Corporate Governance

SEC's Five Most Anti-Investor Actions of 2007

By J. Robert Brown

With the advent of the new year, we look back on the decisions of the SEC during 2007.  As wehave written, the Commission has played and will continue to play an active role in the corporate governance process.  But over the year, the Commission has made some really bad decisions, inconsistent with that mission.  We provide a top 5 but invite readers to suggest any additions to the list.

#5   The efforts to use the SEC to promote a political agenda by highlighting companies with operations in countries designated as "state sponsors of terrorism." 

This was an effort by the Commission topublicize the companies doing business in these countries.  Leaving aside that the effort was executed poorly (the information came from annual reports and did not take into account any changes disclosed in subsequent reports) and that it involved information readily available to anyone or any interest group that wanted it, the Commission essentially made a loud political statement by opting to use terrorism as the template for disclosure.  The effort damaged the appearance of the Commission as "independent" and motivated by a desire to protect investors. 

#4   Chairman Cox' efforts to demonize hedge funds. 

In connection with the much discussed access proposals, the Chairman spoke at anopen meeting and testifiedbefore Congress, decrying the potential harm that might come if the Commission did not take steps with respect to access.  He used as an example of the evil that might befall the US securities markets the possibility that off shore hedge funds might seek to nominate directors as part of a plan to strip assets from a company.  The example was silly (any shareholder using access as part of a scheme would require at least two years, face an uncertain response from shareholders, and at most get a short slate of directors elected to the board).  Instead, it was as if the mere mention of hedge funds would somehow cause paroxysms of fear and justify the position taken by the Chairman.  In short, he used the phrase as a substitute for analysis. 

It was, plain and simple, an attack on a category of activist shareholders.  And, while hedge funds may often have short term investment strategies, so do plenty of other investors in the marketplace.  As much as the Chairman tried to limit his criticism to a specific type of investor, in fact he cannot mask discomfort with, and perhaps opposition to, activist shareholders in general. 

#3   The Commission's inactivity in areas of critical importance to investors, particularly direct communication between street name owners and the company.  The shareholder communication rules are a mess.  For an article on the subject go here. Back in 2004, the Business Roundtable submitted a petition to reform these rules.  In 2007, the Commission still has not acted on these proposals.  At the same time, however, apetition to discuss reforms of (read limitations on) shareholder litigation received almost immediate action, with the Commission planning a roundtable on the subject in the spring. 

#2   The decision to approve the merger between the NYSE and Euronext (and the merger between the NYSE and NASD) without ensuring adequate enforcement of listing standards.  As we have discussed on this Blog, both the NYSE and Nasdaq have become for profit institutions.  Yet they retain a critical regulatory function, the enforcement of listing standards, an increasingly important source of corporate governance.  Profit maximization and regulatory enforcement will not, however,always be compatible. 

For better or for worse, the primary method used to ensure adequate enforcement has been through director independence.  Yet principals of director independence were weakened as a byproduct of thedecision by the NYSE to merge with Euronext.  The NYSE needed to allow industry representatives on the exchange board in order to appease Euronext and get the merger done.  It is easy to understand the motives of the NYSE, the merger appears to have been an enormous success (from a profit maximizing point of view).  It is less easy to understand why the Commission did not go to greater lengths to ensure the independence of the body responsible for the enforcement of listing standards. 

#1   Denying shareholders access for proposals that would sometimes require the inclusion of shareholder nominees in the company's proxy statement.  This is a topic that we have explored on this Blog at great length. 

There is little doubt that shareholders have the right under state law to propose these bylaws.  There is also little doubt that shareholders cannot effectively do so because of the costs imposed by federal regulation, specifically the proxy rules.  In denying access, therefore, the Commission effectively denied shareholders rights that exist under state law.  The rational for doing so -- that, in the words of the Chairman, a "law of the jungle" would reign -- was hyperbolic, inaccurate and disappointing.  In the end, it placed the Commission squarely against the rights of shareholders.

Full post as published by The Race to the Bottom on January 02, 2008 (boomark / email).