Dodd-Frank Act and corporate governance
- Corporate Governance and Disclosure Implications of the Dodd-Frank Wall Street Reform and Consumer Protection Act Mayer Brown, July 23, 2010
The Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Act") was signed by President Obama on July 21, 2010.1 As happened when the Sarbanes-Oxley Act of 2002 ("Sarbanes-Oxley") was adopted, the Act will spur significant additional regulation over the next year flowing from the specific and extensive rule-making required by the Act.
The Act covers a wide variety of issues, which are addressed generally in our Legal Update titled "Understanding the New Financial Reform Legislation"2 This Legal Update more specifically addresses the provisions of the Act that are most likely to impact public companies and their officers and directors, including in areas such as corporate governance, stock exchange listing and executive compensation and other disclosure requirements. In many cases, the new requirements apply not only to US public companies, but also to foreign companies that are listed on a US stock exchange or that otherwise file reports with the US Securities and Exchange Commission (the "SEC"). Almost all of the provisions discussed in this Legal Update are contained in Title IX of the Act, referred to as the Investor Protection and Securities Reform Act of 2010.
There are a number of exceptions to the Act's provisions described in this Legal Update and the SEC is required to adopt regulations to implement many of the Act's provisions, which could significantly affect their application in particular circumstances. In addition, in many cases, the SEC has been given authority to grant limited exemptions, which it may exercise when adopting its implementing regulations.
Many of the Act's provisions and related regulatory initiatives discussed in this Legal Update become effective at various dates, depending on the provision. This Legal Update also describes the effectiveness and implementation schedule for each provision discussed. In addition, the applicable section of the Act is referenced in each provision discussed below.
COMPENSATION COMMITTEE MEMBER INDEPENDENCE
The Act adds new Section 10C to the Securities Exchange Act of 1934 (the "Exchange Act") which, in part, requires the SEC to direct the national securities exchanges and national securities associations to prohibit the listing of any class of equity security of a company unless each member of the compensation committee of a listed company's board of directors is independent. To be independent for this purpose, the SEC is to consider all relevant factors, such as the source of compensation, including any consulting, advisory or other compensatory fee paid by the company to the director and whether the director is otherwise affiliated with the company or a subsidiary of the company or an affiliate of a subsidiary of the company.
This provision heightens the compensation committee independence standards currently required by the national securities exchanges and is similar to that added to Section 10A of the Exchange Act by Sarbanes-Oxley as it relates to audit committee member independence.
The SEC is to required to adopt final rules directing the national securities exchanges and national securities associations to prohibit the listing of any security of a company that is not in compliance with this provision no later than July 16, 2011, 360 days after the date of enactment of the Act. [Section 952 of the Act]
COMPENSATION CONSULTANTS AND OTHER COMPENSATION COMMITTEE ADVISORS
New Section 10C of the Exchange Act also provides that the compensation committee of a listed company's board of directors may only select a compensation consultant, legal counsel or other adviser after considering any independence factors identified by the SEC. The independence factors are to be competitively neutral among categories of compensation consultants, legal counsel or other advisers, preserve the ability of compensation committees to retain the services of members of any such category and include:
The provision of other services to the company by the person that employs the compensation consultant, legal counsel or other adviser; The amount of fees received from the company by the person that employs the compensation consultant, legal counsel or other adviser, as a percentage of the total revenue of the person that employs the compensation consultant, legal counsel or other adviser; The policies and procedures of the person that employs the compensation consultant, legal counsel or other adviser that are designed to prevent conflicts of interest; Any business or personal relationship of the compensation consultant, legal counsel or other adviser with a member of the compensation committee; and Any stock of the company owned by the compensation consultant, legal counsel or other adviser. The compensation committee must have the authority, in its sole discretion, to retain or obtain the advice of a compensation consultant and independent legal counsel and other advisers and must be directly responsible for the appointment, compensation and oversight of the work of such persons. In addition, the company must provide appropriate funding, as determined by the compensation committee, for payment of reasonable compensation to a compensation consultant and to independent legal counsel or any other adviser. These provisions of new Section 10C of the Exchange Act are similar to comparable provisions added to Section 10A(m) of the Exchange Act by Sarbanes-Oxley with respect to audit committees.
This provision does not require the compensation committee to implement or act consistently with the advice or recommendations of the compensation consultant or independent legal counsel or other advisers and does not otherwise affect the compensation committee's ability or obligation to exercise its own judgment in fulfillment of its duties.
In any proxy or consent solicitation material for an annual meeting of shareholders occurring on or after July 21, 2011, one year after the date of enactment of the Act, each company must disclose in the proxy or consent material whether the compensation committee retained or obtained the advice of a compensation consultant and whether the work of the compensation consultant has raised any conflict of interest. If there is a conflict, the solicitation material must disclose the nature of the conflict and how the conflict is being addressed.
The SEC is required to adopt final rules directing the national securities exchanges and national securities associations to prohibit the listing of any security of a company that is not in compliance with this provision no later than July 16, 2011, 360 days after the date of enactment of the Act. [Section 952 of the Act]
The Act amends Section 14(a) of the Exchange Act to make explicit that the rules and regulations prescribed by the SEC under Section 14(a) may include a requirement that a solicitation of a proxy, consent or authorization by, or on behalf of, a company must include a nominee submitted by a shareholder to serve on the company's board of directors, as well as a requirement that a company follow a certain procedure in relation to such a solicitation. In addition, the Act provides that the SEC may issue rules permitting the use by a shareholder of proxy solicitation materials supplied by a company for the purpose of nominating individuals to membership on the company's board of directors.
This provision becomes effective on July 22, 2010. [Section 971 of the Act]
On June 10, 2009, the SEC issued proposed rules on facilitating shareholder director nominations. Release Nos. 33-9046; 34-60089, available at http://www.sec.gov/rules/proposed/2009/33-9046.pdf. As proposed, if certain conditions are met, a company would be required to include in its proxy statement shareholder nominations for director (but not if the shareholder is seeking to change control of the board of directors). The proposal also requires a company's proxy statement to include shareholder proposals to amend a company's governing documents with respect to director nomination procedures. More than 500 comments were submitted on the proposal. One concern critics had raised was whether the SEC has the authority to adopt this provision, but the Act has now settled this issue. At this time, it is unclear how the SEC intends to proceed on its proxy access proposal. For more detail about the scope of the SEC's proxy access proposal, see our Securities Update, dated July 6, 2009, titled "US SEC Proxy Access Proposal."3
The Act adds new Section 14B to the Exchange Act directing the SEC to issue rules that require a public company to disclose in its annual meeting proxy statement the reasons why the company has either chosen the same person to serve as chairman of the board of directors and chief executive officer or has chosen different individuals to serve as chairman of the board of directors and chief executive officer.
On December 16, 2009, the SEC adopted final rules titled "Proxy Disclosure Enhancements." Release Nos. 33-9089; 34-61175; IC-29092.4 In relevant part, the new SEC rules added a disclosure provision requiring, in an annual meeting proxy statement, both a description of the board leadership structure and a statement as to why the company believes this is the appropriate structure for it given the specific characteristics or circumstances of the company.
As a result of these rules, companies currently are required to disclose whether and why they have chosen to combine or separate the principal executive officer and board chair positions. If a company has combined the roles of principal executive officer and board chair, the company is required to disclose whether and why it has a lead independent director and to discuss the specific role the lead independent director plays in the leadership of the company. These new disclosure requirements were effective February 28, 2010. For more detail about the existing SEC rules, see our Legal Update, dated December 17, 2009, titled "US Securities and Exchange Commission Approves Proxy and Other Disclosure Changes."5
Because it appears that the SEC's rules on this topic already contain the information required by this provision, it is unclear whether the SEC will revisit its existing disclosure requirements. However, if the SEC does so, it is required to adopt final rules no later than January 17, 2011, 180 days after the date of enactment of the Act. [Section 972 of the Act]
The Act amends Section 6(b) of the Exchange Act to require that the rules of all national securities exchange prohibit any member of the exchange (i.e., registered brokers or dealers or natural persons associated with a registered broker or dealer) that is not the beneficial owner of a security registered under Section 12 from granting a proxy to vote the security in connection with a shareholder vote with respect to the election of a member of the board of directors of a company, executive compensation or any other significant matter as determined by the SEC, unless the beneficial owner of the security has instructed the member to vote the proxy in accordance with the voting instructions of the beneficial owner.
This provision becomes effective on July 22, 2010; however, the Act does not contain a deadline for when final rules must be adopted by the SEC and the national securities exchanges. [Section 957 of the Act]
Currently a broker's ability to vote shares of which it is not the beneficial owner is governed by the rules of the national securities exchanges of which it is a member. For example, New York Stock Exchange Rule 452, titled "Giving Proxies by Member Organizations," allows brokers to vote on "routine" proposals if the beneficial owner of the stock has not provided specific voting instructions to the broker at least 10 days before a scheduled meeting. Rule 452 also sets forth those matters that are not routine. Rule 452 was last amended on July 1, 2009, to eliminate the ability of brokers to vote in their discretion with respect to elections of directors. For more detail on this change, see our Legal Update, dated July 1, 2009, titled "Amendment of NYSE Rule 452; Elimination of Broker Discretionary Voting in Director Elections."6
Going forward, the SEC and the national securities exchanges are able to independently determine the matters (other than the election of directors or executive compensation) upon which brokers may not exercise their discretion to vote shares for which they have not received voting instructions from the beneficial owner. Depending on how the SEC exercises this new authority, this provision could have additional consequences for annual shareholder meetings.
RISK COMMITTEES FOR CERTAIN BANKS AND NONBANK FINANCIAL COMPANIES
The Act requires the Board of Governors of the Federal Reserve System (the "Board of Governors") to adopt rules requiring each publicly traded bank holding company that has total consolidated assets of at least $10 billion and each nonbank financial company supervised by the Board of Governors to establish a risk committee of the board of directors. The risk committee must:
Be responsible for the oversight of the company's enterprise-risk management practices; Include a number of independent directors as the Board of Governors may determine appropriate, based on the nature of the company's operations, the size of its assets and other appropriate criteria; and Include at least one risk management expert having experience in identifying, assessing and managing risk exposures of large, complex firms. In addition, the Board of Governors may require each publicly traded bank holding company that has total consolidated assets of less than $10 billion to establish a risk committee as determined necessary or appropriate by the Board of Governors to promote sound risk management.
The Act establishes the Financial Stability Oversight Council, and authorizes it to determine whether material financial distress at a US nonbank financial company, or the nature, scope, size, scale, concentration, interconnectedness or mix of the activities of that US nonbank financial company, could pose a threat to the financial stability of the United States. If the Council finds it to be so, it is authorized to determine that the US nonbank financial company must be supervised by the Board of Governors and be subject to the prudential standards provided for in the Act (as well as this risk committee provision).
The Board of Governors is required to adopt final rules no later than July 22, 2012, two years after the date of enactment of the Act and the rules are to be effective no later than October 22, 2012, 27 months after the transfer date. [Section 165 of the Act]
Executive Compensation Disclosures
The Act adds new Section 14A to the Exchange Act (the so-called "say-on-pay provision") that, in part, requires non-binding shareholder votes on executive compensation. This provision requires that at least every three years any proxy or consent statement or other authorization for an annual or other meeting of shareholders for which the SEC's proxy rules require the executive compensation disclosure of Item 402 of Regulation S-K must provide for a separate shareholder vote to approve the compensation of the company's executive officers as disclosed in accordance with the SEC's compensation disclosure rules for named executive officers. In addition, at least every six years, a proxy or consent statement or other authorization for an annual or other meeting of shareholders for which the SEC's proxy rules require executive compensation disclosure must provide for a separate shareholder vote to determine whether these votes on say-on-pay resolutions will occur every one, two or three years.
These shareholder votes are not to be construed as overruling a decision by the company or its board of directors. The new requirement does not create or imply additional fiduciary duties for the company or its board of directors or any change to those duties. It also does not restrict or limit the ability of shareholders to make proposals related to executive compensation for inclusion in a company's proxy statement.
Finally, every institutional investment manager subject to Section 13(f) of the Exchange Act must report at least annually how it voted on any say-on-pay resolution.
This provision is effective for the proxy or consent statement or other authorization for the first annual meeting or other meeting of shareholders occurring on or after January 22, 2011, after the end of the six-month period beginning on the date of enactment of the Act. This provision does not require the SEC to adopt any implementing rules before it is effective. [Section 951 of the Act]
New Section 14A of the Exchange Act also requires that any proxy or consent solicitation material for a meeting at which shareholders are asked to approve an acquisition, merger, consolidation or proposed sale or other disposition of all or substantially all of the assets of a company (collectively, an "extraordinary transaction") must disclose in a clear and simple form, in accordance with rules to be adopted by the SEC, any agreements or understandings the person making the solicitation has with any named executive officers of the company, or of the acquiring entity if the company is not the acquiring entity, concerning any type of compensation (whether present, deferred or contingent) that is based on or otherwise relates to the extraordinary transaction. Section 14A also requires disclosure of the aggregate total of all such compensation that may, and the conditions upon which it may, be paid or become payable to or on behalf of an executive officer.
This provision also requires that any proxy or consent solicitation relating to an extraordinary transaction and containing the disclosure required by the previous paragraph must also provide for a separate non-binding shareholder vote to approve such agreements or understandings and compensation as disclosed, unless such agreements or understandings have been subject to a say-on-pay vote described in the previous section of this Legal Update. As with the say-on-pay requirements, the shareholder vote is not to be construed as overruling a decision by the company or its board of directors and the new requirements do not create or imply any additional fiduciary duties for the company or its board of directors or any change to those duties. It also does not limit the ability of shareholders to make proposals related to executive compensation for inclusion in a company's proxy statement.
Finally, every institutional investment manager subject to Section 13(f) of the Exchange Act must report at least annually how it voted on any golden parachute resolution.
This provision is effective for a meeting of shareholders relating to an extraordinary transaction occurring on or after January 22, 2011, after the end of the six-month period beginning on the date of enactment of the Act. Although the disclosure requirements discussed in this section of this Legal Update are subject to rules to be adopted by the SEC, the Act does not include a deadline for when any such rules must be adopted. This provision does not require the SEC to adopt any other implementing rules before it is effective. [Section 951 of the Act]
PAY FOR PERFORMANCE
The Act adds new subsection (i) to Section 14 of the Exchange Act that directs the SEC to require each public company to disclose in any proxy or consent solicitation material for an annual meeting of the shareholders a clear description of any compensation required to be disclosed by Item 402 of Regulation S-K, including information that shows the relationship between executive compensation actually paid and the financial performance of the company, taking into account any change in the value of the shares of stock and dividends of the company and any distributions. This disclosure may include a graphic representation of the information required to be disclosed.
Although this provision is subject to rules to be adopted by the SEC, the Act does not include a deadline for when these rules must be adopted. Accordingly, it is unclear when this provision will be implemented. [Section 953 of the Act]
INTERNAL PAY COMPARISON
The Act directs the SEC to amend Item 402 of Regulation S-K to require each public company to disclose the median of the annual total compensation of all employees of the company, except: the CEO, the annual total compensation of the CEO and the ratio of the two numbers. For this purpose, total compensation is to be determined in accordance with Item 402(c)(2)(x) as in effect on July 20, 2010, the day before the date of enactment of the Act. Because of the way the statute is worded, it is likely that the application of this provision will not change even if the SEC subsequently changes how annual total compensation is calculated pursuant to Item 402 of Regulations S-K. In addition, this disclosure is to be included in any filing of the company described in Item 10(a) of Regulation S-K, which includes:
Registration statements under the Securities Act of 1933 (the "Securities Act"); Registration statements under Section 12 of the Exchange Act; Annual or other reports under Section 13 and 15(d) of the Exchange Act; Going-private transaction statements under Section 13 of the Exchange Act; Tender offer statements under Sections 13 and 14 of the Exchange Act; Annual reports to security holders and proxy and information statements under Section 14 of the Exchange Act; and Any other documents required to be filed under the Exchange Act. In each case the disclosure is required to the extent provided for in the forms and rules under the applicable act.
Although this provision is subject to rules to be adopted by the SEC, the Act does not include a deadline for when these rules must be adopted. Accordingly, it is unclear when this provision will be implemented. [Section 953 of the Act]
The Act adds new Section 10D to the Exchange Act requiring the SEC to direct the national securities exchanges and national securities associations to prohibit the listing of any security of a company that does not develop and implement a policy with respect to the recovery of incentive-based (so-called "compensation clawbacks"). In particular, this policy must address at least two points:
First, it must require disclosure of the company's policy on incentive-based compensation that is based on financial information required to be reported under the securities laws; and Second, if the company is required to prepare a restatement due to the material noncompliance of the company with any financial reporting requirement under the securities laws, it must require that the company will recover from any current or former executive officer of the company who received incentive-based compensation (including stock options awarded as compensation) during the three-year period preceding the date on which the company is required to prepare an accounting restatement, based on the erroneous data, the excess above what would have been paid to the executive officer under the accounting restatement. This provision differs from a comparable provision set forth in Section 304 of Sarbanes-Oxley in two major ways. First, it applies to all current and former executive officers, rather than just the CEO and CFO. Second, it applies to any accounting restatement due to material noncompliance, not just to those that are the result of misconduct.
Although this provision is subject to rules to be adopted by the SEC, the Act does not include a deadline for when these rules must be adopted. Accordingly, it is unclear when this provision will be implemented. [Section 954 of the Act]
Disclosure and Other Issues
Regulation FD requires that whenever a company, or a person acting on behalf of a company, discloses material nonpublic information regarding the company or its securities to certain identified classes of person, the company must also make public disclosures of that information. One exception exists for disclosures made solely to any specified nationally recognized statistical rating organization or to any credit rating agency that makes its credit ratings publicly available, in each case for the purpose of determining or monitoring a credit rating. The Act requires the SEC to amend Regulation FD to remove the exemption for entities whose primary business is the issuance of credit ratings.
The SEC is required to adopt final rules no later than October 19, 2010, 90 days after the date of enactment of the Act. [Section 939B of the Act]
Reliance on Ratings
The Act requires the SEC, along with several other federal agencies, to review any regulation issued by such agency that requires the use of an assessment of credit-worthiness of a security or money market instrument and any references to or requirements in such regulations regarding credit ratings. The SEC must modify such regulations identified in its review, such as Form S-3 eligibility requirements, by removing any reference to or requirement of reliance on credit ratings and to substitute in such regulation standards of credit-worthiness as it determines appropriate.
The SEC must complete its review no later than July 22, 2011, one year after the date of enactment of the Act. The Act is not clear on when the changes required following the review are to be adopted by the SEC, although this provision does require the SEC, upon conclusion of its review, to provide a report to Congress containing a description of any modifications made as required by this provision. [Section 939A of the Act]
Rule 436(g) promulgated under the Securities Act states that a security rating assigned to a class of debt securities, a class of convertible debt securities or a class of preferred stock by a nationally recognized statistical rating organization, or assigned with respect to registration statements on Form F-9 by any other rating organization, shall not be considered a part of the registration statement prepared or certified by a person within the meaning of Sections 7 or 11 of the Securities Act. The Act declares that this provision shall have no force or effect. The impact of this provision is that the organization providing a credit rating disclosed in a prospectus or registration statement will be regarded as an expert for purposes of Section 11 of the Securities Act, and, as a result, a company must include a consent from a nationally recognized statistical rating organization as an exhibit to any Securities Act registration statement that discloses a security rating. It would not apply however if the security rating discussion appears in some other document, such as a free writing prospectus, that is not part of the registration statement.
This provision becomes effective on July 22, 2010. [Section 939G of the Act]
The Act adds new subsection (j) to Section 14 of the Exchange Act that directs the SEC to require each public company to disclose in any proxy or consent solicitation material for an annual meeting of the shareholders whether any employee or member of the board of directors of the company, or any designee of such employee or member, is permitted to purchase financial instruments (including prepaid variable forward contracts, equity swaps, collars and exchange funds) that are designed to hedge or offset any decrease in the market value of equity securities granted to the employee or member of the board of directors by the company as part of the compensation of the employee or member of the board of directors or held, directly or indirectly, by the employee or member of the board of directors.
Although this provision is subject to rules to be adopted by the SEC, the Act does not include a deadline for when these rules must be adopted. Accordingly, it is unclear when this provision will be implemented. [Section 955 of the Act]
BENEFICIAL OWNERSHIP REPORTING
Upon acquiring more than 5% of a security of a class registered pursuant to Section 12 of the Exchange Act, Section 13(d) of the Exchange Act previously required that a statement be filed with the SEC, sent to the issuer of the security at its principal executive offices and sent to the exchange where the security is traded, within 10 days of the acquisition. The Act revises subsections (d) and (g) of Section 13 of the Exchange Act to permit the SEC by rule to shorten the 10-day filing period and also eliminates the requirement to send copies of a Schedule 13D or Schedule 13G to the issuer of the security and to the exchange where the security is traded. Similar changes were also made with respect to ownership reports required by Section 16(a) of the Exchange Act.
This provision becomes effective on July 22, 2010. [Section 929R of the Act]
In addition, the Act amends Section 13 of the Exchange Act to add to the list of persons subject to subsections (d)(1) and (g)(1) those persons who become or are deemed to become a beneficial owner of an equity security upon the purchase or sale of an equity-based swap that the SEC may define by rule. A similar change was also made to Section 13(f) of the Exchange Act. Correspondingly, the Act amends Sections 13 and 16 of the Exchange Act to clarify that, for purposes of those sections, a person is deemed to acquire beneficial ownership of an equity security based on the purchase or sale of an security-based swap, but only to the extent that the SEC, by rule, determines that the purchase and sale of the security-based swap provides incidents of ownership comparable to direct ownership of the equity security, and that it is necessary to achieve the purposes of these sections that the purchase or sale of the security-based swap, or class of security-based swaps, be deemed the acquisition of beneficial ownership of the equity security. Accordingly, until such time, if any, as the SEC adopts a rule defining beneficial ownership to include that resulting from ownership of an equity-based swap, a person shall not be deemed to have beneficial ownership of a security underlying a security-based swap.
No specific action by the SEC is required; however, if the SEC does undertake rulewriting in response to this provision, the rules adopted by the SEC are to be effective no earlier than 60 days after the SEC final rules are published in the Federal Register [Section 766 of the Act]
The Act amends Section 13(f) of the Exchange Act to require the SEC to prescribe rules providing for the public disclosure of the name of the issuer and the title, class, CUSIP number, and aggregate amount of the number of short sales of each security, and any additional information determined by the SEC following the end of the reporting period. At a minimum, this public disclosure is required to occur every month.
Although this provision is subject to rules to be adopted by the SEC, the Act does not include a deadline for when these rules must be adopted. Accordingly, it is unclear when this provision will be implemented. [Section 929X of the Act]
AUDITOR ATTESTATION OF INTERNAL CONTROL OVER FINANCIAL REPORTING
Section 404(b) of Sarbanes-Oxley requires registered public accounting firm that prepares or issues an audit report for a public company to also attest to, and report on, management's assessment of the effectiveness of the internal control structure and procedures of the company for financial reporting required by Section 404(a) of Sarbanes-Oxley. To date, the SEC has deferred implementation of this provision for non-accelerated filers and for smaller reporting companies. The Act would make this deferral permanent by exempting from Section 404(b) of Sarbanes-Oxley any audit report on internal control over financial reporting prepared for a company that is not a large accelerated filer or an accelerated filer.
This provision becomes effective on July 22, 2010. [Section 989G of the Act]
ACCREDITED INVESTOR DEFINITION
The Act directs the SEC to adjust any net worth standard for an accredited investor to require that the individual net worth of any natural person, or joint net worth with the spouse of that person, at the time of the purchase of securities, exceeds $1 million excluding the value of such person's primary residence. This standard is to remain at $1 million until July 21, 2014, the four-year period beginning on the date of the enactment of the Act. Currently, Rule 215 under the Securities Act and Rule 501 of Regulation D under the Securities Act both include the value of the primary residence in determining a person's net worth for accredited investor purposes.
In addition, the SEC is authorized to undertake a review of the other provisions of the accredited investor definition, as that term applies to natural persons, to determine whether other requirements of the definition should be adjusted or modified for the protection of investors, in the public interest and in light of the economy. The only other provision currently part of the definition that applies to natural persons is an income test that, if satisfied, also would allow a person to be considered an accredited investor.
Beginning July 22, 2014, and every four years thereafter, the SEC is required to conduct reviews of this definition in its entirety as it term applies to natural persons, in order to determine whether it should be adjusted or modified for the protection of investors, in the public interest and in light of the economy.
The change to the net worth standard becomes effective on July 22, 2010. [Section 413 of the Act]
PERSONS PROHIBITED FROM PARTICIPATING IN CERTAIN REGULATION D OFFERINGS
The Act requires the SEC to adopt rules for the disqualification of offerings and sales of securities made under Rule 506 of Regulation D under the Securities Act that:
Are substantially similar to the provisions of Rule 262 under the Securities Act; and Disqualify any offering or sale of securities by a person that: is subject to a final order of a state securities commission (or an agency or officer of a state performing like functions), a state authority that supervises or examines banks, savings associations, or credit unions, a state insurance commission (or an agency or officer of a state performing like functions), an appropriate federal banking agency, or the National Credit Union Administration, that
bars the person from
association with an entity regulated by such commission, authority, agency or officer, engaging in the business of securities, insurance or banking, or engaging in savings association or credit union activities; or
constitutes a final order based on a violation of any law or regulation that prohibits fraudulent, manipulative or deceptive conduct with the 10-year period ending on the date of the filing of the offer or sale; or has been convicted of any felony or misdemeanor in connection with the purchase or sale of any security or involving the making of any false filing with the SEC. A Rule 506 offering provides an exemption from the registration requirements of Section 5 of the Securities Act for limited offers and sales that meet the conditions specified in the rule without regard to the dollar amount of the offering. Rule 262 of Regulation A under the Securities Act contains provisions that disqualify a company from relying on the exemption provided by Section 3(b) of the Securities Act, applicable to offerings of less than $5 million, if the company or directors, officers, general partners, 10% beneficial owners, promoters, underwriters, or partners, directors or officers of any such underwriters, are subject to specified orders or convictions.
The SEC is required to adopt final rules no later than July 22, 2011, one year after the date of enactment of the Act. [Section 926 of the Act]
OTHER SPECIALIZED DISCLOSURE PROVISIONS
The Act adds new subsection (p) to Section 13 to the Exchange Act that requires the SEC to adopt rules requiring any public company for which conflict minerals are necessary to the functionality or production of a product manufactured by such company to provide certain annual disclosures and to make such disclosures available on its web site. A conflict mineral is defined as columbite-tantalite (coltan), cassiterite, gold, wolframite or their derivatives or any other mineral or its derivatives determined by the U.S. Secretary of State to be financing conflict in the Democratic Republic of Congo or an adjoining country.
The SEC is required to adopt final rules no later than April 17, 2011, 270 days after the date of enactment of the Act. [Section 1502 of the Act]
Coal and Other Mine Safety
Each public company that is an operator, or that has a subsidiary that is an operator, of a coal or other mine must include in each periodic report filed with the SEC specified detailed information about the safety of its mines. In addition, these public companies must also file a current report on Form 8-K to report the receipt of a notice of certain safety violations.
This provision becomes effective on August 20, 2011, 30 days after the date of enactment of the Act. This provision does not require the SEC to adopt any implementing rules before it is effective. [Section 1503 of the Act]
PAYMENTS BY RESOURCE EXTRACTION ISSUERS
The Act adds new subsection (q) to Section 13 to the Exchange Act that requires each resource extraction issuer to include in its annual report specified information relating to any payment made by the resource extraction issuer, a subsidiary of the resource extraction issuer or an entity under the control of the resource extraction issuer to a foreign government or the federal government for the purpose of commercial development of oil, natural gas or minerals. For this purpose, a resource extraction issuer is a public company that engages in the commercial development of oil, natural gas or minerals.
The SEC is required to adopt final rules no later than April 17, 2011, 270 days after the date of enactment of the Act, and the final rules are to take effect on the date on which the resource extraction issuer is required to submit an annual report relating to the fiscal year of the resource extraction issuer that ends at least one year after the date on which the SEC issues its final rules. [Section 1504 of the Act]
Because of the many changes that will be effective within the next year for public companies, it is extremely important to begin planning now for these changes and to remain on top of the SEC's rulewriting process and the various implementation dates. Since the Act is silent on the details of many of the provisions that the SEC is required to adopt, companies should monitor the SEC rulewriting process at the proposal stage to determine whether to submit comments on any of the proposals, as well as to determine how any given proposal will impact the company, its disclosures controls and procedures and its timing for the upcoming proxy season. It appears that proxies that contain the say-on-pay proposal required by the Act must be filed with the SEC in preliminary form pursuant to Rule 14a-6 of Schedule 14A under the Exchange Act. Accordingly, unless this changes as part of the SEC rulewriting process, additional time will need to be included in annual meeting planning calendars. Consideration should be given to updating the compensation committee, if not the full board, now on the extent of the upcoming changes from the Act. It would be worthwhile for those who work on proxy statements or the annual meeting process generally to begin consideration of, among other things, how they will gather and present information to address the new requirements of the Act. This should include determining whether changes to the formatting of the proxy card will be needed in response to the new say-on-pay requirements and whether changes need to be made to a company's shareholder communications programs that reflect provisions of the Act, such as the new say-on-pay and golden parachute vote requirements.
- Dodd-Frank Wall Street Reform and Consumer Protection Act — Corporate Governance Provisions Dorsey and Whitney, July 22, 2010
Schumer and Cantwell propose a “Shareholders’ Bill of Rights”
- Source: Legislation Includes 'Say-on-Pay' Measure To Give Shareholders A Vote On Lavish Executive Compensation Packages Senator Schumer's office, May 18, 2009
Bill Also Includes Proxy Access And Requires Independent Board Chairmen
WASHINGTON, DC—U.S. Senators Charles E. Schumer (D-NY) and Maria Cantwell (D-WA) announced Tuesday they have introduced a comprehensive “Shareholder Bill of Rights” that will increase accountability and oversight at publicly traded corporations. The legislation, which incorporates some proposals already being considered by the Securities and Exchange Commission (SEC), is aimed at empowering shareholders in order to curb the types of excessive risk-taking and runaway executive compensation that contributed to the nation’s economic recession.
The “Shareholder Bill of Rights” includes the following provisions to empower shareholders and rein in excessive risk-taking by runaway corporate executives:
- It requires that all public companies hold an advisory shareholder vote on executive compensation. By allowing shareholders to have a “say on pay,” companies are far less likely to award compensation packages that are excessively lavish or tied to risk-taking that is not good for the long-term health of the firm.
- It instructs the SEC to issue rules allowing shareholders to have access to the proxy form if they want to nominate directors to the board. In order to make a nomination, shareholders will have to have owned at least 1% of a public company’s shares for at least two years. Schumer and Cantwell said it is essential that long-term shareholders have a real voice in selecting the men and women who sit on the boards of the companies they own.
- It requires board directors to receive at least 50% of the vote in uncontested elections in order remain on the board. It makes no sense for board members to be re-elected if a majority of shareholders cast their ballots against them.
- It requires all board directors to face re-election annually. Schumer and Cantwell said there is no reason that directors at a well-run company should fear facing their shareholders every year. So-called “staggered boards” just serve to insulate board members from the consequences of their decisions.
- It requires public companies to split the jobs of CEO and Chairman of the Board, and requires the Chairman to be an independent director. It is vital that the Chairman of the Board, who sets the board’s agenda, should be someone who works closely with the CEO, but also brings a different perspective to the table.
- It requires that public companies create a board risk committee. Today, the oversight of how companies manage their risks is most often a responsibility of the audit committee, which has enough responsibilities already without also having to focus on risk. By creating separate risk committees, boards will never again be able to say they did not understand the risks that the firms they oversee were taking.
The introduction of the “Shareholders’ Bill of Rights” comes as the Securities and Exchange Commission considers giving shareholders greater power to nominate directors to corporate boards. Even though such action would represent a lawful exercise of the SEC’s authority, the business community is already threatening lawsuits if any steps are taken.
Schumer and Cantwell’s legislation would give this proposed change the force of law and eliminate any debates over the agency’s authority.
The “Shareholders’ Bill of Rights” is supported by nearly 20 major pension funds, labor unions, and consumer groups such as the Consumer Federation of America.
Schumer was joined at the announcement of the bill Tuesday by top officials from CalPERS, the nation’s largest public pension fund; the Council of Institutional Investors, the main association of public, union and corporate pension funds, who together have assets that exceed $3 trillion; and the American Federation of State, County and Municipal Employees (AFSCME), which is one of the nation’s largest unions.
“We applaud your leadership in the advocacy of shareowner rights in America and the ongoing effort to improve board accountability to shareowners,” said Joe Dear, Chief Investment Officer for CalPERS, in a letter to Schumer this week. “We believe that stronger investor oversight is critically needed to restore trust and confidence in the integrity of the U.S. capital markets.”
Below is a list of individuals and organizations that support the “Shareholder Bill of Rights.” List of Supporting Organizations and Individuals
- Colorado Public Employees Retirement Association
- Connecticut State Employees Retirement System
- The Consumer Federation of America
- The Council of Institutional Investors
- Massachusetts Pension Reserve Investment Management Board
- Nell Minow, The Corporate Library
- New Jersey Division of Investment
- New State Investment Council (NJ)
- New York City Board of Education Retirement System
- New York City Employees Retirement System
- New York City Fire Department Pension Fund
- New York City Police Pension Fund
- New York City Teachers Retirement System
- New York State Common Retirement Fund
- Service Employees International Union
- Letter to Senators Schumer and Crapo CFA Institute and Council of Institutional Investors, Dec . 11, 2009
Overview of corporate governance
Corporate governance is the set of processes, customs, policies, laws, and institutions affecting the way a corporation (or company) is directed, administered or controlled.
Corporate governance also includes the relationships among the many stakeholders involved and the goals for which the corporation is governed. The principal stakeholders are the shareholders/members, management, and the board of directors.
Other stakeholders include labor (employees), customers, creditors (e.g., banks, bond holders), suppliers, regulators, and the community at large.
For not-for-profit corporations or other membership Organizations the "shareholders" means "members" in the text below (if applicable).
Corporate governance is a multi-faceted subject. (For a good overview of the different theoretical perspectives on corporate governance see Chapter 15 of Dignam, A and Lowry, J (2006) Company Law, Oxford University Press ISBN 978-0-19-928936-3)
An important theme of corporate governance is to ensure the accountability of certain individuals in an organization through mechanisms that try to reduce or eliminate the principal-agent problem.
A related but separate thread of discussions focuses on the impact of a corporate governance system in economic efficiency, with a strong emphasis on shareholders' welfare. There are yet other aspects to the corporate governance subject, such as the stakeholder view and the corporate governance models around the world.
There has been renewed interest in the corporate governance practices of modern corporations since 2001, particularly due to the high-profile collapses of a number of large U.S. firms such as Enron Corporation and MCI Inc. (formerly WorldCom).
In 2002, the U.S. federal government passed the Sarbanes-Oxley Act, intending to restore public confidence in corporate governance.
Definition In A Board Culture of Corporate Governance, business author Gabrielle O'Donovan defines corporate governance as 'an internal system encompassing policies, processes and people, which serves the needs of shareholders and other stakeholders, by directing and controlling management activities with good business savvy, objectivity, accountability and integrity. Sound corporate governance is reliant on external marketplace commitment and legislation, plus a healthy board culture which safeguards policies and processes'.
O'Donovan goes on to say that 'the perceived quality of a company's corporate governance can influence its share price as well as the cost of raising capital. Quality is determined by the financial markets, legislation and other external market forces plus how policies and processes are implemented and how people are led. External forces are, to a large extent, outside the circle of control of any board. The internal environment is quite a different matter, and offers companies the opportunity to differentiate from competitors through their board culture. To date, too much of corporate governance debate has centred on legislative policy, to deter fraudulent activities and transparency policy which misleads executives to treat the symptoms and not the cause.'(Corporate Governance International Journal, "A Board Culture of Corporate Governance, Vol 6 Issue 3 (2003))
It is a system of structuring, operating and controlling a company with a view to achieve long term strategic goals to satisfy shareholders, creditors, employees, customers and suppliers, and complying with the legal and regulatory requirements, apart from meeting environmental and local community needs.
Report of the SEBI Committee (India) on Corporate Governance defines corporate governance as the acceptance by management of the inalienable rights of shareholders as the true owners of the corporation and of their own role as trustees on behalf of the shareholders. It is about commitment to values, about ethical business conduct and about making a distinction between personal & corporate funds in the management of a company.” The definition is drawn from the Gandhian principle of trusteeship and the Directive Principles of the Indian Constitution. Corporate governance is viewed as ethics and a moral duty.
Rules versus principles
Rules are typically thought to be simpler to follow than principles, demarcating a clear line between acceptable and unacceptable behaviour. Rules also reduce discretion on the part of individual managers or auditors.
In practice rules can be more complex than principles. They may be ill-equipped to deal with new types of transactions not covered by the code. Moreover, even if clear rules are followed, one can still find a way to circumvent their underlying purpose - this is harder to achieve if one is bound by a broader principle.
Principles on the other hand is a form of self regulation. It allows the sector to determine what standards are acceptable or unacceptable. It also pre-empts over zealous legislations that might not be practical.
Enforcement can affect the overall credibility of a regulatory system. They both deter bad actors and level the competitive playing field. Nevertheless, greater enforcement is not always better, for taken too far it can dampen valuable risk-taking. In practice, however, this is largely a theoretical, as opposed to a real, risk.
Action beyond obligation
Enlightened boards regard their mission as helping management lead the company. They are more likely to be supportive of the senior management team. Because enlightened directors strongly believe that it is their duty to involve themselves in an intellectual analysis of how the company should move forward into the future, most of the time, the enlightened board is aligned on the critically important issues facing the company.
Unlike traditional boards, enlightened boards do not feel hampered by the rules and regulations of the Sarbanes-Oxley Act. Unlike standard boards that aim to comply with regulations, enlightened boards regard compliance with regulations as merely a baseline for board performance. Enlightened directors go far beyond merely meeting the requirements on a checklist. They do not need Sarbanes-Oxley to mandate that they protect values and ethics or monitor CEO performance.
At the same time, enlightened directors recognize that it is not their role to be involved in the day-to-day operations of the corporation. They lead by example. Overall, what most distinguishes enlightened directors from traditional and standard directors is the passionate obligation they feel to engage in the day-to-day challenges and strategizing of the company. Enlightened boards can be found in very large, complex companies, as well as smaller companies. 
Corporate governance models around the world
Although the US model of corporate governance is the most notorious, there is a considerable variation in corporate governance models around the world. The intricated shareholding structures of keiretsus in Japan, the heavy presence of banks in the equity of German firms, the chaebols in South Korea and many others are examples of arrangements which try to respond to the same corporate governance challenges as in the US.
In the United States, the main problem is the conflict of interest between widely-dispersed shareholders and powerful managers.
In Europe, the main problem is that the voting ownership is tightly-held by families through pyramidal ownership and dual shares (voting and nonvoting). This can lead to "self-dealing", where the controlling families favor subsidiaries for which they have higher cash flow rights.
Models of corporate governance
There are many different models of corporate governance around the world. These differ according to the variety of capitalism in which they are embedded.
The liberal model that is common in Anglo-American countries tends to give priority to the interests of shareholders.
The coordinated model that one finds in Continental Europe and Japan also recognizes the interests of workers, managers, suppliers, customers, and the community.
Each model has its own distinct competitive advantage.
The liberal model of corporate governance encourages radical innovation and cost competition, whereas the coordinated model of corporate governance facilitates incremental innovation and quality competition.
However, there are important differences between the U.S. recent approach to governance issues and what has happened in the UK. In the United States, a corporation is governed by a board of directors, which has the power to choose an executive officer, usually known as the chief executive officer (CEO). The CEO has broad power to manage the corporation on a daily basis, but needs to get board approval for certain major actions, such as hiring his/her immediate subordinates, raising money, acquiring another company, major capital expansions, or other expensive projects. Other duties of the board may include policy setting, decision making, monitoring management's performance, or corporate control.
The board of directors is nominally selected by and responsible to the shareholders, but the bylaws of many companies make it difficult for all but the largest shareholders to have any influence over the makeup of the board; normally, individual shareholders are not offered a choice of board nominees among which to choose, but are merely asked to rubberstamp the nominees of the sitting board.
Perverse incentives have pervaded many corporate boards in the developed world, with board members beholden to the chief executive whose actions they are intended to oversee. Frequently, members of the boards of directors are CEOs of other corporations, which some see as a conflict of interest.
Codes and guidelines
Corporate governance principles and codes have been developed in different countries and issued from stock exchanges, corporations, institutional investors, or associations (institutes) of directors and managers with the support of governments and international organizations. As a rule, compliance with these governance recommendations is not mandated by law, although the codes linked to stock exchange listing requirements may have a coercive effect.
For example, companies quoted on the London and Toronto Stock Exchanges formally need not follow the recommendations of their respective national codes. However, they must disclose whether they follow the recommendations in those documents and, where not, they should provide explanations concerning divergent practices. Such disclosure requirements exert a significant pressure on listed companies for compliance.
In the United States, companies are primarily regulated by the state in which they incorporate though they are also regulated by the federal government and, if they are public, by their stock exchange. The highest number of companies are incorporated in Delaware, including more than half of the Fortune 500. This is due to Delaware's generally business-friendly corporate legal environment and the existence of a state court dedicated solely to business issues (Delaware Court of Chancery).
Most states' corporate law generally follow the American Bar Association's Model Business Corporation Act.
While Delaware does not follow the Act, it still considers its provisions and several prominent Delaware justices, including former Delaware Supreme Court Chief Justice E. Norman Veasey, participate on ABA committees.
One issue that has been raised since the Disney decision in 2005 is the degree to which companies manage their governance responsibilities; in other words, do they merely try to supersede the legal threshold, or should they create governance guidelines that ascend to the level of best practice.
For example, the guidelines issued by associations of directors, corporate managers and individual companies tend to be wholly voluntary. For example, The GM Board Guidelines reflect the company’s efforts to improve its own governance capacity. Such documents, however, may have a wider multiplying effect prompting other companies to adopt similar documents and standards of best practice.
One of the most influential guidelines has been the 1999 OECD Principles of Corporate Governance. This was revised in 2004. The OECD remains a proponent of corporate governance principles throughout the world.
Building on the work of the OECD, other international organisations, private sector associations and more than 20 national corporate governance codes, the United Nations Intergovernmental Working Group of Experts on International Standards of Accounting and Reporting (ISAR) has produced voluntary Guidance on Good Practices in Corporate Governance Disclosure.
- Board and management structure and process
- Corporate responsibility and compliance
- Financial transparency and information disclosure
- Ownership structure and exercise of control rights
The World Business Council for Sustainable Development (WBCSD) has done work on corporate governance, particularly on accountability and reporting, and in 2004 created an Issue Management Tool: Strategic challenges for business in the use of corporate responsibility codes, standards, and frameworks.
This document aims to provide general information, a "snap-shot" of the landscape and a perspective from a think-tank/professional association on a few key codes, standards and frameworks relevant to the sustainability agenda.
BIS requests comments on principles for corporate governance
- Source: Principles for enhancing corporate governance BIS, March, 2010
Issued for comment by 15 June 2010
1. Given the important financial intermediation role of banks in an economy, the public and the market have a high degree of sensitivity to any difficulties potentially arising from any corporate governance shortcomings in banks. Corporate governance is thus of great relevance both to individual banking organisations and to the international financial system as a whole, and merits targeted supervisory guidance.
2. The Basel Committee on Banking Supervision1 (the Committee) has had a longstanding commitment to promoting sound corporate governance practices for banking organisations. It published initial guidance in 1999, with revised principles in 2006.2 The Committee’s guidance assists banking supervisors and provides a reference point for promoting the adoption of sound corporate governance practices by banking organisations in their countries. The principles also serve as a reference point for the banks’ own corporate governance efforts.
3. The Committee’s 2006 guidance drew from principles of corporate governance that were published in 2004 by the Organisation for Economic Co-operation and Development (OECD).3 The OECD’s widely accepted and long-established principles aim to assist governments in their efforts to evaluate and improve their frameworks for corporate governance and to provide guidance for participants and regulators of financial markets.4
4. The Committee’s 2006 principles targeted key issues of corporate governance. Among the primary points in the 2006 guidance were that:
- the board should be appropriately involved in approving the bank’s strategy;
- clear lines of responsibility should be set and enforced throughout the organisation;
- compensation policies should be consistent with the bank’s long-term objectives; and
- the risks generated by operations that lack transparency should be adequately managed.
5. Subsequent to the publication of the Committee’s 2006 guidance, there have been a number of corporate governance failures and lapses, many of which came to light during the financial crisis that began in mid-2007.5 These included, for example, insufficient board oversight of senior management, inadequate risk management and unduly complex or opaque bank organisational structures and activities. Against this background, the Committee decided to revisit its 2006 principles. Having reviewed and revised these principles, the Committee reaffirms their continued relevance and the critical importance of their adoption by banks and supervisors to ensure effective implementation of the principles.6 The key areas where the Committee believes the greatest focus is necessary are highlighted below:
Corporate Governance: An IOSCO Perspective
- Source: Corporate Governance: An IOSCO Perspective OECD-ADBI 8th Round Table, Capital Market Reform in Asia, ADB Institute, Tokyo, 11 & 12 October 2006
Any discussion of corporate governance invariably involves a reference to the Organisation for Economic Co-operation and Development (OECD) Principles of Corporate Governance.
By way of background, the OECD Principles were originally developed in 1999, with the OECD releasing its revised Principles in 2004. Since their development, the significance of the Principles to the development of corporate governance practices has been recognised by a number of international bodies. The Principles have been endorsed by the Financial Stability Forum as one of the 12 key standards for financial stability.
The International Organisation of Securities Commissions' (IOSCO) interest in corporate governance, like so many regulatory reforms, finds it origins in financial frauds such as Parmalat Finanziaria SpA. Following the collapse of Parmalat, IOSCO formed the Securities Fraud Task Force to examine ways that international securities regulators could strengthen important mechanisms in combating financial frauds.
The report of the Securities Fraud Task Force focused on seven separate areas that had featured prominently in recent collapses:
- corporate governance;
- auditors and audit standards;
- issuer disclosure requirements;
- bond market regulation and transparency;
- the role and obligations of market intermediaries;
- the use of complex corporate structures and special purpose entities; and
- the role of private sector information analysts.
The work of IOSCO's Securities Fraud Task Force confirmed in the mind of IOSCO members the link between strong corporate governance, as espoused by the OECD Principles, and strong financial markets.
The Securities Fraud Task Force identified the following corporate governance issues as being critical, given the circumstances contributing to the collapse of Parmalat, and other financial frauds:
- the ability of the board to exercise independent judgement; and
- the importance of protection for minority shareholders.
The Securities Fraud Task Force noted that the presence of strong independent directors might have the effect of discouraging majority shareholders from engaging in conduct to derive a private benefit at the expense of other shareholders.
Independent directors provide a means by which minority shareholders can monitor how majority shareholders and management utilise corporate assets. Independent directors can also be one of a number of mechanisms that provide a safeguard against abusive related party transactions.
While it was recognised that majority shareholders have the same interest as minority shareholders in maintaining the viability of the corporation, the controlling shareholder may be in a position to expropriate assets of the corporation for its own benefit at the expense of minority shareholders.
Corporate laws generally counter predatory conduct by imposing duties on the directors of the corporation to act on behalf of all shareholders. Many jurisdictions also provide specific protections to minority shareholders.
OECD on corporate governance
- Source: OECD Principles of Corporate Governance OECD
First released in May 1999 and revised in 2004, the OECD Principles are one of the 12 key standards for international financial stability of the Financial Stability Forum (FSF) and form the basis for the corporate governance component of the Report on the Observance of Standards and Codes of the World Bank Group.
- Implementing the Principles
The preamble to the OECD Principles states that they “are evolutionary in nature and should be reviewed in light of significant changes in circumstances”. It is also recognises that, “To remain competitive in a changing world, corporations must innovate and adapt their corporate governance practices so that they can meet new demands and grasp new opportunities”.
In 2006, OECD published the Methodology for Assessing Implementation of the OECD Principles on Corporate Governance which underpins the dialogue on implementation of the Principles in a jurisdiction and provides a framework for policy discussions.
In 2009, OECD launched an ambitious action plan to address weaknesses in corporate governance that are related to the financial crisis. It aims to develop a set of recommendations for improvements in priority areas, such as board practices, implementation of risk-management, governance of the remuneration process and the exercise of shareholder rights. The recommendations will also address how the implementation of already-agreed standards, such as the Principles, can be improved.
Good governance and financial performance
- Source: Treasury Working Paper Australian Treasury, March 2009
"The concept of corporate governance has attracted considerable attention, domestically and internationally, in recent years. Previous research, largely conducted using international data, has suggested that better governed firms out perform poorer governed firms in a number of key areas. This paper examines the relationship between a company’s adoption of the Australian Securities Exchange (ASX) Corporate Governance Council’s Principles of Corporate Governance and Best Practice Recommendations (ASX Corporate Governance performance, Australian greater compliance with the ASX Corporate Governance Principles outperform less compliant companies in each of these three financial areas"
UK efforts to improve corporate governance
- Source: Taking the FSA's corporate governance agenda forward Speech by Sally Dewar, Managing Director, Risk, FSA, City Corporate Governance and Remuneration Summit, 30 March 2010
"...This work is within our overall programme to improve our regulation, and is part of our more intensive supervisory approach. We now have a much greater focus on making our own judgements, for example, about individuals performing key roles and the sustainability of business models of firms. We will and have intervened where we have concerns. We cannot simply rely on monitoring systems and controls or assuming that firms’ senior management are necessarily always best placed to make these judgements alone.
But improving regulation and the outcomes for firms and consumers is not just about moving the regulatory telescope – we need to change the focus and look closer at behaviour and culture in firms, particularly ensuring two key things:
- one – that good culture and behaviours in firms is being driven by senior management; and
- two – that good culture and behaviours are being reinforced by effective corporate governance and the role of the boards.
Of course, part of changing behaviour and culture is about looking at the incentives on offer. We know that another factor that contributed to the financial crisis was remuneration practices, notably in the banking sector. Individual incentives can either reinforce or undermine a firm’s strategy and risk profile, so we have created a code of practice to ensure firms’ remuneration policies promote effective risk management.
We will continue to develop our policy here, and will publish a further Consultation Paper later this year, which will review the code, consider changes from the Financial Services Bill currently going through Parliament, and look at how we might extend the code beyond banks and what we need to take into account from international developments.
This last point is key. We took the lead in beginning work on remuneration domestically and will continue to play a key role in ensuring that what is done internationally is aligned with what we’re doing here, both in terms of the rules that will be in force and the way in which these rules are interpreted and applied.
But back to governance, and as we have examined and responded to the crisis we have learned more about what went wrong at firms. In governance terms, we have seen issues in several areas. For example:
- where boards did not sufficiently challenge the executive or understand their business models sufficiently;
- where boards needed a better understanding of higher risk activities and products; and
- where boards did not receive appropriate management information to be able to carry out their important oversight role.
So boards need better understanding, to be more challenging and to receive better information. For all of these things, we have to make sure we have the right people on boards, asking the right questions. As we have the power to vet the individuals in these key positions, we have to make sure they are up to the job and that once in the job they are doing their job effectively.
And so our emphasis now is on supervising governance in action – and that means evaluating the outcomes of the processes and structures firms have put in place and greater scrutiny of individuals before they are in positions of influence, and once they are in place.
But why is effective governance important? Well, in broad terms, good governance enables a firm’s board and executive to work together to deliver a firm’s agreed strategy. In particular, it is about managing the risks the firm faces.
Good governance will enable the board to share a clear understanding of the firm’s risk appetite and to establish a robust control framework to manage that risk effectively across the business, with effective oversight and challenge along the way..."
Australian efforts to improve corporate governance
CLERP 9 corporate reporting and disclosure
- Source: CLERP 9 Corporate reporting and disclosure laws ASIC
The Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (also known as CLERP 9) became law on 1 July 2004. You must have adequate measures, processes and procedures to meet the obligations of the Act, especially if you're involved in auditing and company financial reporting.
The requirements of the CLERP 9 Act are explained in the following regulatory documents:
- Regulatory Guide 180: Auditor registration [formerly PS 180]
- Regulatory Guide 34: Auditors’ obligations: reporting to ASIC [formerly PN 34]
- Regulatory Guide 66: Transaction-specific disclosure [formerly PN 66], and
- Regulatory Guide 173: Disclosure for the on-sale of securities and other financial products [formerly PS 173].
These are final versions of the two policy statements and two practice notes issued as ‘proof’ versions on 1 July 2004. For more information see Information release 04-73 ASIC issues final versions of CLERP 9 policies.
The professional indemnity insurance requirements for authorised audit companies, which were the subject of a policy proposal paper issued in April 2004, are included as Part B in RG 180 [formerly PS 180].
Australian CLERP 9 references
- CLERP Paper No. 9: Proposals for Reform - Corporate Disclosure Australian Government Treasury
- Understanding company law Lipton Herzberg
- CLERP 9 Guide Blake Dawson
Process for adopting audit reform and corporate disclosure
- Source: 04-029 Proposed ASIC CLERP 9 policy papers timetable ASIC, 5 February 2004
The Australian Securities and Investments Commission (ASIC) today announced a timetable for releasing policy proposal papers and other guidelines for implementing the Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003 (CLERP 9 Bill).
‘We need to be ready to implement the new law on 1 July 2004, which is the Bill’s current commencement date. Of course, that date depends on the passage of the CLERP 9 Bill by Federal Parliament’, ASIC’s Executive Director, Policy and Markets Regulation, Mr Malcolm Rodgers, said.
‘We also want to ensure that the people affected by the CLERP 9 Bill can stay up-to-date with this implementation plan. We will be consulting directly with stakeholders in the coming months, as well as seeking their comments through the formal policy process’, he said
Based on the current timetable for introduction of CLERP 9, prior to 1 July 2004, ASIC aims to release policy proposals and final policy statements on:
- Auditor registration;
- When ASIC might use its powers to adapt requirements in the CLERP 9 Bill that relate to audit and financial reporting. This policy will also discuss how the Bill affects existing ASIC policy on audit and financial reporting;
- When ASIC might use its powers to adapt requirements in the CLERP 9 Bill that relate to disclosure. This policy will also discuss how the Bill affects existing ASIC disclosure policies.
- What insurance requirements should apply for companies that provide audit services (authorised audit companies). A final policy statement on this topic will be issued after 1 July;
- Conflicts of interest. We have already issued policy proposals on the proposed obligation for licensees to have adequate arrangements to manage conflicts of interest. We plan to issue a final policy statement before 1 July (noting that this new obligation will not commence until January 2005); and,
- A guide on ASIC’s processes regarding the proposed power to issue infringement notices for breaches of the continuous disclosure regime.
‘Our policies will, of course, reflect the form of the CLERP 9 Bill and any regulations and final implementation will reflect legislative changes as they occur’, Mr Rodgers said.
Further details are set out in ASIC’s implementation plan, which is available on the CLERP 9 section of the ASIC website (www.asic.gov.au/clerp9)
Strengthening board composition
- Source: Board pay reforms hit old boys club The Australian, October 2, 2009
THE "old boys" network deemed to dominate the boards of corporate Australia could be busted open if the Rudd government accepts a recommendation by the Productivity Commission to end the so-called no-vacancy rule, which allows boards to limit new nominations to themselves.
Associate Productivity Commissioner Allan Fels said yesterday he expected a significant reaction to this recommendation when its implications were fully considered.
"This wasn't really picked up on day one of the release of the draft report on executive remuneration because the focus was on the 'two strikes and you're out' rule, but it is a very important recommendation which could have a significant effect on the diversity of boards and the perception of board members as members of a club," Professor Fels said.
Currently, company constitutions include a clause that outlines the minimum and maximum number of directors on a board, which often ranges between six to 10 directors.
Many constitutions include an additional clause that allows the board to then set the number of directors at any one time. This can be used to impede the election of certain candidates who are not endorsed by the board.
A concern with removing this clause is that it could lead to companies having bloated boards, and make it easier for fringe groups to get themselves on to the corporate boards.
However, Professor Fels said the Productivity Commission believed shareholders should be empowered to determine the maximum number of directors on a board. "It would include more nominations for board seats," he said.
A recent study by CAMAC examined the diversity of corporate board membership in Australia, noting a significant gender imbalance, with women representing 8 per cent of board seats. It also found that it is common for non-executive directorship candidates to be sourced from the ranks of senior executive management.
For example, in 2000, 35 per cent of non-executive directors were retired chief executives.
The Australian Institute of Company Directors put out a detailed press release on the Productivity Commission's report yesterday, but deliberately left out any comments on the removal of the no vacancy rule for further consideration. The AICD will address the proposal and its potential implications in its submission to be completed later in the year.
Banking and finance professor Peter Swan from the Australian School of Business at the University of NSW said of the Productivity Commission's 15 recommendations, this was one of two recommendations that were potentially damaging to governance and performance.
"The recommendation to increase board diversity by ending the no vacancy rule is likely to achieve an even worse outcome for the board with the number of board members escalating to the maximum allowed under the constitution," Professor Swan said.
He said it was a well-established fact that smaller boards tended to outperform bigger boards. "This resulting upward shift in board size will almost certainly be expensive in terms of board performance, as well as being more costly for shareholders.
"Nor is it likely to achieve its aim. Incumbent boards could simply appoint more of their own until the permanent no vacancy sign is hung," he warned.
- Directors’ Responsibilities: The reality vs the myths Jeffrey Lucy, Chairman, Australian Securities and Investments Commission, August, 2006
- Group Corporate Governance Policy
- Beyond Optics: Why Board Diversity Really Matters Huffington Post, January 5, 2010
- Do Investors See Through Mistakes in Reported Earnings? Harvard Law School Forum, December 13, 2010
- Corporate constitutions The Economist, October 28, 2010
- Board Directors in Today’s Board Rooms TEDxNewSt, October 15, 2010
- Re: Green Paper, Corporate Governance in Financial Institutions & Remuneration Policies CFA Institute, September 1, 2010
- NYSE Commission Report Defines Core Principles of Corporate Governance Harvard Law School Forum on Corp Gov, Oct 7, 2010
- Corporate Governance & Current Regulation in the German Banking Sector Matthias Köhler , Center for Euro Economic Research, 2010
- Questions, and Directors, Lost in the Ether New York Times, September 25, 2010
- Corporate Governance of the 100 Largest US Public Companies Harvard Law School Forum on Corp Gov & Fin Reg, Aug. 22, 2010
- Predicting the Future of Corporate Boards Harvard Law School Forum on Corporate Governance and Financial Regulation, August 7, 2010
- Boomerang Effect of Incentive & High Remuneration on Independence of Board Members University of Belgrade, July 7, 2010
- Bidder Beware New York Times, July 3, 2010
- Avoiding GRIdlock: Living with the New RiskMetrics Matrix Drinker Biddle, July 2, 2010
- Financial Reporting Council Publishes its Annual Report for 2009/10 Financial Reporting Council, June 17, 2010
- Where was Moody's board when top-rated bonds blew up? McClatchy, April 2, 2010
- Too Many ‘No’ Votes to Be Ignored New York Times, September 19, 2009
- Cash for Votes The Economist, October 27, 2009
- Keeping the CEO in Line Acharya, Myers, and Rajan, Fall, 2009