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November 21, 2002
Companies Face Corporate Governance Hurdles
    by William Baue

Most public companies will need to restructure their corporate governance policies and practices to comply with new listing standards at NYSE and NASDAQ.

In compliance with the Sarbanes-Oxley Act, the New York Stock Exchange (NYSE) and NASDAQ have submitted to the U.S. Securities and Exchange Commission (SEC) proposals for more stringent corporate governance rules for listed companies. Most companies will have to change their corporate governance policies and practices to some degree. The Investor Responsibility Research Center (IRRC) recently released a report that surveyed the current status of corporate governance structures in regards to the proposed rule changes.

The report, entitled Board Practices/Board Pay 2002: the Structure and Compensation of Boards of Directors at S&P 1,500 Companies, examined 1,245 U.S. companies and 11,833 directors. Authors Stacey Burke and Glenn Davis found increasing implementation of "good" governance practices over the past year. However, the report also revealed the persistence of "some disturbing features," such as a shortage of independent directors on nominating committees, a lack of diversity on boards, and extraordinary compensation to audit committee members. In short, most companies will have to roll up their sleeves for some hard work to transform their corporate governance structures to comply with the new listing standards.

"IRRC believes that 66 percent of NYSE companies will have to make some changes to meet new requirements related to independence," Mr. Davis told "Many of these companies will need to create nominating committees to ensure compliance with the NYSE. One in four companies in IRRC's study did not have a committee in place which handled the nominating process."

The report also found that 29 percent of the audit committees, 25 percent of the compensation committees and 48 percent of the nominating committees at NYSE companies are not completely independent.

Looking at individual companies, National City (ticker: NCC) had the highest level of board independence in the study at 93.3 percent. At the other end of the spectrum, companies with the lowest levels of board independence included Dreyer's Ice Cream and Papa John's International, which both have 12.5 percent independence on their boards, and Bed Bath & Beyond (BBBY), with 14.3 percent.

"Companies that already had good corporate governance policies and/or programs include Pfizer (PFE) and Coca-Cola (KO)," said Beth Young, director of special projects for the Corporate Library. "Companies that have indicated they will expense stock options are on a good track. Specific companies that are implementing positive changes, though in some cases they have a ways to go, are AIG (AIG) and GE (GE). AIG had a really insider-dominated board, but recently crossed over to a majority-independent board--though they still don't have a nominating committee."

Earlier this month, General Electric (GE) announced a slew of changes to strengthen its corporate governance. For example, GE is adding three independent directors, and two directors with financial connections to the company will resign. GE's goal is to create a board with two-thirds non-employee, independent directors, a percentage favored by many institutional shareholders, according to the IRRC report. Only 48 percent of corporate boards have reached this threshold yet. Also, GE will be expensing stock options.

Governance and Public Policy ArticlesWhether or not GE's corporate governance reforms are exemplary, they will likely serve as a blueprint, as most companies are waiting for the SEC's final decision on listing standards before implementing changes to the corporate governance structure. However, this does not mean to say that companies are standing by idly waiting for the SEC's pronouncement, as they recognize that corporate governance regulation is only one component of a much broader issue.

"Corporate governance is moving from being seen as a compliance issue--something for shareholders' compliance departments to deal with once a year when voting proxies--to being an issue of investment risk," Ms. Young told "Accordingly, portfolio managers, fund managers and analysts are beginning to think through how to take governance into account when deciding where to put their money. This gives responsible companies an opportunity to lower their cost of capital by communicating to the investment community the ways in which the governance policies and practices reduce investors' risk. The flip side is that companies that are not responsible may have more trouble obtaining debt and equity financing, as investors worry that sub-optimal governance arrangements are correlated with an increased risk of financial statement fraud, self-dealing and poor decision-making."


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