Monthly Archives: September 2022

State Legislation Targets Company Policies on ESG

Cydney S. Posner is special counsel at Cooley LLP. This post is based on her Cooley memorandum. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) by Lucian A. Bebchuk and Roberto Tallarita; Does Enlightened Shareholder Value Add Value? (discussed on the Forum here) and Stakeholder Capitalism in the Time of COVID (discussed on the Forum here), both by Lucian Bebchuk, Kobi Kastiel, and Roberto Tallarita; Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock (discussed on the Forum here) by Leo E. Strine, Jr.; and Corporate Purpose and Corporate Competition (discussed on the Forum here) by Mark J. Roe.

Over the past several years of political discord, many CEOs have felt the need to voice their views on important political, environmental and social issues. For example, after the murder of George Floyd and resulting national protests, many of the country’s largest corporations expressed solidarity and pledged support for racial justice. After January 6, a number of companies announced that their corporate PACs had suspended—temporarily or permanently—their contributions to one or both political parties or to lawmakers who objected to certification of the presidential election.  Historically, companies have faced reputational risk for taking—or not taking—positions on some political, environmental or social issues, which can certainly impair a company’s social capital and, in some cases, its performance.  These types of risks can be more nebulous and unpredictable than traditional operating or financial risks—and the extent of potential damage may be more difficult to gauge. As if it weren’t hard enough for companies to figure out whether and how to respond to social crises, now, another potent ingredient has been stirred into the mix: the actions of state and local governments—wielding the levers of government—to enact legislation or take executive action that targets companies that express public positions on sociopolitical issues or conduct their businesses in a manner disfavored by the government in power.  As described by Bloomberg, while “companies usually faced mainly reputational damage for their social actions, politicians are increasingly eager to craft legislation that can be used as a cudgel against businesses that don’t share their social views.” And many of these actions are aimed, not just at expressed political positions, but rather at environmental and social measures that companies may view as strictly responsive to investor or employee concerns, shareholder proposals, current or anticipated governmental regulation, identified business risks or even business opportunities. How will these legislative trends affect the difficult corporate balancing act?


Quarterly Activist Ownership Analysis

Gerry Davis, Michael Verrechia, and Paul Schulman are Managing Directors at Morrow Sodali. This post is based on a Morrow Sodali memorandum by Mr. Davis, Mr. Verrechia, Mr. Schulman, Harry van Dyke, Jonathan Ostroff, and Tom Margadonna.

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

This post outlines the major trends occurring globally amongst activist investors’ portfolios. Using a proprietary model quantifying criteria such as reputation, number of campaigns/outcomes, tactics/focus, board seats won, and recency of engagements we have produced the Morrow Sodali Top 40 Activists (MS40) list narrowed down from the pool of global investors. The MS40 is compiled across two tiers based on propensity for an active engagement. Further, this analysis solely reviews the equity ownership of publicly traded companies and excludes warrants, debt, ETFs and funds.

Importantly, the SEC’s Universal Proxy card rules applies to contested shareholder meetings held after August 31, 2022. This change gives dissident shareholders the ability to include their director nominees  on the management ballot while potentially easing the cost burden on activist campaigns. As a result, we expect an increase in board level activism and the continued trend of first-time activist funds looking to make a name for themselves through the proxy contest arena.


BlackRock Voting Spotlight—A Look Into the 2021-2022 Proxy Voting Year

Sandra Boss is Global Head of Investment Stewardship and Michelle Edkins is Managing Director of Investment Stewardship at BlackRock, Inc. This post is based on their BlackRock memorandum.

Consistent with BlackRock’s fiduciary duty as an asset manager, BIS’ purpose is to support companies in their efforts to deliver long-term durable financial performance on behalf of our clients. These clients include public and private pension plans, governments, insurance companies, endowments, universities, charities and, ultimately, individual investors, among others.

BIS serves as an important link between our clients and the companies they invest in—and the trust our clients place in us gives us a great responsibility to advocate on their behalf. Our clients depend on BlackRock to help them meet their investment goals; the business and governance decisions that companies make will have a direct impact on our clients’ long-term investment outcomes and financial well-being. This post provides an overview of our proxy voting from July 1, 2021, through June 30, 2022, as part of our broader stewardship work engaging with the companies we invest in on behalf of our clients.

With one of the industry’s largest teams of stewardship and governance specialists from a range of disciplines, BIS is well-equipped to bring a globally consistent, locally nuanced perspective to our clients and to the companies in which we invest on their behalf. We engage with companies throughout each year and our engagements often span multiple years. This leads to stronger relationships with companies and more constructive outcomes for shareholders and businesses alike.

We work closely with BlackRock’s active investment colleagues to help ensure our stewardship work is grounded in encouraging the practices that support long-term corporate financial performance, rather than the pursuit of good governance for its own sake. Our analysts’ sector expertise and local market knowledge allows for informed dialogue on the issues most material to companies’ ability to create durable, long-term value for our clients.


The Politics of Values-Based Investing

Robert Eccles is Visiting Professor of Management Practice at Oxford University Said Business School and Jill E. Fisch is the Saul A. Fox Distinguished Professor of Business Law and co-Director of the Institute for Law and Economics at the University of Pennsylvania Carey Law School.

Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) by Lucian A. Bebchuk and Roberto Tallarita; Does Enlightened Shareholder Value Add Value? (discussed on the Forum here) by Lucian A. Bebchuk, Kobi Kastiel, and Roberto Tallarita; Companies Should Maximize Shareholder Welfare Not Market Value (discussed on the Forum here) by Oliver Hart and Luigi Zingales; Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee (discussed on the Forum here) by Max M. Schanzenbach and Robert H. Sitkoff; and Exit vs. Voice (discussed on the Forum here) by Eleonora Broccardo, Oliver Hart and Luigi Zingales.

Senate Republicans are introducing legislation directing retirement plan sponsors to select investments solely based on monetary factors, an extension of the position adopted by the Trump Administration Department of Labor. The sponsors to the legislation defend it by arguing that retirement accounts should be off limits to politics. The debate stems from the increasing criticism of pension and mutual funds that incorporate environmental, social, and governance (ESG) factors into their investment policies.

In challenging investment managers’ focus on ESG data, however, critics conflate two distinct issues. A body of empirical literature makes the claim that ESG data is relevant to evaluating a company from an economic perspective. We term this a “value-based ESG strategy.” For example, portfolio managers may invest in companies that they believe face strong growth prospects because they have products to help in the mitigation and adaption of climate change, or in companies that have strategies which will enable them to transform their business models in the fact of climate change. This is a value-based strategy. Of course, this assumes a particular perspective on the risks associated with climate change—one can argue that climate change is not real or that, even if it is, regulators will not impose costly changes on companies. The point, however, for such portfolio managers climate change is an economic risk, and their incorporation of climate-related data is a value-based investment strategy.

Investors who believe you can make money by investing in companies that are addressing this problem can invest in the BlackRock Future Climate and Sustainable Economy ETF (BECO). Notably, BECO purports to be investing for value, not values, stating that it “seeks to maximize total return by investing in companies that BlackRock Fund Advisors (“BFA”) believes are furthering the transition to a lower carbon economy.” Similarly Morgan Stanley touts its sustainable equity funds as outperforming their traditional peer funds.


Corporate Response to the War in Ukraine: Stakeholder Governance or Stakeholder Pressure?

Anete Pajuste is Professor of Finance at Stockholm School of Economics (Riga), and Visiting Senior Fellow at the Program on Corporate Governance of Harvard Law School; and Anna Toniolo is Postdoctoral Fellow at the Program on Corporate Governance of Harvard Law School. This post is based on their recent paper, forthcoming in the Emory Corporate Governance and Accountability Review.

Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) by Lucian A. Bebchuk and Roberto Tallarita; Will Corporations Deliver Value to All Stakeholders? (discussed on the Forum here) and Stakeholder Capitalism in the Time of COVID (discussed on the Forum here), both by Lucian Bebchuk, Kobi Kastiel, and Roberto Tallarita; and Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock (discussed on the Forum here) by Leo E. Strine, Jr.

In the aftermath of the Russian invasion of Ukraine on February 24, 2022, hundreds of Western companies have taken the unprecedented step of withdrawing from Russia, going beyond compliance with regulations and sanctions. The corporate reaction to the invasion of Ukraine has been widely understood as “a clear signal that the world is pivoting toward a stakeholder capitalism model”, claiming that managers placed social responsibility over profits. Others have instead questioned the authenticity of corporate support for Ukraine, arguing that companies left Russia mainly driven by operational and reputational concerns.

In a new paper, forthcoming in the Emory Corporate Governance and Accountability Review, we empirically investigate the corporate response to the Russian invasion of Ukraine through the lens of the stakeholder governance debate. We explore whether or not the managerial decision to withdraw business from Russia was adopted according to a stakeholder approach, meaning that corporate leaders decided mostly on ethical and moral grounds, even at the cost of deviating from shareholder interests. An alternative hypothesis posits the existence of a different possible channel, such as firms’ exposure to Russia or stakeholder pressure exercised on companies to leave Russia. To this aim, first, we examine the relationship between company revenue exposure to Russia and the speed of the announcement to withdraw or suspend Russian operations. The findings indicate that firms which quickly announced their withdrawal from Russia actually had little revenue exposure to the aggressor country. Furthermore, we conduct a Twitter-based test of the virality of boycott campaigns and investigate their relationship with managers’ decision to take positive action in supporting Ukraine and exiting Russia. Our results reveal a strong positive association between boycott campaigns against businesses and their decision to withdraw from Russia. Finally, our study underscores important differences across market sizes. The smallest companies in our sample (mid-cap companies) present on average the largest revenue exposure to Russia, but at the same time receive the least attention from Twitter boycott campaigns. Overall, our results suggest that the discretion of corporate leaders in considering ethical concerns poses risks of “woke-washing,” that is using social activism as a marketing tool to obtain positive returns. The findings also confirm that pressure from stakeholders—magnified by the use of social media—can successfully influence the corporate decision to pursue certain social goals and not only profits.


Carve-Outs’ Popularity Soars as Businesses Pursue Growth

Gregory Pryor and Germaine Gurr are partners at White & Case LLP. This post is based on a White & Case memorandum by Mr. Pryor, Ms. Gurr, Lindsey Canning, and Jun Usami.

Carve-out deals, whether conducted through a trade sale, buyout, or IPO, have become a vital tool for businesses to boost balance sheets and deliver shareholder value. This trend has gathered momentum over recent years, with 9,155 carve-outs worth US$2.3 trillion in aggregate announced globally in 2021, according to Dealogic—up 67% in value compared to 2020.

So far in 2022, carve-out activity has been somewhat softer. A total of 3,837 deals worth US$641.8 billion were recorded in H1, down 19% in volume and 44% in value compared to a bumper H1 2021.

Energy transition fuels carve-outs

Despite the slight cooling-off, the first half of 2022 has produced some big-ticket transactions. The global energy transition has been a key driver of deals globally, with societal, governmental and investor pressure all forcing businesses to make changes to cut their carbon emissions. Strategic reorganization has become crucial for companies needing to shed carbon-intensive assets and refocus business goals.

This trend led to the highest-valued carve-out deal of the year so far, specifically the US$17.3 billion spin-off of Constellation Energy, the power generation unit of US utilities giant Exelon.

Following the deal, which saw Constellation begin trading on the Nasdaq in February, the newly formed company has committed to a carbon-free future—aiming to achieve 95% carbon-free electricity by 2030, and 100% by 2040.


Energy Industry Reacts to SEC Proposed Rules on Climate Change

Hillary H. Holmes is partner and Justine Robinson is an associate at Gibson, Dunn & Crutcher LLP. This post is based on a Gibson Dunn memorandum by Ms. Holmes, Ms. Robinson, Tull Florey, Brian Lane, Jim Moloney, and Peter Wardle.

Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) by Lucian A. Bebchuk and Roberto Tallarita; For Whom Corporate Leaders Bargain (discussed on the Forum here) and Stakeholder Capitalism in the Time of COVID (discussed on the Forum here), both by Lucian Bebchuk, Kobi Kastiel, and Roberto Tallarita; and Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock (discussed on the Forum here) by Leo E. Strine, Jr.

Gibson Dunn has surveyed the comment letters submitted by public and private energy companies and related industry associations regarding the proposed rules by the Securities and Exchange Commission (the “SEC” or “Commission”) on climate change disclosure requirements for U.S. public companies and foreign private issuers (the “Proposed Rules”). [1]

Based on our review of these comment letters, we have seen general support for transparent and consistent climate-related disclosures, along with a concern that the Proposed Rules do not reconcile with the SEC’s stated objective “to advance the Commission’s mission to protect investors, maintain fair, orderly and efficient markets, and facilitate capital formation, not to address climate-related issues more generally.” [2] Overarching themes included (i) general support for the Commission’s decision to base the Proposed Rules on the Task Force on Climate-Related Financial Disclosures (“TCFD”) framework and Greenhouse Gas Protocol (“GHG Protocol”), (ii) concern with deviation from the long-standing materiality threshold, (iii) concern that the Proposed Rules would overload investors with immaterial, uncomparable, or unreliable data, and (iv) questions as to whether the Proposed Rules would cause an unintended chilling effect on companies to set internal emissions reduction targets or other climate-related goals to avoid additional liability risks in disclosing such goals. The proposed disclosure requirements receiving the most comments from energy industry companies relate to (i) the Greenhouse Gas (“GHG”) emissions reporting (particularly Scope 3 emissions) and (ii) the amendments to financial statement disclosure in Regulation S-X (particularly the 1% materiality threshold). In addition to these higher-level observations, this post also provides a more granular review of the energy industry’s comments on specific provisions of the Proposed Rules.

DGCL Amendment Merits Amending Charters and Engagement with Institutional Shareholders

Ethan Klingsberg is partner and Oliver Board is counsel at Freshfields Bruckhaus Deringer LLP. This post is based on their Freshfields memorandum, and is part of the Delaware law series; links to other posts in the series are available here.

Amendments to the charters of Delaware corporations are advisable as a result of a new amendment, effective August 1, 2022, to the Delaware General Corporation Law (the DGCL) that permits the extension of exculpation rights to executive officers.

Delaware law has long permitted a corporation to include a provision in its certificate of incorporation that eliminates or limits the personal liability of directors for monetary damages arising from their breaches of fiduciary duty, subject to basic exceptions. Delaware has now amended Section 102(b)(7) to expand this exculpation right to be available to cover executive officers as well.

This amendment to the DGCL is a response to the increasing frequency of shareholder suits where the plaintiffs name executive officers, including general counsels, as defendants. Often these suits follow the closing of a sale of the corporation. It is not uncommon for such suits to include a claim that the general counsel breached his or her duty of disclosure in connection with the preparation of the merger proxy statement or Schedule 14D-9. Others have alleged that the general counsel engaged in conduct that impeded the fulfillment of the Revlon duty to seek the best price reasonably available when selling control of the corporation. In some of these cases, the courts have dismissed claims against some of the pre-closing directors, because they were exculpated under the corporation’s charter, but allowed claims to proceed against the pre-closing officers, because, prior to this amendment to Section 102(b)(7), they could not be exculpated from personal liability in a similar manner.


Getting Out the Retail Vote: Targeting Reddit and New Social Tools in Proxy Solicitations

Steve Lipin is founder and CEO and Keilley Banks is an analyst at Gladstone Place Partners. This post is based on their Gladstone Place memorandum.

The success of the get-out-the-vote campaigns for Nikola Corporation and Lucid Group shows that shareholder solicitation is not the same in the age of Robinhood and Reddit. Companies are using new communications strategies and channels to find retail shareholders and obtain their critical votes.

When faced with opposition from its founder and largest shareholder for an important proposal on the 2022 proxy, EV truck maker Nikola added an intense social media strategy in the proxy solicitation toolkit to rally enough shareholders to cast their “FOR” vote—66% of votes cast, 50.3% of shares outstanding and a quorum of 75% of the shares outstanding at the company’s twice delayed August 2nd meeting.

Trends: The use of new channels and tools reflects the changing nature of the investor community, many of whom are investing through Robinhood and other new platforms and swapping commentary on Reddit, StockTwits, YouTube, Twitter and others. Admittedly, both Nikola and Lucid are EV stocks that have captured the imagination of retail investors, and both were digital natives.

In the past five years, retail stock ownership, particularly among millennials and Gen Z, has skyrocketed, with a generation of investors who didn’t grow up reading The Wall Street Journal. A 2021 survey by Charles Schwab found that 15% of all U.S. stock market investors said they first began investing in 2020. Instead of the Journal, new investors look to @mrsdowjones, a self-described “financial pop star” and FinTok, which is Financial TikTok, a subcommunity of TikTok.


Separating Ownership and Information

Paul Voss is Assistant Professor of Economics and Business at Central European University; and Marius Kulms is an Actuary at Continentale Versicherung. This post is based on their recent paper, forthcoming in the American Economic Review.

Our paper Separating Ownership and Information, forthcoming in the American Economic Review, provides a new perspective on the separation of ownership and control—the fundamental problem in corporate governance according to classical theories (Berle and Means 1932; Jensen and Meckling 1976). We show that the separation of ownership and control is necessary for efficient trade in the market for corporate control. Our results highlight the importance of communication between inside and outside shareholders and call mandatory disclosure requirements during takeovers into question.

We develop a model of the market for corporate control with two-sided asymmetric information. We build on the basic idea that insiders obtain private information by virtue of exercising control. Hence, the separation of ownership and control naturally leads to a separation of ownership and information. In the model, ownership and control are separated in that the insider (e.g., incumbent management) controls the firm but only has a minority stake in the outstanding shares. The majority of ownership rights reside with outside shareholders. By exercising control, the insider has private information regarding the target’s stand-alone value vis-à-vis the uninformed, outside shareholders. A potential bidder, who privately knows the value of the target under her management, can obtain control via a tender offer for the majority of shares. The insider can respond by a strategic (cheap talk) recommendation to the outside shareholders, who ultimately decide on the success of the takeover by their tendering decisions.


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