Corporate Governance: What Corporate Counsel Need to Know Best Practices in 2008’s Complex Business Environment Presented to the Association of Corporate.

Corporate Governance: What Corporate Counsel Need to Know Best Practices in 2008’s Complex Business Environment

Presented to the Association of Corporate Counsel – Washington Chapter

James Defebaugh, TrueBlue, Inc.Scott Greenburg, K&L GatesJohn Leness, Flow InternationalJohn Seethoff, MicrosoftChris Visser, K&L Gates

RiskMetrics: ISS is Still Alive RiskMetrics “born” in 1994 as an internal function within JP Morgan that

developed a VAR model, producing the “4:15 report” that measured end of day portfolio risk. The RiskMetrics methodology was then published, became a standard and was developed into a software product in 1996. Two years later, RiskMetrics was spun out of JP Morgan as a separate company.

Institutional Shareholder Services (ISS) was founded in 1985 to promote good corporate governance in the private sector and raise the level of responsible proxy voting among institutional investors and pension fund fiduciaries.  In 1986, ISS launched its Proxy Advisory Service to assist institutional investors in fulfilling their fiduciary obligations with comprehensive proxy analysis.  RiskMetrics Group acquired ISS in January 2007.

CFRA was founded in 1994 to provide institutional investors with a forensic accounting research process for assessing the quality and sustainability of companies’ reported financial results and expanded into specialty legal, regulatory and due diligence research.  RiskMetrics Group acquired CFRA in August 2007.

RiskMetrics Group today consists of three primary business units – risk management, ISS governance services and financial research & analysis, all of which help investors assess risk in one form or another.  Through our various areas of expertise, we serve over 3300 of the most important institutions and corporations around the world.

ISS Benchmark Policy Director Elections Policy:

Considers withholding on non-independent directors if board is not majority independent

Supports cumulative voting unless majority vote standard is in place and ballot access or similar structure exists

Generally supports proposals for majority threshold voting requirements

Allows for lead director in lieu of separation of CEO and chairman roles

Does not support CEO directors who serve on > 3 boards and non-CEO directors who serve on > 6 boards

Performance test applied to director nominees; bottom 5% identified within each GICS group

ISS Benchmark Policy Compensation Policy:

Opposes equity plans if: 1) cost of equity plan is excessive; 2) the company’s 3 year burn rate is egregious; 3) permits repricing

Opposes compensation plans if a pay-for-performance disconnect exists

Considers withholding for “egregious” pay practices

Shareholder Proposals: Environmental and social issues primarily evaluated on an industry by industry basis through a long-term risk mitigation prism and impact on the firm’s immediate economic value compared to peers

ISS Benchmark Policy

U.S. 2007 Recommendations (S&P 500)

Director Elections – 6% “WITHHOLD”

Equity Pay Plans – 12% “AGAINST”

Auditor Ratification – 0% “AGAINST”

Shareholder Proposals – 60% “FOR”

National Association of Corporate Directors Very Relevant Material Daily Targeted News Updates

Monthly Analysis 10,000+ plus members 21 Chapters 400+ local members in Seattle-Northwest Chapter

www.nacdnw.org

Governance Climate—Post Sarbanes-Oxley WorldRecent focus has been changes caused or influenced by

Sarbanes-Oxley New standards of director independence, independent

board committees Federally mandated responsibilities for Audit

Committees Expanded corporate governance standards for listed

companies

Should all be part of a baseline level of legal and regulatory corporate compliance

New Focus: Accountability to the shareholders for the performance of the company

Responsiveness—to shareholders, regulators, and to the public—a hallmark of an effectively governed company

Executive Compensation

SEC Staff Observations in the Review of Executive Compensation Disclosure (October 9, 2007)

Compensation Discussion & Analysis “Where’s the analysis?” Focus on how and why

(e.g., use of tally sheets) Performance targets Benchmarks Termination payments

Climate—regulatory and shareholder interest in executive compensation “say on pay” proposals “pay for performance” proposals Option backdating cases

Working with the Compensation CommitteeAre public disclosures about executive compensation painting an accurate picture of how executives are being compensated and the reasoning/analysis behind executive compensation decisions?

Dynamics of counsel interactions with Compensation Committees

E-Proxy Rules

SEC adopted universal E-Proxy (July 2007) Mandatory “notice and access model” Option A: “Notice only option”

Similar to the voluntary notice and access model adopted by SEC in January 2007

Option B: “Full set delivery option” Similar to the means historically used by issuers

Under both, must post proxy materials on Internet website (in addition to EDGAR)

E-Proxy Rules (continued)

Notice Only Full Set Delivery

Incorporation No Yes

Delivery 40 days (really 45)

None

Hard or Soft Copy Requests

Yes No

Proxy Cards Provide access & may send after 10 days

N/A

Both: Legend, meeting information, matters, recommendations, list of proxy materials

Shareholder Access

Current SEC Rule 14a-8. Historically could exclude proposals that relate to an election for membership on company’s board

SEC Failed 2003 Shareholder Access Proposal (proposed Rule 14a-11)

AFSCME v. AIG case SEC competing shareholder access proposals

The winner . . . for now . . . December 2007—the short proposal (excludable if it relates to a nomination or election . . . or a procedure for such nomination or election)

Voting for Election of Directors

Plurality Vote Default Standard In uncontested elections—director is always reelected

How can shareholders find ways to make their views more meaningful?

Contact with Nominating Committee and/or provide direct nominations

“Withhold Vote” campaigns (pros and cons) Shareholder proposals (Rule 14a-8 proposals)

Board “policies” for majority voting (2005 Pfizer policy)

True Majority Voting standard is gaining traction

Majority Voting—2007 Amendments to RCW 23B

New Washington corporate law changes effective as of July 2007

Voting standard can be in a bylaw (or articles) Either board or shareholder can adopt but if

shareholders adopt then only they can amend If there is failure to obtain specified level or

percentage: New candidates are not elected Incumbent directors serve until earlier of successor

appointment or 90 days Board appoints director to fill vacancy

Default rule doesn’t apply in contested elections (return to plurality standard)

Advance resignations can be irrevocable and can be conditioned on future events (i.e., failure to get specified vote)—addresses holdover problem

Communicating with Shareholders

Balance between Board authority and shareholder rights

Increased shareholder communications Regulation FD and PR considerations Pfizer Board of Directors meeting with largest institutional shareholders

Anti-takeover consideration

Activist Investors – Flow’s Experience Background

Well-known activist investor, purchased in PIPE and subsequently increased stake to 10%

Following announcement of CEO retirement, investor sought to have the company sold Also sought repeal of poison pill and staggered board

Threatened proxy contest

Activist Investors – Flow’s Experience Company response

Engaged nationally known investment bank, which concluded remaining independent was in the best interest of shareholders

Authorize share repurchase and delayed annual meeting

Engaged new CEO and counsel and developed relationship with investor

Activist Investors – Flow’s Experience Lessons learned

Success required Engagement with investor Creating and maintaining credibility with the investor

Activist Investors – Flow’s Experience Pitfalls

Sharing company outlook without creating Reg FD issues

Ensuring that the board is focused on the interests of all investors, not just the activist

Ethics

Distinguished from Compliance: Compliance

Focus is on technical legal requirements Its about rules and regulations—identifying how they apply,

establishing processes and procedures to support compliance, monitoring and reporting

Ethics Broader than compliance More about values and desired behaviors—implementing

standards of conduct; how employees interact with each other and key stakeholders

A True Story An effective compliance program is . . . Important, but not enough

Ethics

What to do? “On matters of style, swim with the current, on

matters of principle, stand like a rock.” -- Thomas Jefferson

“Live so that when your children think of fairness and integrity, they think of you.” -- H. Jackson Brown, Jr.

“Relativity applies to physics, not ethics.” -- Albert Einstein

“So live that you wouldn’t be ashamed to sell the family parrot to the town gossip.” -- Will Rogers

Ethics

Easier said than done . . . “The truth of the matter is that you always

know the right thing to do. The hard part is doing it.” -- General Norman H. Schwarzkopf

“The ultimate measure of a man is not where he stands in moments of comfort, but where he stands at times of challenge and controversy.” -- Martin Luther King, Jr.

“Necessity may well be called the mother of invention – but calamity is the test of integrity.” -- Samuel Richardson

Ethics

Our role: Make a choice: think and act outside of the

“lawyer box”

Help create, reinforce a company culture rich in ethics Values An ethics-based code of conduct Employee helpline / hotline Over communicate; robust training Hire for values and include them in performance evaluations

Rigorous enforcement Tone from the top

Ethics

The payoff:

Fewer lawsuits, lower legal expense

Enhanced company reputation

Better relationships with key stakeholders

Improved employee morale

Increased profits and growth

Shareholder happiness

Ethics

Side benefits . . .

“It takes less time to do the right thing than to explain why you didn’t.” -- Henry Wadsworth Longfellow

“If you tell the truth you don’t have to remember anything.” -- Mark Twain

Questions and Discussion