2(a)(51)(A) of the Investment Company Act of 1940; or
  4. be a “knowledgeable employee” of the adviser


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