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Corporate Reform: Democracy, Soviet Style
Saint Louis Post Dispatch,
June 16, 2004
Corporate Democracy in the United States is a little like democracy in the old Soviet Union. Soviet citizens were free to vote, but there was only one slate of candidates on the ballot.
Any American shareholder who has seen a company proxy ballot knows what that feels like. The corporate CEO and his friends on board decide the slate of directors. There is almost never opposition. The outcome, shall we say, lacks suspense.
After the recent wave of corporate scandals, the Securities and Exchange Commission got the notion to inject just a little real democracy into the corporate process. Not much, mind you. Just a smidgen.
It proposed that big shareholders with a 5 percent stake in a firm - after going through a year of rigamarole - could run rival candidates for directors' seats against those proposed by corporate management. That's a lot easier and less expensive than the current system for launching a proxy fight.
But company bigwigs and their lobbyists are putting the squeeze on the SEC to change its mind. And now, The Wall Street Journal reports that SEC Chairman William Donaldson is backing off and hunting for compromise.
That would be too bad.
The scandals at Enron, Adelphia, WorldCom and the like had many causes. But one common cause was that the watchdogs - government officials, securities analysts and company directors - were either asleep or eating out of the hands of company management. No one was watching out for the public or the shareholders.
In theory anyway, the board of directors is the shareholders' watchdog in chief. In reality, corporate chief executives have held tremendous sway over the nomination of directors. The typical board meeting is a convocation of cronies.
Post-scandal reforms from Congress and the stock exchanges aim to lessen that influence. Most directors must now be "independent," meaning they have no significant financial ties to the company. Independent directors now must dominate the auditing committee and the committee that nominates new directors.
It remains to be seen if those reforms will make management and directors less of a cozy club. After all, many directors are CEOs themselves, and they like to keep their own boards tame.
But worried shareholders should certainly be able to put their own eyes and ears on the board. The SEC's new process is time-consuming. So it's unlikely that we'll see a battle over directors' seats unless shareholders have a serious concern about the company's direction.
Business lobbyists argue that such battles, along with other reforms, will distract management from running the company. That may well be a legitimate concern, notes Washington University law professor Troy Paredes, who studies management interactions. No one really knows how this will play out.
But whatever the cost, another round of corporate scandals would be worse. American capital markets basically function on trust. Investors must trust company financial statements, and that means trusting their managers. Without such trust, investors hold back, the cost of capital rises even for honest companies and the whole American economic engine starts wheezing.
The wave of scandals damaged trust, and the result probably helped slow America's recovery from the 2001 recession. Restoring faith means keeping the watchdogs wide awake and management on its toes.
Business opposition to the SEC's reforms shows that corporate leadership is still a rather cozy club that dislikes party-crashers sent by the shareholders. That alone is a good reason to crash the party. The SEC's Mr. Donaldson should stand firm.
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