The end game is now underway.  The WSJ reported that the Commission would act this month (August) and finally adopt the access proposal that had been adopted more than a year ago.  The provision will likely apply to the 2011 proxy season.

How important of a change is access?  It is the beginning of a paradigm shift in corporate governance, the ramifications of which will take years to fully appreciate.  Lets consider some of the implications. 

First, it will not result in an overnight shift in board membership.  The authority will likely be used tentatively, as institutional investors only favor the nomination and election of insurgent directors hesitantly, unwilling to significantly disrupt the traditional management dominated board.  But gradually, access nominations will occur.

Second, as most have noted, access barely scratches the surface of the costs involved in a typical proxy fight.  But the promise of access is not a repeat of the traditional proxy fight.  It is about providing shareholders with an alternative when they are particularly dissatisfied with management.  This will occur in companies that have poor governance records or overpaid managers relative to the company's performance. 

The campaign will depend less on the need to make an affirmative case for the insurgent nominees and more on the ire of shareholders at management and its nominees.  In other words, insurgent directors will win in most cases because of an anti-incumbency attitude among shareholders.  As an alternative choice for angry shareholders, there will be no need to incur significant costs beyond the subsidies provided by access.

Third, for insurgents to have any hope of winning, they will, in general, have to nominate high quality candidates that appeal to the broadest cross section of shareholders.  Union pension plans will not nominate union officials; public pension plans will eschew ideologues.  It will mean the nomination and election of talented but truly independent directors.

Fourth, the corporate governance debate will shift.  Pressure for legal reform designed to impose one size fits all requirements on all public companies (or listed companies) will diminish.  The need for preemption will diminish.  Pressure for governance reform will still occur but it will arise, ironically, from a flourishing of private ordering.  Shareholders will seek the removal of staggered boards or the separation of chair and CEO on a case by case basis, with the threat of an access election as leverage.  Indeed, it is likely that had access been put in place sooner, there would have been no say on pay and no SEC authority to define independent directors. 

The promise of access is that those companies with the overpaid managers or the poor record in corporate governance will incur a cost.  They will risk the threat of the election of non-management directors.  With insurgent directors in the boardroom, the decision making process will change.  The board will become less deferential towards management.  Salaries will require greater justification.  There will be real debate over the proper direction of the company.  It will change the way decisions are made and will result in greater diversity of opinion in the board room. 

The only way to avoid this is to proactively prevent an anti-incumbency crescendo.  The best way to do so is to communicate with shareholders more often and implement a governance system shorn of the most offensive kinds of provisions.  Gradually, boards will pay more attention to shareholders and become less likely to ignore proposals adopted by shareholders.  

All of this will take time.  For those public companies that treat shareholders with indifference, overpay management, and leave in place unacceptable governance structures, things will change.  In the pre-access era, shareholders had little option but to sell their shares.  In a post-access era, shareholders will have the authority to offer alternative nominees and, where shareholders are angry enough, the nominees will be elected.  Their election will cause disruption inside the boardroom and directors will become less complacent.  It will be, at least in some cases, a painful process.  But the decision making process will evolve and the board will become less deferential to management.

Boards will increasingly become more responsive to shareholders if for no other reason than to avoid an access challenge.  It will accelerate the end of CEO dominated boards.  This will be a profound change. 

• Accordingly, in this release, we are reviewing and seeking public comment as to whether the U.S. proxy system as a whole operates with the accuracy, reliability, transparency, accountability, and integrity that shareholders and issuers should rightfully expect. With over 600 billion shares voted every year at more than 13,000 shareholder meetings, shareholders should be served by a well-functioning proxy system that promotes efficient and accurate voting. Moreover, recent developments, such as the revisions to Rule 452 of the New York Stock Exchange (“NYSE”) limiting the ability of brokers to vote uninstructed shares in uncontested director elections and other corporate election of directorshave highlighted the importance of accuracy and accountability in governance trends such as increased adoption of a majority voting standard for the the voting process.

As we will discuss in subsequent posts, the outcome will also be affected by the Dodd-Frank Wall Street Reform Act.  The Act gives the SEC rulemaking authority over the definition of independent directors (at least on compensation committees), authority to control voting rights of brokers over uninstructed shares, and the authority to control the precise matter to be put to a vote under the say on pay requirement. 

The Conference agreed to strike the requirement that exchange traded companies all provide for majority voting.  This gives shareholders no real authority.  Of the two provisions, an unfettered access provision is by far the better deal for investors and shareholders.

We start as we always do with the notion that it is the board that has, and ought to have, the authority to detemine compensation.  Moreover, personal use of the aircraft, while often something that garners negative publicity, is merely another benefit that comes under the authority of the board grant.  Yet in order for shareholders to be confident in the integrity of the approval process, the board needs to be independent and bears the responsibility of explaining any transaction that otherwise looks unusual. 

Little about the decision was fully explained, at least in the proxy statement sent to shareholders.  With respect to the CEO's use of the corporate aircraft for personal reasons, the board originally authorized the benefit mostly for reasons of security and safety.  In the April 2010 agreement, the board limited personal use to $200,000.  The Board never explained how the concerns about CEO safety had changed.  The proxy statement merely gave as an explanation "changing compensation practices." 

Nor was there any explanation for the determination of the $4 million payment.  Moreover, the CEO still gets to use the aircraft for $200,000 a year, making the benefit worth $4.8 million.  The payment exceeded the amounts disclosed in the prior four years.  The amounts?  $639,439, $1,115,484, $656,545, and $776,723.  The four year total:  $3,188,191.  (This does not take into account the amount paid in connection with the tax gross ups.  For those amounts, see the post here). 

Admittedly, some of those prior years reflected expenses when the CEO only had the right to personal use for travel in North America, rendering the benefit less valuable.  Nonetheless, it would have been helpful to know how the amount was calculated.  The proxy statement merely stated that:  "In consideration for these modifications of the CEO’s employment agreement, the Company paid to the CEO a lump-sum cash payment of $4,000,000."

What about the system of governance?  The directors are moderately paid (around $200,000, see below) but are largely insulated from removal by shareholders.  The company has a staggered board (although it also has in place a Pfizer style majority vote requirement and recently appointed a lead director).  We have criticized these provisions in the past as ineffective. 

One of the directors, John Kessler, has been on the board since 1998, with at least a portion of that time on the compensation committee.  Based upon longevity alone, he would not be considered independent under Section A.3.1 of the Combined Code used in Britain.   Moreover, while treated as independent, the proxy statement disclosed that "Mr. Kessler’s son-in-law is on the Board of Directors of the Nationwide Children’s Hospital Foundation, and the Company has pledged a conditional donation of $1,000,000 a year for ten years (2006 to 2015) to the Nationwide Children’s Hospital, a wing of which will bear the name of the Company."

None of this establishes anything untoward about the board's approval process for such an unusual transaction.  The low level of disclosure, however, is insufficient.  The transaction further demonstrates the need for shareholder access.  Shareholder nominated directors on the board would provide greater assurance that the approval process for executive compensation is sufficiently robust to look out for their interests.  Access will facilitate this result.

Director Compensation for Fiscal 2009

The CEO has made extensive use of this benefit.  The proxy statement for 2009 revealed that Mr. Jeffries was assessed under "other compensation" with "$639,439 in aggregate incremental cost of personal use of the Company-owned aircraft calculated."  In 2008, the amount listed in the proxy statement was "$1,115,484 in aggregate incremental cost of personal use of the Company-owned aircraft."  In 2007, according to the Company's proxy statement, the amount was "$656,545 in aggregate incremental cost of personal use of Company aircraft (less reimbursement of certain amounts by Mr. Jeffries)."

What is the reason given by the company for allowing this use?  Safety.  In the proxy statement for 2008, the company gave this explanation: 

• "The Compensation Committee has carefully considered the provision of these benefits, including private air travel and personal security, and approved those benefits out of concern for the CEO’s safety. In approving the private air travel, the Compensation Committee also took into account the CEO’s extensive travel schedule, which, whether primarily for personal or business purposes, nearly always includes a business element (for example, visits to Company stores or potential store locations)."

Perhaps more unusually, the right to use the aircraft for personal trips was not simply a matter of board policy but was ensconced in Mr. Jeffries' employment contract.  In a contract executed earlier in the decade, he received the right to use the corporate aircraft for travel in North America.  See Proxy Statement Filed May 5, 2005 ("In addition, under the Jeffries Agreement, the Company provides to Mr. Jeffries, for security purposes, the use of the Company aircraft for business and personal travel in North America. For travel outside of North America, Mr. Jeffries will be entitled to first class air travel."). 

In December 2008, the company executed a new five year contract (the one that provided for four million SARs) and expanded the right to the personal use of the aircraft.  No longer limited to North America, the employment agreement authorized, among other things,  that "[f]or security purposes, the Executive shall be provided, at the expense of the Company, with use of a private aircraft for business and personal travel, both within and outside North America."

In April of this year, however, the Company announced a modification of the right.  Henceforth, Mr. Jeffies would be limited to personal use of no more than $200,000 a year.  Given that the already executed employment contract provided for unlimited personal use, this represented a meaningful reduction in contractually mandated benefits.  In return for this change, the Board agreed to pay Mr. Jeffries $4 million for the amendment (subject to clawbacks in certain circumstances).  As the proxy statement explained: 

• At the time the CEO's employment agreement was entered into, the Compensation Committee carefully considered the provision of these benefits, including private air travel and personal security, and approved those benefits out of concern for the CEO's safety and his extensive travel schedule. In light of changing compensation practices, the Compensation Committee and the CEO have agreed to an amendment to the CEO's employment agreement (entered into on April 12, 2010), pursuant to which the CEO will, commencing with the 2010 fiscal year, no longer be entitled to unlimited use of Company aircraft for personal travel without reimbursement to the Company.

In other words, the benefit had been given to the CEO out of the need for safety and his "extensive travel schedule."  It was being taken away because of "changing compensation practices." 

We will have some additional thoughts on this in the next post.

Among other things, the definition does not adequately screen for personal relationships, a difficult issue that other countries address by excluding from the category directors with extensive tenure on the board.  The language on its face applies to relationships between directors and the company, not relationships between the director and executive officers.  The definition does not take into account the fees paid to directors, irrespective of the sometime extraordinary amounts.

Given these weaknesses, it is perhaps no great surprise that at least partial responsibility for the definition will be transferred to the Commission if the Senate version of the legislation passes.  Specifically, Section 952 seeks to regulate compensation committees.  If adopted, listed companies will have to have a compensation committee that resembles the audit committee, with directors having the authority to hire their own consultants and the exclusive power to hire and fire compensation consultants.

For our purposes, however, the most interesting element concerns the treatment of independent director.  The provison provides that each member of the committee must be independent.  This is no big deal since the exchanges already require this. 

As with the "super independence" requirements in SOX for the audit committee, however, the provision tightens the definition.  Rather than defining the term in the statute or leaving it to the stock exchange, the legislation essentially transfers the authority to the SEC.  The Commission will receive the authority to define the "relevant factors" that must be considered in defining independent.  These factors include "the source of compensation of a member of the board of directors of an issuer, including any consulting, advisory, or other compensatory fee paid by the issuer to such member of the board of directors" and "whether a member of the board of directors of an issuer is affiliated with the issuer, a subsidiary of the issuer, or an affiliate of a subsidiary of the issuer."

The Senate Report doesn't add much to the language of the statute.

• In determining whether a director is independent, the national securities exchanges should consider the source of compensation of a member of the board of directors of an issuer, including any consulting, advisory, or other compensatory fee paid by the issuer to such member of the board of directors; and whether a member of the board of directors of an issuer is affiliated with the issuer, a subsidiary of the issuer, or an affiliate of a subsidiary of the issuer. Any compensation counsel or adviser shall be independent.

Nonetheless, the plain language would seem to cover fees paid to directors for their service on the board.  In short, the Commission will have the authority to require the exchanges to consider the impact of directors fees. 

The short term result will be three different definitions of independent director.  There will be one for the compensation committee, one for the audit committee directors, and one used by the exchanges for all other directors.  When the SOX definition was adopted, the exchanges studiously avoided applying the definition to other independent directors.  This will need to change.  The exchanges will need to proactively adopt a common standard based upon the SEC's definition.  If they don't, the Commission may be in a position to use its new found authority to impose one.     

The legislation just adopted by the Senate (Restoring American Financial Stability Act) contain a number of provisions that, if they survive, can only be seen a preempting some of the authority of the stock exchanges in the area of corporate governance.  Congress is doing so by transferring the authority for listing standards and other governance provisions to the Commission.

One example concerns discretionary voting by broker-dealers.  Voting restrictions on street name shares had historically been left to the NYSE under Rule 452.  This will change, however, if the Senate Bill becomes law. 

Specifically, Section 957 prohibits the voting of uninstructed shares for the "election of a member of the board of directors of an issuer" and "executive compensation".  More importantly, it allows the Commission to prohibit voting on "any other significant matter".  The legislative history indicates that the authority is to be construed broadly.  As the Senate Report notes:

The board's fiduciary obligations, at least theoretically, require that the board examine nominees each year to determine whether they are qualified to serve on the board.  In at least one case, however, the right to sit on the board has become contractual. 

According to the proxy statement filed by FBR Capital noted that its former CEO (he stepped down on January 1, 2009, would nonetheless have a contractual right to be nominated to the board for three years.  As the proxy statement notes:

• It is expected that Mr. Billings will continue to have active involvement in crucial business development and relationship management aspects of our company's business, and will help to grow and strengthen our company's current and future client relationships. In consideration of these efforts and to incentivize these actions, our company has entered into the Director Agreement, which provides that for three years (i) our company will nominate Mr. Billings to serve as a Board member, (ii) Mr. Billings will receive an annual Chairman's fee of $400,000, at the same time and in the same form as the fees paid to other Board members generally, no later than March 15 of each year following the calendar year in which Mr. Billings earned this fee and (iii) Mr. Billings will be eligible to receive an annual bonus. 

In general, contractual provisions cannot override fiduciary duties.  If a board decides that it is not in the best interests of the company to renominate a particular director, they will usually have a legal duty not to do so, irrespective of contractual obligations.  The director who is not nominated may, however, have a claim for damages as a result of breach of the contract. 

Nonetheless, it is a bad practice to put the company in a position of having to breach a contract if its fiduciary duties so require.  Better to decide on the qualification of nominees on an annual basis, without any contractual obligations. 

It is clear that this is the result of critics of access, particularly those that threatened to challenge the SEC's rulemaking authority in the area.  Few were as strident on the issue as the Chamber of Commerce.  The Chamber all but threatened to sue the agency if it adopted the rule.  See Update On Shareholder Access, Shareholder Bill Of Rights And Other Washington Efforts On Corporate Governance, Thomas Quaadman, U.S. Chamber of Commerce, Oct. 4, 2009 ("This is the third time in six years that the SEC is considering implementing shareholder access. While previous efforts have failed, this comment period has proven to be no less controversial. Proponents of shareholder access are quietly confident that the third time is the charm, however, history and potential legal challenges may prove them wrong.").

The challenge to rulemaking was never very strong.  It mostly arose out of the DC Circuit's decision in Business Roundtable that struck down the SEC's attempt to impose one-share, one-vote, on the stock exchanges.  Access, in contrast, merely involved disclosure, something well within the SEC's authority.

Nonetheless, the threats likely contributed to the decision of Congress to include access in the financial reform process.  Once adopted, the litigation threat will disappear.  More to the point, the legislation will allow the Agency to be more decisive in the exercise of its authority.  Had authority been unclear, even marginally, the Commission might have taken an approach to the rule that was designed to reduce the risk of legal challenge.  This might have resulted in higher ownership thresholds or longer time limits, making access less useful.

Congress is about to take away the litigation risk.  Critics of access are to be thanked for the development.   

A.        The Rule 14a-9 Cause of Action

In its complaints against BofA, the SEC alleged that the Company violated Section 14(a) of the ’34 Act and SEC Rule 14a-9.  15 U.S.C. § 78n(a); 17 C.F.R. § 240.14a-9.  Section 14(a) prohibits any person from “solicit[ing] any proxy or consent or authorization in respect of any security” in “contravention of rules and regulations the Commission may prescribe.”  15 U.S.C. § 78n(a).  Rule 14a-9 prohibits “any statement which . . . is false or misleading with respect to any material fact, or which omits to state any material fact necessary in order to make the statements therein not false or misleading . . . with respect to the solicitation of a proxy.”  17 C.F.R. § 240.14a-9. 

The Supreme Court has recognized an implied private right of action to sue under Rule 14a-9. See, e.g., TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438 (1976).  In addition to alleging a material misrepresentation or omission, a private plaintiff suing under Rule 14a-9 must prove materiality, loss causation, and transaction causation.  In 2009, Judge Posner of the Seventh Circuit affirmed that scienter is not an element in a private Rule 14a-9 suit.  Beck v. Dombrowski, 559 F.3d 680, 682-83 (7th Cir. 2009) (internal citations omitted).  A private plaintiff must establish injury and a causal connection to sustain an action for a Rule 14a-9 proxy violation.  See generally Stahl v. Gibraltar Fin. Corp., 967 F.2d 335 (9th Cir. 1992). 

B.        SEC v. Bank of America Corp.

The crux of the SEC’s second Complaint was that BofA failed to disclose “extraordinary financial losses at [Merrill] prior to the shareholder vote to approve a merger between the two companies.”  BofA filed its proxy statement the SEC and a registration statement, incorporating the proxy by reference, before the December 5, 2008 shareholder vote.  The proxy detailed Merrill’s losses at the end of September 2008.  “By the time of the December 5 shareholder meeting, however, [BofA] had become aware of $4.5 billion in net losses that Merrill had sustained in October and estimated that Merrill had experienced billions of additional losses in November . . . .”  Thus, by allegedly failing to disclose fully the issues with Merrill, BofA “kept shareholders in the dark.”

The SEC alleged that BofA violated Section 14(a) and Rule 14a-9 by omitting the fundamental and material changes that Merrill’s deteriorating financial condition represented.  BofA settled with the SEC by paying a $150 million fine and agreeing to  injunctive relief, including stronger corporate governance practices.

In his February 22, 2010 Opinion and Order approving BofA’s settlement with the SEC, Judge Rakoff compared the SEC’s view of BofA’s alleged non-disclosures with the New York State Attorney General’s view: “A parallel investigation by the Attorney General of the State New York (conducted, perhaps ironically, by a former high-ranking official of the S.E.C.) reached a more sinister interpretation of what happened.”  Judge Rakoff approved the settlement while noting that Attorney General Cuomo’s suit may lead to different results.  “It is important to emphasize . . . with respect to all the events that the Attorney General interprets so very differently from the S.E.C., that the Court is not here making a determination as to which of the two competing versions of the events is the correct one (an issue not before the Court).” 

C.        Cuomo’s Suit Against BofA, Lewis, & Price

Judge Rakoff reviewed significant evidence in both of the matters and “conclude[d] that none of the evidence [from Attorney General Cuomo’s office] directly contradicts the Bank’s assertion” as to why it fired abruptly its General Counsel in December 2008.  “This is not to say that plausible contrary inference might not be drawn.”  Attorney General Cuomo viewed the abrupt termination of General Counsel Timothy Mayopoulos as proof that BofA believed Mayopouls “knew too much” about BofA intentionally concealing Merill’s losses.  The Attorney General’s Complaint alleges essentially the same facts as those alleged by the SEC, but Cuomo expands upon those facts and alleges that Lewis and Price, who were not named by the SEC, are responsible for the non-disclosure of Merrill’s losses. 

He further alleges that BofA and its executives knew—before the December 5, 2008 shareholder vote—about the issues at Merrill and relied on day-to-day reports on Merrill and met with top Merrill executives.  Merrill, allegedly, was transparent with BofA.  Attorney General Cuomo alleges that Lewis and Price, “knew or were reckless or negligent in not knowing of losses” at Merrill.  While this form of pleading would likely not survive the federal pleading standard required in private Rule 10b-5 actions, given the Martin Act’s broad ascription to the meaning of securities fraud, Attorney General Cuomo has greater powers than the SEC had at its disposal.

Although say on pay votes remain rare in the US, shareholders this month in two companies (Occidental and Motorola) voted no on the compensation matter submitted to them.

With respect to Occidental, the CEO (and chairman), Ray Irani, had total compensation in 2009, according to the company's proxy statement, of $31,401,356, mostly in the form of equity.  The WSJ, however, reported the amount of compensation at $52.2 million, the highest paid CEO in 2009.  He owns shares valued at $665,107,780 and, according to Forbes, had total compensation of $782.48 million over the previous five years.  We've also noted on this Blog other interesting aspects of Mr. Irani's compensation, particularly the golden coffins and the security expenses.

Shareholders apparently were unhappy with the compensation package and, for the second time (Motorola was first) in the United States, voted down a compensation resolution.  (The resolution provides that "stockholders approve the company's compensation philosophy, ojbectives and policies as described below").   The total vote was 321,676,254 votes for; 365,053,432 votes against; and 5,722,279 abstentions.

Its clear that shareholders disagreed with the compensation package.  It raises questions over the process used by the board in approving the compensation package. 

It is a board that has considerable familiarity with Mr. Irani.  Irani joined the board in 1984. Most of the directors on the board have served with Ray Irani for more than a decade.  The directors on the compensation committee included Spencer Abraham (Chair) (joined the board on 2005); John S. Chalsty (1996); Avedick B. Poladian (2008); Rodolfo Segovia (1994); and Rosemary Tomich (1980).  In short, it is a board that raises concerns over structural bias. 

 It is one of the reasons why numerous countries (including the United Kingdom) provide that longstanding service on the board deprives a directors of his/her independence.  See Article A.3.1 of the Combined Code (director not independent who "has served on the board for more than nine years from the date of their first election.").  Had Occidental been incorporated in Britain and complying with the Combined Code, the compensation committee would not have been considered independent.   

But putting aside the number of years of service, these directors are well paid (see below, several more than $500,000 a year).  And for how much work?  According to the Proxy Statement:  "The Board of Directors held six regular meetings during 2009, including one executive session at which no members of management were present. Mr. Syriani, the Lead Independent Director, presided over the executive session."   Its not the first time that we've noted the high amounts paid to directors at Occidental.

As we have stated often on this Blog, directors have an economic incentive to appease the CEO.  While Occidental does have a Pfizer style governance provision that requires a resignation of any director who "receives a greater number of votes 'against' his or her election than votes 'for' in any election," these provisions are ineffective and a myth (directors have the discretion to decline the resignation and, so far, have done so).  In other words, the only way not to be reelected is to be dropped by the nomination committee of the board.  The best way to do that is to disrupt the typical harmony of the board by opposing the CEO.  

Advisory votes are fine but the only way to ensure the integrity of the compensation process is to make directors more accountable to shareholders.  The only way to do that is to increase the likelihood that directors who do not act in the best interests of shareholders will be voted out of office.  Majority vote provisions will not accomplish this, but allowing shareholders to elect directors that they nominate will.  In short, access more than advisory votes is what is needed. 

Great Britain has had in place say on pay since 2002.  In 2003, shareholders voted down the pay package for Jean-Pierre Garnier, the chief executive of GlaxoSmithKline.  Things remained uneventful until the financial crisis in 2009.  In April 2009, shareholders rejected the remuneration report for the Royal Bank of Scotland.  At least four other companies say their report voted down in 2009, including Royal Dutch Shell. 

In other words, the authority was largely dormant until shareholder anger boiled over during the current financial crisis. 

But financial reform will make say on pay much more comprehensive.  The Dodd bill contains a provision that would amend the Exchange Act to add Section 14A.  As Section 951 of the Act provides: 

• (a) SEPARATE RESOLUTION REQUIRED.—Any proxy or consent or authorization for an annual or other meeting of the shareholders occurring after the end of the 6-month period beginning on the date of enactment of this section, for which the proxy solicitation rules of the Commission require compensation disclosure, shall include a separate resolution subject to shareholder vote to approve the compensation of executives, as disclosed pursuant to section 229.402 of title 17, Code of Federal Regulations, or any successor thereto.

• (b) RULE OF CONSTRUCTION.—The shareholder vote referred to in subsection (a) shall not be binding on the issuer or the board of directors of an issuer, and may not be construed—(1) as overruling a decision by such issuer or board of directors; (2) to create or imply any change to the fiduciary duties of such issuer or board of directors; (3) to create or imply any additional fiduciary duties for such issuer or board of directors; or (4) to restrict or limit the ability of shareholders to make proposals for inclusion in proxy materials related to executive compensation.’’

The provision is triggered by a proxy solicitation.  Neither the securities laws nor state law require a poxy solicitation.  (The securities laws do require distribution of an information statement in the event that a company does not solicit proxies).  The practice is instead required by the rules of the stock exchanges.  Thus, the say on pay provision would apply to any public company that is on an exchange or chooses voluntarily to solicit proxies.  This will likely encompass most public companies.

What will happen when this provision is in place?  Events earlier this week suggest that shareholders will take full advantage of the opportunity to let management know what they think of the pay package for top officers.  We will discuss these events in the next posts.

In addition, however, the legislative approach may be dysfunctional.  France is proposing a requirement similar to the one in Norway.  Unlike Norway, however, the need for gender balance does not appear as strongly imbedded.  The result, according to the Economist may be a culture of circumvention.

• In private, chief executives [in France] say they will look for female board members of a particular type: those who will look decorative and not rock the boat. One boss asked a headhunter for photographs of candidates and said he would treat looks as his first criterion, ahead of industry experience. A board member of a multinational company who opposes the 40% quota said that bosses could simply appoint their wives or—more subtly—their girlfriends.

The magazine noted some appointments that "raised eyebrows." 

• In March Dassault Aviation, a manufacturer of fighter planes and corporate jets, said it would nominate Nicole Dassault, the 79-year-old wife of Serge Dassault, its controlling shareholder, to its board. Mrs Dassault has little hands-on business experience. LVMH has nominated Bernadette Chirac, the 76-year-old wife of the former French president. Mrs Chirac’s qualifications, explained the company, were that she was female and that as first lady she supported fashion and regularly attended catwalk shows.

The solution in the United States is not to legislate quotes but to take away some of the control from existing management over the nominating process.  Proxy access moves in that direction.  Those seeking to run competing slates can include nominees in the company's proxy statement, reducing (but not eliminating) the costs of the proxy solicitation process.  Given the desire to nominate directors who will bring to the board a different viewpoint, it is likely that access will result in an increase in non-traditional nominees, including women and people of color.

In short, access is another one of those reforms that will encourage boards to become more diverse.   

There are many reasons why access is needed.  A critical one is the woefully poor job boards have done ensuring a diverse membership. 

As we have noted on this Blog before, boards in the US are not very diverse.  The number of women hover at around 15%; the number of people of color around 11%.  Moreover, board members often have similar backgrounds.  In other words, putting aside race and gender, they are likely not very diverse in their viewpoints.  The need for diversity is not merely to provide some type of social mosaic.  Diversity will provide management with alternative view points that will contribute to effectiveness.

Why are boards not diverse?  It is not from a lack of candidates.  Take women for example.  They are over half the population and make up 57% of all college students, a percentage that has been relatively consistent since 2000.  How are they doing in business?  According to the census:

More than $939 billion
Revenue for women-owned businesses in 2002. There were 116,985 women-owned firms with receipts of $1 million or more.

Nearly 6.5 million
The number of women-owned businesses in 2002. Women owned 28 percent of all nonfarm businesses.

More than 7.1 million
Number of people employed by women-owned businesses. There were 7,231 women-owned firms with 100 or more employees, generating $274 billion in gross receipts.

So why are boards lacking in diversity?  Because the nomination process is controlled by the board and the board simply self perpetuates.  All of the assorted reforms, including independent directors and independent nominating committees, have left these numbers essentially unchanged.

What is the solution?  There are two possible approaches.  One would resemble Norway, with legislation requiring a minimum number of women on the board.  The other is access.  We will discuss these approaches in the next post.