How things have evolved.  Two years ago, the corporate governance debate was about the competitive harm of Sarbanes-Oxley (see Criticizing the Critics: Sarbanes Oxley and Quack Corporate Governance) and the need to restrict shareholder litigation in order to return the US to the pinnacle in global markets.  Pension plans, particularly union owned ones, were under attack, as were investment advisory services, those companies that could help guide institutional investors to vote their shares in a manner that was not automatically pro-management. 

One of the pieces of "evidence" used to support the declining importance of the US markets (due to SOX, excessive litigation, surly institutions, take your pick) was the decline in foreign listings.  This encompassed those companies formed in another country that chose to list on a foreign market.  Companies were, some claimed, moving to London instead of New York because of over-regulation.  It was a weak argument from the beginning but the study, Has New York Become Less Competitive in Global Markets? Evaluating Foreign Listing Choices over Time, pretty much put paid to the argument.  There was in fact no real decline, although the AIM Market in London gained a large number of listings that would never qualify to list in the US.  The premium that foreign companies got for listing in the US remained in place, evidence that companies came to the US specifically for its tougher corporate governance regulation.  London showed no similar premium.

We write not to reminisce about an overturned debate, although that would surely be a worthy exercise.  Instead, we note that the Journal has reported on Asian companies flocking to list in the US.  So far, five of the 15 IPOs in the U.S. this year have been from Asia and, while only one Asian public offering remains, "there is a pipeline of Asian companies preparing IPO paperwork behind the scenes with the U.S. Securities and Exchange Commission, according to bankers and lawyers."  Moreover, the types of companies that are deciding to list in the US include "newer, growth-oriented companies" such as those in the "health-care, clean-tech, or tech" industries. 

For profit stock exchanges like the NYSE and Nasdaq would no doubt like to reduce the regulatory barriers to listing in the United States.  Ironically, however, it is probably those very requirements that cause companies to come here.  If the NYSE/Nasdaq offered regulatory lite, there would be little difference between New York and London.  Companies that come to the US to obtain that badge of good governance and the resulting cross premium listing could just as easily go to the LSE.  All of which shows that a race to the top can be good for business. 

Great Britain has sometimes been labeled a shareholder's paradise.  Unlike the United States, large shareholders have access to the company's proxy statement for their nominees.  They also get a say on pay and directors must be elected by a majority of the votes cast. 

But there is at least one place where protections between the two countries differ.  As the WSJ reports, in an article about growing shareholder activism in Europe:  "The U.K. government has so far shied away from requiring fund managers to disclose their votes, though several fund managers do so voluntarily."  The SEC required disclosure by mutual funds back in 2003.  See Rule 30b1-4, adopted in Disclosure of Proxy Voting Policies and Proxy Voting Records by Registered Management Investment Companies, Investment Company Act Release No. 25922 (Sept. 23, 2003)(requiring open end mutual funds to disclose how they voted proxies of portfolio securities).  As a result, their patterns can be examined and investors unhappy with the approach can vote with their feet and exit the fund. 

On this one issue, the shareholder's paradise could learn a thing or two. 

The Institute for Policy Studies has put out a report on executive compensation called "America's Bailout Barons," which more or less reveals the content.  Among other things, the report concluded:

• The 20 US financial firms that have received the most bailout dollars from taxpayers awarded their top five executive officers, in the three years through 2008, pay packages worth a combined $3.2 billion. These 100 financial executives, . . . averaged $32 million each.
• In 2008, the year taxpayers rescued the financial industry, chief executives at the top 20 financial recipients of bailout dollars earned 37 percent more than their CEO counterparts elsewhere in the U.S. economy. These high-finance CEOs averaged $13.8 million last year. S&P 500 CEOs, by comparison, averaged $10.1 million.

The report noted that things would only get worse since these financial institutions had issued stock during the period when their shares were trading at low prices and they have now "inflated in value."   

Probably the most interesting part of the report, however, is the appendix that lists all of the legislative efforts with respect to executive compensation, some of which we've discussed on this Blog.  It demonstrates a variety of approaches to the compensation issue.  On the other hand, the list is depressing.  Most are either limited in time (to those companies that accept TARP money) or largely sitting dead in the water (with only the Bill put forth by Barney Frank having seen much progress).

More and more it looks like this financial crisis and the culprit of excessive compensation will remain unreformed in any permanent way, allowing for this to happen again.

Articles have begun to speculate that Justice Stevens is ready to announce his resignation from the Supreme Court.  The speculation is based his hiring of a single clerk, rather than the usual four.  Retired Justices apparently get one clerk.

Justice Stevens has been on the Court for 33 years.  As such, he has been involved in all of the critical securities cases decided in recent years.  Justice Stevens has been a steady, often impassioned, supporter of shareholder and investor rights.  He wrote the majority opinion in Zandford, overturning a Fourth Circuit decision attempting to restrict fraud actions through a narrow definition of the "in connection with" requirement.  But his strongest voice was often in dissent in some of the worst investor protection decisions during the period.  

He dissented in Central Bank, disagreeing with the elimination of aiding and abetting liability and again in Stoneridge, the case that arbitrarily restricted the reach of Rule 10b-5 to vendors and other third parties.  He dissented in Lampf, the case that imposed a federal limitations period on private actions under Rule 10b-5 and chose an abismally short one year, three year period. 

While in dissent, he may have the last laugh.  He was largely vindicated in Lampf with the decision by Congress in SOX to adopt a longer period of limitations.  He may also be vindicated in Central Bank, with legislative proposals recently introduced to reinstate secondary liability.  

In any event, if he steps down, investors and shareholders will lose a true advocate.  Hopefully the Administration will find someone of comparable views. 

After releasing the executive summary earlier this week, the Commission released the full report of the Inspector General on the Madoff debacle.  The report can be found here.   The report is full of nuggets.  We mention one of them.

Officials in OCIE's investment management group received credible information on Madoff from a hedge fund manager.  Madoff was not a registered advisor but was a registered broker-dealer.  Although much of the ponzi scheme had apparently been run out of the advisory business, registration as a broker dealer gave the staff the authority to search all of his records.  As the report noted: 

• According to the FTI Engagement Team, Madoff’s books and records were subject to examination whether or not he was registered as an investment adviser. As a registered broker-dealer, the Madoff firm’s books and records (including e-mails) related to that business are subject to compliance examinations and review by the SEC staff under Section 17 of the Exchange Act. If the firm had been registered as an investment adviser at that time, the firm’s books and records related to that business would have been subject to compliance examinations and review by the SEC staff under Section 204 of the Advisers Act. However, since Madoff was running the investment advisory business out of discretionary brokerage accounts at BMIS and it was a registered broker-dealer, those records were also subject to compliance examinations and review by the SEC staff under Section 17 of the Exchange Act.   

The problem, therefore, was not access but expertise.   In part because of the silo structure of the office, the broker-dealer group apparently lacked advisor experience (and the advisor group no doubt lacked broker dealer expertise).  While the examiners had access, they didn't have the expertise to take full advantage of the access.   

It took six months but examiners from OCIE scheduled an examination of Madoff.  According to the report, Lori Richards, head of the office, called Madoff.  As the report noted:  "Richards "recall[ed] telephoning him in advance of an exam that we were going to perform to tell him that we expected full cooperation of the firm."  In short, whatever the reason, Madoff was told in advance of the examination. 

Finally, the examination ended unexpectedly with matters unfinished.  "Work on the Madoff examination came to a halt as OCIE shifted its focus to other priorities. Walker and Wood were directed by their supervisors to focus on a mutual fund revenue sharing sweep being conducted by OCIE."  In other words, shifting priorities within the Agency may have resulted in the inability to uncover the ponzi scheme.  

Last week or so, the SEC and Bank of America filed with Judge Rakoff their views of the case.  In some respects, the two documents represented irreconcilable versions of the same case.  For Bank of America, it had done nothing wrong.  The disclosure was entirely accurate.  The $33 million settlement was only agreed upon to avoid the distraction of litigation.

From the SEC's perspective, Bank of America engaged in inaccurate disclosure.  But the agency couldn't pin the blame on anyone in specific because of reliance on outside counsel and the presence of the privilege. 

A day after the filings were in, Judge Rakoff gave his opinion and, frankly, he wasn't impressed with the submission of either side.  The submissions, he opined, "raises a few additional issues" that need to be addressed by September 9.  Specifically, the fine had been assessed against the Bank, which meant that shareholders and "arguably indirectly" taxpayers, would foot the bill.  Had the fine been imposed against individuals, it would not "come out of the shareholders' pockets." 

As for the argument that individuals could not be charged because the Bank had not waived privilege but relied on advice of counsel, Judge Rakoff rightfully noted the inconsistency of the argument.  

• This is puzzling.  If the responsible officers of the Bank of America, in sworn testimony to the SEC, all stated that "they relied entirely on counsel," this would seem to be either a flat waiver of privilege or, if privilege is maintained, then entitled to no weight whatever, since the statement cannot be tested.  . . .  If the SEC is right in this assertion, it would seem that all a corporate officer who has produced a false proxy statement need offer by way of defense is that he or she relied on counsel, and, if the company does not waive the privilege, the assertion will never be tested, and the culpability of both the corporate officer and the company counsel will remain beyond scrutiny.  This seems so at war with common sense that the Court will need to be shown more than a single, distinguishable case to be convinced that it is, indeed, the law.  It also leaves open the question of whether, if it was actually the lawyers who made the decisions that resulted in a false proxy statement, they should be held legally responsible. 

As for Bank of America's strenuous argument that it was not guilty of any wrongdoing, Judge Rakoff wasn't moved by that either.  The distraction argument brought this response:  "Whatever this chain of expressions may mean, if it is intended to suggest that Bank of America settled this case to curry favor with the SEC or to avoid retaliation by the SEC, the Court needs to know the specifics."

Both sides employed questionable strategy.  Advice of counsel is a common defense used in SEC enforcement actions but it by definition means that the privilege has to be waived at least to the extent the "advice" needs to be explored.  Advice of counsel and privilege are, therefore, mutually incompatible, a matter, as Judge Rakoff notes, of common sense.  As for Bank of America, its assertion of complete innocence, as we have noted, makes the payment of a $33 million fine seem a complete waste of corporate funds, particularly for a financial institution benefiting from TARP.  In short, it made the Bank look wasteful, something Judge Rakoff will no doubt explore in greater detail.   

We have posted the Judge's order and other primary documents on the DU Corporate Governance web site.

Ranking law blogs is notoriously hard to do.  Do you rank by traffic, an approach used by Paul Caron when he does a quarterly list?  If you rank by traffic, do you go with individual IP addresses or page views?  Do you rely on the number of links to your blog, a method used for example by Google?  (Ranking of blogs, including the influence of blogs on US News rankings, is examined in greater detail in Of Empires, Independents, and Captives: Law Blogging, Law Scholarship, and Law School Rankings). 

And, of course, whatever the metric, how does one assess influence?  Particularly in the realm of modestly trafficked blogs (as most law blogs can be characterized), the goal is influence quality rather than quantity (although some law bloggers are paid and this does often depend upon traffic). 

So, we were very pleased, here at The Race to the Bottom, to see that we had achieved a mark of influence.  Law Week Colorado, a legal newspaper, put out an issue titled "The Best of the Best," a paean to "the very best things about living and working in the legal world of Colorado."  The issue included a number of categories and ranked the best based on the consensus of the 400 or so readers who submitted ballots, labeled the People's Court, and the staff of Law Week, labeled Barrister's Best.  

Included among the many categories was the best law blog (see page 16).  The People's Court weighed in on Above the Law, a blog that unabashadly describes itself as a "legal tabloid"  (http://www.abovethelaw.com/).  

The Barrister's Best?  Our very own Race to the Bottom.  As the paper explained:

• Race to the Bottom is a blog written by University of Denver Sturm College of Law students and profs, and it gives you something more substantial to read after you've gotten your daily schadenfreude fix at Above the Law.  Though Race to the Bottom's main focus is corporate governance, few blogs or newspapers have explored the Nacchio and Churchill trials from as many angles.

We don't aspire for these sorts of things but when they happen, we appreciate them.  The students worked particularly hard covering the two trials mentioned above.  Its nice to know that some arbiters of quality and influence noticed.   The University of Denver has posted a short story on the accomplishment. 

We are discussing the executive summary of the report ("Investigation of Failure of the SEC To Uncover Bernard Madoff's Ponzi Scheme") by the Inspector General on the failure of the SEC to uncover the Madoff ponzi scheme sooner.  The Enforcement Division conducted two investigations (and probably should have conducted a third).  We discussed these in an earlier post.   

In addition, however, there were three "examinations" of Madoff's business.  The first examination was conducted by the Office of Compliance Inspections and Examinations (OCIE)   (a broker-dealer team) in 2003.  The summary described the team as "inexperienced," including limited knowledge of the securities laws.  Moreover, the complaint that triggered the examination involved issues "typically" handled by investment adviser personnel.   The examination focused only on front running because, as one official described, it was "the area of expertise of my crew."  In other words, they examined what they knew.  Ultimately, the team was pulled off the matter to shift focus to "mutual funds."

A second examination occurred in 2004.  This team operated out of the Northeast Regional Office (NERO) (aka the New York office).  Once again, the examiners came out of the broker-dealer program, not investment management.  Why?  "An examiner stated that each of the examination programs in NERO was a 'silo' and they almost never worked together."  The examiners often apparently asked perfunctory questions and accepted Madoff's responses. 

The report chronicled intimidation by Madoff designed to throw off the examination.  As the summary noted:  

• Madoff made efforts during the examination to impress and even intimidate the junior examiners from the SEC. Madoff emphasized his role in the securities industry during the examination. One of the NERO examiners characterized Madoff as "a wonderful storyteller" and "very captivating speaker" and noted that he had "an incredible background of knowledge in the industry." The examiner said he found it "interesting" but also "distracting" because they were there "to conduct business." 
• The other NERO examiner noted that "[a]ll throughout the examination, Bernard Madoff would drop the names of high-up people in the SEC." Madoff told them that Christopher Cox was going to be the next Chairman ofthe SEC a few weeks prior to Cox being officially named. He also told them that Madoff himself "was on the short list" to be the next Chairman of the SEC. When the NERO examiners would seek documents Madoff did not wish to provide, Madoff became very angry, with an examiner recalling that Madoffs "veins were popping out of his neck" and he was repeatedly saying, "What are you looking for? .... Front running. Aren't you looking for front running," and "his voice level got increasingly loud.

Ultimately, the examiners concluded that there was no front running and the examination was concluded.  A simultaneous investigation undertaken by OCIE examiners was likewise terminated, with the workpapers sent to the NERO examiners.   

In short, the examinations involved a silo mentality, a lack of coordination among offices, and a lack of sufficient expertise.  In addition, the browbeating suggests a lack of support from higher ranked officials within the Commission.  If there are structural changes that need to take place in the SEC as a result of the Maddoff fiasco, these are what need to be addressed. 

We discussed yesterday, briefly, the Summary of the Report of the Inspector General on its "Investigation of Failure of the SEC To Uncover Bernard Madoff's Ponzi Scheme."  As we noted, the SEC received a number of credible reports and complaints over the years and conducted three examinations (run by OCIE and/or examiners from regional offices) and two investigations (conducted by the Division of Enforcement) of Madoff between 1992 and 2008 when the scheme finally collapsed. 

Parsing through the assorted allegations, one of the two investigations, which occurred in 1992, failed because the staff investigated one matter (an advisor feeding funds to Madoff) but did not expand the investigation to include Madoff.  In 2000-2001, the Boston District Office and the Northeast Regional Office (NERO) received complaints from Harry Markopolos but declined to investigate them.  Markopolos submitted another complaint in 2005.  The resulting investigation focused on whether Madoff was an unregistered investment advisor, in part because examiners who had examined Madoff's operations were critical of Markopolos and indicated that the complaint raised issues that were "basically some of the same issues we investigated. . . "

In short, the explanations for the failure to spot Madoff were unfortunate but not unreasonable.  The investigations may have been narrow, but the Commission has often been (and still is) excessively driven by statistics.  Enforcement attorneys who want to spend time examining every possible lead would end up conducting lengthy investigations with little to show for it, hurting the stats.  

Moreover, the fact that Madoff sometimes provided inaccurate or evasive answers sounds bad but is unfortunately common enough.  The staff was investigating Madoff for violating the securities laws (operating an unregistered investment advisor).  One way or another, he was going to try to provide answers that obscured or evaded the effort in an attempt to avoid charges.  This is not an uncommon strategy.

In other words, the staff wanted to examine the case before it then move to the next one.  There was no real desire to "look around the corner" and determine whether other violations were taking place.  In other words, the Division is generally reactive, not proactive.  A proactive response would require a change in approach and culture and one that would require the Division to move away from statistics as the measure of success and productivity.

A summary of the Report by the Inspector General of the SEC has been posted on the Commission's web site, a long with a comment by Chairman Mary Schapiro.   The full 450 page missive will eventually follow.

The study concludes that there was no impropriety by anyone working on the case, including the SEC official who had a relationship with Madoff's niece.  The study does conclude, however, that the Commission staff failed in its task of ferreting out the fraud when it had ample notice.  As the Summary described:

• The OIG investigation did find, however, that the SEC received more than ample information in the form of detailed and substantive complaints over the years to warrant a thorough and comprehensive examination and/or investigation of Bernard Madoff and BMIS for operating a Ponzi scheme, and that despite three examinations and two investigations being conducted, a thorough and competent investigation or examination was never performed. The OIG found that between June 1992 and December 2008 when Madoff confessed, the SEC received six substantive complaints that raised significant red flags concerning Madoffs hedge fund operations and should have led to questions about whether Madoff was actually engaged in trading. Finally, the SEC was also aware of two articles regarding Madoff's investment operations that appeared in reputable publications in 2001 and questioned Madoff's unusually consistent returns.

In short, the explanation was mostly a story of lost opportunities.  The Agency was hindered by poor coordination, inexperienced attorneys and examiners, and a failure to follow up, particularly when requesting documents by third parties that would have demonstrated Madoff's deceit.  The summary contains examples of browbeating by Madoff and evidence of personal dislike by Commission staff that may have affected the investigation.  In short, there is no single smoking gun but a series of lost opportunities, with each of the three examinations and two investigations failing for somewhat different reasons.     

Of interest, one of the tips about Madoff's activites went to the Office of the Chairman.  According to the Summary:

• In March 2008, the SEC Chairman's office received a second copy of the previous complaint, with additional information from the same source regarding Madoff's involvement with the investor's money, as follows:  "It may be of interest to you to that Mr. Bernard Madoff keeps two (2) sets of records. The most interesting of which is on his computer which is always on his person."

The matter was forwarded to the staff in the Division of Enforcement who had conducted an investigation of Madoff.  The only response was that "we will not be pursing the allegations on it."  Another opportunity lost.   

Institutional investors (including union pension plans) achieve fewer dismissals and greater settlement amounts.  What else?  According to Institutional Monitoring Through Shareholder Litigation, they also generate improvements in governance.  As the study notes: 

• The changes in audit committee independence exhibit similar patterns. Firms with institutional lead plaintiffs experience a significantly higher increase in audit committee independence than firms with individual lead plaintiffs. We also find that, after lawsuit filings, defendant firms with institutional lead plaintiffs are more likely to establish a lead director position than defendant firms with individual lead plaintiffs.

In short, companies that confront pension plans as lead plaintiffs are going to have to pay more and institute better governance.   The data suggests the need for more not less institutional involvement in the shareholder litigation process. 

Remember in the prior administration the complaints that surfaced because of shareholder activism by pension plans, particularly ones sponsored by unions?  We recall, in particular, the editorial written by  Justice Scalia's son (Eugene) criticizing union shareholder activism and calling on the Department of Labor to do something about it, a position that engendered a reply from this Blog. 

With that in mind, we note the study Institutional Monitoring Through Shareholder Litigation, by professors Cheng, Huang, Li and Lobo.  The study concludes that institutional lead plaintiffs produce better outcomes for shareholders, with fewer of their cases dismissed and the settlement amount higher.  In addition, however, they had this to say:  "we find our results are not driven solely by public pension fund lead plaintiffs; the impact on immediate litigation outcomes is also significant for union pension fund, mutual fund and other institutional lead plaintiffs." 

In short, when union pension plans become active in litigation and serve as lead plaintiffs, the outcome is better for shareholders.  This study doesn't validate shareholder activism in all spheres (that is mostly left to common sense) but does validate it in one of them.  As we noted back in the day, if there was any investigation that ought to be conducted it would be why more pension plans do not take an active role in the governance process. 

We've noted before the often short sighted approach taken by opponents to shareholder access.  The Cox Commission proposed a wholly ineffective form of access (requiring an access bylaw to pass first) yet it was opposed with enormous vehemence.  The consequence has been a change in administration and an even more invasive form of access (one that is much better and promises to be more effective).  Anti-access groups are grousing about possible litigation. 

The likely effect of litigation?  Either a judicial decision that clarifies the broad nature of SEC authority (leading to the prospect of even more intrusive corporate governance regulation) or congressional intervention, largely to the same effect.

With that in mind, we note the study Institutional Monitoring Through Shareholder Litigation, by professors Cheng, Huang, Li and Lobo.  The study examines the impact of institutional investors as lead plaintiffs.  Before we give some of the conclusions, recall that the lead plaintiff provisions in place today were included in the PSLRA.  The PSLRA was an attempt to cut back and restrict securities litigation.  Specifically, the lead plaintiff provisions were designed to stop the race to the courthouse and end or at least limit lawyer driven litigation.  In other words, the provisions were inspired by those who opposed the plaintiffs' bar and the existing method of determining lead plaintiffs. 

What has been the consequence of this requirement?  First, the number of insitutional lead plaintiffs is increasing.  "The percentage of lawsuits with institutional lead plaintiffs has more than doubled from less than 15% in 1996 to more than 30% in 2004."  And the consequence?  As the study concludes:

• After controlling for these determinants of having an institutional lead plaintiff in our multivariate regression analysis, we find that relative to lawsuits with an individual lead plaintiff, lawsuits with an institutional lead plaintiff are less likely to be dismissed and have significantly larger settlements. Further analysis indicates that all types of institutions show significantly better litigation outcomes with public pension funds generating the largest settlement amount. We also find that within three years of filing the lawsuit, defendant firms with institutional lead plaintiffs experience greater improvement in board independence than those with individual lead plaintiffs.

In other words, the reform in fact encouraged greater participation by institutions.  And their participation has resulted in a lower likelihood of dismissals and greater payouts. 

Opposition to access will also likely generate these types of unintended consequences.  Comparing the last access proposal to the current one shows that this has already occurred. 

Access is inevitable.  As we have written (The SEC, Corporate Governance, and Shareholder Access to the Board Room), the denial of access only occurred because, in the early days of the proxy rules, issuers opposed it and, frankly, so did shareholders.  With no constituency of consequence supporting the right (to the extent there was a consistent support of access, it was the staff of the Commission), access languished.

But it remained an anomaly.  For an agency that ostensibly was on a mission to protect shareholders and investors, it was a provision that largely allowed federal law to eviscerate the right of shareholders under state law to nominate directors.  As shareholders began to lobby for access, the incongruity of the restriction became harder and harder to justify.  

Putting aside the merits of the proposal, the blunt truth is that the proxy rules are being used to mask what ought to be done under state law.  To the extent that restrictions on shareholder nominations exist, they should be imposed under state law.  Yet state law (read Delaware) has not really had to address this since the restrictions in the proxy rules did it for them.  

When access is adopted, the remarkably responsible Delaware legislature (not to mention the courts) has an out.  They can effectively give to corporations the right to prohibit nominations by shareholders, perhaps based on the size of the holdings or the tenure of ownership.  Access does not allow the submission of nominees from those shareholders who cannot nominate.  

The effect of this, however, would be to force Delaware to affirmatively restrict the right of shareholders to nominate directors.  As a result of their pro-management bias, the legislature and the courts would, almost certainly have no problem with the approach.  Nonetheless, it would be an overt example of anti-shareholder bias that would make the role of this state and its courts much clearer (and facilitate the arguments by those who seek federal preemption in the area). 

Access is about overturning federal restrictions on shareholder rights.  It does not displace the role of states but forces states to more clearly define their restrictions. 

We are the first to note that access upsets the current state of the law.  Delaware allows any shareholders to nominate directors, the proxy rules effectively take that right away.  Many of the letters, therefore, contained pleas to leave things as they were, as if this supported the state law role in the governance process.

At least one commentator, however, noted that any access rule should "[p]reserve the nominating committee's vital role in maintaining the quality and diversity of the board as a whole."  See  O'Melveny letter.   We appreciate that this is a comment calling for the preservation of the committee's authority to preserve board quality.  But the reference to preserving the board's role in maintaining diversity?  Come on.  That's a role that, given the dismal performance to date, ought not to be maintained but changed outright, with access likely to play a role in that process.

For a history of access, go here.

One of the much repeated arguments against access has been that corporate governance has so improved over the last few years (since SOX), that this additional right is not needed.  The letters usually refer to the same developments:  The adoption of majority vote provisions (which we address in a separate post), the increase in the number of independent directors on the board, and the use of independent chairmen/lead directors.

We will address this issue in much greater terms when we put up some posts on an ABA Report on Governance.  Suffice it to say that there is not much credit to be given for these reforms.  The existence of more independent directors (again, something likely limited to the largest companies) while at the same time allowing the CEO to remain chair of the board (collapsing lead director and independent chair stats masks the fact that almost no large companies rely on the latter model) simply facilitates CEO control and capture of the board (the chair largely controls the information flow to these directors and is far less likely to circulate materials critical of his/her performance).  We have likewise noted over and over that "independent" directors are not, in many cases, actually independent. 

Maybe a much stricter definition of independence coupled with an independent chair of the board would make access far less urgent.  In those circumstances, the board might well be in a position to look out for shareholder interests.  But that is not the system that is currently in place and until it is, access is an imperative. 

For the complete letter filed by this Blog with the SEC on the access proposal, go here.  For a history of access, go here.

One of the main arguments made in opposition to access has been the widespread adoption of majority vote provisions.  Somehow, the evidence implies, access will undergo something similar and, in the corporate governance realm, a thousand access flowers will bloom.  In fact, this is almost certainly wrong and misstates the reasons why majority vote provisions have become "widespread" in their adoption.

The use of majority voting as evidence is misguided for a number of reasons.  Almost everyone using the evidence overstate their popularity.  They typically refer to the percentage of companies in the S&P 500 or Fortune 500 that have adopted these provisions.  While it may be true that they have been broadly implemented among the largest companies, they are far less common among smaller public companies. According to Directorship, for example, around 75% of the companies in the Russell 3000 still use straight plurality voting.

Second, and more importantly, the popularity of these bylaws is no doubt due in large part to the lack of any meaningful authority extended to shareholders. The most common models of majority voting merely require that nominees not receiving a majority of votes submit a letter of resignation. Boards may reject the letter and, in fact, have done so on a number of occasions, effectively overturning the decision of shareholders.  Our posts on the Axcelis litigation illustrate the point and the difficulty incurred by shareholders in trying to learn all of the facts surrounding the decision.

Even if a bylaw were to require resignation, with no residual discretion given to the board, shareholders still have no real authority. Any vacancy that results from the defeat of a director will be filled by the board. The board can, if it wants, fill the position with the very director who did not receive a majority of the votes cast.  See Commentary to Section 10.22 of the Model Business Corporation Act ("In the exercise of its power under Section 10.22(a)(2), a board can select as a director any qualified person, which could include a director who received more against than for votes.").

Because of this lack of real authority for shareholders, majority vote provisions have been labeled on this Blog as a “myth.”[15] Other commentators have described them as “smoke and mirrors.” William K. Sjostrom, Jr. & Young Sang Kim, Majority Voting for the Election of Directors, 40 Conn. L. Rev. 459, 487 (2007).

Access proposals, in contrast, are not illusory. They provide shareholders with meaningful and substantive rights. They allow shareholders to insert nominees in the company’s proxy statement, increasing the likelihood that the candidates will be elected. Management has no discretion to ignore the results or otherwise fill the board position. Boards can, therefore, be expected to vigorously oppose these bylaws, as has been the case so far.

For the complete letter filed by this Blog with the SEC on the access proposal, go here. For a history of access, go here.

The Atlantic Monthly has an article about the pressure put on BofA and its CEO, Ken Lewis, to close the deal to purchase Merrill Lynch.  See The Final Days of Merrill Lynch.  Treasury Secretary Henry Paulson apparently threatened Lewis with removal if he tried to use the material adverse condition clause to get out of the merger.  To the extent that the story is accurate (the three main principals, Paulson, Lewis and Bernanke declined to be interviewed for the article), it suggests that Paulson was overbearing and Lewis weak.  As the article states:

• On one level, the merger between Bank of America and Merrill Lynch is a simple story of executive hubris and cowardice. Leaving aside the question of whether Lewis’s failure to publicly disclose new information—about Merrill’s losses, about his deal with Paulson and Bernanke—was legal, his passivity throughout the process was, in the eyes of some financial-industry insiders, contemptible.

On this Blog, we are often critical of managerial practices, particularly when involving executive compensation.  But we feel compelled to note that there is an entirely different way of looking at the same facts.

As the economy seems to be crawling out of the recession, it is perhaps easy to forget the desperation that prevailed in the financial markets during the September - December time period.  With the collapse of Lehman, lending markets froze.  The inter-bank market was paralyzed.  It has taken $700 billion in TARP funds (although not all of it has been invested) and over $1 trillion in stimulus to unfreeze the markets.  The failure of Merrill, which almost certainly would have occurred if BofA had walked away from the deal, would have jolted the financial markets and exacerbated the desperate economic conditions.  The recession would likely have lasted longer, greatly increasing the costs.  

Paulson was right to want the deal to go through and Lewis did the right thing.  The acquisition may not have been the best thing for shareholders although they will recover some of the loss in the law suits that have been filed.  But for the United States and the economy, it was very much the right thing.

Lewis in particular wasn't weak.  Quite the reverse.  In the long run, his actions ought to be viewed as heroic.  In many ways, the easy path would have been to walk away from the merger.  Nor did it mean Lewis would actually lose his job.  As one commentator noted in the article: “There is no question what I would have done if I were in his shoes,” he told me. “I would have told [Bernanke and Paulson] I was calling the MAC, was releasing the decision publicly, and dared them to fire me and the board—and that never would have happened, trust me.”

It is frankly a good thing for the United States that Lewis chose the more difficult path and avoided the potential shock to the financial system.  With housing sales improving and the stock market up, Lewis deserves some of the credit.

Many have taken the position that the SEC is taking a "one size fits all" approach that should be eschewed in favor of private ordering.  Private ordering is a concept that suggests companies ought to put in place provisions that uniquely fit their own needs and circumstances and, that, presumably, includes the views of management and owners.

In fact, the whole concept of private ordering in the corporate law environment is flawed.  It presupposes that directors and shareholders will somehow negotiate and adopt the most efficient set of provisions. The theory does not coincide with the practice. Evidence suggests that management’s control over the drafting process and its ability to rely on the corporate treasury eliminate any real prospect of private ordering. Instead, when matters are made discretionary, they result in a categorical rule that favors management. This has been the case with respect to waiver of liability provisions and likely to be the case with respect to access proposals.  This has been chronicled in Brown & Gopalan, Opting Only in: Contractarians, Waiver of Liability Provisions, and the Race to the Bottom, 42 Indiana L. Rev. (2009).

The evidence points to a categorical rule against access.  Until the SEC's proposal, there has been no history of boards adopting access bylaw.  Since the new milenium, only three companies have done so (Comverse, Aprial Healthcare, and Riskmetrics).  In three other instances, proposals were submitted to shareholders and vigorously resisted.  Two failed (HP and United Health), one passed (Cryo Cell).  The empirical evidence to date (supported by the comment letters filed in connection with the access proposal) shows almost implacable opposition by issuers.

There is no evidence that in the absence of an SEC rule in this area, that shareholders will obtain meaningful access in an appreciable number of cases.  Indeed, the evidence is entirely to the contrary.  Those calling for private ordering are really proposing a system that will result in a categorical rule denying shareholders access.  It is, in fact, the system that is currently in place.

For the complete letter filed by this Blog with the SEC on the access proposal, go here.  For a history of access, go here. 

Attached to the BofA memorandum filed yesterday was an affidavit from Morton Pierce, the chairman of the Mergers and Acquisitions Group at Dewey & LeBoeuf LLP.  He was asked "to analyze how compensation disclosures of the type that are the subject of the Complaint are customarily made in transaction documents of this nature."  The affidavit is in fact an interesting exegesis into some of the customary practice that surrounds compensation disclosure.

We found more intriguing, in a tough economy, the statement of Mr. Pierce's billing rate.  As he notes:  "I am being compensated at my normal hourly rate of $1,090 per hour for my time on this matter."  As for additional work done by the firm, the affidavit notes:  "From time to time, Dewey & LeBoeuf and its predecessor firms have provided legal services to Bank of America Corp. ("Bank of America") and Merrill
Lynch & Co. ("Merrill Lynch"). During the period from January 1, 2007 through the present, we have billed Bank of America $7,706,153.03 and Merrill Lynch $3,862,390.68."

In short, the $33 million paid as a penalty to the SEC (assuming approval of the settlement) is likely to be a fraction of the total cost associated with this matter.