Securities Regulation and Corporate Governance

​​On October 18, 2018, the Commonsense Principles 2.0 (the “Principles 2.0") were released.  They are an update to the Commonsense Principles of Corporate Governance (the “Previous Principles") developed in 2016 by a group of 13 business and investment leaders, including representatives of Berkshire Hathaway, BlackRock and State Street and the chief executive officers of several large public companies, available here, and discussed in a previous client alert.

An Open Letter accompanying the Principles 2.0 observes that in recent years, a number of other groups have issued their own statements on corporate governance, including the Investor Stewardship Group and Business Roundtable.  These statements, which are aimed in part at addressing “unhealthy short-termism," are also part of a broader effort to foster engagement among companies, boards and investors.  The signatories to the Principles 2.0 express their hope that ultimately, the many sets of corporate governance principles currently in circulation can be harmonized and consolidated, and reflect the combined views of companies and investors.  The 21 signatories to the Principles 2.0 include representatives of additional public companies and institutional investors such as AT&T, Coca-Cola, IBM, Johnson & Johnson, Proctor & Gamble and Washington State Investment Board. 

Like the Previous Principles, the Principles 2.0 recognize that not every principle will be applied in the same way (or applied at all) by every company and are organized into eight areas:  (1) Board of Directors – Duties, Composition and Internal Governance; (2) Board of Directors' Responsibilities; (3) Shareholder Rights; (4) Public Reporting; (5) Board Leadership (Including the Lead Independent Director's Role); (6) Management Succession Planning; (7) Compensation of Management; and (8) Investors' Role in Corporate Governance.  The Principles 2.0 include the following changes, including addressing certain governance issues that were not explicitly mentioned in the Previous Principles:

• Director elections:  Directors’ accountability to shareholders is emphasized throughout the Principles 2.0.  The Principles 2.0 state that “[i]t is a fundamental right of shareholders to elect directors whom they believe are best suited to represent shareholder interests,” and they endorse annual director elections as a practice that “may help promote board accountability to shareholders.”  The Principles 2.0 also note that if a company has a staggered board, the company should provide clear disclosure in the proxy statement about the rationale for this practice. 

• Majority voting and failure to receive majority support:  The Principles 2.0 continue to advocate for majority voting in director elections.  If a director fails to receive a majority vote, the director should offer to resign.  The Principles 2.0 also state that the board “ordinarily should accept” the resignation offer and if the board does not, it should clearly explain its rationale.

• Commitment to serve:  The Principles 2.0 recommend that directors refrain from joining a board if they are not committed to serving for at least three years.

• Director engagement with shareholders:  The Principles 2.0 acknowledge that on some issues, such as governance and CEO compensation, direct communication from the board may be warranted.  The Principles 2.0 recommend engaging with shareholders early in the process when dealing with shareholder proposals and management proposals.  The Principles 2.0 also suggest an “implement or explain” approach to shareholder proposals that receive a majority vote and following up when shareholder proposals receive significant shareholder support or when management proposals receive significant opposition.  

• Proxy access:  The Principles 2.0 explicitly support the adoption of proxy access, subject to reasonable requirements that do not make proxy access unduly burdensome for significant, long-term shareholders.

• Poison pills and other anti-takeover measures:  The Principles 2.0 discourage adoption of poison pills and other anti-takeover measures and state that if such measures are adopted, they should be put to a shareholder vote and subject to periodic review to determine whether they remain appropriate.  The Principles 2.0 indicate that companies should also explain why the adoption of anti-takeover measures are in shareholders’ best interests.

• Non-GAAP measures:  The Principles 2.0 state that when non-GAAP measures are used in corporate reporting, companies “should provide a bridge” from non-GAAP to GAAP results, “so as not to obscure GAAP results.”

• Independent board leadership:  The Principles 2.0 emphasize the importance of independent board leadership and acknowledge that there are two common leadership structures in the United States: an independent chair and a non-independent chair with a lead independent director.  The Principles 2.0 state that the board should periodically review its leadership structure.  The Principles 2.0 also reflect that, where the board decides to combine the chair and CEO roles and have a lead independent director, the roles of the chair and lead independent director should be clearly defined, agreed on by the board and disclosed to shareholders.

• Large special compensation awards:  The Principles 2.0 clarify that large, non-recurring special awards or special retention awards should be “carefully evaluated and reserved for special circumstances.”  The Principles 2.0 also state that the rationale for special awards to the CEO and other “Named Executive Officers” should be clearly explained.

• Asset managers’ use of proxy advisors’ recommendations:  The Principles 2.0 state that, to the extent proxy advisors’ recommendations are used, “asset managers should disclose that they [use them], and should be satisfied that the information upon which they are relying is accurate and relevant.”  The Principles 2.0 also state that proxy advisors used by such asset managers should have in place processes to avoid or mitigate conflicts of interest.

• New section on institutional asset owners’ roles:  The Principles 2.0 add a new section that addresses the roles of institutional asset owners (e.g., pension funds and endowments) and encourages them to use their position “to advance sound and long-term oriented corporate governance” either directly or through their interactions with asset managers.

The Principles 2.0 will be published and maintained on the website of Columbia Law School's Millstein Center for Global Markets and Corporate Ownership, along with a list of companies and investors that have committed themselves to them.  In the Open Letter, the signatories encourage others to commit to the Principles 2.0. 

Public companies and their boards of directors should understand changes from the Previous Principles and consider enhancing shareholder engagement around practices covered in the Principles 2.0, especially if their institutional investors include signatories to the document or if a company has in place practices that diverge from the recommendations in the Principles 2.0. 

Special appreciation to Eileen Park for her assistance with the preparation of this post.