Thursday, October 17, 2013

Proxy advisors, plaintiffs' lawyers and pay ratio- oh my!

For those of you who have seen the classic film The Wizard of Oz, you may remember the scene where Dorothy, the tin man, and the scarecrow made their way through the Spooky Forest chanting "lions and tigers and bears, oh my."  They feared what could come next on their journey. Some in the business community have a similar fear of what could come next with the rise of shareholder activism, increasing but unclear regulation, and more demands from particular investors.

On October 16th,  I had the privilege of serving on a panel with the corporate secretary of JP Morgan Chase, an executive of the AFL-CIO, and the fund controller for Vanguard during an informational session on corporate governance and proxy trends. The US Chamber of Commerce Center for Capital Markets Competitiveness sponsored the event.

The morning started with New Jersey Congressman Scott Garrett setting the tone for the day by praising SEC Chair Mary Jo White for her recent statements promoting agency independence and discretion, and decrying disclosure overload.  He expressed his opposition to what he perceived to be a growing push to “hijack” the SEC disclosure regime to push "environmental and social causes that are immaterial to investors."  He spent the remainder of his time outlining his concerns about the rise of proxy advisor firms, the over reliance on these firms by clients, potential conflicts of interest, and the lack of competition (2 companies control 97% of the market).  Proxy advisors in attendance invited the Congressman and all interested parties to meet to discuss transparency and the value they bring to the process. 

Former SEC chair Harvey Pitt echoed Congressman Garrett’s sentiments later in the day. Pitt also talked about the tensions between investors who want less disclosure and those who want more, the less than stellar record that the SEC has had recently with rulemaking and litigation, and the need for higher resubmission thresholds for shareholder proposals. Pitt also called pay ratio “one of the dumbest provisions in Dodd-Frank…because it either states the obvious or confuses the issue beyond recognition.”

Although I missed his report, Jim Copland of the Manhattan Institute presented’s report of the 2013 proxy season.  Of note the average Fortune 250 company faced 1.26 shareholder proposals, up from 1.22 proposals per company in 2012. But only 7 percent of shareholder proposals received the backing of a majority of shareholders in 2013, down from 9 percent in 2012. Of the 20 proposals that received a majority vote, over half involved just two issues: whether to elect all corporate directors annually and whether each director should be required to receive a majority of votes cast to be elected. 99% of shareholder proposals were sponsored by either organized labor, or a social, religious or other public policy organization. Finally, this tidbit --“among the 41 Fortune 250 companies contributing $1.5 million or more to the political process in the 2012 election cycle, 44 percent faced a labor-sponsored proposal, as opposed to only 18 percent of all other companies. Those companies that gave at least half of their donations to support Republicans were more than twice as likely to be targeted by shareholder proposals sponsored by labor-affiliated funds as those companies that gave a majority of their politics-related contributions on behalf of Democrats.” Nonetheless, political spending and lobbying proposals received only 18% of the shareholder vote. The full report is here.

During our panel, I focused my remarks on the three recent waves of litigation by a small cadre of enterprising lawyers alleging: (1) directors breached their duties by approving excessive compensation and failing to rescind the compensation after failed say-on-pay votes (despite say-on-play's nonbinding nature and the fact that Dodd-Frank makes it clear the law does not create any new duties); (2) inadequate proxy disclosures; and (3) failure to comply with 162(m) of the IRS code.  I also speculated about potential suits that may come in the 2016 proxy season regarding pay ratio, and discussed some of the environmental and social shareholder proposals. JP Morgan Chase, the AFL-CIO and Vanguard talked about the increasing importance of engaging with shareholders early to work through issues in advance of shareholder proposals. In fact the union indicated that through the engagement process, it had withdrawn 43% of its proposals.

On the pay ratio matter, the AFL-CIO lauded the benefits of additional disclosure (although they have no ideal ratio in mind), and stated that their top concerns included executive compensation, board diversity and board tenure. Vanguard, which owns a bit of most companies, discussed its priorities of majority voting and board classification, and educated the audience on how the firm targets companies for engagement, which the speaker noted was a “process, while voting is an event.”

All in all, an informative morning for those in attendance, who should now be better equipped to deal with the Spooky Forest of the 2014 proxy season.

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