As the first half of the 2004 proxy season comes to an end, investors have noticed a recurring theme --- Corporate Governance.
With the Enron, WorldCom, Tyco, and Martha Stewart scandals dominating business headlines over the past two years, investors are paying a significantly higher level of attention to corporate governance.
In past years, proxy statements have been riddled with social and environmental issues -- but not this year.
Although all publicly traded companies are required to comply with independence standards set forth by the exchanges and/or NASDAQ regarding boards and board committees, the standards are not strict enough for some shareholders. A withheld vote does not count as a vote "against" a director, but if used with discretion and in combination with other shareholder votes, it can be a powerful tool to implement change.
This proxy season, a record number of votes were withheld for directors, mostly in response to independence issues. For example, 43% of withheld votes for Walt Disney Co. CEO and Chairman Michael D. Eisner compelled Mr. Eisner to step down as Chairman of the Board. Investors had argued that by separating the positions of Chairman and CEO, management would be better held accountable for its actions and the board would be more effective in fulfilling its fiduciary duties.
A similar situation involved Coca-Cola director and audit committee member Warren Buffett. Some institutional and individual investors campaigned to withhold votes for Mr. Buffett, since they didn't consider him to be a truly independent member of the audit committee even though he was regarded as independent under New York Stock Exchange standards. The issue was contentious: Mr. Buffett has always been a strong voice for good corporate governance and has an eminent reputation for integrity. Unlike the Eisner results, the campaign against Mr. Buffett was unsuccessful. He was re-elected to Coke's board and remains on the audit committee, having receiving 85% of the votes.
Fearing another Enron-like scandal, investors are calling for greater auditor independence, insisting that the auditor is professionally compromised by providing non-audit services or by having a too-long-standing relationship with the company.
More than 90 resolutions were presented this year, calling for companies to require that shareholders ratify their auditor selections, while another 30 proposals would have adopted a zero-tolerance policy banning non-audit fees paid to auditors. Although these resolutions help increase auditor independence, clearly the most effective way to ensure auditor independence is to hold the audit committee and auditors responsible for their suspect actions. And the easiest way to do that is to vote against the auditor management has selected and to withhold votes for audit committee members.
What many investors do not know is that even if the ratification of the auditor is rejected by a majority of shareholders, that does not necessarily mean that the rejected auditor will not continue to do audit work for the company. Often, the board of directors and the audit committee will take the vote "under advisement" and then decide whatever they think is in the best interests of shareholders.
Another big major issue of the 2004 proxy season has been the issue of stock option transparency. Under current Financial Accounting Standards Board (FASB) rules, stock option expensing is preferred, but not required. In most cases, the only required disclosure is a footnote to a company's financial statements.
The International Accounting Standards Board (IASB) has already required companies using their standards to recognize all stock-based compensation plans as an expense in their financial statements. IASB standards expense stock options at fair market value as of the grant date. Will FASB soon follow?
FASB has already proposed that options must be expensed, and a final rule may be issued by the end of the year. A pending bill in Congress is trying to restrict FASB from adopting these new standards for stock option accounting.
Even with the pending bill and FASB's expected final rule, the question of whether stock options should be expensed is still showing up on proxies all over the country.
Unfortunately, many of today's problems have stemmed from too many shareholders just not caring. By not voting their proxies or by automatically voting in favor of management, shareholders have allowed management teams to abuse their power. If shareholders wish to have more influence in the future, they must be aware of the issues facing companies and how their vote can influence company decisions.
As shareholders become more aware of all the issues and increase their expectations of corporate management, we should see greater board independence, auditor accountability and accounting transparency. By improving their corporate governance, companies, in turn, are likely to see improved shareholder confidence and trust, and a corresponding increase in their stock returns.
Sara Martire is Marc J. Lane Investment Management, Inc.'s Investor Advocate. She fulfills the firm's fiduciary duty to vote proxies in the best interests of its clients.
Sara is responsible for staying abreast of all current proxy issues, rules, and regulations, maintaining and updating Marc J. Lane Investment Management, Inc.'s Proxy Voting Guidelines, and for voting all client proxies for which the firm has the fiduciary duty to do so.
If you would like to discuss any other proxy issues with Sara, or if you would like to receive a copy of Marc J. Lane Investment Management Inc.'s Proxy Voting Guidelines, please feel free to contact her at any time. Sara can be reached at (312) 334-6909, or by e-mail at [email protected].
The Lane Report is a publication of The Law Offices of Marc J. Lane, a Professional Corporation. We attempt to highlight and discuss areas of general interest that may result in planning opportunities. Nothing contained in The Lane Report should be construed as legal advice or a legal opinion. Consultation with a professional is recommended before implementing any of the ideas discussed herein. Copyright © 2007 by The Law Offices of Marc J. Lane, A Professional Corporation. Reproduction, in whole or in part, is forbidden without prior written permission.