WASHINGTON — Lost in the partisan bickering over legislation to revamp the regulation of financial markets is an important provision that goes beyond finance and brings a potentially radical change to how corporate boards of directors are selected.
Supporters think the measure the Senate passed late Thursday will bring boardroom democracy, but detractors call it a gift to powerful unions and will try to kill the provision when congressional negotiators narrow differences between the Senate bill and the House of Representatives' version.
The issue is proxy access, and it involves the mechanisms by which corporations go about governing themselves through the selection of their directors. Boards are supposed to act as a check on management, but in recent years they've come under intense criticism for being inattentive amid the nation's financial crisis.
Corporate boards drew scrutiny after the brutal collapse of energy giant Enron Corp in 2001. The near-collapse of the financial markets in September 2008 again raised questions about how involved the boards of Wall Street firms and ratings agencies were when risk management went missing.
To answer this question, President Barack Obama called for changing the way boards are selected as part of the financial overhaul process. Under legislation the House passed in December, shareholders would gain new powers to review and potentially curb executive pay reduce the incentive to chase short-term profits that are unsustainable.
The Senate legislation passed late Thursday goes further, however, granting the Securities and Exchange Commission authority to dictate how corporate boards are selected.
That's important because for the better part of a year, the SEC has been looking to implement a series of thresholds, depending on the size of the corporation, under which shareholders would have greater voting power.
Under current practices, directors are usually nominated by management and shareholders either vote them up or down. It's unusual for proposed board members to be rejected. The SEC plan under consideration would make it easier for dissident shareholders who individually or collectively own large blocs of stock to run alternate candidates to sit on the board if these shareholders meet the ownership threshold being contemplated by the SEC.
Under the pending SEC proposal, shareholders or groups of them would have to have a 5 percent stake in companies whose market value is below $75 million, 3 percent for companies whose value is between $75 million and $700 million and 1 percent for companies valued above $700 million to nominate a shareholder.
While the SEC has prepared to make these changes to corporate governance, opponents have questioned the legality of such a move. They argue that it's an issue of states rights, since corporations are incorporated in individual states — more than half of them in Delaware.
"Our position has been and continues to be that this has been a matter of state corporate law for 150 years. That system has worked well," said Tom Quaadman, the executive director of the Center for Capital Markets Competitiveness at the U.S. Chamber of Commerce, in an interview. "Our concern is that . . . it will create a one size fits all federal system that will marginalize both directors and shareholders."
Quaadman thinks the SEC isn't up to the task either.
"The SEC is now going to be an election monitor for 15,000 public companies in the United States, on top of the 25 mandates they're going to receive in this bill, on top of the regulatory failures (by the SEC) of the past several years," said Quaadman. "That does not sound like a good formula for corporate governance."
Ahead of the Thursday's vote, top executives from all sorts of corporations lobbied members of Congress to change the provision. Sen. Bob Corker, R-Tenn., and Sen. Tom Carper, D-Del., had readied amendments in an effort to roll back the change.
"The way this is set up now (in the bill) will disrupt corporate governance. It will allow unions to control elections," said Sen. Jim DeMint, R-S.C.
The bill, however, moved on a fast track Thursday, leaving opponents of the corporate governance provision to make a last-ditch effort during the upcoming House-Senate conference.
"Increased government involvement does not necessarily mean smarter, more effective regulation," said John J. Castellani, the president of the Business Roundtable, a trade group for corporations, in a statement after the Senate vote.
Castellani said that rather than discourage practices that promote short-term profit over longer-term stability, the Senate bill encourages them because shareholders would be emboldened to punish executives for poor quarterly results.
"Far from encouraging long-term growth, proxy access will exacerbate the near-sightedness that has come to be seen as one of the causes of the financial crisis," he said.
Critics of the current system disagree, noting that groups such as the Chamber argue against states rights when it involves regulation but for it when it involves anything that might fetter business operations.
"If you are looking for consistency from them, you're going to have a difficult search," said Barbara Roper, the director of investor protection for the Consumer Federation of America.
In remarks after passage, Obama cited the proxy access provision, noting that "from now on, shareholders will have greater say on the pay of CEOs and other executives, so that they can reward success instead of failure, and help change the perverse incentives that encouraged so much reckless risk-taking in the first place."
Many lawmakers weren't even aware that the provision was in the bill, said Sen. Judd Gregg, R-N.H., blaming the size of the 1,400-plus page bill.
"It is an inappropriate idea, especially inappropriate for the federal government to bury it in this bill. This language applies to every publicly traded corporation in America, not just the financial institutions. Why is it buried in this bill? It should not be in there," Gregg said.
Some Democrats were lukewarm to the provision.
"This is really a separate issue that has nothing do with Wall Street's problems. Those problems have nothing to do with how (shareholders) voted or whether they have too much power," said Sen. Ben Nelson, D-Neb. "I don't see where shareholders had anything to do with this."
Even if the measure survives the House-Senate negotiations and becomes law, the Chamber of Commerce may attempt to fight it in the courts, arguing that it's a states' rights issue.
"I'm sure they've already got the attorneys on retainer if the SEC does move forward," Roper said.
The Chamber executive didn't disagree.
"We've always said . . . that we will keep our options open and we'll explore those options when we get there. This rulemaking has been going on for a year, so obviously there is a reason why the SEC has been taking so long," Quaadman said. "There are some things here that we're going to have to take a very strong look at."
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