In 1992, after 25 years as a civil engineer for the City of New York, Phillip Goldstein and partner Steve Samuels co-founded what is now Bulldog Investors, a value oriented investment firm that focuses primarily in closed-end funds, small-cap operating companies and SPACs. Goldstein is a veteran of numerous proxy battles and has served as a director of a number of closed-end funds. He is currently a director of the Mexico Equity & Income Fund, ASA Ltd. and Brantley Capital Corp. Goldstein is widely-quoted on topics involving closed-end funds, hedge funds, value investing, investor activism, corporate governance and securities regulation.
By Phil Goldstein
What is fundamentally wrong with corporate governance in America? In a nutshell, it is difficult for stockholders to hold management accountable for its misdeeds.
This is not a new insight. In 1776, Adam Smith wrote in The Wealth of Nations:
“The directors of such companies, being the managers rather of other people’s money than of their own, will not watch over it with the same anxious vigilance with which the partners in a private copartnery frequently watch over their own. Negligence and profusion therefore must always prevail in such a company.”
Let’s fast forward to 1934. Here is what Congressman Lea of California said in the Congressional record of May 1, 1934:
“In the main, the men controlling these great corporations are not large owners of the stocks of the corporations they control. Too often they have yielded to the temptation to control these great business institutions to their own interests, and with a zeal out of proportion to the loyalty they have shown their stockholders. Thus in recent years we have seen the directors of corporations, without the knowledge of their shareholders, voting themselves vast bonuses out of all proportion to what legitimate management would justify. We have had revelations of salaries paid to directors and officers of great corporations which showed shameful mismanagement; which showed that the men in charge of some of these corporations were more concerned in managing its affairs for their own benefit than for the benefit of the stockholders.”
It is now 2008 and it is fair to say that the lot of shareholders has hardly improved, considering the trillions of dollars in lost shareholder value over the last year, along with the egregious bonuses and salaries paid for this dismal performance.
Next year, the Securities and Exchange Commission, for the umpteenth time, is likely to reexamine the rules governing proxy access, which have historically been weighted heavily in favor of incumbent management. Better proxy access would make it easier for shareholders to place director candidates and resolutions on the ballot for vote at annual meetings.
Once again the SEC will be inundated with comments from management advocates insisting that nothing is broken. It will also face a barrage of comments from those that see corporate elections as a way to advance causes unrelated to enhancing shareholder value.
Here is my two cents.
It is irrefutable that the proxy rules have failed to achieve their goal, i.e., “to give true vitality to the concept of corporate democracy.” A corporate election today remains largely an empty exercise.
The problem is not that shareholders cannot nominate candidates for director. It is that those nominations must be presented at a stockholder meeting and that most shareholders find it inconvenient to attend these meetings. Hence, the vote at meetings of public corporations is predominantly via proxy.
Since the corporation’s proxy card does not include all bona fide nominees, shareholders that do not attend the meeting have no practical means to cast their votes for nominees other than management’s.
The solution is to ban “one party” proxy cards. Such a proxy card frustrates the free exercise of voting rights, since it results in the “election” of directors who might not otherwise have been elected if shareholders received a proxy card that listed all bona fide nominees.
What is a fair corporate election? The standard for such an election was set forth in the 1987 Delaware Chancery Court decision in Aprahamian v. HBO & Co., 531 A.2d 1204, 1206-07:
“The corporate election process, if it is to have any validity, must be conducted with scrupulous fairness and without any advantage being conferred or denied to any candidate or slate of candidates. In the interests of corporate democracy, those in charge of the election machinery of a corporation must be held to the highest standards in providing for and conducting corporate elections.”
Tinkering with the current fundamentally unfair corporate election process is futile. Instead, the Commission should look to Section 481 of the Labor-Management Reporting and Disclosure Act of 1959, which is the federal standard for electing officers of labor unions. Section 481 states:
“Every member in good standing shall be eligible to be a candidate and to hold office (subject to . . . reasonable qualifications uniformly imposed) and shall have the right to vote for or otherwise support the candidate or candidates of his choice, without being subject to penalty, discipline, or improper interference or reprisal of any kind by such [labor] organization or any member thereof.”
By substituting “shareholder” for “member” and “corporate” for “labor,” the SEC can craft, interpret and enforce proxy rules that will afford shareholders of publicly traded corporations the same level of voting rights as union members.
Specifically, the Commission should immediately take the common sense position that a proxy card that excludes the name of any bona fide nominee known to the soliciting party is materially misleading.
Even the pro-management Committee on Federal Regulation of Securities of the American Bar Association’s Section of Business Law Disclosure has advocated the use of a fair proxy card. In its January 7, 2004 comment letter to the SEC, it said:
“Disclosure on the proxy card should be clear and uncomplicated so that the voting decisions by shareholders will in all cases represent an informed judgment. Furthermore, the structure of the proxy card should be neutral in terms of the ability of a shareholder to vote on an informed basis.”
Interpreting rule 14a-9(a), the anti-fraud proxy rule, to require every proxy card to include the name of every known bona fide nominee for director will go a long way toward achieving the goal of vitalizing “the concept of corporate democracy.”
Over the years, the Commission has spent far too much of its resources on baby steps that have failed “to give true vitality to the concept of corporate democracy.”
Shareholders already have the right under state law to propose nominees for director. But they need a mechanism to effectively utilize that right. In short, they need to be provided with a proxy card that includes all bona fide nominees.
Shareholders have waited seventy-four years for the Commission to fulfill the will of Congress by adopting rules to “[prevent] the recurrence of abuses which . . . [had] frustrated the free exercise of the voting rights of stockholders.” Isn’t that long enough?
Interpreting rule 14a-9(a) in accordance with the principles set forth in Section 481 of The Labor-Management Reporting and Disclosure Act of 1959 would go a long way toward making “the free exercise of the voting rights of stockholders” a reality and almost certainly would be upheld by a court as a valid exercise of the Commission’s rulemaking authority.
Implementing this reform will not cure the sorry state of management accountability to shareholders because millions of dispersed investors are still no match for a well organized and highly motivated corporate lobby. But it is a start.