In the world of corporate governance, there are moments of sense that flash like lightning across the sky. Mostly, though, it's unrelievedly dark. The lightning flash this time comes from two of the legal eminences of governance research, Marcel Kahan from New York University Law School and his frequent collaborator, Edward Rock of the University of Pennsylvania Law School, in a post to the Harvard Law School School Forum on Corporate Governance and Financial Regulation. The pair tackle the question of proxy access for shareholders, a proposal that got a shove forward in the Dodd-Frank financial reform legislation. The Securities and Exchange Commission then passed new rules in August, only to delay implementation in October.
Proxy access is this year's must-have governance policy (closely followed by the related say-on-pay). Allowing shareholders to easily nominate directors represents the latest attempt to explain why, despite steady progress (though that is a slippery term for an elusive subject) in shareholder rights, companies keep going wrong, from too much risk to too much comp. The heart of that "wrong," governance orthodoxy now insists, stems from the difficulty and expense that shareholders -- always portrayed as a sort of monolithic mob with a single interest -- must shoulder to place candidates for directorships into nomination. Shareholders, in other words, cannot be at fault; all sin lurks within senior managements and boards.
Proxy access comes down to this: If you give long-term shareholders (meaning those who own 3% of the shares for three years) easy access to board nominations, they will finally be able to perform their monitoring function adequately. This, Kahan and Rock write, is "the conventional wisdom," adding: "Because proxy access is viewed as dramatically lowering the costs of an election contest, both proponents and opponents of these rules predict that they will have a significant impact." The pair, however, summarily reject that notion. "We argue," they write, "that proxy access will lead to few shareholder nominations, that most of the nominees will be defeated, and that the occasional nominee who does get elected will have little impact."
Boom. Why the rejection? Kahan and Rock tick off factors that are so well known by this point that it's almost embarrassing to bring them up: Most mutual funds and private pension funds have never shown an interest in corporate activism. A few large public pensions, like CalPERS, they admit, "have shown a modest interest," but that doesn't inspire them. And the most activist of shareholders -- hedge and union-affiliated funds -- "will generally not satisfy the ownership and holding period requirements." For the most part, proxy access won't help here-today-gone-tomorrow Carl Icahn. We're back to where we started from: Shareholder democracy doesn't work effectively because most shareholders are, often for their own good reasons, profoundly passive.
Kahan and Rock argue that compared with current systems of "withhold-vote campaigns," cost savings in proxy access campaigns aren't significant, higher levels of shareholder support are required, and running "positive campaigns" (vote for my nominee not withhold your vote for theirs) opens shareholders up to unwanted attack for conflicts of interest or lack of qualifications. And again, many of these funds are publicity- and cost-averse. "Overall, we believe that proxy access will have some undesirable effects -- it will result in some increase in company expenses and may rarely increase the leverage of shareholders whose interest conflict with those of shareholders at large -- and some desirable ones -- it may occasionally lead to the election of nominees at recalcitrant boards, where such nominees may have a modest impact on governance and a marginal impact on company value ... the net effect is likely to be zero."
That's a pretty bad grade. Again, Kahan and Rock are hardly stealth stakeholder theorists or initiates into the Marty Lipton school of entrenched management. They are very near the center of governance thought, academic division. Their conclusions thus raise the obvious question: If proxy access is a big fat dud, where does governance go from here?
Robert Teitelman is editor in chief of The Deal.
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