The Central Role of Institutional Investor Regulation in Restoring a Fair and Sustainable American Economy

In a new essay, available here, I discuss the essential but insufficient role of regulation to promote more effective stewardship by institutional investors. My essay offers a frame for specific policy recommendations that align the responsibilities of institutional investors with the best interests of their human investors in sustainable wealth creation, environmental responsibility, the respectful treatment of stakeholders, and, in particular, the fair pay and treatment of workers. In doing so, the essay: 1) explains how the corporate governance system we now have is fundamentally different from the system we had when the regulatory structures governing institutional investors were … Read more

Paul Weiss Discusses Initiatives to Unify ESG Reporting

ESG reporting is now recognized as a significant agenda item in the ESG space. The plethora of different reporting standards has caused concern and confusion, as those responsible for providing disclosure, as well as the intended beneficiaries of the disclosure, seek to navigate the evolving disclosure landscape. Building upon our recent client alert that provided an overview of ESG disclosure frameworks and standards, available here, we report on two recent initiatives to unify some of the competing standards:

  • In September, five leading standard setters for ESG reporting, including the Global Reporting Initiative (“GRI”), the Climate Disclosure Standards Board (“CDSB”),

Read more

Why Corporate Purpose Will Always Matter

Business persons and lawyers have long debated whether a business corporation does or should have a purpose other than advancing shareholder interests.  In a democratic, pluralist society, the issue of corporate purpose remains important and will not (and should not) go away.  However adamantly divergent descriptive and prescriptive positions are held, it is healthy that, periodically at least, the debate is revisited and disagreements aired.  Neither corporate law nor business practice demands an unequivocal or uniform resolution.  Different businesses will continue to answer the corporate purpose question differently.

Background

Early American business corporations were expected to advance a public-serving purpose.  … Read more

How Shareholders View CEO Pensions and Deferred Compensation

Defined-benefit pension plans and deferred compensation are often sizable and important components of CEO pay packages.  In recent years, though, they have prompted controversy among investors, policymakers, and academics. On the one hand, CEO pension and deferred compensation are unsecured and typically underfunded obligations, and, like debt (they are often known as  inside debt) exposing managers to the same default risks and insolvency treatment as outside do debtholders, and can help strengthen the alignment of executive and debtholder incentives. Consistent with this view, prior studies find that firms that pay CEOs a higher level of debt-like compensation incur lower … Read more

Kirkland & Ellis Discusses Shareholder Activism Trends in Real Estate Investment Trusts After COVID-19

Even before the emergence of the COVID-19 pandemic, shareholder activism had become a mainstay of public company life in the real estate investment trust world. But in the wake of the pandemic, which upended business as usual in a number of Real Estate Investment Trust (REIT) sectors, we expect shareholder activism to accelerate as the dust settles.

Below are some key trends that we believe will begin to play out as hesitation gives way to opportunism. Companies should thoughtfully assess how they intend to navigate the coming resurgence.

Demonstrating Real Estate Bona Fides

In light of recent market dislocation, the … Read more

Gibson Dunn Offers 2020 Mid-Year Activism Update

This Client Alert provides an update on shareholder activism activity involving NYSE- and Nasdaq-listed companies with equity market capitalizations in excess of $1 billion and below $100 billion (as of the close of trading on June 30, 2020) during the first half of 2020. As the markets weathered the dislocation caused by the novel coronavirus (COVID-19) pandemic, shareholder activist activity decreased dramatically. Relative to the first half of 2019, the number of public activist actions declined from 51 to 28, the number of activist investors taking actions declined from 33 to 10 and the number of companies targeted by such … Read more

The Politics of Regulatory Compliance and Enforcement

In a recent article, I compile a comprehensive toolkit for researchers investigating political influences on enforcement, compliance, and corporate governance outcomes. I review different conceptualizations of politics in regulatory theory. I collect both qualitative and quantitative empirical studies that have attempted to operationalize the construct of “politics” as a variable and test its influence on regulatory enforcement and compliance outcomes. And I analyze these studies to identify the categories of political variables that researchers most commonly use, the merits and limitations of different approaches, and key gaps in the literature to be addressed in future research. The aim of … Read more

Ernst Freund as Precursor of the Rational Study of Corporate Law

It is now widely recognized that legal entity status fulfills important economic functions by separating a firm’s business assets and the personal assets of its founders, directors, or shareholders, and that this separation is stronger in corporations than in partnerships (Hansmann et al. 2006). Corporate assets are controlled by an independent board and are literally locked in, in the sense that neither firm founders nor subsequent shareholders can withdraw all or part of their equity shares or force a partial liquidation to satisfy the claims of their personal creditors. This institutional arrangement, which cannot be achieved by contract alone, mitigates … Read more

Corporate Governance in the Presence of Active and Passive Delegated Investment

Institutional ownership has grown tremendously over recent decades, rising to more than 70 percent of U.S. public firms. The composition of institutional ownership has also changed, with a remarkable growth in passive funds: The fraction of equity mutual fund assets held by passive funds has increased six-fold, from around 5 percent to 30 percent. The Big Three index fund managers alone now cast about 25 percent of votes in S&P 500 firms. How active and passive asset managers monitor and engage with their portfolio companies has thus become of utmost importance for the governance and performance of public firms.

There … Read more

Davis Polk Discusses FTC’s Proposed Rules for Hart-Scott-Rodino Filings

On September 21, 2020, the Federal Trade Commission published a Notice of Proposed Rulemaking (“NPRM”) pertaining to pre-merger notification rules under the Hart-Scott-Rodino Act that was supported by the Department of Justice.  The FTC proposes changing the definition of “person” under the HSR rules to include “associates,” and adding a new “de minimis” exemption to cover investments up to 10% where the acquiring person does not already have a “competitively significant relationship” with the issuer, such as being a competitor, officer or director, or vendor of the acquired person.  The FTC additionally published a blog post on September 23 modifying … Read more

Jones Day Discusses Shareholder Lawsuits Concerning Diversity

The Situation: A number of shareholder derivative lawsuits in federal court have been filed seeking to hold directors and officers of major companies accountable for alleged failures to uphold their commitment to diversity. To date, the lawsuits have been filed predominantly by the same plaintiffs’ law firm.

The Issue: Shareholders allege that directors and officers breached their fiduciary duties by failing to monitor compliance with anti-discrimination laws and nominate diverse candidates to their boards, and violated federal securities laws by misrepresenting their efforts to achieve satisfactory levels of diversity among board members and executives.

Looking Ahead: These novel shareholder claims … Read more

Arnold & Porter Discusses California Law Requiring “Underrepresented Community” Members on Boards

On September 30, 2020, California Governor Gavin Newsom signed into law a landmark bill (AB 979) requiring boards of directors of California-based public reporting corporations to have a minimum number of directors from underrepresented communities on their boards.

Definition of Underrepresented Communities

The law defines underrepresented communities broadly to include those who self-identify as “Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, or Alaska Native, or . . . as gay, lesbian, bisexual, or transgender.” Modeled on California’s 2018 boardroom gender diversity law (SB 826), the new diversity statute is the first state or federal law … Read more

The Department of Labor Carpet Bombs Investor Protection

The Department of Labor (DOL) has launched a major attack on investor protection and shareholder rights in the last three months. In three successive strikes against long-standing practices of ERISA fiduciaries, the DOL has created disorder and confusion.  Its actions have included threatening managers of Employee Retirement Income Security Act (ERISA) assets with sanctions if they try to advance the inclusion and factoring of ESG considerations into the investment process, blocking such fiduciaries from using proxy advisers or voting on proxy matters unless they are certain such votes would benefit the pecuniary interests of the underlying beneficiaries. Most alarming, DOL … Read more

The Conflict Between BlackRock’s Shareholder Activism and ERISA’s Fiduciary Duties

BlackRock, an investment adviser that primarily markets and manages index funds to millions of passive investors around the globe, has become a leading shareholder activist. Based on the extremely large amount of assets it has under management ($7.3 trillion), its importance as a shareholder activist cannot be overstated. BlackRock’s shareholder activism is reflected in its rhetoric disclosing the objectives of its activism, shareholder voting, and engagement (direct or indirect communication) with portfolio companies.

The issue that I address in a recent paper is whether the fiduciary duties of a manager of an “employee pension benefit plan” under the Employee Retirement … Read more

Quinn Emanuel Discusses the Duty of Loyalty for Designated Directors

For the partners and managing directors of private equity firms who have also been designated to serve as directors of one of the firm’s portfolio companies (“designated directors”), navigating potential conflicts of interest is a fact of life.  As businesses brace for the next economic downturn in the wake of the coronavirus pandemic, these conflicts are likely to become more prevalent and may expose directors to increased litigation risk.  Designated directors need to be particularly cautious in circumstances where the investing firm’s interests diverge from those of the portfolio company—and crises like the current pandemic, which has placed many portfolio … Read more

Does Limited Liability Matter?

In 1911, Nicholas Murray Butler (president of Columbia University and winner of the Nobel Peace Prize) wrote that the limited liability corporation is the greatest single discovery of modern times. It has since become one of the most common organizational structures, providing that, if a firm incurs losses and goes bankrupt, its shareholders can only lose the money they have invested in the firm. This sounds significant, but is limited liability really that important for firms? In a new paper, we address this question by using a unique Canadian setup. We use the enactment of limited liability legislation across … Read more

Director Overlap: Groupthink versus Teamwork

Corporate boards are charged with the critical tasks of assessing top management performance and making compensation and dismissal decisions.  Moreover, boards serve as a valuable source of advice and counsel to top management.  While board members tend to be highly talented individuals, they make decisions collectively as a group.  The quality of board decisions is, therefore, likely to be materially influenced by group dynamics.  While the topic of group dynamics has been extensively studied by social psychologists, the finance literature contains little evidence on its impact on firm value.  In a recent article titled “Director Overlap: Groupthink versus TeamworkRead more

Milton Friedman’s Essay and the True Purpose of the Business Corporation

From a practical standpoint, the most significant part of the 1970 Milton Friedman essay in the New York Times was the headline: “The Social Responsibility Of Business Is to Increase its Profits.”  For a half-century, that phrase has been used to summarize the essay, and alongside Friedman’s similar views in a 1962 treatise, also used in support of “shareholder primacy” as the bedrock of American capitalism.  “Shareholder primacy” and “Friedman doctrine” became interchangeable.  The Friedman doctrine was a precursor to, and became a doctrinal foundation for an era of short-termism, hostile takeovers, extortion by corporate raiders, junk bond … Read more

What Blockchain and Artificial Intelligence Won’t Do for Corporate Lawyers

There have been a number of scholarly paeans to blockchain as a corporate governance tool. It creates a permanent and irreversible chain of custody that can be used for shareholder record keeping and voting, insider trading, corporate disclosures, and trade execution.

My new article, Governance ≠ Leadership: What Blockchain and Artificial Intelligence Won’t Do for Corporate Lawyers, is hardly a criticism of the advances blockchain might bring to the monitoring function. That is one of the fundamental duties of a corporate board. Instead, the legal literature highlighted for me, a former public company chief legal officer, the extent to … Read more

ESG, Common Ownership, and Systematic Risk: How They Intersect

This brief column will assert that three developments that seem unrelated are in fact closely related and may soon impact U.S. corporate governance with the force of a freight train. This column summarizes a longer article just posted by this author on SSRN.[1]

Development No. 1: Stock ownership in the U.S. has now reached an extraordinary level of concentration. The Big Three — BlackRock, Inc., State Street Global Advisors, and Vanguard Group — now hold collectively over 20% of S&P companies, vote 25% of the shares voted, and, according to Lucian Bebchuk, will eventually hold 40%.[2]Read more