The 2013 proxy season has ended, and many public companies are
in a period of relative calm on the governance front before the
season for shareholder proposal submissions begins in a few months.
This Jones Day Governance Perspectives reflects on some of
the highlights of the past proxy season and a few events and trends
that may shape the 2014 season.
Declining Influence of Proxy Advisory Firms
Wall Street Journal article relating to the vote even included this gem of a quote from a VP of proxy research at Glass Lewis: "Our power is probably shrinking a bit." Would that it were so—investors' reclaiming the power of the shareholder franchise would be good news for corporations and their boards, and for investors as well.
Debunking the "One-Size-Fits-All" Leadership Structure Myth
JPMorganChase's success in defeating its independent board
chair proposal also may signal that investors are abandoning the
view that an independent board chair is the appropriate leadership
structure for all U.S. public companies. Moreover, the fallacy of
this "one-size" myth was supported by a 2013 study
conducted at the Indiana University Kelley School of Business that
examined the performance of 309 companies following the separation
of their CEO and board chair roles. The study concluded that the
roles should be split only when a company has a performance
problem, and then by bringing in an independent board chair but
maintaining the current CEO. Further, the researchers questioned
why companies would demote their CEOs in the absence of performance
issues:
From our perspective, it appears that boards are acquiescing to outside pressure from activist investors or corporate governance watchdogs to separate the CEO and chairperson positions because it is "best practice." Based on the evidence from our study, we believe this approach is a mistake. (Emphasis added.)
The results of this study support a thoughtful and continuing analysis of the appropriate leadership structure on a company-by-company basis. Moreover, it provides ammunition for companies that choose to resist an independent board chair proposal—or choose to recombine their CEO and board chair roles. It also joins the ranks of several other empirical analyses that have provided evidence against so-called "best practices" and instead have supported the very governance practices that have come under attack in the last decade, including shareholder rights plans and classified boards.
Fluidity of Governance Trends
This in turn brings up an important point about governance
trends—they are trends, and so by their nature are fluid and
changing. Some of a company's governance practices can be
dynamic as well—separated leadership roles can be recombined,
and rescinded poison pills can be redeployed at a moment's
notice. Other activist-driven changes to governance practices,
however, may be permanent, at least from a practical perspective.
For example, a company that grants the right to act by written
consent to shareholders may never obtain shareholder approval to
again restrict shareholder actions to duly called shareholder
meetings.
Likewise, a company that declassifies its board of directors
will not be able to reinstate staggered directorate terms. This is
of particular importance in light of the continuing campaign to
declassify public company boards spearheaded by Harvard Law
School's Shareholder Rights Project ("SRP"), the
unprecedented coalition between academia and several institutional
investors, most of which are public pension funds. As of early
July, SRP-backed declassification proposals have resulted in the
declassification of the boards of 77 companies in the
Fortune 500 and S&P 500. That is a staggering number,
and 89 percent of S&P 500 companies now have annual director
elections, compared to 82 percent at the end of 2012 and less than
half 20 years ago.
Although some companies have resisted the force of the SRP, most of
the companies targeted by these proposals have declassified to
avoid the probable, serious, and continuing consequences of failing
to respond to a successful shareholder declassification proposal.
Given the current incidence of proxy contests and unsolicited
takeover proposals, odds are that at least some of those
declassified boards may at some point have reason to wish that they
had preserved their once-staggered directorate terms.
Internalization of Voting Decisions
Part of JPMorganChase's success may be attributable to the
continuing internalization of the analyses of proxy proposals and
related voting decisions. This trend gained additional attention in
the 2013 proxy season when The New York Times published an
article that discussed the letter that BlackRock, the world's
largest private-sector asset manager, sent to the CEOs and/or board
chairs of 600 U.S. public companies in 2012.
BlackRock's letter was intended to encourage the board
chairs and/or independent directors of those companies to engage
directly with BlackRock if corporate governance issues were to
arise in the coming proxy season. The letter stated that BlackRock
reaches its voting decisions using its own internally generated
voting guidelines, which are developed independently from proxy
advisory firms. Moreover, BlackRock stated that it applies its
voting guidelines "pragmatically because we believe that
effective corporate governance is nuanced." Of course,
many companies and governance practitioners have long espoused that
view, but it is refreshing to hear the position asserted so
publicly by such an important fund family. And the influence of
firms like BlackRock cannot be underestimated—with almost $4
trillion in funds under management, BlackRock owns a significant
stake in approximately 40 percent of U.S. public
companies.
Of course, scores of institutional investors—including
Fidelity, Vanguard, and many others—have long relied on their
own voting guidelines to make voting decisions. Many others create
their own voting policies and supplement them with research and
recommendations from proxy advisory firms. We believe that there is
no substitute for thoughtful analysis of proxy proposals by an
investor's own personnel using the investor's own voting
guidelines, which reflect its investment priorities and strategies.
It is clearly a better approach to decision-making than blind
reliance on and deference to voting recommendations issued by
advisory firms that have no investment in the companies that are
the subjects of their recommendations nor any fiduciary
responsibilities to their shareholders.
We hope that BlackRock's public articulation of the importance
of thoughtful exercise of the suffrage by institutional investors
will encourage other investors to further internalize analyses
relating to matters on the corporate ballots of their portfolio
companies and to make independent and informed voting decisions in
a pragmatic manner. In addition, we hope that the recent
appointment of a new SEC chair will prompt a renewal of the
SEC's examination of whether and how these firms should be
regulated, an effort that has lain dormant since the issuance of
its "proxy plumbing" release in 2010.
Challenges to Shareholders' Rule 14a-8 Eligibility
One interesting note in the 2013 season was National Fuel Gas Company's success in securing a withdrawal of a declassification proposal "sponsored" by a public pension fund after National Fuel filed litigation in federal court. The lawsuit challenged the fund's eligibility to submit the proposal because it had delegated voting authority over its National Fuel shares to a third-party investment manager. National Fuel's success may embolden other companies to adopt aggressive and creative tactics to preserve their classified board structures, and to challenge a proponent's eligibility to submit any kind of Rule 14a-8 proposal in federal court rather than through the SEC's no-action letter process.
Ever-Evolving ISS Policies
Of course, the late fall is the time that ISS and other proxy
advisory firms reevaluate and revise their voting policies and,
with past as prologue, we expect that those policies will be
tightened, not loosened, for the 2014 proxy season. We already know
that the ISS voting recommendations will put even more pressure on
corporate boards to acquiesce to shareholder sentiment, as
ISS's new policy regarding responses to majority-supported
shareholder proposals will go into effect for the 2014 proxy
season.
Overall, the 2013 proxy season may show that the notion of one-size
governance "solutions" is waning and that there is a
corresponding movement toward more independent, informed, and
responsible investor participation in governance matters and voting
decisions. Both trends would be welcomed in the 2014 proxy season
and beyond.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.