Second Open Meeting of the Options Policies Forum

Everyone who participated in the second meeting of the Options Policies Forum is thanked for contributing to our understanding of compensation-related issues confronting both investor and corporate decision-makers.

The exchange of views during and after the meeting revealed an apparently broad consensus among marketplace decision-makers on most objectives, but also identified some differences – most notably among investors – in views of how to achieve those objectives. Conclusions of the meeting are summarized as follows:

w Broad appreciation of advisory voting benefits – While subject to concerns about how the practice would be implemented and how it might strain governance processes, as addressed below, there seemed to be widespread belief that advisory voting could stimulate a more effective process of communication between corporate managers and investors about the relationship of executive compensation to the achievement of investor objectives.[1] Meeting participants concurred that the Forum’s focus should be on supporting the interests of those managers and investors who share the fundamental common objectives of

§ understanding how managers will be rewarded for achieving enterprise success.

w Disagreement about purpose and means of adapting advisory voting – Discussion of the points presented by Stephen Davis for his anticipated Congressional testimony[2] revealed significant differences, particularly among investors, between the majority of meeting participants who viewed advisory voting as a foundation for cooperative communication and those who viewed it, often confrontationally re-labeled “say for pay,” as part of an adversarial enforcement process. It was also noted that Mr. Davis’ stated advocacy of legislative action, to impose advisory voting universally by regulation, was generally supported by those who viewed it as an enforcement process. Those who focused on cooperative communication – including representatives of prominently “activist” investors Amalgamated/Longview and Hermes[3] – generally preferred a company-specific, evolutionary adaptation.[4]

w Concern about information requirements – Meeting participants expressed concern about the adequacy of existing SEC reporting rules and commercial information resources, in terms of both cost and quality, to meet the current decision-making needs of investors as well as corporate managers responsible for designing or approving executive compensation plans. It was also recognized that the adoption of advisory voting, assumed likely whether by legislative action or marketplace adaptation, would significantly increase the demand for information needed by investors for fiduciary voting decisions. Meeting participants concurred in supporting a healthily competitive professional marketplace for responsive research and analysis.

w Basic partnership principles – The Forum’s stated purpose of developing marketplace principles for the use of options and other equity forms of compensation was summarized as a simple matter of “not lying or cheating.” The Advisory Panel’s development of proposed statements is expected to be based on these definitions of essential rights and relationships:

► Corporate managers are authorized to dilute the equity interests of shareholders – for any purpose, and particularly for the benefit of managers themselves – only with the fully informed consent of the investors, either when they buy the equity interests or when the dilution is proposed.

► Equity participation of public company executives should be viewed as a modern adaptation of partnerships, in which the sharing of both capital and responsibility served as a fair and effective means of rewarding successful managers.

Considering these conclusions, the Forum is expected to focus on the following projects during the next few weeks:

1. Validation process: The previously defined project for developing an effective marketplace validation process[5] is needed to determine actual marketplace decision-maker support for the advisory voting recommendations presented by Mr. Davis in his final Yale “white paper,” and should be designed also for future application to other policies and practices proposed by governance experts. Discussions are expected to progress with two organizations that have memberships representative of key marketplace constituencies.

2. “Compensation Facts” database: As previously reported, the Forum is supporting the development of a communally controlled “Compensation Facts” database to provide the cost-efficient, reliable information needed by professionals and decision-makers.[6] An organizational meeting was held last week to establish the project’s initial steering committee of corporate, investor and professional members, and arrangements were made to progress with preliminary planning.

3. Statement of Principles: A final report of Forum conclusions will be developed for Advisory Panel approval, including (a) a proposed statement of principles relating to the authorized dilution of shareholder equity interests for management compensation and (b) examples of reasonable investor information requests.

Your comments on the meeting, or on this summary of it, are invited. Your interest in the Forum's continuing projects will also be welcomed.

[1] Observations presented by Advisory Panel members during the meeting included reported experiences of constructive discussions leading to both positive and negative investment decisions by Kenneth Broad of Delaware Investments and David Silverman of Blue Harbour Group, and an analysis of possible marketplace effects by Keith L. Johnson of Reinhart Boerner Van Deuren and the International Roundtable on Executive Remuneration, who subsequently summarized his comments:

“1. Companies have the option of using the advisory vote to weaken the influence of short-term investors by emphasizing the links between compensation plans and the company's strategic business plans (the ultimate pay for sustained performance goal). I think we all need to learn how those votes would turn out. My bet is that the companies taking this approach could help to refocus their shareholders (at least the ones with long-term mandates) on making investments rather than short-term bets, and the short-termers would be outvoted. If not, it might help to drive similar efforts to revise the compensation plan structures for portfolio managers so they are better aligned with the long-term investment goals of most of their ultimate beneficiaries.

“2. By submitting compensation to an advisory vote, companies might reduce their litigation exposure. As long as full and accurate disclosures were made by the company, it will be hard for the plaintiffs bar to subsequently challenge big paydays under plans that had been disclosed to and approved by shareholders.”

[2] Copies of the letter Mr. Davis was to present at the following day’s House Committee hearing were distributed at the Forum meeting; see Stephen M. Davis letter dated March 8, 2007 to the Honorable Barney Frank, Chairman, House Committee on Financial Services.

[3] Views were stated as those of individual Advisory Panel members, by Cornish F. Hitchcock, a representative of Amalgamated Bank/Longview Funds who had recently established the viability of shareholder proposals for adoption of advisory voting, and by Bess Joffe and Paul Munn, both representatives of Hermes EOS whose advocacy of advisory voting at the Forum’s December 2006 meeting and form of shareholder proposal provided a foundation for current interest in the practice.

[4] Advisory Panel member C. William Jones, a prominent activist representing the Association of BellTel Retirees (now Verizon) with the additional perspective of a former senior executive, expressed a widely supported view that efforts should be made to pioneer advisory voting with companies willing to adopt the practice cooperatively.

[5] See item #3 in Forum Report of December 6, 2006 Open Meeting.

[6] See January 8, 2007 Forum Report; also Project Reference – Compensation Facts Database.