Pensions & Investment Research Consultants Ltd
June 12, 2003
Jonathan G. Katz
Dear Mr Katz
SEC Proposed Proxy Rule Changes (S7-10-03)
Pensions & Investment Research Consultants Ltd (PIRC) is an independent adviser to institutional investors on issues of corporate governance and corporate responsibility. Our general interest in the issue of reform of US securities law arises from our considerable experience of advising our clients on the exercise of their rights and responsibilities as major shareholders in UK listed companies.
PIRC's clients have combined assets in excess of £350 billion and include some of the largest pension funds, investment management companies and insurance companies in the UK and overseas. This client base also includes US pension funds and fund managers.
Together, they comprise a diverse group of institutional investors with long-term liabilities and broad fiduciary duties.
PIRC undertakes company research on corporate governance and corporate responsibility issues at public companies, and provides advice to clients on proxy voting strategies and other active shareholder initiatives. Our comments are based on 16 years of practical experience, which inform our views on the strengths and weaknesses of disclosures, governance structures, and the interaction of statute, regulation and codes of practice.
We are commenting selectively on issues where we have particular knowledge or concern.
Proposed SEC Rule Change S7-10-03
PIRC welcomes the opportunity to respond to this important initiative by the Securities & Exchange Commission. The rules which underpin shareholder relationships with listed companies must be seen to be robust in allowing genuine engagement which in turn will rebuild public confidence in markets.
Election of directors
We believe our UK experience is relevant to the US. Voting on the appointment of the directors is the most important routine issue for shareholders to consider at UK listed company meetings. The composition and effectiveness of the board is a crucial factor in determining corporate performance and in ensuring probity, and in our view has been a crucial component of corporate governance failure at several US companies over the last two years.
US shareholders of course frequently consider UK company governance standards, and are experienced in taking a view on the appropriateness of UK directors. On average over 10% of total UK equity (listed shares on the UK stock exchange) is held beneficially by US shareholders.1 US holdings of UK stock are sufficient to make the difference in some companies,2 but the potential for these votes to be used to seek undue influence on boards is not borne out by voting records scrutinised by PIRC.
However, according to our information, US shareholders in general have not used their influence to oust incumbent boards at UK companies. Where concerns exist, votes are targeted at resolutions which deal specifically with those concerns . In our experience a management resolution to elect or re-elect a director to the board of a UK listed company has never been voted down by US investors.
In the UK context, where shareholders have a genuine power to dismiss directors through an oppose vote at a company annual meeting, it is used responsibly. This suggests that the practice of classifying boards is a protection against a threat that does not exist and in our view should be eliminated by the SEC.
PIRC also strongly supports the abolition of so called "broker votes". As such votes may only be cast on routine items, we would suggest that the SEC revises any definition by which the appointment of directors may be classed as `routine'. We would also point out that a rule dependent on votes not received within 10 days of a meeting is no longer consistent with the methods by which votes are commonly cast. Registrars acting on behalf of UK companies will confirm that the majority of votes at UK meetings are cast in the couple of days prior to the proxy deadline, ie. less than 10 days before the meeting, the point at which broker votes are allowed.
If accountability cannot be ensured by the implementation of a right to vote against a director due to the cultural shift in US practice that such a move would entail, we have also considered how best this could be achieved. We believe director accountability is improved by competition and given the demonstrable difficulties which shareholders face in mounting an effective proxy contest at US corporations, PIRC would support amendments to Rule 14a-8(i) in order to allow shareholder proposals to elect directors in line with the August 2002 petition for rulemaking submitted collectively by the Committee of Concerned Shareholders and James McRitchie.
However our support for these changes is not without reservation. PIRC welcomed the efforts the SEC made in implementing Sarbannes-Oxley into its rules due to the emphasis placed on the independence of directors sitting on audit committees. Our own view of independence excludes any director who serves a minority interest. We believe there is potential for conflicts of interest where a director is involved in making decisions (acquisitions, disposals, mergers, de-mergers, capital restructuring etc) where not all shareholders interests may coincide. This is aligned with the view of directors' duties which underlines UK common law on the issue, namely that a director has a duty to run the company for the benefit of its shareholders (`members' in UK parlance) as a whole and not just a minority.3
Any moves by the Commission to codify the rights of shareholders to nominate directors must also deal with the issue of independence. We would prefer to see a clear ruling that such nominees must be demonstrably free from any current or previous commercial relationship with the shareholder nominating them and with the company.
Disclosure of biographical details
The issue of board nominees has been brought to the fore by the recent settlement of the class action against Hanover Compressor under which the company has agreed to institute governance changes which include allowing shareholders to nominate directors to the board - the first time this has happened. PIRC is a consultant to Milberg Weiss Bershad, Hynes and Lerach, whom acted for plaintiffs in this case.
It is interesting to note that the same settlement mandates that two-thirds of the board be independent directors and that the main board committees be comprised of solely independent directors. In order to ensure that both objectives are achieved shareholders must be presented with sufficient biographical details of the nominees before deciding to appoint them. The Commission will in our view need to look at the rules supporting biographical disclosure in such cases (particularly if it rules to allow shareholder nominees in future) in order to ensure that shareholders are able to address the issue of independence.
The UK government recently consulted on changes to UK company law. As part of that review, respondents were asked to address the issue of a suitable threshold for requisitioning a resolution at a company meeting. The views expressed in PIRC's submission to the UK company law review are equally applicable to the SEC review regarding the nomination of directors.4
We consider that 1 per cent of outstanding common voting stock in a company is a suitable threshold, however as this would exclude the majority of investors apart from the largest institutional money managers, we consider that an alternative threshold should be that any 10 individual shareholders holding in aggregate more than 0.1% of voting common stock is acceptable. Equally important is the amount of time over which such stock is held. We would strongly argue that this should not be less than one year.
Although we would regard the changes such as those sought by various petitioners as an improvement on current regulation, we would urge the SEC to go beyond arguments over exclusion of resolutions under Rule 14a, and consider the root causes of the problems of a perceived lack of accountability of US boards to their shareholders. In the context of restoring US and global shareholder confidence in the US system of corporate governance, shareholder access to the company ballot for shareholder nominees is in PIRC's view a fundamental change that is now necessary.
We would be happy to discuss any of our views expressed in this submission with SEC staff and look forward to the outcome of your deliberations.