Risk & Governance Weekly

In Brief

Home Depot Adopts Governance Changes

As part of a settlement of shareholder lawsuits, Home Depot has agreed to various governance changes, including greater board independence, new share retention standards for executives and directors, and a formal procedure for considering nominees from large investors.

The settlement, which was approved April 3 by a Georgia state court judge, resolves various federal and state derivative lawsuits that were filed in 2006 and 2007 against Home Depot directors and executives over the timing of stock option grants, former CEO Robert Nardelli’s compensation, and the firm’s accounting practices regarding vendor returns.

In addition to the litigation, Atlanta-based Home Depot has faced significant investor dissent at its last two annual meetings. Ten directors received more than 30 percent opposition in 2006 amid complaints over Nardelli’s pay. Investors also voiced outrage that none of the directors, except for Nardelli, attended that annual meeting. In 2007, Kenneth Langone, a former member of the compensation committee, received a 33.6 percent negative vote, after the home-improvement retailer disclosed that option grants were misdated from 1981 to 2000. Nardelli left the company in January 2007.

Under the settlement, which is to last four years, the company agreed that two-thirds of the directors would be independent.

In a notable change, Home Depot adopted a formal procedure for the nominating and corporate governance committee to consider board candidates proposed by a shareholder group that has held at least 1 percent of the company’s stock for 12 months or more. If the committee, through “the exercise of its business judgment,” decides not to nominate that candidate, the shareholder group would have an opportunity to propose an alternative candidate, according to the settlement. This policy does not appear to be a full proxy access provision, but it is a noteworthy step to give investors a greater role in the board nomination process.   
   
Home Depot also reaffirmed an earlier commitment to institute a majority voting standard in board elections. The company agreed to new disclosure policies on stock option grants to ensure that the exercise price of options is the fair market value on the date of the grant.

In addition, Home Depot agreed to the following changes:

• directors shall receive at least two thirds of their annual retainer in company equity;
• directors and executives must retain at least one third of their shares (after paying taxes) acquired after the exercise of options for at least 12 months after they leave the board;
• all directors will be required to attend annual shareholder meetings;
• shareholders will have the right to ask questions of the CEO and executive officers on matters on the ballot at annual meetings; and
• the CEO and CFO will ensure that vendor returns are properly accounted for.

The shareholder plaintiffs included the City of Pontiac (Mich.) General Employees Retirement System, which is represented by the law firm of Coughlin Stoia Geller Rudman & Robbins. The company also agreed to pay $14.5 million in cash and equity to cover the fees and expenses of the investor lawyers. 

“We think this is an exceptional settlement for the shareholders,” John D. Herman, a lawyer with Coughlin Stoia, told the Fulton County Daily Report legal newspaper. "The sweeping corporate governance reforms represented in this agreement are landmark reforms in a number of respects.” --Ted Allen

Motorola Averts a Proxy Fight With Icahn

On April 7, Motorola announced a proxy contest settlement with billionaire investor Carl Icahn, who owns a 6 percent stake in the telecommunications equipment firm. 

Schaumburg, Ill.-based Motorola agreed to support the election of technology banker William Hambrecht and Icahn fund manager Keith Meister to the board. Icahn had been seeking four board seats at the company’s May 5 meeting. According to news reports, Meister’s candidacy had been a point of contention, as the company argued that he was not qualified. Icahn, however, insisted that Meister be included in a settlement.

Icahn has agreed to drop his Delaware lawsuit that sought to compel the disclosure of board documents that might have embarrassed Motorola directors. In response to Icahn’s demands, the company agreed in late March to spin off its well-known but struggling mobile phone business.

Motorola also announced this week that director David Dorman had been elected as non-executive chairman. Dorman will replace Ed Zander, the current chairman and former chief executive, who plans to retire in May.

Last year, Icahn narrowly failed to win a seat on Motorola’s board. Nevertheless, his 43 percent support in 2007 was considered a strong showing, given the company’s large market cap.

Motorola is another example of the growing number of targeted companies that have reached agreements with activist investors, in part because of the success of dissident candidates in proxy contests. So far this year, 30 companies, including the New York Times Co. and Kraft Foods, have agreed to settlements, according to data compiled by RiskMetrics Group’s M&A Edge staff.

In addition, there are at least 11 companies facing proxy fights in the next month, according to RiskMetrics data. Those firms include Basset Furniture, Vineyard National Bank, PointBlank, Office Depot, Media General, EnPro Industries, Axcelis, Furniture Brands, Phoenix Companies, Hexcel, and Charming Shoppes. --Ted Allen

Issuers and Investors Attend Roundtable on Pay Votes

Some 150 representatives from more than 40 companies, 20 investor organizations, and 10 law firms and compensation consultancies attended an April 8 roundtable organized by the Working Group on Advisory Votes on Compensation.

Pfizer hosted the New York City forum, which was coordinated by Yale University's Millstein Center for Corporate Governance and chaired by Tim Smith, senior vice president of Walden Asset Management. The day-long meeting featured a series of panel discussions on various aspects of annual advisory votes, also known as “say on pay.” The issue continues to divide most institutions and companies, even as five U.S. issuers have agreed to hold such votes. Panel discussions included:

• ways to improve board-shareholder communication around executive compensation;
  
• a review of the United Kingdom’s experience with annual advisory vote resolutions;
  
• how proxy advisory firms analyze executive compensation and view advisory votes on pay; and
  
• how boards are approaching the issue, what concerns them, and how they are communicating with investors.

To encourage open discussion, the attendees agreed that all questions and comments would be kept confidential. Various papers presented to roundtable participants underscored points and concerns raised during the discussions. For example, “say on pay” generally is perceived as positive in other markets, though it has not resulted in pay declines or measurable improvements in pay for performance. Advisory votes likely have added more “rationality” to the pay process, as boards must consider how they will explain their executive pay decisions to shareholders, and whether there is a good business rationale for them.

There is some concern that annual advisory pay votes would require investors to expend more resources to analyze compensation (and may lead them to depend on proxy advisory firms) and that they could stifle boards' creativity in crafting performance-driven programs. However, the papers noted that there is no evidence that “say on pay” votes have had a detrimental impact on companies, investors, or performance in markets where they occur now.

One idea for U.S. implementation would be to make pay advisory votes a listing requirement (to ensure consistency across companies), but allow firms that receive a specified level of support in a given year to skip one or two years before the next required vote. Such a “carrot” could make U.S. issuers more comfortable with the concept, one panelist suggested. --Carol Bowie   

Additional documents on pay votes are available here and here.