Stockholder Rights and Corporate Governance

2. Chapter 15 Stockholder Rights and Corporate Governance Stockholders Corporate Governance Executive Compensation: A Special Issue Shareholder Activism Government Protection of Stockholder Interests Stockholders and the Corporation

3. Stockholders Stockholders (shareholders) The legal owners of business corporations. Types of stockholders: • Individual stockholders are people who directly own shares of stock issued by companies. • Institutions, such as pension funds, insurance companies, and university endowments.

4. Figure 15.1 Individual household versus institutional ownership in the United States, 1965-2002 Percent of all stocks owned Year

5. Figure 15.2 Major legal rights of stockholders • To receive dividends, if declared • To vote on: Members of board of directors Major mergers and acquisitions Charter and bylaw changes Proposals by stockholders • To receive annual reports on the company’s financial condition • To bring shareholder suits against the company and officers • To sell their own shares of stock to others

6. Corporate governance Corporate governance Refers to the process by which a company is controlled, or governed. These systems determine overall strategic direction and balance sometimes divergent interest. Board of directors An elected group of individuals who have a legal duty to establish corporate objectives, develop broad policies, and select top-level personnel to carry out these objectives and policies. • Most corporate boards work through committees. • Board members are elected by shareholders.

7. Exhibit 15.A The Business Roundtable’s statement on good corporate governance • To select and oversee competent and ethical management to run the company on a day-to-day basis. • It is the responsibility of management to operate the company in company in a competent and ethical manner. • To produce financial statements that fairly represent the financial condition of the company under the oversight of the board and its audit committee. • To engage an independent accounting firm to audit the financial statements prepared by management. • It is the responsibility of the independent accounting firm to ensure that it is in fact independent, without conflicts of interest. • The company has a responsibility to deal with its employees in a fair and equitable manner.

8. Key features of effective boards • Select independent directors to fill most positions. • Hold open elections for members of the board. • Appoint an independent lead director and hold regular meetings without the CEO present. • Evaluate the board’s own performance on a regular basis.

9. Executive compensation Stock options Represent the right to buy a company’s stock at a set price for a certain period. • In 2002, the chief executives of the largest corporations in the United States earned, on average, $7.4 million, including salaries, bonuses, and stock options. • Top managers in other countries earned much less. • In the U.S., CEOs in 2002 made about 200 times what the average worker did. • Executive pay is set by compensation committees of boards of directors.

10. Executive compensation: Is it justified? Proponents of high executive pay say: • Well-paid managers are simply being rewarded for outstanding performance. • High salaries provide an incentive for innovation and risk-taking. • Not many individuals are capable of running today’s large, complex organizations. Critics of high executive pay say: • Inflated executive pay hurts the ability of U.S. firms to compete with foreign rivals. • As many extravagantly compensated executives preside over failure as they do over success. • Multi-million-dollar salaries cause resentment and sap the commitment of hardworking lower and midlevel employees.

11. Social investment Social investment Refers to the use-of-stock ownership as a strategy for promoting social objectives. Social investment can be done in two ways: • Social screening of stock • Some shareholders wish to choose stocks based on social or environmental criteria. • Social responsibility shareholder resolutions • A resolution on an issue of corporate social responsibility placed before stockholders for a vote at the company’s annual meeting.

12. Securities and Exchange Commission • Established in 1934 in the wake of the Great Depression. • Its mission is to protect stockholders’ rights by making sure that the stock markets are run fairly and that investment information if fully disclosed. • Generates revenue to pay for its own operations.

13. Exhibit 15.C Sarbanes-Oxley Act • Established an independent board to oversee the audits of public companies. • Prohibited accounting firms from providing other services at the same time as an audit, if this would cause a conflict of interest. • Required CEOs and CFOs to certify the truth of their companies’ financial statements, in writing. • Required executives to pay back any bonuses or profits from stock sales they received after a financial report was issued that later had to be restated. • Required full disclosure to shareholders of complex financial transactions. • Required that at least one member of the audit committee be a financial expert.

14. Insider trading Insider trading Occurs when a person gains access to confidential information about a company’s financial condition and then uses that information, before it becomes public knowledge, to buy or sell the company’s stock. According to the SEC Act of 1934, it is illegal to: • Misappropriate nonpublic information and use it to trade a stock. • Trade a stock based on a tip from someone who had an obligation to keep quiet. • Pass information to others with an expectation of direct or indirect gain.