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We’re Not the Boss of A.I.G.

As seen in the New York Times

BARNEY FRANK, the Massachusetts Democrat who heads the House Financial Services Committee, recently said that the government should sue American International Group to recover the $165 million in bonuses it paid to executives in its financial products division. "We own this company, in effect," Mr. Frank said, referring to the government’s 80 percent stake."As the owners of the company, we do not think we should be paying bonuses or should have paid bonuses to people who made mistakes, who were incompetent."

Sadly, though, under American corporate law share ownership does not count for much. Mr. Frank might be surprised to learn that a lawsuit would have almost no chance of success in court, even for a majority shareholder like the government. A.I.G. would most likely argue that the oft-cited "business judgment" rule gives management wide latitude to set compensation without shareholder interference. What the government should have gotten was board representation in return for its large investment in A.I.G.

Now, barring political resolution (including a confiscatory tax or a voluntary surrender of bonus money), the government’s choices are limited to exercising the rights of a shareholder. Perhaps one silver lining to this debacle is that it will finally alert Washington to the lamentable state of corporate governance in America. Our legislators will find — as I have as a shareholder who has waged many battles to get on corporate boards — that the rights of the shareholders are quite circumscribed.

One problem is that state laws allow companies to create complex "advance notice" requirements that let companies derail efforts to elect shareholder-nominated board members.

Although a majority shareholder like the government may be able to get its nominees onto the A.I.G. board without a fight, typically even a large shareholder must conduct an expensive proxy contest to elect its nominees — that is, he needs to solicit enough votes from other shareholders. This is accomplished by mailing a statement describing the shareholder’s positions, and a card on which to vote. At a large public company, mailing, printing and other costs can run into the millions of dollars.

Those costs could be reduced, and the election process could be made more open, if the Securities and Exchange Commission would allow "proxy access."

Proxy access would permit shareholders to solicit votes for the election of their nominees by including the names and other relevant information about those nominees in their company’s annual proxy statement, and thus save the cost of sending additional documents. But so far the S.E.C. has said no to proxy access for the election of directors nominated by shareholders, though its new chairwoman, Mary Schapiro, said on Thursday that the commission will take up the issue in the coming months.

Alternatively, the government could propose a "say on pay" resolution to be voted on by shareholders. But under current law in various states — for example, in Delaware, where more than 50 percent of publicly traded American companies are incorporated — even if the company puts such a resolution to a shareholder vote the resolutions are merely advisory. This means that the board is legally entitled to ignore shareholder wishes regarding compensation of corporate executives.

With some exceptions, our public corporations are increasingly unable to compete globally, they pay excessive compensation to top brass and they are generally unaccountable to shareholders. The best hope to change this situation is to allow shareholders the power to move the state of incorporation of public companies from one state to another. For example, North Dakota passed a law in 2007 that, among other things, provides for proxy access and for the reimbursement of expenses to a shareholder who runs a successful proxy fight. A move to North Dakota would greatly advance shareholder rights for any company.

But under current state law shareholders can elect to move their company to another jurisdiction only if the existing board of directors approves such a move — and those incumbent boards will want to stay in the management-friendly states they already inhabit.

Federal legislation could correct this absurdity and permit shareholders to move the corporations they own to another state by a simple majority vote. Such legislation would override the restrictions of state laws that prevent such a change of jurisdiction unless approved by the board of directors. Most important, it would encourage the states, which profit from the tax revenues that flow from corporations, to compete with one another by reorienting their laws on corporate governance to benefit shareholders.

The legal landscape is filled with devices designed by state legislators and courts to prevent shareholders from influencing how companies are run and so allow management free rein. Legal mechanisms known as poison pills, permitted under the laws of most states, effectively prohibit shareholders from accumulating a large position in a company or working with other large shareholders to influence the company.

Furthermore, public corporations may legally adopt a staggered board, whereby board members are grouped into classes, with each one representing about a third of the total number of directors, so that only one class comes up for election in a year.

This means that seriously shaking up a board would require at least two very expensive proxy contests over two years. And current state laws permit incumbent board members access to the corporate treasury, allowing them to spend millions of dollars, to hire lawyers and public relations firms, run ads and mail materials to prevent shareholders from adding their designees to the board of directors.

The problem of disenfranchised shareholders can be found at the root of today’s financial crisis. A.I.G., for example, sowed the seeds of its own near-destruction by making a wholesale rush into risky derivative transactions without adequate collateral. Its board of directors was either unaware of it or did not stop it. If shareholders had enhanced legal rights to elect qualified and responsible board members, it would help our public corporations avoid the kinds of meltdowns we are now experiencing.

We can hope that the government’s experience with A.I.G. will demonstrate to Congress how little power shareholders actually have, and how important corporate governance reform is. It is time to remove the many devices that managements use to entrench their power, and give shareholders real power. The "ownership" rights that the government, as a shareholder, is now talking about are the same ones that activist shareholders have been demanding for years.


Dear Mr. Icahn:

The arrogance of current boards aside, a movement to make more public the names and faces of chairs and members of compensation, audit, and governance committees of boards who oversee egregious decisions and corporate failure may be a relatively inexpensive but effective service to shareholders and the public. Furthermore by listing other company board positions held by these individuals, these other companies will be required to defend their decision to appoint "tainted" directors.

I recognize that this does not correct the systemic rigidity that ensconces directors but it may embarrass them into making better decisions.

Business journalists who make a living based upon access for the next story are not well positioned to do this. I have a notion that good governance is part of socially responsible investing and am encouraging a Canadian firm specializing in SRI investing to write about this issue. Perhaps a good old fashioned public "tarring and feathering" can partly accomplish what expensive proxy battles have been marginally successful at doing, holding directors accountable.

Keep up the good work!

Kind regards,

Mark Yamada

I am terribly disappointed that the name of Carl Icahn is being added to the number of individuals that are "tar & feather"'ing the poor staff that work at AIG. Having a billionaire shareholder activist join the witch hunt regarding this issue is disheartening.

I won't repeat the links, but I'm sure everyone is well aware now of all the individuals that have quit AIG since this debacle, and the number that will continue to do so, as law is thrown ex post facto at individuals many (or all) of whom had nothing to do with the fall of AIG and are working diligently to unwind the torrid CDS positions (and unmake their own jobs)

Dear Carl,
Thanks for this post. Its amazing that one still has to do "old style" form printing and posting to do anything with shareholders. This itself introduces a barrier by increasing costs. Any govt. serious about this shareholder interest must make things electronic.

For example, I lead a private company with a large number of investors worldwide, and everything is electronic so that all our shareholders have the latest information with them, and they can express their views in real time, at zero cost.
And shareholders can also communicate between themselves to discuss issues and company direction. It would be much difficult to achieve such flexibility and governance in a public listed company, if there are prescribed rules for posting papers and forms for everything. It would freeze the company!

I believe that all paper-based processes must be removed, because they introduce barriers and unwanted time lag in decision making. We should push for secured electronic information in public companies, including for proxy contest and voting. It will improve shareholder participation, and in turn, bring improvements on governance.
Please keep writing!
Best Wishes,

there is no reason that a company that was that big that the shareholder's should not of had more insight or info on where their money was and what the company was doing with it and how it was diverseifing itself. on top of it letting board executives who did a standard job think for even one second that they deserve bonuses and luxury that the every day common man has to pay for. Yet that same man is one the one who's job they are taking away. that is plain stupid. Alan Carnegie was once qouted that the head of the company should not make more then 17 times what the lowest person makes. If u look at today's corporate America u have executives who are making 500 times more than employes. Then u wonder why companies who get tax rightoff's to send work over- seas and are laying off a third of their "low" people don't think there is a problem. They forget common sense. 2 is greater then 1 right. 5 board members making 10 million plus or 30,000 people making minimum wage. u tell me if u were a governing body like the U.S. government who would u want to make happy. 5 or 30,000.

Gretchen Morgenson of the New York Times reports that former Sonic owner Aubrey McClendon is facing an inquiry in the state of Oklahoma after a shareholder of Chesapeake Energy demanded tighter scrutiny of a huge bonus McClendon received in the tail-end of 2008.
As Morenson reports, McClendon was awarded $75 million by Chesapeake and a new contract in December 2008, after his old contract (a five-year deal signed in 2007), was viewed as out of date (translation - because Chesapeake’s stock had dropped so precipitously, it was no longer financially viable for the soon-to-be-broke McClendon).
Anyhow, the board of directors deemed CHK’s $33 billion drop in value from July to December to be meritorious of a $75 million reward to Aubrey. The shareholders, Louisiana Municipal Police Employee Retirement System, which saw their 85,000 shares drop in value from more than $6 million to less than $2 million, didn’t think so.
So those shareholders then filed something called a “books and records demand” in Oklahoma to have it looked into. As SUPERSONIC SOUL points out, however, it’s doubtful that McLendon is going to have to give back any of the bonus, but rather just have to deal with some uncomfortable headlines for a while.




Dear Carl,

   I worry about the downside risks of your suggestion to allow corporations to move to another state. This privilege could easily be abused by shareholders, who could spend their time moving their company from state to state looking for more favorable conditions or tax rates dependent on political atmospheres. Furthermore, certain states with loose corporate regulations could become safe-haven end-zones for LBO liquidation shops.

   Why not simply attack the problems of the system head on? Why not push for fair and equitable corporate rules from the federal government? How are we supposed to push for international regulations to stabilize the global economy when we cannot manage our own states?

Lucas Finco

What is at stake here is the corporate efficiency and viability of American business on the world stage which is dimming, suffering greatly from mismanagement and lack of leadership.

AIG would have failed as a business in any other industrialized country, I guess we had to keep it alive only to see it continue its' (same way) of irresponsible financial behavior. Old habits die hard, it is said.

Shareholders should have easier tools of action engaging in a proxy fight, or else the entrenched management are free to ruin a business as they please.

Dan Nita

Very interesting article!

http://www.mantis-lb .com

Please offer me positive news about executive compensation clawbacks since start.

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