June 13, 2007
BNA’s Corporate Counsel Weekly has an interesting report that provides insight into the likely contours of the Securities and Exchange Commission’s (SEC) anticipated new rule on Shareholder Access. The article, SEC Proxy Access Rule Taking Shape ‘Practically Meaningless’ (subscription required), reports on the proceedings of a recent Compliance Week Conference in Washington.
Participants predicted that the SEC would take steps to eliminate shareholders’ ability to make “precatory” non-binding proposals of the sort that currently dominate the SEC’s Rule 14a-8 shareholder proposal regime. In “exchange,” the SEC would expand shareholders’ rights to submit binding shareholder proposals and provide a limited right to nominate board candidates on the management proxy statement.
From the comments quoted in the article, it seems that representatives of corporate management are happy with the proposed “bargain,” while representatives of institutional investors are not. Patrick McGurn of Institutional Shareholder Services is quoted as describing the SEC’s anticipated proxy access rule as “practically meaningless.”
Interestingly, the SEC and corporate counsel seem to favor creating “virtual annual meeting” chat rooms as a venue for shareholders to air greivances and opinions currently channeled through the Rule 14a-8 shareholder proposal process. It is unclear to me why such a process would be appealing to corporations. A legally mandated venue available 24/7 for any shareholder to anonymously express any opinion, view, or gripe seems problematic on a number of levels. This seems to be a system that would defy efforts to impose order and control, which could be being more damaging to a corporation’s interests than the shareholder proposal process which has strict limitations on who can make proposals, how often and on what topics.
Increasing shareholder power to bind management through shareholder proposals while providing shareholder activists an unfettered venue for expression of dissenting viewpoints, in “exchange” for scrapping the essentially toothless Rule 14a-8 precatory proposal regime, may indeed be a case where corporate management should be careful what it wishes for.
May 25, 2007
The latest academic salvos in the proxy access debate are now available online in the Virginia Law Review. The May issue features an essay by Lucian Bebchuck, The Myth of the Shareholder Franchise, along with responses from Lynn Stout, Jonathan Macey and others disputing Bebchuk’s analysis and recommendations.
This important debate highlights the phenomenon of interactive federalism. The various interations of policy proposals designed to “fix” perceived problems in the director election process play off of one another in an interesting and somewhat predictable fashion. Corporate governance “activists” press their case with Congress or the SEC for reforms to federal regulatory scheme. Business interests (represented in this instance by the corporate bar and Delaware judges) take note of the activists’ agitation and the SEC’s perceived responsiveness and advocate for more mild reforms at the state level.
Majority voting amendments to the Delaware Code and the Model Business Corporation Act reflect this pattern and succeeded in sidetracking the SEC’s 2003 shareholder access proposal. However, the state-led majority vote movement may have helped spur another activist tactic: binding bylaw amendments, which has kept shareholder access on the federal agenda despite the apparent inclination by current Commissioners to sweep it aside.
This interactive pattern shows that states respond to federal reform proposals even when federal reform efforts languish. It also shows that the state approach to shareholder voting reform will not be the final word, and that reform proponents will continue to seek alternative avenues of reform when their efforts are thwarted either at the state or federal level.
May 24, 2007
The Securities and Exchange Commission has approved new interpretive guidance on compliance with Section 404 of the Sarbanes-Oxley Act. Here is the SEC’s Press Release.
Section 404 is perhaps the most maligned provision of the Sarbanes-Oxley Act. Critics argue that the costs of 404 compliance are excessive and are disproportionately burdensome for smaller public companies. According this New York Times article the guidance provides a relaxed set of compliance guidelines for smaller companies (with a market capitalization of less than $75 million). The Public Company Accounting Oversight Board (PCAOB) is expected to adopt compatible auditing standards.
May 24, 2007
In his written comments to the SEC on proxy reform posted below, Professor Stephen Bainbridge argues for a restricted view of the SEC’s authority to regulate the director election process. His argument relies heavily on the reasoning of Business Roundtable v. SEC and the disclosure-conduct disctinction the Business Roundtable court sought to preserve.
The “disclosure-conduct” distinction heralded in Business Roundtable is based on the oft-repeated generalization that the federal securities laws are disclosure-based rather than conduct-oriented. As I have discussed, such an assertion curiously ignores many provisions of the federal securities laws that directly proscribe conduct. After the adoption of Sarbanes-Oxley which contains a number of significant corporate governance provisions, the disclosure-conduct distinction as a demarcation of SEC authority becomes far less tenable.
In an essay, Revisiting Business Roundtable and Section 19(c) in the Wake of the Sarbanes-Oxley Act, 23 Yale Journal on Regulation 249 (2006), Jeffrey Wu questions the continued viability of the Business Roundtable holding. Here is the abstract:
Although section 19(c) of the Exchange Act authorizes the SEC to modify stock exchange rules “in furtherance of the purpose” of the Exchange Act, federalism has frustrated the SEC’s attempt to use that power to effect corporate governance reform. In Business Roundtable v. SEC, the D.C. Circuit vacated the SEC’s “one share, one vote” rule, on grounds that Congress did not intend for the SEC to intrude into corporate governance, which traditionally has been considered the domain of state law. However, the Sarbanes-Oxley Act has changed the federalism calculus of section 19(c). Because Sarbanes-Oxley’s amendments to the Exchange Act established a new federal policy of fighting fraud through corporate governance reform, federalism has lost much of its vitality as a constraint on SEC authority. Accordingly, the SEC should now have the power to use section 19(c) to promulgate corporate governance standards in furtherance of the purpose of Sarbanes-Oxley, particularly its audit committee provisions.
May 23, 2007
Stephen Bainbridge has posted, The Scope of the SECs Authority Over Shareholder Voting Rights on SSRN. It looks to be the written version of his comments before the SEC at its May 7 roundtable on Federal Proxy Rules and State Corporation Law. Here is the abstract:
At a May 2007 Roundtable on The Federal Proxy Rules and State Corporation Law, the Securities and Exchange Commission posed the following question for discussion: What should be the relationship of federal and state law with respect to shareholders’ voting rights and ability to govern the corporation? To answer that question, this essay reviews the legislative history of Section 14(a) and of the Securities Exchange Act generally, as well as the leading judicial precedents. It concludes that, as a general rule of thumb, federal law appropriately is concerned mainly with disclosure obligations, as well as procedural and antifraud rules designed to make disclosure more effective. In contrast, regulating the substance of corporate governance standards is a matter for state corporation law.
The author was an invited panelist at the May 7th Roundtable and submitted this essay as his written comments.
May 22, 2007
Much of the academic discussion on shareholder voting rights focuses on the merits and demerits of the SEC’s recent shareholder access proposal or variations thereof. The states’ efforts to reform director elections have received far less attention. Because state-led reforms inevitably respond to and influence reform efforts at the federal level, this oversight is unfortunate.
A forthcoming Business Lawyer article by Jay Verret seeks to fill this gap. The article explores the impact and reform potential of Delaware’s recent legislative amendments aimed at facilitating “majority voting” rules for director elections. Here is the abstract:
The Delaware General Assembly has recently adopted a provision to the Delaware General Corporation Law which provides that where shareholders have adopted a majority voting bylaw for corporate elections over the traditional plurality scheme, a corporation may not subsequently amend its bylaws to return to plurality voting without shareholder approval.
I will compare this provision to other approaches and try to explain the reasons underlying its adoption. I will also briefly summarize the evolving shareholder empowerment debate and analyze the majority voting provision in the context of that discussion. I will then describe some unique and unanticipated interactions between majority voting bylaws and various other working parts of corporation and securities law affecting the shareholder franchise, a carefully protected right in Delaware jurisprudence. The most prevalent corporate strategies responding to this movement will be explored and the difficulties of implementing majority voting will be described.
Finally, I will analyze voting schemes from the political sphere to generate analogous lessons for the corporate arena. I will then end with some predictions about future developments which will hinge on the outcome of SEC rules proposals, further DGCL revisions, and the responses of Delaware incorporated entities. This analysis blends three distinct groups of thought i) Theoretical corporate law scholarship, especially on the general shareholder empowerment debate, ii) Analysis of Delaware Court of Chancery and Supreme Court cases, with a focus on those that directly implicate the shareholder franchise, and iii) Practical analysis on the future of the majority voting movement for Delaware incorporated entities, and the strategic choices facing boards of directors in light of online proxy solicitation, Exchange Rule 452, and the looming specter of corporate ballot access.
May 16, 2007
I have expored how the prevailing romance over “principles-based” corporate regulation, especially in accounting, cannot be explained by a correspondence between the labels “principles-based” or “rules-based” and any actual accounting or regulatory system. The interim report of the Committee on Capital Markets Regulation (a.k.a. the Paulson Committee) unwittingly shows the difficulty of connecting the labels to reality when it advocates “principles-based” systems yet prescribes reforms that would yield more rules than principles.
The lack of connection between rhetoric and reality concerning principles-based accounting might be explained as an unconscious move to a new stage of accounting necessary to facilitate globalization of capitalism and democracy. This new stage evokes the theories that Max Weber explored about capital accounting as a pre-condition to capitalism within the broader social and political dimensions of market exchanges (see, e.g., Weber, The Protestant Ethic and the Spirit of Capitalism).
Accounting was a representation of the calculative mentality focused on maximizing rates of return on invested capital. Other social institutions were necessary too, including requisite technologies, religious sensibilities, state bureaucracies and an entrepreneurial spirit. Those remain mostly in place. What is needed is a system of international capital accounting as a pre-condition to the globalization of capitalism and democracy.
The current challenge is to forge a single system commanding worldwide recognition. For decades, US GAAP has been the front-runner but other powers, especially Europe and its member states, champion International Financial Reporting Standards (IFRS). Lately, IFRS is attracting more support, including from the Securities and Exchange Commission (SEC). The SEC has long indirectly controlled US GAAP and increasingly exerts indirect control over IFRS. The result is that IFRS may emerge as the system of capital accounting necessary for globalization. The US and other countries all can claim some ownership of IFRS: it appears to emanate from outside the hegemonic power but really is its product. Packaging and celebrating IFRS as “principles-based” increases the chances that it will command requisite global recognition.