Francis H. Byrd, Managing Director & Corporate Governance Advisory Practice Co-Leader
Dodd-Frank Act Ushers In A New Era
By the time you read this commentary, we will be in a new era of corporate governance and board accountability. With Senate passage last week and a Wednesday, July 21st, signing ceremony by President Obama, the Dodd-Frank Act is now law.
Signed, Sealed, Delivered and Now Ours
Now comes, from the standpoint of issuers, investors and the SEC, the hard part – implementation.
Certainly discussion and preparation of the corporate governance changes outlined in Dodd-Frank have been uppermost in the minds of IR Directors, Corporate Secretaries, outside Counsel, and governance advisors for the last few weeks. At this year’s annual conference of the Corporate Secretaries & Governance Professionals, in Chicago, Dodd-Frank and the SEC’s 2009 disclosure requirements were the primary topic of panels and workshops.
Open Questions on Dodd-Frank: Say-on-Pay Implementation (SOP) and Proxy Access
Two major questions remain unanswered. The first, and most pressing, is implementation of the mandatory Say on Pay requirement for an advisory vote on executive compensation. Amendments made to the bill allow for flexibility in the frequency of advisory votes. Companies will be able to poll their shareholders as to whether an advisory vote should be held annually, bi-annually or on a triennial basis. Dodd-Frank calls for at least two advisory votes over a six-year period with the first taking place in 2011. The big question for issuers is how best to poll their shareholders. Once that hurdle is overcome, boards must offer a recommendation to investors on the frequency, and face the recommendations of the proxy advisory firms both on the 2011 advisory vote and the frequency of future votes.
Very early indications are that many companies may view triennial as the best option for the executive compensation advisory vote, in part because many pay plans are crafted around three periods, allowing investors to better judge the value of compensation plans.
Investors will also face a choice here. The great unspoken fear regarding an annual advisory vote was that investors (especially those with large equity portfolios) would be swamped by SOP votes. Dodd-Frank, in this instance at least, provides investors with an avenue to escape that potential burden for the vast majority of their portfolio companies by simply voting for bi-annual or triennial advisory votes. We would also expect that activist institutional investors will spend the summer and early fall identifying those companies where they believe an annual SOP vote is needed. Outreach and communication between investors and companies will play a critical role in helping determine the frequency of executive compensation advisory votes in 2011.
The second major issue needing resolution is the parameters of proxy access. Dodd-Frank has provided the SEC with the authority to enact proxy access. While no vote of the Commission has taken place, the issuer and investor communities are pressing on key points such as the aggregate percentage of a company’s shares an investor or investors would need to own in order to utilize proxy access (3% is the rumored number), as well the amount of time those share would need to have been held. Mary Schapiro, Chairman of the U.S. Securities and Exchange Commission, has said publicly that the Commission’s goal is to have proxy access in place for the 2011 proxy season. This leaves a terribly short time for SEC rule-making, not only for proxy access, but for any potential rules concerning Say on Pay as well.
As if the summer of 2010 was not busy enough for governance professionals, the Commission finally issued its Concept Release examining the need for reform of the U.S. Proxy System.
In Earnest, the Reformation Begins
Last Wednesday, with a unanimous 5-0 vote of the Commissioners, the U.S. Securities Exchange Commission issued a Concept Release on prospective reforms to the U.S. proxy voting system. This signals the first step of a long reform process for the proxy voting and shareholder communications system. The Commission has provided a 90-day period for comments from market participants.
The Commission’s Concept Release represents the most in-depth examination of proxy mechanics in 30 years. Since the 1980s the U.S. (and global) equity markets have made dramatic leaps in size, volume of transactions, financial instruments traded, and in the nature of which investors dominate the market. One factoid, quoted by the Commission from Broadridge, brings this to mind perhaps more than any other – in 2009 there were more than 600 billion shares voted at more than 13,000 shareholder meetings.
This examination by the Commission, covering 32 individual topics germane to the proxy voting and communication system, is both long overdue and comes on the heels of wide-spread changes in financial regulation that will have an immediate impact on corporate governance. It would not be an overstatement to say that the totality of changes, those discussed above regarding the Dodd-Frank Act and those contemplated by the proxy mechanics Concept Release, are monumental when considered separately. However, for corporate issuers and institutional investors these are not separate subjects but have a high level of interaction. This is especially so given the approval mandate given the Commission by the Dodd-Frank Act regarding proxy access, and the advisory votes on executive compensation and change-in-control agreements (golden parachutes). The Commission states in several instances throughout the Concept Release that market participant concerns about efficiency, accuracy and integrity of the proxy voting system need to be addressed in order to insure confidence in the system of corporate elections.
As stated above, the Concept Release puts forward questions regarding numerous areas in the sphere of proxy voting and shareholder communication. We have produced, as a primer, an Executive Summary discussing the Concept Release in detail, that can used for focusing internal briefings for senior management and the board on the importance of the issues involved in the examination.
The ten key points where the Commission is seeking comment from market participants are as follows:
Over-voting and under-voting of shares
Vote Confirmations
Proxy voting by institutional securities lenders
Proxy distribution fees paid by corporate issuers
Issuers’ ability to communicate with beneficial owners of securities (NOBO, OBO and ABO)
Potential means to facilitate (and increase) retail investor voting participation
Data-tagging proxy-related materials
Role of proxy advisory firms
Dual record dates
“Empty voting”
We are pleased to note that the SEC has sought comments on our proposed ABO plan, which Commission staff renamed as an “annual NOBO system”, since in their view all shareholders would become NOBOs annually at least one time a year for the purposes of soliciting votes at shareholder meetings. The above list is all-inclusive and indicates that the Commission intends to review, if not reform, the U.S. proxy system in its entirety.
This leads to an important question being asked by issuers and investors alike: “Given the enormity of the tasks – on proxy plumbing alone, not taking into account the need to settle outstanding issues regarding proxy access and the prospect of the need for rule-making around the advisory votes on compensation and golden parachutes – how can the Commission promulgate and approve all of these rules in time for the 2011 proxy season?”
While we cannot answer this question, we can take note of the size and complexity of the agenda set forth for SEC Chair Mary Schapiro, the other Commissioners, and the staff. If proxy plumbing is the Aegean stables of U.S. corporate governance, then the Commission’s task is the equivalent of Hercules cleaning the stables while meeting all the other challenges simultaneously.
As priorities are set and reset by the Commission, it might be advisable to move discussion and decisions about proxy mechanics/plumbing ahead of (or at least on equal timing with) final deliberations on proxy access. Throughout the Concept Release and the debate on Dodd-Frank the need to restore market confidence is often mentioned. For all the concerns expressed about proxy access and its relationship to proxy plumbing, confidence in U.S. capital markets would suffer a serious loss of confidence if in 2011 the result of a proxy access related board election were contested by either side pointing out current flaws in the proxy system that went uncorrected.
One key issue raised by our President Ken Altman, at the Society of Corporate Secretaries & Governance Professionals annual conference, was the need for public companies (especially mid- and small-cap firms) to respond with comments to the Commission and make your voices heard. From The Altman Group’s perspective, we are pleased that we were named, along with the Business Roundtable, as being authorities on the proxy system through our submissions and discussions with the Commission. However, a broad-based response from corporate issuers (and other market participants) would be highly beneficial to the proxy plumbing examination and create a greater consensus for Commission action on reforming the system’s mechanics.
In the coming weeks, as we continue to study the Concept Release, we will issue a more detailed analysis and prior to the end of the comment period we will provide a full response to the Commission and make it available on our website.
Upcoming Webinar
Reid Pearson and Francis Byrd, co-leaders of The Altman Group’s corporate governance advisory practice, are participating on a webcast discussing Say-on-Pay, organized by Sutherland Asbill & Brennan LLP. You may register for the webcast, which is scheduled for Tuesday, July 27th at 1:00 p.m. at events.SignUp4.com/ProxyIssues_SayOnPay
The Webinar will address:
• Recent legislative and regulatory developments in executive compensation as they relate to Say on Pay
• Ways in which companies can position themselves to prepare for shareholder input into executive compensation
• How a company can best prepare for this new and uncharted environment
