In closing my article in the March, 2010 edition of The Metropolitan Corporate Counsel , I wrote that "[t]he next 30-45 days should provide clarity as to the path corporate governance proposals will take, as well as the prospects for success or failure."
Well this is one prediction that has come partially true. In the realm of corporate governance there has been an intense round of activity in the Senate, continued action in the House, a major Supreme Court decision is looming, while the Securities and Exchange Commission ("SEC") seems to be stuck in a holding pattern. At press time, late April will see several of these areas of activity explode into the forefront at the same time. While I will give an overview of events and proposals as they currently stand at press time, I will also attempt to keep everyone abreast of developments on The Metropolitan Corporate Counsel blog.
Senate Action
In the last article, I gave the blow-by-blow description of the breakdown in the financial regulatory reform bi-partisan negotiations between Senate Banking Committee Chairman Christopher Dodd (D-Conn.) and Ranking Member Richard Shelby (R-Ala.) and the emergence of Senator Bob Corker (R-Tenn.) as a new player in the bi-partisan negotiations. Since then, the Dodd-Corker negotiations broke down, Senator Dodd introduced a partisan financial regulatory reform bill that was rammed through the Banking Committee, Senators Dodd and Shelby resumed their talks, and the White House has, without success, exerted intense pressure on the Senate leadership to force floor action and pass a bill with few or no changes.
On March 15, 2010, Senator Dodd released his latest financial regulatory bill, S. 3217, the Restoring American Financial Stability Act ("RAFSA"). Eschewing further bi-partisan negotiations at the time, Dodd forced a Banking Committee mark-up of the bill along a party-line vote one week later.
RAFSA builds upon a modified form of the Shareholder Bill of Rights introduced by Senator Charles Schumer (D-NY) last year. RAFSA contains the following corporate governance provisions:
Proxy Access: the SEC is given the authority to issue proxy access rules if it chooses to do so. This language is the same as the Waters Amendment that was added to the Wall Street Reform and Consumer Protection Act (H.R. 4173) that was passed by the House last year.
Majority Voting: will require majority voting in uncontested elections. However if a director fails to obtain a majority vote, the Board of Directors has the ability to reject the director's resignation, but must issue a public statement why the director's retention is in the best interests of the company and its shareholders. The SEC would also be able to exempt companies based upon size.
Leadership Disclosures: this section codifies requirements for the SEC to have rules in place regarding the disclosure of a company's leadership structure.
Say on Pay: requires an annual non-binding vote on executive compensation.
Independent Compensation Committees: directors sitting on compensation committees must be independent, and the committee will have the ability to hire its own counsel and advisors. The SEC would also have to perform a study on compensation consultants.
Executive Compensation Disclosure: enhanced disclosures on executive compensation and company performance.
Increased Clawback Authority: companies will have to develop policies to recover compensation from current and former executives if there are accounting restatements due to material noncompliance.
Manager's Amendment: during the mark-up, the Manager's amendment contained two governance proposals advocated for by Senator Robert Menendez (D-NJ). These provisions would prohibit brokers from exercising votes on Say on Pay and would also require a ratio of executive compensation to average worker pay.
Following the Senate Banking Committee mark-up, Senators Dodd and Shelby have resumed their negotiations. While these talks have dragged on, the Obama Administration and Senate Majority Leader Harry Reid (D-Nev.) have expressed a desire to bring RAFSA to the floor for consideration and a vote during the second half of April. Senate Minority leader Mitch McConnell (R-Ky.) has attacked RAFSA as perpetuating "too big to fail" policies and creating a permanent TARP bailout fund. McConnell was able to have all 41 Republican Senators sign a letter opposing RAFSA. We also need to keep an eye on the larger picture as well.
RAFSA is a 1,400-plus-page bill that includes complicated and controversial issues, such as the creation of a new consumer protection agency, systemic risk legislation, resolution authority, a pre-paid bail-out fund and the Volcker rule to prohibit certain activities by financial services firms. The corporate governance provisions of RAFSA are one portion of a much larger legislative mosaic. Consequently, how the Senate deals with all of these controversial issues will determine the likelihood of passage and consideration of corporate governance proposals.
Many Senators on both sides of the aisle have expressed concern regarding the inclusion of these governance provisions within RAFSA. Indeed, corporate governance has been one of the most contentious issues in the on-again, off-again Dodd-Shelby negotiations. If the Senate leadership attempts to jam floor consideration of RAFSA, it is unclear what if any changes can be made to the corporate governance parts of the bill. This has devolved into a full-fledged Donnybrook, and we will shortly know the winner.
House Action
The House passed the Wall Street Reform and Consumer Protection Act, which contains several governance pieces including Say on Pay, requirements for independent compensation committees and gives the SEC the authority to issue proxy access rules. House Financial Services Committee Chairman Barney Frank (D-Mass.) has stated that he wanted to consider corporate governance legislation separate and apart from financial regulatory reform.
Last month, the Capital Markets Subcommittee held a hearing on the corporate governance implications of the Supreme Court's campaign finance decision in the Citizens United case.On April 21, the Capital Markets subcommittee will hold a hearing on corporate governance legislation, primarily regarding the lead legislative vehicle, the Shareholder Empowerment Act (H.R. 2861) introduced by Rep. Gary Peters (D-MI.).
This bill is very similar to its cousin the Schumer Shareholder Bill of Rights. The Peters bill would mandate the following:
• Proxy Access to the ballot for shareholders who hold as little as one percent of the stock for one year;
• Prohibits uninstructed broker votes in uncontested director elections;
• Independent chair of the Board of Directors;
• Say on Pay;
• Independent compensation advisors;
• Increased clawback authority;
• Restricts severance packages;
• Performance targets to be used for compensation.
The hearing on the Peters bill is expected to be the precursor for further legislative action by the House Financial Services Committee. The House could speed its tempo on the Peters bill if it appears that the Senate will be able to pass RAFSA. Additionally, if RAFSA were to pass the Senate, a conference committee will negotiate a financial regulatory reform bill to reconcile the House and Senate differences. Governance issues would be at the heart of those negotiations.
Legislative responses to the Citizens United case also bear watching. Legislation has already been proposed by Rep. Michael Capuano (D-Mass.) and a joint bill is expected shortly from Senator Schumer and Rep. Chris Van Hollen (D-MD.). These legislative efforts seek to provide shareholders with greater input and approvals for corporate expenditures in terms of political and charitable contributions.
The Securities and Exchange Commission
In May, 2009 the SEC held its open meeting concerning proxy access rulemaking. The proposal was released several weeks later, and the comment period was closed in August. The rulemaking was expected to be finalized in November, but that was abruptly put off, and a second comment period was opened in December. March became the new deadline for the proxy access rulemaking to be approved, but that has also come and passed. The SEC appears to be shooting for sometime in the first half of this year and may be waiting for legislative action granting the power to issue proxy access rules. Proponents of proxy access expect such a grant of authority to allow the rules to withstand legal challenges.
The Supreme Court
Before the end of the term in June, the Supreme Court is expected to issue an opinion in the Free Enterprise Fund v. Public Company Accounting Oversight Board. This case involves constitutional questions involving the appointments clause of the Constitution.
The Free Enterprise decision could have long-term implications for Sarbanes-Oxley (SOX), particularly because SOX does not have a severability clause. If the appointments process for members of the Public Company Accounting Oversight Board ("PCAOB") is invalidated, or if SOX is ruled unconstitutional, then Congress may be forced to act. This comes on the heels of the examiner's report that was issued in the Lehman Brothers bankruptcy case. The Lehman's examiners report alleged accounting irregularities and raised potential issues with the audit committee and officers of the company.This report raises governance issues that may be wrapped up in post- Free Enterprise legislative efforts and may have also revived efforts by Senator Arlen Specter (D-PA) to overturn the Court's ruling in the Stoneridge case on vicarious liability. That is one worth watching as well.
In short, there may be a stew brewing that may not taste good. But to be forewarned is to be forearmed.
Financial regulatory reform and the governance provisions therein may get sucked into the vortex of election year politics. We will know very shortly if various forces in Washington are trying to score political points for November or being genuine in their efforts to pass legislation. One means continued deadlock, while the other could have major implications for the future of corporate governance in the United States.
Even if Congress were to punt on financial regulatory reform, actions by the Supreme Court and the SEC can lead to dramatic governance changes. While the fog has lifted, where the path leads is still unclear.
Published May 3, 2010.