Corporate Governance

Corporate Governance and the SEC: The Impact of the Stimulus Bill (The Requirement of Independent Directors)(Part 4)

By J. Robert Brown

As a penultimate post in this series, we note some additional provisions in the Stimulus Act that do not specifically expand the SEC's authority but are worthy of comment.

The amendments to TARP also dipped a toe into changes to the process for determining executive compensation.  Section 111 required the creation of a compensation committee consisting entirely of independent directors (something already mandated for exchange traded companies).  The provision did not, however, define independent. 

There are three possible definitions:  The stock exchanges, state law and SOX.  With respect to state law and listing standards, there are substantial problems with the definition and reason to believe that they do not ensure directors independence (there are plenty of posts on this Blog about that topic but much of the analysis can be found in Disloyalty Without Limits: 'Independent' Directors and the Elimination of the Duty of Loyalty). 

What did the Bill mean when it referred to independent directors?  The Conference Committee says nothing, making one unhelpful and isolated reference to the provisions on compensation committees (see conference report on Division B at p. 219).  The case is strong that the most appropriate definition should be the one contained in SOX and codified in Rule 10A-3(b).  The provision, unlike the listing standards, prohibits directors from accepting any additional payments other than fees from the company.  Thus, the provision in the NYSE and Nasdaq listing standards that would allow directors to receive payments of not more than $120,000 and still maintain their independence would not apply. 

Moreover, to the extent that the listing standards become a benchmark, the requirement in the NYSE that directors not have a "material relationship" with the company (see NYSE 303A.02(a)) would be subject to federal enforcement.  Thus, the blind eye turned by the NYSE to the impact of directors fees and whether they result in a "material relationship" (note the language in the 2007 Merrill Lynch Proxy Statement) would potentially no longer apply.  As a result, there may be a large number of directors considered treated as independent under the relevant listing standards who would not be under TARP.

For more on the subject, see Essay: Corporate Governance, the Securities and Exchange Commission, and the Limits of Disclosure.

Full post as published by The Race to the Bottom on February 27, 2009 (boomark / email).