Corporate Reform

Corporate Governance

Our government has a duty to investors, citizens, workers, and to the continuing health of our economy to ensure that the corporation, as the predominant legal structure and the engine of wealth creation in our capitalist system, is a sound institution. We must ensure that the legal governance of these vital institutions is fair and responsive to major stakeholders: the investors, the employees and retirees, the local communities the corporation operates in, and society in general. It has become increasingly clear with the financial and ethical improprieties that resulted in the implosion of companies like Enron, WorldCom, Global Crossing, Tyco, and too many others, that corporate malfeasance is not the result of ‘a few bad apples,’ but is the result of systemic failures in our institutions of corporate governance: lack of real market oversight, boards of directors who fail to excercise independent business judgment, lack of effective democratic control by shareholders and their trustees, and institutional values and incentives that are short-sighted and fail to create long-term investor value. To retain our position of financial and business leadership in the world, we must address these problems at a national level to create the best business environment in the world.

Corporate Chartering

Incorporation has been largely a state ministerial function for many years now, at that has led to a competition betwen the states to provide the most lax and shareholder unfriendly incorporation law. There has been a race to the bottom in state incorporation law and the only way to stop it is to provide a federal incorporation option that would allow operation in all states and federal territories in exchange for enhance shareholder democracy. In addition, all state charters should be required to allow for a shareholder vote to reincorporate under another state's charter, or as a federal corporation.

These measures should come in conjunction with a serious reconsideration of the role of corporations in our civic life and legal tradition. Congress should make explicit that the corporation is not legally equivalent to a human being under the Constitution and should instead ground a corporation's civil rights in federal legislation. We must also address seriously the cost to society of white collar and corporate crime, which far outstrips in both lives and treasure the costs of 'street crime,' and consider closely how to apportion responsibility for those crimes and compensate fully the victims.

Democratic Control of the Corporation

Institutional investors (including private and public pension funds, life insurance companies, and tax incentivized investment funds) that millions of Americans have their saving invested in now control roughly half the publically held equity in America today. These funds represent broad-based investment in the capitalist system that is a new feature of American life. Yet the average American feels no more effective control of the corporations he or she owns shares in than those who do not own equities. There is no effective means for such small shareholders to excersise any control over the corporations they individually, or collectively own: in fact, there is seldom any ability for even major shareholders to effectively participate in the governance of the corporations they invest in.

The many institutional investors who hold equities in trust for investors could wield enormous influence on behalf of their beneficiaries, but they do not. Institutional investors are discouraged by a 'don't rock the boat' web of conflicts of interests to remain passive in corporate goveranace, largely deferring to corporate management, even when it harms the long-term interests of their beneficiaries. We need to give institutional investors a legal duty to act as a fiduciary in the interest of their beneficiaries that they cannot conveniently ignore. Most small investors have neither the knowledge, time, or expertise to effective use the governing power of their shares; institutional investors can become powerful spokesmen for the best interests of the investing public within publically held corporations.

Independent Board Members

To ensure that the board room doesn't become an echo chamber for management there must always be independent voices willing to challenge group-think and poor oversight practices on the board of directors. A number of board seats should be reserved for election by institutional investors and other stakeholders, such as unions, local communities, consummer and environmental advocates. This would increase scrutiny of the management's business decisions and ensure that the board is doing its job of excecising independent business judgement. It would also encourage the developement of a new class of professionals: the independent board member. Such people would combine a deep knowledge of business practices, auditing, law, financial accounting, and ethics which would inject much-needed new professional independence into corporate boards without conflicts of interest to cloud the directors duty.

Aligning Management Compensation with Investor Value

Effective shareholder governance is crucial for a health corporate capitalist system. Unless the owners of the corporation can excercise effective control of the corporation, corporate capitalism becomes a slot machine for corporate management, who are able to perpetuate their control and reward themselves out of all proportion to their contribution to creation of shareholder value. In fact, that is what we have seen in recent years.

We must align management compensation with shareholder's long-term interests We must control the outrageous self-enrichment of corporate management even as the corporation they lead fails. We must refocus our corporations on creating real long-term growth and wealth, instead of promoting a self-destructive and myopic focus on quaterly returns that leads to canabalizing long-term investment.

Compensation for upper management should be determined by truly independent compensation committees, using not industry surveys, but by closely aligning incentives with mid- to long-term growth targets over 5 to 10 years. The current methods lead to rapid inflation of compensation by basing it on prevailing compensation which is set by market surveys, building in a bias to inflation and non-performance based formulas. Options must be fully costed, and vest only over longer time horizons and should not be repriced when the corporation under-performs.

Realigning management's incentives to longer-term returns is an important start in stopping the relentless pressure to meet and exceed quarterly earnings projections. Such pressure over recent decades has produced a vast destruction of viable productive capacity with a sprial of downsizing and cost-cutting. Quarterly earnings pressures have led many management teams to vastly overstate earnings and manipulate the corporation's financial position to appear robust in the short-term at the expense of long-term investments. The enhanced financial trasparency required by the Sarbannes-Oxley Act is a solid first step and must be defended from those who would cripple even such a basic first step.