Lynn Stout writes in today's WSJ, apropos of the October 2 deadline for comment on the SEC proxy access proposals, that the SEC should come out against increasing shareholder access. She argues that "[t]he proposed proxy access rule is driven by the emotional claim, unsupported by evidence, that American corporations benefit from "shareholder democracy."" Rather, the key to US corporate success is strong central board management, which facilitates lock-in of corporate assets, and therefore long-term planning by management. She says:
long-term investment becomes impossible if shareholders have the power to drain cash out of the firm at any time -- say, by threatening to remove directors who refuse to cut expenses or sell assets in order to pay shareholders a special dividend or fund a massive share repurchase program. Whether out of ignorance, greed, or short-sightedness, these are exactly the sorts of threats that today's activist shareholders, usually at hedge funds, typically make.
Lynn contrasts strong central management of large US corporations with the UK "paradise for shareholders," where
shareholders can call a meeting to remove the board of directors at any time. They can pass resolutions telling boards to take certain actions, they are entitled to vote on dividends and CEO pay, and they can force a board to accept a hostile takeover bid the board would prefer to reject. (In the U.S., boards can "just say no.").
Despite, or because of, this "paradise," the UK is headquarters to just 1.5 of the world's largest companies (BP and half of Royal Dutch Shell), compared to 13 in the US. Lynn concludes:
The SEC shouldn't mess with U.S. corporate success. Shareholder democracy is a shallow idea based on a fundamental misunderstanding of what makes good companies tick. Chairman Cox, and the SEC, should reject it.
I agree with three ideas here: (1) that the SEC shouldn't mess with proxy access; (2) that "shareholder democracy" is a misguided idea; and (3) that corporate governance ultimately is subject to the global market for capital.
The latter idea is only implicit in today's piece, but explicit in an earlier Lynn Stout WSJ op-ed, which I discussed here, in which she noted that moves toward shareholder democracy helped fuel private equity buyouts. She concluded that "The recent boom in private equity buyouts suggests that the modern trend toward greater shareholder power and protection has already gone too far."
Having noted my significant agreement, I want to offer a couple of caveats. First, the reason why the SEC should keep its hands-off here has more to do with the appropriate limits of SEC power than with the substance of the proposal. This is a matter of internal corporate governance which should be for the states. There is no justification for making this a federal matter unless you buy in to the shareholder democracy myth. As I said in connection with my appearance last May at the SEC's proxy roundtable:
There was much discussion about the appropriate role of corporate shareholders. But I think that this is much more about the appropriate roles of federal and state law. In the current dynamic corporate finance environment, we should be wary about locking in a particular structure under federal law.
Second, we must distinguish the silly notion, pushed by some shareholder activists and embodied in the term "shareholder democracy," that corporate voting is something like a political process from the far more legitimate notion that the capital markets can and should provide meaningful constraints on managerial agency costs. I refer here to Henry Manne's market for corporate control, and to my own ideas about the role of private equity in replacing "corporate"-style monitoring with "uncorporate"-style engaged ownership and high-powered incentives. See my paper, The Rise of the Uncorporation.
Lynn plainly distrusts private equity, and this is a big reason for her concern about proxy access. However, while there is indeed something to the idea of strong central management, that doesn't necessarily mean that the traditional corporate governance model should be frozen in aspic. To sort of continue that metaphor, we have increasingly seen flies in the ointment of traditional large corporate governance. And we have also observed over the last 20 years the growing sophistication of alternative governance technology.
In short, the future of corporate governance is not necessarily more of the same. The most important feature of our system and the explanation of the global success that Lynn rightly attributes to it, is its dynamism, fueled in part by the laboratory of state law. That's why the SEC should reject stronger proxy access rules.
Update: Bainbridge and Carney at Dealbreaker also weigh in. Carney aptly dissects the consequences of shareholder democracy for shareholders -- and it isn't pretty.
Great article!
Posted by: Matthew | July 08, 2008 at 08:58 AM