Corporate Law & Governance - Emerging Best Practices for Corporate Governance Guy Young Bill Nelson
State Law Graham case (1963): Red flag case Directors failed to uncover and prevent anti- trust violations by the company. Absent a cause for suspicion, there is no duty upon directors to install and operate a corporate system of espionage to ferret out wrong doing which they have no reason to suspect exists. 2
Caremark (1996) State Law Board failed to uncover illegal payments regarding Medicare No red flag Board had a duty to put in place reporting systems Very high standard for liability a sustained or systematic failure to exercise oversight 3
State Law Stone v. Ritter (2006) (Supreme Court): Money laundering No red flag Predicate for director oversight liability: utterly failed to implement any reporting or information system or controls or consciously failed to monitor Oversight liability draws directly from concept of director bad faith 4
State Law Citicorp and Goldman Sachs cases (2009 and 2011) Board of banks sued for failure to oversee risks in connection with exposure to sub-prime losses. Failure to oversee: director fulfilled the duty of oversight because the directors satisfied themselves that there was in place a system for managing risks. The level of risk claims failed because decisions regarding the level of risk a company takes is protected by business judgment rule. The Goldman case also alleged that the compensation practices were so risky that the board violated its fiduciary duty. 5
Federal Involvement Enron scandals Congress found a failure to detect and deter corporate wrong doing. Number one priority of Sarbanes-Oxley and related laws: expand the power of independent directors, including the oversight function. 6
Federal Involvement Financial institution instability Issues here were effectiveness of governance; federal regulation and SEC oversight; failure in risk management Substantial proven fraud was missing from these events 7
Federal Involvement From Enron and the financial system melt down Short term thinking Lack of fraud in the melt down More involvement from persons with an agenda other than enhance shareholder value 8
Governance Generally Enhance shareholder value Focus on strategic goals Pressure to conform 9
Legal Framework Legal obligations continue to be Caremark/Citicorp line of cases. Be wary of red flags; protection is more limited where there are red flags regarding wrong doing. Business decisions on appetite for risk continue to be governed by business judgment rule. 10
Steps Taken by Boards Regarding Oversight Board diligence Basic risk diligence: obtain an understanding of the risks faced by the company Risk assessment diligence: directors need to satisfy themselves that management has followed a reasonable process to identity and assess risk Systems and personnel Are there systems in place to manage and mitigate risk? Are the proper personnel in place to manage and mitigate risk? Are risks appropriate for the company 11
Periodic Update and Assessment; Assignment of Responsibilities The risk assessment should be reviewed periodically. Boards assign committees responsibility for risk assessment. Primarily the audit committee, but also the compensation committee Some larger companies have risk assessment committees Management risk committees 12
A Record of Risk Assessment Board minutes are important in this area Which committee is assigned risk oversight in which area? Record of risks discussed with the board and the committees Decision making process of board in setting risk appetite Consistency with public filings Periodic SEC reports are required to disclose risks, which should be consistent with board discussions Other public/internal documents prepared or evaluating material risks should be consistent with board determinations 13
Examples Foreign Corrupt Practices Act (FCPA) Hedging Political Contributions 14
Tone at the Top Tone shapes business relationships and social responsibility Culture of compliance with laws and sound strategic goals Not an avoidance of risk, but compliance with the appetite set by the board 15