Following on the heels of the worst financial crisis in decades, regulators and investors around the world have looked for solutions to the problems that hobbled the world markets in 2007 and 2008, and some responsibility for those problems has been consistently placed at the feet of corporate leaders.
Whether or not that blame is appropriately located, many investors, as well as some regulators, have focused on corporate governance reforms – and increased director accountability in particular – as a key part of the effort to strengthen the markets and ward off a recurrence of the problems seen in recent years. In the United States, the Securities and Exchange Commission has traditionally focused on disclosure and has not attempted to regulate the substantive behaviour of public companies. Nonetheless, the market crisis has led even the SEC to begin talking about accountability, the expectations placed on senior executives and directors at public companies, and the ability of shareholders to enforce those expectations. This article examines how Mary Schapiro, who became the chairman of the SEC in January 2009, has made corporate accountability, and the shareholder empowerment that ensures it, the key touchstones for the SEC during the past year; it also looks briefly at how Chairman Schapiro’s efforts overlap with current efforts of shareholders and legislators in the United States.
During her confirmation hearing before the US Senate in January 2009, Mary Schapiro stated that one of her top priorities would be to “bring transparency and accountability to all corners of the marketplace.” In her first public remarks after assuming the chairman’s mantle, she spoke to PLI’s “SEC Speaks” conference and explained that, as part of that agenda, she would seek to give “shareholders a greater say on who serves on corporate boards”. And in the year since Chairman Schapiro took office, the SEC has put her words into action, as she continues to keep the pressure on, and give further definition to, her goal of increased accountability. As she said almost a year after her appointment, “Strengthening the ability of shareholders to hold boards of directors accountable to them should further empower shareholders and help to restore investor trust in our markets.” Chairman Schapiro is determined to accomplish all those lofty ends.
The most prominent aspect of the Schapiro Commission’s reform efforts in this area thus far has been “proxy access”– the right, or ability at least, of shareholders to place their own nominees for the corporate board directly on the company’s proxy card at company expense. It is a “right” that does not exist today. The SEC has been struggling with this issue for decades and seems poised to adopt a rule in the second quarter of 2010 that will mandate proxy access for at least those shareholders that meet certain criteria. The SEC issued a proposal to mandate proxy access almost one year ago and, while the proposed rulemaking has caused considerable debate in, and received severe criticism from, corporate circles, there is a significant likelihood that the Commission will adopt this rule in some form within months.
The proposal would create a federal right of proxy access pursuant to new Rule 14a-11 under the Securities Exchange Act of 1934. The rule would give the right to include a director candidate on the company’s proxy card to shareholders (or groups of shareholders) holding for at least one year 1 per cent of a company’s shares (in the case of the largest US companies, with higher ownership thresholds required for smaller companies). Access would not be available to a shareholder seeking to change control of the company, and exercise of the right would come with various disclosure and qualification requirements. Up to a quarter of the board could be installed through proxy access, and to the extent there were more shareholders wanting to nominate a director than space on the proxy available under the rule, the proposal would give priority to the first eligible shareholder to put forth a nominee. It seems almost certain that important features of the adopted rule will differ from what was proposed – for example, both the period and the amount of share ownership to trigger an access right are likely to be increased, and the SEC seems to be moving toward a final rule that would give priority to larger shareholders rather than those that submit their nominees first – but it also seems quite likely that Chairman Schapiro will implement the important “access” part of her accountability programme in 2010.
Other SEC initiatives on director accountability
Given the fundamental importance that the SEC today ascribes to director elections, it is unsurprising that the agency has been looking at other perceived flaws in corporate voting. In the summer of 2009, in addition to its proxy access proposal, the SEC approved a rule change from the New York Stock Exchange prohibiting brokers regulated by the NYSE from voting with shares they hold for clients (who are mostly retail investors) in uncontested director elections if the broker has not received express voting instructions from the client. Although this rule change has disenfranchised retail investors to an extent, as fewer retail shares are now counted toward director elections, the perception was that brokers voted uninstructed shares rather thoughtlessly in favour of management’s recommendations, and thus impaired accountability, because the brokers did not have an interest in the election outcomes nor did they have any fiduciary duties related to the votes. The SEC is also examining other possible problems with corporate elections, including over-voting and empty voting and questions raised about the role of proxy advisory firms. Although the SEC has not said anything definitive on these related subjects yet, Chairman Schapiro and her colleagues have been promising a Concept Release on the topic since late 2009, at which point the public will be invited to comment.
Not entirely losing sight of the SEC’s roots as a disclosure agency, Chairman Schapiro and the commission she leads have also acknowledged and promoted the importance of high-quality disclosure to empower investors. As Chairman Schapiro has said, “Accountability is impossible without transparency.” Along those lines, in December 2009, the SEC adopted a package of rules that require enhanced disclosure in proxy statements about the company’s directors and director nominees, the board leadership structure and the interplay of that with risk oversight. With this information in hand, shareholders are presumed to be better able to assess the boards of the companies they own and better able to hold directors accountable for the decisions they make. The 2010 proxy season was the first in which the new disclosure rules were in effect and so it is not yet clear how successful they have been.
Not to be left out of the game, US legislators have included corporate governance reforms in various key pieces of legislation now pending in the US Congress. Most of those bills direct the SEC to adopt a proxy access rule as well as mandating some other corporate governance reforms. The proposed reform (beyond proxy access) that overlays most directly with the Schapiro Commission’s accountability efforts would make majority voting in director elections compulsory for public companies listed on US stock exchanges. This reform has been included in various bills circulating through Congress, including the most prominent one currently under consideration.
In March 2010, Senator Christopher Dodd introduced a major piece of financial reform legislation (intended primarily to remedy the abuses of the market crises of 2007 and 2008) in the Restoring American Financial Stability Act of 2010. Although corporate governance reform is not the main focus of this bill, it would, if enacted in its present form, require US national securities exchanges to prohibit the listing of any security unless the issuer has voting standards in director elections that require directors to receive a majority vote in uncontested elections (a plurality voting standard would apply to contested elections – that is, elections where the number of nominees on the ballot exceeds the number of director positions). Because it would operate by requiring changes to US listing standards, this reform could apply to foreign private issuers as well as US domestic companies and thus have an even broader reach than proxy access. Although the bill goes into some detail about how the majority voting standard should be implemented and enforced, the unstated principle to this reform hearkens back to Chairman Schapiro’s focus on accountability. Shareholder votes, and voices, are given greater weight by requiring that successful director nominees receive majority support.
Majority voting is not within the power of the SEC to require today, but it is fair game for the US Congress. And even if the Congress fails to act on the majority voting front, US investors are accomplishing this goal on their own in many cases. Legislation mandating majority voting for directors echoes shareholder proposal activity during last year’s US proxy season. Pursuant to the SEC’s Rule 14a-8, shareholders are able to place certain proposals upon a public company’s proxy and thus call the matter to a shareholder vote. According to RiskMetrics Group’s 2009 Postseason Report, proposals demanding majority voting in director elections stood as one of the three topics that received the greatest percentage of “yes” votes in 2009. In other words, in addition to being supported by congressional leaders, efforts to establish majority voting regimes have the support of a large number of the shareholders who are intended to benefit from that enhanced accountability. This movement has not gone unnoticed by corporate America either. Over 100 public companies have implemented a majority voting standard since January 2009, and currently almost three-quarters of the companies in the S&P 500 require majority votes in director elections.
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Looking back over Mary Schapiro’s first year as chairman, it is obvious that the SEC has had a number of urgent matters placed at its feet. Whether addressing perceived weakness in market structure and practices or responding to calls for greater enforcement efforts in light of the Madoff scandal, the SEC has not lacked for items to occupy its time over the past year. Nevertheless, Chairman Schapiro and her fellow commissioners have made enhancing director accountability and empowering shareholders a focus for the SEC’s regulatory programme and this seems a ripe area for further action on the SEC’s part as the year progresses. It also seems likely that Congress will remain involved, to some degree, in this area and that shareholders will continue to exert direct pressure as well.