The Securities and Exchange Commission's proposed amendments to rules governing nomination of directors might seem well intentioned, but would be a bane for investors and corporations alike. Lowering the barriers for making director-related nominations and proposals would mean more paperwork, more government bureaucracy, higher corporate compliance costs and an even less effective governance system than we now have.
Ostensibly, the intent of the SEC's proposals is to give shareholders greater influence over corporate governance. In reality, this access for shareholders meeting certain eligibility criteria would simply open the door to activists — both well intentioned and self-serving — to harass management and cause the spending of inordinate amounts of resources on non-productive administrative detail. History shows that activists buy a nominal amount of stock and then bombard management with shareholder resolutions, which have to be distributed to shareholders at no small cost for no good business purpose.
On the other hand, if you want to nominate Al Gore or Michael Moore to Exxon Mobil Corp.'s board, then these proposed regulations are manna from heaven. One man's meat is another man's poison. There is a political agenda lurking: expanded government oversight and more power to activists in the name of shareholder democracy.
The most meaningful share-holder input is to vote with your money. Mutual funds should flex their muscles by identifying companies that abuse shareholders — no better example than those that dish out stock options like confetti — and put them on public notice that unless they become more transparent and responsible in matters of corporate governance, their stock will be sold or shunned.
If fund managers discover they have problems with the board, they have only themselves to blame. A reasonable amount of due diligence before making an investment will reveal corporate governance problems. Granted, those who manage index funds have no choice but to purchase companies that have corporate governance problems, but these proposals offer no help for those investors.
The reason executives at companies like Countrywide Financial Corp. never had a problem offloading hundreds of millions of dollars of stock to unsuspecting investors had much to do with the fact that Countrywide was part of the Standard & Poor's 500 stock index. This problem would best be solved by excluding companies that, for example, have stock option overhangs in excess of 7.5% of shares outstanding, or companies that lack the required level of independence on the board.
Few fund managers or institutional investors have the skill to guide changes in corporate governance or board composition, and that includes nominating directors who will effect positive and meaningful change. Experts in their fields run these companies, and for the most part, they do so to enrich shareholders. I want to own those companies, and I already have the analytical capabilities I need to find them and monitor their performance.
Even if you find the theory of a more egalitarian approach to nominating directors appealing, consider the nightmare of execution, compliance and government oversight required to manage increased shareholder activism. The challenge of effectively coordinating with individual state regulations is massive. As an aside, the SEC's attempt to mandate policies and procedures exceeds its powers under Section 14 of the Securities Exchange Act of 1934 and, from a constitutional perspective, violates states' rights.
Additionally, these recommended rule changes would apply only to qualifying shareholders with ownership positions of a year or longer. Most funds have turnover ratios in excess of 100% and the same goes for individual investors. Someone will have to be responsible for determining whether a shareholder is qualified to participate in director nominations, and the cost of ensuring this compliance will fall to the taxpayers financing the SEC bureaucracy and/or the shareholders of the targeted company in the form of higher administrative spending.
The proposals will expand the SEC bureaucracy and burden corporations as well as fund managers with additional compliance and proxy costs, thus eroding shareholder value.
How, then, could the SEC's recommended amendments possibly be perceived as a victory for shareholders?
One may recall how everyone thought it was a good idea to force financial advisers to vote proxies. As a fund manager, with relatively insignificant ownership interests in our individual holdings, I am forced to spend hours voting proxies, maintaining documentation as proof of execution and submitting a quarterly report of all proxies voted with the most exacting detail. This compliance burden can be outsourced and thereby relieve me of the burden — and most fund managers avail themselves of this cop-out. However, this course of action virtually removes any personal responsibility that I'm supposed to take in the process and thus defeats the intended purpose.
Unless a fund has a singularly large ownership position in a corporation, or accumulates a position with the expressed purpose of effecting major changes in management, board leadership and corporate strategy, the most expedient thing is either to sell the stock of a company that develops corporate governance problems, or not build a position in the first place. We don't need a nanny to protect us from ourselves.
Albert Meyer is president of Bastiat Capital LLC, Plano, Texas, and subadviser and lead portfolio manager of the Mirzam Capital Appreciation Fund, an equity fund whose approach includes shareholder value-enhancing governance and compensation practices.