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Recently in Corporate Governance Category


Treading the Regulatory Waters

With government so involved in business, business cannot afford to sit on the sidelines. A recent Mercatus Center at George Mason University study explores the relationship between business political activity (lobbying and campaign expenditures) and business success, and finds that with few exceptions, lobbying isn't correlated with better business performance. The paper's findings must be viewed in light of an important factor driving companies' involvement in policy debates: the need to fend off distortive, ineffective, and costly regulations. This type of lobbying is not likely to generate profits.

A federal district court recently ruled against John Chevedden in his bid to get a shareholder proposal included in Express Scripts' proxy materials. The company did not want to include the proposal because it contained material facts that directly contradicted statements in the company's public filings. After Express Scripts filed suit, Mr. Chevedden agreed to correct some of the errors--something he apparently had not offered in response to earlier requests from the company. The court held that the company could exclude the Chevedden proposal because, "[e]ven if Chevedden's revised proposal was timely, which it clearly is not, there are still substantial inaccuracies in the revisions to the supporting statement that render the revised proposal subject to exclusion" under the SEC's rules.

Mr. Chevedden is an experienced crafter of shareholder proposals. The Manhattan Institute's Proxy Monitor reported that just under a quarter of shareholder proposals between 2006 and 2013 "were sponsored by just two individuals, John Chevedden and Kenneth Steiner, and their family members and trusts." In a 2007 comment letter to the Securities and Exchange Commission, Mr. Chevedden explained that "[t]he current resolution process ensures that management and the Board focus a reasonable amount of attention to the issue at hand as they must determine their response to the shareholder proposal." The shareholders footing the bill might not agree that companies should be forced to spend time and resources responding to proposals that contain material inaccuracies.

Vinny Sidhu
Legal Intern, Manhattan Institute's Center for Legal Policy

The Manhattan Institute's Center for Legal Policy has just released a new report detailing the expanded use of deferred and non-prosecution agreements by the federal government against various companies, entitled "The Shadow Lengthens: The Continuing Threat of Regulation by Prosecution." The report can be found here.

While the federal government justifies the increased use of DPAs and NPAs by pointing out that they allow a company to re-shape its corporate structure without formal charges being filed against them, this contention ignores the fact that the lack of transparency behind the pre-charge agreements can breed governmental abuse by allowing the government to utilize their leverage in crafting the agreement to create desired outcomes.

For example, if a company is threatened with federal charges by the government, it will naturally find it more desirable to enter a DPA or NPA to stave off bankruptcy, avoid radical corporate structure changes, and the bad PR that comes with being charged with wrongdoing. If the government, however, has unmitigated authority to craft DPAs or NPAs as it wishes, the company would have no choice but to accept the agreement in whatever form it may come, or risk formal charges. Ultimately, there needs to be a premise of fairness behind these agreements, i.e. companies having some way to make sure prosecutors do not go too far. Otherwise, it appears that too much power is being left in the hands of prosecutors to determine the corporate shape of entire industries.

Opposing FCPA Overcriminalization
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Vinny Sidhu
Legal Intern, Manhattan Institute's Center for Legal Policy

As the overcriminalization problem has garnered more and more attention, the calls for reform have become increasingly audible in various aspects of federal, state, and local governments. The latest example comes to us from the Texas Public Policy Foundation. Vikrant Reddy, TPPF's Senior Policy Analyst for the Center for Effective Justice, has just released a report detailing salient changes that should be made to the Foreign Corrupt Practices Act to make it more reliable and efficient. Ostensibly, the purpose of the statute is to minimize U.S. complicity in international corruption, but its ancillary effects tend to stifle any beneficial effects of the additional regulation:

The act is emblematic of all the worst aspects of creeping federal overcriminalization, the tendency of Congress to use criminal law to regulate behavior not traditionally considered criminal. The FCPA's most important terms are vague and provide limited guidance for potential defendants; it is enforced in a way that limits critical mens rea protections; and the law does not provide for a "compliance defense" that would allow corporations to demonstrate that violations were a result of rogue employees, rather than inadequate compliance regimes.

The general problem stems from the fact that the premise of the legislation does not account for the creation of a skewed incentive structure. In theory, the FCPA will deter U.S. corporations from using potentially illegitimate means to court business in countries that are deemed "high risk" by using the threat of exorbitant fines and penalties. In order for this linear-style logic to hold, legislators either did not consider the negative externalities involved, or simply deemed them minimal in relation to the benefits of the legislation. Either way, the FCPA has proven to cause significant problems in terms of increasing the uncertainty involved in a given investment, and thus diverting U.S. resources from economically and socially productive uses:

Ironically, in fact, there is evidence that the FCPA has had the counter-productive effect of discouraging American firms from investing in impoverished nations. There is also evidence that the FCPA has stunted the growth of U.S. companies by forcing them to maintain costly compliance regimes. Ironically, these regimes may not even be useful becasue prosecution ultimately depends on how a particular U.S. Attorney will choose to interpret a particular term.

An improved piece of legislation would take into account these proven negative effects, while maintaining the core corruption-preventing purpose of the FCPA.

In other overcrim news, the Manhattan Institute's Center for Legal Policy will soon be releasing a report detailing the changing nature of Deferred and Non-Prosecution Agreements, especially in relation to the increasing number of agreements being utilized by the DOJ and, recently, the SEC. It will also examine the scope and adequacy of judicial review over these agreements.

Vinny Sidhu
Legal Intern, Manhattan Institute's Center for Legal Policy

One frequently cited problem of 401(k) plans is that the volatility of the market puts workers at risk of losing their retirement savings at a moment's notice. In order to hedge against this problem, lawmakers tend to argue that safer alternatives, such as defined-benefit plans or 401(k) plans with limited exposure, should be the industry norm. In terms of both approaches, the argument is that the little to no market exposure will ensure worker returns upon retirement. An oft-overlooked consideration, however, is whether the extent of these returns is sufficient to ensure a stable retirement. Generally, safe investments mean lower yields, which in turn must outpace inflation to allow workers to reap even minimal rewards.

In order to offset this problem, another alternative is to utilize 401(k) plans that take on greater risk, but are able to hedge against this risk by diversifying portfolios to allow for investments with longer time-horizons to counter the effects of short-term volatility and provide returns much greater than the rate of inflation. Scott Higbee, a partner at the global private markets firm Partners Group, argues in today's Wall Street Journal for just such an approach:

Meanwhile, more than 50 million Americans rely on 401(k) plans for their retirement that typically are self-managed and restricted to a combination of traditional assets of stocks, bonds and cash. These defined-contribution plans generally don't provide investors with the opportunity to add a range of alternative assets to the mix. Given the current dismal yields on mainstream fixed-income securities, they should.

Some self-directed retirement savings vehicles such as IRAs allow investors typically with a net worth in excess of $2 million (excluding their primary residence) to invest in alternative assets such as private equity and real estate. But most 401(k) participants don't meet these thresholds and most plans are not designed with portability and liquidity in mind.

By opening up the alternative asset option for all investors, the government would allow 401(k) workers a better chance at securing a stable retirement, while minimizing the concomitant risk of such an approach. If this shift in policy were accompanied by a shift in the regulatory scheme to allow fund trustees a certain degree of immunity from alternative-asset related litigation, while preventing these trustees from aggregating risk in a small number of assets, the incentive to diversify into alternative-assets would certainly be extant. If this scheme proved successful, it could provide an impetus for the reconsideration of the defined-benefit system as well, which would save the government billions in public worker costs. Within the confines of a wise regulatory framework, this is an experiment that seems worth any potential costs.

Walter Olson, senior fellow at the Cato Institute's Center for Constitutional Studies (and founding editor of PointofLaw), has penned a critical piece on the SEC's new proposed rule to implement a mandate under the Dodd-Frank law that U.S. corporations disclose the ratio between the pay of their chief executive officer and that of their workers.

Read Walter Olson's Column

Vinny Sidhu
Legal Intern, Manhattan Institute's Center for Legal Policy

Floyd Norris, author of the High & Low Finance column for the New York Times, writes about two cases the Supreme Court has decided to hear dealing with fee-shifting in patent infringement cases. The outcomes could potentially deter future, frivolous infringement suits.

Vinny Sidhu
Legal Intern, Manhattan Institute's Center for Legal Policy

For all you interested readers out there, the Harvard Law School Forum on Corporate Governance and Financial Regulation has re-published a memorandum from the Manhattan Institute's 2013 Proxy Season Review.

This annual review analyzes various pre-voting facets of shareholder proposals, such as the types of proposals introduced, who sponsored them, and the rate at which they were introduced, as well as post-voting results. A particular emphasis is placed on proposals involving political spending and lobbying, which have constituted a plurality of all shareholder proposals introduced in 2012 and 2013.

The full text of the 2013 Proxy Report is available here.

An April Corporate Counsel article notes courts' increasing, if inconsistent, scrutiny of attorney-fee awards in settlements of M&A litigation where there's no discernable benefit to shareholders. The article mentions my victory in Kazman v. Frontier Corp..

by Steve Eide
Senior Fellow, Manhattan Institute's Center for State and Local Leadership

This entry is cross-posted at publicsectorinc.org, where Steve Eide is a regular contributor.

American states differ, but generally not so much in how they operate their pension systems. Consensus reins over investment allocations and benefit structures. Most trustees and administrators don't believe radical pension reform is necessary, regardless of if they hail from a rich or poor state or red state or blue state. Shareholder activism is an exception. A few blue state pension funds, particularly in New York, adopt a highly activist posture during proxy voting season, while most funds are barely active at all. Proxy Monitor, a project of the Manhattan Institute's Center for Legal Policy, lays out the details in a new report.

Shareholder activism can take various forms. Public pension funds are particularly keen to advance "agenda[s] unrelated to share value" which attempt to "mobilize the power of the capital markets for public purpose" (that's former California state treasurer Phil Angelides speaking).

Public-employee pension funds...have generally been much more likely to sponsor proposals related to social or public-policy issues unrelated to corporate governance or executive compensation--such as those involving the environment, corporate political spending or lobbying, and human rights--than have other shareholders. Social and policy issues have been the focus of only 38 percent of shareholder proposals sponsored by investors generally dating back to 2006 but 64 percent of all shareholder proposals sponsored by state and local employee pension funds.

And public pension funds have been increasingly active, putting forth even more proposals this year than private union funds, traditionally the leading source of shareholder activism.

But mostly just in New York (see charts).
Proxy Post Chart #1 (fixed).png

Proxy Post Chart #2.png

Even CalPERS, despite its vocal commitment to socially responsible investing, has not been anywhere near as active on the proxy front as the New York City and State funds. According to Proxy Monitor, CalPERS' few recent proposals have focused on corporate governance issues with at least an arguable connection to shareholder value. By contrast, the New York funds' proxy agendas are unabashedly social. In addition to going after companies for failing to toe the line on gender identity and the environment, Comptroller DiNapoli, trustee of the $160 billion New York State Common Retirement Fund, has employed the proxy process to harass companies for giving money to Republicans and for lending support to public collective bargaining reform. Among the 119 shareholder proposals the New York City pension funds have sponsored since 2006, 89 have been about "social or policy issues." (Nearly all have been voted down by shareholders.)

Here's the problem. Public pensions' shareholder activism tends to advance a very partisan understanding of taxpayer/shareholder interests, and it politicizes a government function--pension fund management--that should be purely administrative. There's no smoking gun evidence that New York funds' activism have caused the funds to lose value. But using pension funds to advance a social agenda aggrandizes pension policy, which already consumes far too much public attention. The dreamers among us yearn for a time in which public officials may devote their attention exclusively to matters that may yield some benefit to the public, such as how to improve park service, snow removal, or the schools. Pensions, by contrast, should be a minor administrative responsibility guided only by the humble principle of stewardship: don't lose the money, and make a small return with it. Elected comptrollers and treasurers should stick to their knitting. We elect them to collect revenues, not advance social agendas.







Published by the Manhattan Institute

The Manhattan Insitute's Center for Legal Policy.