Working Together to Protect
Our Common Resources
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Greetings, TSC readers. Proxy season is ramping up, and that means we have been busy here at TSC. Among other things:
- Sara interviewed TSC board member Jon Lukomnik and his co-author Jim Hawley about their new book, Beyond Modern Portfolio Theory; if you missed the live version, a recording is available here.
- We held a webinar on opportunities to vote your proxies on a systems-first basis this season, which you can watch here.
- Rick spoke on the S&P Global podcast, ESG Insider, about our shareholder proposals, with a focus on
PBCs. In addition, the podcast addresses the important subjects of say-on-climate votes and racial equity audits, but Rick’s interview starts around 23:00.
- We have continued to update our database of beta stewardship opportunities, all of which can be accessed on our beta stewardship landing page; if you prefer to get the update once a week in your mailbox, you can register here for our weekly digest.
- Board member Susheela Peres da Costa, Head of Advisory at Regnan spoke with PRI Stewardship Analyst Chloe Horne and Jake Barnett, Director of Sustainable Investment Services at Wespath about the PRI’s recently published paper, Making Voting Count: Principles Based Voting on Shareholder Resolutions. Listen here.
This week we feature on article on a disappointing set of decisions from the U.S. Securities and Exchange Commission (SEC) around multiclass voting stock and review of Joel Bakan’s book, The New Corporation. We also reprint our note about an important new initiative asking shareholders to withhold votes from directors at companies that are not taking the substantive steps necessary to address climate
change.
As always, please reach out if you would like to further discuss any of the below or to get more involved with our work.
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A FAILURE OF PROTECTION:
SEC REFUSES TO ALLOW SHAREHOLDERS TO VOTE ON DUAL CLASS UNDERWRITING
Across the United States and around the world, political democracy is on the defensive as politicians try to limit their accountability to citizens. The trend is the same in business, as more and more public corporations try to use “multiclass” voting structures to avoid accountability to their own shareholders. Regrettably, the SEC
Staff has decided to deny shareholders the right to vote on whether their own companies can continue to facilitate this retrenchment.
Under the SEC’s Rule 14a-8, shareholders have a right to submit proposals to companies for a vote at their annual shareholder meetings and to have the proposals appear in the company’s proxy statement and on its proxy card. The SEC oversees a number of rules that establish whether a proposal is vote-worthy. A company can ask the SEC staff to permit the company to exclude a proposal from its proxy material if it
believes the rules have not been satisfied. One often-disputed issue is whether a proposal addresses “ordinary business” (excludable) or a “significant policy issue” (not excludable.)
This year, TSC helped shareholders at Goldman Sachs and JPMorgan make proposals addressing the increasing use of multiclass share structures. These two underwriters make millions in fees from underwriting such structures. The SEC allowed both of them to exclude the proposal, on the basis that it did not relate to a significant issue that transcended the companies’ ordinary business.
TSC believes that that these decisions represent a serious failure on the part of the SEC to satisfy its mandate as an investor protection agency.
The multiclass phenomenon
As many citizens worry that corporate juggernauts like Facebook and Alphabet (the parent company of Google) are not being held accountable by government, few realize that the managers of these companies are not even accountable to their own shareholders. At these and many other companies, a handful of insiders own super voting stock that locks in perpetual control for founders and their families. As a result,
there is nothing that shareholders can do if they are unhappy with the managers of the company. The CEOs of these companies become leaders-for-life, with power that spans international borders and that can rival that of medium-sized countries.
This creates a dangerous dynamic because these insiders do not only have great power: they also have uniquely poor incentives. Unlike the average shareholder, who is diversified and interested in a healthy economy overall, these new corporate autocrats are entirely focused on their own companies and thus benefit from decisions that sacrifice important social and environmental systems in order to boost the value
(and power) of their company. As Nobel Laureate Oliver Hart and a co-author noted, “initial entrepreneurs are not well-diversified and so they want to maximize the value of their own company, not the joint value of all companies.”
For much of the 20th century, major U.S. stock exchanges restricted these structures, after the issue became a public concern in the 1920s. While many jurisdictions around the world continue limit such structures, U.S. stock exchanges now permit multiclass offerings, and companies from other countries have often gone public on the U.S. markets in order to protect managers from any accountability. In response,
other countries have lowered the barriers.
The phenomenon is increasing within the U.S. at an alarming rate: More than 20 percent of the companies listing shares on U.S. exchanges between 2017 and 2019 had a dual class structure, and from less than 5% of IPOs in 1984 and the percentage is now approaching 25%. But this understates the problem. More than a third of the money raised in IPOs may well be going to corporations with multiclass structures.
As was reported in September of 2019:
In 2019, seven of the ten largest IPOs have issued shares with unequal voting rights. These firms account for 36% of the $37 billion of IPO proceeds raised YTD
SEC bars shareholders from voting on facilitation of multiclass offerings
This proxy season, The Shareholder Commons helped shareholders make proposals at Goldman Sachs and JPMorgan Chase, two of the leading investment banks for multiclass public offerings. When these leading investment banks underwrite these offerings, it lends their influence and credibility to a dangerous market trend that threatens the value of portfolios generally.
The proposals asked the banks to report on how participating in these offerings would affect the economy and diversified shareholders. The SEC refused to allow the shareholders of either bank to vote on this question, concurring with the banks that participating in such offerings was not an important policy issue that shareholders should be allowed to vote on. As we explained in our letter to the SEC Staff asking
it to allow inclusion of the proposal, this is in fact a long-running policy concern, that was even debated at the 19th century Delaware constitutional convention that adopted the now ubiquitous Delaware General Corporation Law, and has been the subject of federal congressional and executive concern for a century.
This was an extraordinarily disappointing decision. It is hard to imagine a more important policy issue for shareholders to vote on, as more and more companies become unaccountable to their owners, and as these companies have more sway over the economy. In a 2018 speech, SEC Commissioner Kara Stein addressed the broad social policy concerns created by dual class structures:
Structures where a minority of insiders lock out the interests and rights of the majority may also have collateral effects on our capital markets. They may be harmful not just for those companies, their shareholders, and their employees, but for the economy as a whole.
The SEC’s Investor Advocate was more blunt in a recent speech:
In my view, what we now have in our public markets is a festering wound that, if left untreated, could metastasize unchecked and affect the entire system of our public markets. The question, then, is what can be done to avoid the inevitable reckoning.
We hope that the SEC will reconsider its position before the next proxy season. Our economy needs more accountability, not less.
WHAT WE'RE READING
The New Corporation:
How “Good” Corporations are
Bad for Democracy
By Joel Bakan
One of the fundamental premises behind our theory of change at TSC is that the role of individual corporations in a capitalist society is to price and allocate resources by maximizing profits within the limits allowed, and that we should therefore not look to corporations to balance social and environmental needs against shareholder return. Joel Bakan’s new book includes a remarkably lucid explanation of this idea.
The book takes on Davos, the Business Roundtable and Harvard Business School gurus, all of whom make the case that not only can corporations “do well by doing good,” but they can actually maximize shareholder value by minimizing negative impacts. In addition to being simply fantastical, that claim is an attempt to divert attention from the subject of Bakan’s earlier book, The Corporation, which addressed just how rotten corporations had become by the turn of the millennium. (Remember Enron, WorldCom, Tyco, Global Crossing and options backdating?) Corporations spent the aughts and teens either cleaning up their act or putting lipstick on their snouts, depending on whether you take the Davos view or are
more skeptical.
Bakan is, of course, in the latter camp. What I like about the book is that he does not take the view that corporations fail to prioritize social and environmental impact because they are evil. Instead, he explains, they prioritize profits because that is how capitalism functions:
Corporate law is fundamentally about capitalism. It’s designed to incentivize investment and thereby produce the fuel, capital, that the system needs to operate. To that end, the legal “best interests of the corporation” principle guarantees investors their money will be used for their benefit. Without it, they wouldn’t invest, and the whole system, not just the
corporation, but capitalism itself, would grind to a halt. Which is why maximizing shareholder value—by prioritizing profit, growth and competitive advantage—will always be the corporation’s overarching mandate, at least in capitalist systems.
The book catalogues myriad examples of companies that go to great lengths to convince the public of their corporate responsibility bona fides, while still grazing the public commons and destroying important public goods, whether it is Walmart talking about energy use reduction while building ever more stores to sell ever more products or Coca-Cola’s deceptive “water neutrality” claims (and the
financial capture of the NGOs who certify them).
The problem is that while profit often represents efficiency and innovation (Adam Smith’s invisible hand, by which private vice creates public virtue), profit can also come from activities that create external costs that others must bear, which is not at all efficient, and quite problematic (think about the absolute cost to the economy of carbon emissions and rising inequality). With a perfect
political system, we could rely on legislation and regulation to take all these bad choices off the table: that is what regulation of pollution, treatment of workers and other limits on corporations is meant to do. But as Bakan points out, business has done a good job convincing the public that government is bad and reducing regulation is good. Corporations have taken over services once thought of as public goods—from prisons to schools to regulation itself through industry-adopted
standards.
But this leaves us in a precarious place—because, as Bakan explains, those public goods may require prioritizing impact on society over profits, and that is not what corporations are designed to do. His answer is to take back government from corporatism through electoral politics. While I agree that is an important element of the solution, we should also remember that shareholders have interests much
closer to the public interest than do managers of individual companies, and that corporate democracy provides another opportunity to place limits on corporations. By establishing social and environmental guardrails that all companies must follow, diversified shareholders can take many opportunities for exploitation off the table.
But while one may quibble with his solutions (for example, TSC takes the view that benefit corporations and responsible asset ownership are at least an important part of the solution), this book should be widely read. We are at a point where corporate propaganda has convinced many—including many policymakers—that business alone can provide solutions to our collective concerns. But in a capitalist
society, where business is funded by return-seeking investors, leaving social and environmental issues to corporate executives is no more protection than a fox in front of the henhouse.
PROXY VOTING FOR A 1.5º C WORLD:
BETA STEWARDSHIP IN ACTION
Diversified shareholders have the incentive, power and, responsibility to insist that the companies they own reject financial return that is based on exploitation of common resources and vulnerable populations. To make this work in a free-market system that relies upon competition to price and allocate resources, shareholders must establish the basic rules for companies on environmental
and social matters, which we call “guardrails.”
We believe that Majority Action’s Proxy Voting for A 1.5 °C World campaign exemplifies the guardrails concept. The campaign goes beyond disclosure and risk management requiring specific action by companies with a significant carbon footprint,
regardless of the business case at any individual company. Majority Action explains the risk to diversified shareholders clearly:
The physical and financial risks posed by climate change to long-term investors are systemic, portfolio-wide, unhedgeable and undiversifiable. Therefore, the actions of companies that directly or indirectly impact climate outcomes pose risks to the financial system as a whole, and to investors’ entire portfolios. In order to manage this systemic portfolio
risk, investors must move beyond disclosure and company-specific climate risk management frameworks, and focus on holding accountable the relatively small number of large companies whose actions are a significant driver of climate change.
The campaign goes beyond precatory proposals and asks that shareholders withhold votes from directors at companies that are failing on climate. The campaign is supported by the Illinois Treasurer and CalPERS, among other important stewardship voices.
We strongly recommend that diversified shareholders vote their proxies, or insist that their advisors and managers vote proxies, in line with Majority Action’s recommendations. For more on this and other systems-first voting
recommendations, be sure to check out our beta stewardship platform and sign up to receive the weekly Beta Steward Digest.
THAT'S ALL FOR NOW
Thanks for reading. We hope that you found this material insightful and engaging. Please reach out if you would like to discuss or support our work - TSC exists to advance these ideas, so conversations with interested individuals are precisely what we are here to do!
Wishing you all a happy, safe, and healthy season - don't forget to vote your proxies, get vaccinated and . . . breathe.
Fondly,
Team TSC
Rick, Jenn, Sara and Sophie
(yes, close reader, another name 😊More on that in our next issue!)
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