Shareholders Flex Muscles
Proxy Measures Pushing Corporate Accountability Gain Support

By Brooke A. Masters
Washington Post Staff Writer
Saturday, June 17, 2006

Activist shareholders have scored resounding successes this proxy season with proposals to make corporate directors more accountable to shareholders, and efforts to tie executive pay more closely to company performance also are gathering steam.

Shareholders at 15 companies approved proposals asking boards to make it easier for future shareholder proposals to pass by removing requirements that they receive more than a simple majority, according to Institutional Shareholder Services Inc., which tracks proxy issues for pension funds and mutual funds. Shareholders also gave majority support to 70 proposals that make it easier to get rid of directors, Rockville-based ISS said.

"There's a new corporate governance paradigm emerging. . . . It's a sign of boards becoming more responsive to shareholders and less captive to the CEO," said Patrick McGurn, ISS executive vice president.

Proposals asking for annual election of directors -- rather than staggered multi-year terms -- won majority support at 38 companies. By the end of this year, more than half of the nation's 500 biggest publicly traded companies will hold annual elections, up from 45 percent two years ago, McGurn said.

Ballot proposals that directors be elected by a majority of shares voted got majority support at 32 companies, and more than 100 other firms have adopted some kind of majority-vote standard without putting the question to shareholders.

About 145 companies in the Standard & Poor's 500-stock index now elect directors by majority vote or require them to tender their resignations if a majority of shareholders withhold their support, said Claudia H. Allen, a Chicago lawyer who studies the issue. Fewer than 30 companies had such policies in place at the start of 2005, and eight more have announced plans to adopt similar standards.

Labor unions and religious groups remain the most active proponents of shareholder resolutions, but they are drawing increasing support from profit-oriented institutional investors such as mutual funds and hedge funds, which argue that good corporate governance leads to better returns.

"We've had more majority votes [in favor of our proposals] than ever in our memory," said Richard Metcalf, director of corporate affairs for the Laborers' International Union of North America. "We've had more companies contact us and engage in meaningful discussions."

On executive compensation issues, relatively few proposals won a majority of votes. Still, even many of those that failed drew support topping 30 or 40 percent, more than the 15 to 20 percent many pay-related proposals attracted in past proxy seasons.

Shareholders at four companies -- J.P. Morgan Chase & Co., Lucent Technologies Inc., Novellus Systems Inc. and Pulte Homes Inc. -- gave majority support to proposals that tied executive pay more closely to corporate performance. Shareholders at seven other companies -- including Morgan Stanley, McDonald's Corp. and the Ryland Group Inc. -- voted for limits on severance pay.

A proposal from the American Federation of State, County and Municipal Employees asking four companies to hold shareholder referendums on chief executive pay won the support of 36 to 43 percent of shareholders.

"This has been the most effective season in the history of our program," said Richard Ferlauto, AFSCME's director of pension and benefit policy. "I thought 15 percent [on the pay referendum issue] would be a good start. Shareholders have really found their voice."

Shareholders at a couple of companies also unleashed their outrage at directors over huge compensation packages. At Home Depot Inc.'s annual meeting, which the board did not attend, at least 30 percent of shareholders withheld their votes from 10 of the 11 directors. The exception was a new member of the board. Shareholders were protesting premium pay for chief executive Robert L. Nardelli while the company's stock languished. Pfizer Inc. shareholders withheld up to 22 percent of their votes from directors to protest a $83 million retirement package for chief executive Hank McKinnell.

While most shareholder resolutions are nonbinding, a study by the Council of Institutional Investors suggests boards are taking them more seriously. The study found that 61 of the 97 companies -- 63 percent -- whose shareholder proposals received a majority vote in 2005 had done something along the lines of what was requested, up from 28 percent the previous year.

"Directors are starting to sit up and take notice," said Theodore L. Dysart, who heads the boards of directors practice for the executive search firm Heidrick & Struggles. He attributes the change to the Sarbanes-Oxley corporate accountability law passed in 2002 in the wake of several financial scandals. "Boards always had this responsibility . . . but now they take it much more seriously."

The growing importance of shareholder votes has sparked concern about the voting process.

Under current New York Stock Exchange rules, brokers may vote shares they hold for their customers on "routine" matters -- including the election of directors -- if the customer fails to vote. But that tradition has come under criticism. The NYSE's enforcement arm has fined four major Wall Street firms, three of them this week, for failing to keep proper track of shares in their custody and in some cases voting more shares than they were entitled to. One of the firms, UBS Securities LLC, "over-voted in numerous instances" in part because it voted shares that it had out on loan, which is illegal, the NYSE alleged.

"Shareholder voting even on routine matters is one of the principles that goes along with stock ownership," NYSE enforcement chief Susan L. Merrill said in an interview. "We are concerned that firms are putting shareholders at risk of having their votes thrown out."

Separately, an NYSE committee led by California lawyer Larry Sonsini has been examining whether brokers should even be voting their clients' shares -- estimated at 10 to 20 percent of the total, depending on the company -- in director elections. Brokers currently do not vote their clients' shares on bottom-line issues such as mergers and acquisitions, and Sonsini said his committee now believes the vote on directors should fall into that category.

"The whole elevation of corporate governance in this country has been a very sound movement, and a lot of the focus has been on the boardroom," Sonsini said. "To classify the election of directors as routine really is inconsistent with that."

If approved by the NYSE board and the Securities and Exchange Commission, the policy change would give additional momentum to shareholder activists because brokers have traditionally voted with management.