TCS Daily

Nibbled to Death by Ducks

By Stephen Bainbridge - August 6, 2004 12:00 AM

Earlier this year, California Assemblywoman Judy Chu introduced the "Corporate Elections Fairness Act of 2004," which would have given shareholders a much greater role in board of director elections. The bill went significantly further than the SEC's pending shareholder access proposal (and arguably would be preempted by it). For example, the SEC proposal only allows investors who own 5% or more of a corporation's voting stock to nominate a director candidate, but Chu's proposal would have set the threshold at 2%. The bill also proposed requiring that corporations implement shareholder proposals that win a majority vote even if the board of directors thought the proposals to be unwise.

Chu's law generated opposition from almost all quarters and appropriately so. There can be no doubt that giving shareholders access to the proxy statement to nominate directors is going to be expensive by significantly increasing the number of contested elections. Plus there are all the indirect costs. Companies are already having a hard time attracting independent directors. The shareholder access proposal likely will make that search even harder. Why would somebody be willing to serve on the board if he or she might be the one singled out to be ousted? (I've documented these costs in numerous posts at my blog, which are collected in an archive devoted to the SEC's proposal.)

The election of a shareholder representative also will disrupt the delicate internal dynamics that make boards successful. Its effect will be analogous to that of cumulative voting, which allows minority shareholders representation on the board. Experience with cumulative voting suggests that it often leads to pre-meeting caucuses by the majority and a reduction in information flows to the board as a whole. In turn, this results in adversarial relations between the majority and minority board members, which interferes with effective board governance.

In the face of opposition from such disparate groups as the Business Roundtable and CalPERS Chu has now backed way down:

"Chu ultimately decided to retreat when staff from Calpers told her the giant pension fund preferred to follow the SEC process rather than go down another road in California .... 'We felt something of this nature has to happen at the national level,' explained Calpers spokesman Brad Pacheco.

"Instead, at the suggestion of Calpers, Chu introduced a resolution in support of the SEC rules. That whereas-laden resolution won overwhelming support in both branches of the Legislature, but it was essentially just a symbolic gesture."

Speaking as a Californian, I'm of two minds with respect to this iteration of the law. On the one hand, given California's dire financial situation, I don't like seeing the legislature wasting time on mere gestures. On the other hand, given the mischief the California legislature is capable of causing when they deal with substantive issues, maybe we should have them spend more time on gestures and less on real issues.

"Chu also agreed to amend her bill to require that companies provide a process in which shareholders could merely 'recommend' candidates for election as directors and that they file the process with the secretary of state. Chu maintained that requirement still would help shareholders better understand corporate election procedures.

"In June, the bill went through yet another round of tweaking in the state Senate Judiciary Committee, which eliminated the watered-down 'recommend' clause. Those changes turned it into simply a disclosure bill, which would require publicly traded companies to file a copy of their corporate election procedures -- or those portions of the company's articles of incorporation and bylaws that related to nominating and electing directors -- with the secretary of state."

Of course, corporations already make such disclosures as the federal level. Election procedures are described in the proxy statement and annual report required by the SEC. The corporation's articles of incorporation and bylaws are already filed both with the state of incorporation and the SEC.

Granted, as finally amended the law doesn't do much harm. Corporations will just have to file one more piece of paper in one more place. But to what end? How will shareholders benefit? The information to be disclosed is already available in many places, including various places online. Indeed, most corporate investor relations web sites provide access to this sort of information.

"Well, so what," you ask? So corporations spend a few bucks filing disclosure documents nobody will read. Who cares?

Do you know the expression "nibbled to death by ducks"? California's business climate stinks. As the Sacramento Bee reported in February 2004:

"California firms find doing business here so difficult that 40 percent of those surveyed plan to move some jobs out of state and 50 percent will not add jobs within the state, according to a study released Thursday. The report, issued by the California Business Roundtable, said the cost of doing business in the state is 30 percent higher than in other Western states, with regulatory costs the biggest culprit."

Some of the costs California imposes on its businesses come in big chunks. Taxes, worker's compensation, family leave, and so on. Others come in little pieces -- like Ms. Chu's bill -- but throw in enough such laws and the aggregate costs can really add up.

If California is going to stop putting its business community through the death of a thousand cuts, it is precisely these sorts of small, seemingly innocuous laws that must be eliminated. It is time for Sacramento to get serious about cost-benefit analysis and to stop making gestures at the expense of our economy.


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