Millstein Center Report: Open Board-Shareowner Communication Can Help Restore Trust

New Haven, Conn., December 16, 2008 – Corporations have an opportunity to begin restoring trust and confidence lost in the financial crisis by instituting the cutting-edge governance practice of direct dialogue between directors and investors. Sliding stock market value and executive pay controversies are creating fresh implications for boards, shareholders, Congress, and the incoming Obama administration. A new policy briefing by the Millstein Center for Corporate Governance and Performance at the Yale School of Management finds dialogue can enhance board authority, especially during crises, as well as boost shareowners’ trust in their quest for optimal performance.

“Talking Governance: Board-Shareowner Communications on Executive Compensation,” co-authored by Stephen Davis, senior fellow at the Millstein Center, and Stephen Alogna, senior manager of Deloitte & Touche LLP Corporate Governance Services and visiting research fellow at the Center, is available online. The report finds:

• Sustained, two-way dialogue between boards and shareowners on executive compensation and other governance topics is so far “rare in the U.S.” Scandals over executive compensation most often motivate board-shareowner interaction.

• Contrary to common opinion, there is no insurmountable legal obstacle to board-shareowner dialogue on executive pay or governance. Research shows evidence that Regulation Fair Disclosure (Reg FD), a rule passed by the SEC to prevent selective disclosure of information, is not a barrier to communication between directors and investors on executive pay policies and other governance matters. “Reg FD is a caution, not a barricade,” write the authors.

• Companies motivated to engage in dialogue with their investors have had to commission legal counsel for guidance on communicating within the constraints of Reg FD. The report proposes that the SEC develop a market-wide safe harbor for board-shareowner communications on corporate governance issues to help save corporations unnecessary legal fees and reduce the risk of sanction under Reg FD.

• Investors and corporate officials identify concrete and significant advantages from board-shareowner communications that outweigh the potential risks and costs.

• Constructive board-shareowner dialogue hinges on high-level commitment, resources, and informed strategies on the part of both investing institutions and corporate boards. Communication is most effective when a company provides shareowners with access to appropriate board directors and other governance personnel and there is coherence between the portfolio management and governance functions of an institutional investor.

“The financial crisis makes routine dialogue between boards and significant investors a ‘must have’ reform,” asserts Ira Millstein, senior associate dean for corporate governance at the Yale School of Management. “Boards gain from opportunities to listen for best ideas and explain corporate policies so that they can retain investor confidence in times of important challenge.”

“Talking Governance” was undertaken in cooperation with the Working Group on the Advisory Vote on Pay, an ad hoc body of corporate officials and institutional investors. The paper follows from the Millstein Center’s June 2007 policy briefing on Britain’s requirement that investors vote annually on their confidence in a corporation’s compensation practices. “Say on pay” was found to have had a material positive impact on spurring dialogue between directors and institutional investors.

The release represents the findings of a six-month study exploring board-shareowner communication through interviews with U.S. and U.K. directors, corporate managers, institutional and retail investors, professional advisors and governance professionals. The report provides an analysis of the views and practices of these constituents related to the constraints, risks, benefits, and commitments in engaging in a sustained dialogue on governance issues.

Although there are currently no common best practices for board-shareowner communications on governance and executive pay, the report outlines methods of interaction that companies are experimenting with, ranging from open shareowner meetings with unfettered access to the board to one-off responses to shareowner inquiries.

The Millstein Center for Corporate Governance and Performance at the Yale School of Management is a leading global resource for testing, challenging and advancing the premise that corporations should and can serve society. The Center pursues its mission by convening events; sponsoring empirical research; generating policy briefings; building market capacity by developing training, databases and institutions; and teaching and student interaction.

CONTACT: Stephen Davis, Stephen.m.davis@yale.edu, 203.432.9689