Shareholder Rights Act of 2009

We have finally found online a copy of the draft legislation that will be submitted next week by Senator Schumer, the Shareholder Rights Act of 2009.  A copy is posted on the DU Corporate Governance web site. The legislation calls for say on pay, access, a majority vote requirement, the separation of chairman and CEO, and a required board committee to assess risk. 

Now that we have the draft, we can offer some observations.  Some of the provisions should be redrafted and in at least one significant case the legislation probably limits rather than augments the Commission's authority in the corporate governance area.

First, it would confirm the Commission's authority to require access and mandates that the Commission adopt rules providing for access.  The provision contains thresholds for submitting shareholders, including the ownership of a minimum of 1% of outstanding voting shares for at least two years. 

Ironically, the provision actually limits the Commission's authority.  The Agency already has the authority to adopt an access amendment.  Moreover, in the past, the Commission has made access proposals that contained thresholds below those in the Shareholder Bill of Rights.  Thus, when the Commission made an access proposal in 2007, it proposed only a one year holding period.  See Exchange Act Release No. 56160 (July 27, 2007)("The proposal is submitted by a shareholder (or group of shareholders) that has continuously beneficially owned more than 5% of the company's securities entitled to be voted on the proposal at the meeting for at least one year by the date the shareholder submits the proposal;").  The Shareholder Bill of Rights, in contrast, would require at least a two year holding period for the shares.

On the other hand, the provision probably preempts state law, a serious concern given the recent actions by the Delaware legislature.

Second, it uses listing standards, much the way SOX did, to impose additional governance requirements.  Thus, they apply only to listed companies. This effectively limits the requirements to large companies (not, for example, those traded in the OTC Bulletin Board).  It also means that, based upon the current state of the law, there is no private right of action for violations.  Enforcement is, instead, left to the exchanges, regulatory bodies that do not have a history of robust enforcement.

The listing standards include the separation of chairman and CEO.  Specifically, the Chairman must be an independent director.  While the legislation specifically references the independence standards of the exchanges, it also notes that independence may otherwise be determined "by rule of the Commission".

Staggered boards are to be prohibited.  The draft does so by requiring that a listed company's "governing documents" provide for annual election.  In other words, the provision must be in the articles of incorporation.  The problem with such an approach is that a state could amend its law to negate the affect of any provision in the articles.  Thus if, for example, state law required multiple year terms, it would override any provision in the articles.

The majority vote requirement is strangely phrased.  It requires nominees to receive a majority of the votes cast to be elected ("directors in uncontested elections shall be elected by a majority of votes cast as to each nominee").  Yet if they are not elected ("if a member of the board of directors of an issuer is not elected to a new term in an uncontested election"), it oddly requires a letter of resignation, as if they had been elected.  This was probably designed to avoid preempting plurality vote statutes that exist in most states.  On the other hand, it probably does preempt (by providing that those not receiving a majority are not elected).  And, in the few states where a true majority vote requirement exists (or is permitted by bylaw/articles), it still requires a letter of resignation. 

Moreover, while the letter must be accepted by the board, the board can delay the resignation for a "reasonable" period.  Thus, in states where directors are not even elected if they do not get a majority, this provision seems to nonetheless provide boards with the power to allow the nominee to hold over.  The provision needs to be redrafted to make clear that the letter of resignation and holdover period only apply where the state law standard for the election of directors is a plurality.

Finally, the legislation provides for the mandatory establishment of a risk committee of the board consisting entirely of independent directors.  The committee is given the responsibility for "the establishment and evaluation of the risk management practices of the issuer."  The provision does not provide many of the types of protections included in SOX for the audit committee.  Thus, there are few specific duties of the committee, no mandatory reporting to the committee, and no provision allowing the committee to hire experts and otherwise determine its own funding needs.

The draft legislation, therefore, puts the Commission smack in the middle of the corporate governance process, accelerating something already started in SOX.  Most importantly, it limits the Commission's authority in the area of access.  Finally, the provision on majority voting needs more precise drafting.