ISS, the dominant proxy advisory firm, recently unveiled its new ISS Governance QuickScore product, which will replace its Governance Risk Indicators (“GRId”) next month. ISS asserts that QuickScore is an improvement on the GRId product because it is “quantitatively driven” (with a “secondary policy-based overlay”). Using an algorithm purportedly derived from correlations between governance factors and financial metrics, QuickScore will rank companies in deciles within each of ISS’ existing four pillars—Audit, Board Structure, Compensation and Shareholder Rights – and provide an overall governance rating to “provide a quick understanding of a company’s relative governance risk to an index or region.” While one can understand, as a business matter, ISS’ desire to continually reinvent and “improve” its products, the constant shifting of goalposts creates uncertainty and inefficiency. More important, QuickScore will likely provide a no more complete or accurate assessment of corporate governance practices than its predecessors, and it may be worse.

When ISS adopted its GRId product three years ago, we cautiously noted that it offered greater transparency and granularity than the blunt one-dimensional CGQ ratings that it replaced. Unfortunately, in our view, going back to a system of opaque quantified ratings is a move in the wrong direction. After a substantial investment of management time and effort, companies have familiarity with the GRId “level of concern” approach, which at least helps them understand and address any legitimate issues or explain any divergences from ISS’ “best practices.” While ISS retains GRId’s formulaic approach, to the extent that it does not share the weightings it assigns to the various governance factors, it reduces transparency as companies would not be able to compute their own QuickScores.

…continue reading: ISS Governance QuickScore: Back to the Future

As we enter 2013, a number of signs – including the strong finish to 2012, macroeconomic factors that appear to be reducing business uncertainty, and intensifying competition in many critical sectors – provide cause for optimism that the breadth and depth of M&A activity will be significantly greater in the coming year than in 2012. Global M&A activity dropped 17.4% in the first three quarters of 2012 compared to the comparable period of 2011, reflecting the European sovereign debt crisis, political uncertainty in the United States and slower economic growth in China and India. But M&A activity turned sharply upward in the fourth quarter: Global announced deal volume for the quarter was the highest in four years, and a number of transformative transactions were announced, including Freeport McMoRan Copper & Gold’s $9 billion acquisitions of Plains Exploration Company and McMoRan Exploration, and ICE’s $8.2 billion acquisition of NYSE Euronext.

…continue reading: Mergers and Acquisitions — 2013

A small but influential alliance of activist investor groups, academics and trade unions continues — successfully it must be said — to seek to overhaul corporate governance in America to suit their particular agendas and predilections. We believe that this exercise in corporate deconstruction is detrimental to the economy and society at large. We continue to oppose it.

The Shareholder Rights Project, Harvard Law School’s misguided “clinical program” which we have previously criticized, today issued joint press releases with eight institutional investors, principally state and municipal pension funds, trumpeting their recent successes in eliminating staggered boards and advertising their “hit list” of 74 more companies to be targeted in the upcoming proxy season. Coupled with the new ISS standard for punishing directors who do not immediately accede to shareholder proposals garnering a majority of votes cast (even if they do not attract enough support to be passed) — which we also recently criticized — this is designed to accelerate the extinction of the staggered board.

…continue reading: Harvard’s Shareholder Rights Project is Still Wrong

Forest Laboratories’ shareholders reelected nine out of ten incumbent director nominees, while rejecting three out of dissident Carl Icahn’s slate of four directors, despite ISS’s recommendation in favor of two of Icahn’s nominees. These results, along with the recent victory by AOL against Starboard (see our memo, AOL Shareholders Reject ISS Supported Activist Hedge Fund), represent an important reminder that companies under attack by dissidents have a chance to defend themselves with a well-crafted message that articulates a strategy for long-term success, notwithstanding strong activist pressure with backing from ISS.

…continue reading: Forest Laboratories Proxy Fight Vindicates Strong Defense

Testifying recently before a House Financial Services subcommittee, SEC Chairman Mary Schapiro stated that, because of capacity constraints, proposing a revised mandatory rule on shareholder access to company proxy materials is “not on the Commission’s immediate agenda.” She noted, however, that the issue is one that the SEC will “continue to look at over time.”

Last summer, the D.C. Circuit Court of Appeals vacated the SEC’s Rule 14a-11, finding that the SEC had “acted arbitrarily and capriciously” in adopting the rule without adequately assessing its economic effects. At the time, the SEC said that it was considering its options but noted that its changes facilitating private ordering in proxy access were not impacted by the Court’s decision.

In the current 2012 proxy season, less than two dozen companies have received proxy access proposals. This modest level of activity is in part explained by activist shareholders waiting to learn whether or not the SEC would be re-promulgating a mandatory rule. Because it is now clear that this will not happen, at least not for the 2013 proxy season, we can expect the focus on private ordering through shareholder proposals to continue and increase.

…continue reading: SEC Not Pursuing Mandatory Proxy Access at this Time

The Dodd-Frank Act mandates a variety of changes to the governance, disclosure and compensation practices of all public companies. Many of the provisions of the Act require further SEC rulemaking and interpretation before definitive responses can be implemented, but companies should become familiar with the pending changes and take preparatory steps where possible. The purpose of this memo, which we will periodically update, is to provide a framework for our recommendations by highlighting certain actions companies should consider taking immediately, as well as certain key provisions of the Act which will require responses in the longer term. (Links to our earlier memos are embedded throughout and in the attached index.)

…continue reading: Governance Changes Under Dodd-Frank

As we described in our recent memo, the SEC has adopted rules affording shareholders access to company proxy statements for the nomination of director candidates. The new regime, which includes new access Rule 14a-11 and amendments to Rule 14a-8, is expected to become effective in early November and will be applicable for the 2011 proxy season for most companies. It is now time for companies to take action to prepare for these sweeping changes. We opposed proxy access as an unnecessary and imprudent step. However it is now law and companies need to implement structures and procedures designed to make the proxy access regime work with minimum damage to the ability of boards to build long-term value for all shareholders. This memo highlights some of the major actions companies should consider:

…continue reading: Shareholder Proxy Access: Time To Get Ready

Balancing risk and reward has never been more challenging than it is today. Companies face risks that are more complex, interconnected and potentially devastating than ever before. Over the past two years, a perfect storm of economic conditions has triggered an extraordinary downward spiral from which we are only recently beginning to emerge: the subprime meltdown, liquidity crises, extreme market volatility, controversial government bailouts, consolidations of major banking institutions and widespread economic turmoil both in the U.S. and around the world. Against the background of the global financial crisis and the still uncertain global economy, companies are re-assessing their strategies for responding to the challenges and pressures of the new environment. Risk—and in particular the risk oversight function of the board of directors—has taken center stage in this re-assessment, and expectations for board engagement with risk are at all-time highs. Risk from the financial services sector has contributed to large-scale bankruptcies, bank failures, government intervention and rapid consolidation. And the repercussions have spread to the broader economy, as companies in nearly every industry have suffered from the effects of a global constriction of the credit markets, sharply reduced consumer demand and volatile commodity prices, currencies and stock prices.

…continue reading: Risk Management and the Board of Directors

A tidal wave of anger over the economic climate – what Delaware Chief Justice Myron Steele has called a “populist frenzy” – has created a fertile political environment for recent efforts by three of five SEC Commissioners and Senator Schumer to federalize corporate law under the cloak of shareholder empowerment. Unfortunately for long-term shareholders, and the companies in which they have invested, there is no evidence linking the one-size-fits-all broad proxy access currently under consideration at the SEC and on Capitol Hill to better corporate governance or long-term performance. To the contrary, these proposals, if adopted, will likely exacerbate, rather than mitigate, the emphasis on short-term results that played a significant role in the economic crisis.

First, the SEC’s proposal sets a minimum ownership threshold for shareholder eligibility to the corporate proxy entirely too low, at 1% of the shares of a company with a market capitalization greater than $700 million (with higher thresholds of 3% and 5% for smaller companies). Lowering the bar to 1% (and permitting even smaller shareholders to aggregate their stakes for purposes of achieving the 1% threshold), in contrast to the 5% threshold in our model access bylaw, gives activist and special interest holders a very low cost avenue to seek to influence board composition and corporate strategy. This low threshold will enable shareholder activists to create disruption at many companies each year, and reduce the willingness of qualified directors to serve.

Second, if there are more shareholder nominations than slots available, the SEC’s proposal would give priority to shareholders who submitted their nominations the earliest, regardless of the size of the nominating shareholders’ stakes. This contrasts with the approach of our model access bylaw which prioritizes nominations based upon the relative holdings of the nominating shareholders. Under the SEC’s proposal, a long-term institutional investor holding well in excess of 5% of the company’s equity for many years may have to suffer the negative effects of routine director election contests initiated by holders of 1% for only one year, and also lose the opportunity to avail itself of proxy access merely because the smaller holders beat a faster path to the corporate secretary’s office. As a result, the SEC’s proposal does not merely facilitate access for the occasional proxy access election contest, but rather creates incentives for routine election contests, as shareholders race to make access nominations in order to gain control over the process.

The SEC’s proposal advances a mandatory proxy access regime that will not only weaken corporate boards, but also weaken the relative strength of long-term investors as compared to those investors that pursue short-term strategies often based on hollow financial engineering. The Delaware private-ordering approach to proxy access is more consistent with shareholder democracy in that it allows all the shareholders of each Delaware company to consider, debate and if appropriate adopt through shareholder action – rather than government fiat – shareholder access bylaws that suit the particular circumstances of each individual company and its shareholders. Accordingly, and as we have said before, we agree with the position taken by two of the SEC Commissioners, that a mandatory federal “one size fits all” rule is a serious policy error and the SEC should instead amend Rule 14a-8 to allow the issue to develop at the state law level.

Together with Adam O. Emmerich, David A. Katz, James Cole, Jr. and Sabastian V. Niles, I have recently distributed a memorandum entitled Cross-Border M&A – SEC Proposes Revisions to Cross-Border Transaction Exemptions, which discusses proposed revisions by the SEC to the current regulatory regime for cross-border transactions. The revisions represent a modest advance toward clarifying existing exemptions and, if implemented, would provide US and non-US bidders with somewhat greater certainty and flexibility in structuring deals for non-US targets. The release also requests comments on a number of additional possible changes that could further broaden the exemptions. The proposed revisions do not address a key concern that under existing regulations foreign issuers are subject to potential exposure under the anti-fraud, anti-manipulation and civil liability provisions of the US federal securities laws for transactions with relatively modest US entanglements. The risk of such exposure has persuaded many international issuers to avoid US markets and US investors altogether, to the detriment of global capital markets in general and US investors in particular. The present amendments may thus be a way-station to a more comprehensive future revision of the cross-border rules.

The memorandum is available here.