Small businesses are the backbone of American enterprise; however, they are often burdened with unnecessary governance legislation and regulations from the Securities and Exchange Commission. Governance regulations imposed over the years have had an enormous impact on a small company's ability to raise much-needed capital from the public markets. The solution to better governance is not increased regulations but rather fostering the recruitment of higher-quality and more-engaged directors and improving their interaction with the CEO.
Too often, the SEC does not properly consider the economic burden regulation places on small enterprises. This is clearly shown in the July decision of the U.S. Court of Appeals for the D.C. Circuit, Business Roundtable and Chamber of Commerce v. Securities and Exchange Commission. The Court of Appeals chastised the SEC for promulgating a rule requiring U.S. public companies to include shareholder nominees for election as directors in their proxy materials without taking into account the cost-benefit analysis required by law.
If these regulatory burdens promoted improved governance, the resulting cost might be justified. But past experience has proved that not to be the case.
In the mid-1990s, shareholders clamored for more effective governance. For a time, structural regulatory and other fixes placated them. These fixes included: more extensive governance-related disclosures in proxy statements; splitting the CEO and chairman roles; strategic audits and board self-evaluations; appointing lead directors; and guidelines on the composition and role of the boards. These elixirs seduced shareholders into believing that the boards that adopted them were role models for good governance. In reality, a buoyant stock market covered up boardroom shortcomings. Thus, when the financial meltdown struck corporate America, the ineffectiveness of these governance palliatives was magnified. As expected, enhancing the power of the SEC to interject itself into governance is being touted as a potential solution for continued boardroom deficiencies. It did not succeed then and it will not succeed now.
What has remained unsaid in the governance debate is the need for a real fundamental change in the way CEOs and directors perceive their respective roles and an overall improvement in the quality of directors. A successful CEO must recognize that the board has been given certain powers in order to fulfill legal obligations to investors. In turn, the CEO must avoid the temptation to seek "star power" on the board and instead welcome the nomination of high-quality, independent-minded directors with the requisite business and leadership attributes and commitment to the company.
On the other side, directors, whose assets and reputations are at risk, need to be satisfied that the CEO is seeking an engaged board and using it as a resource to assist the company in grappling with major decisions. For example, will the CEO involve the board effectively in setting the company's direction and provide it with the information it needs to assess the issues and risks inherent in the strategy? Will the directors be able to effect course corrections to the CEO's strategy if not satisfied with the company's performance and even remove the CEO in the proper circumstances? It should not go unnoticed that when the U.S. government stepped in to bail out failing companies, it quickly replaced ineffective CEOs and board members.
But as history has shown, legislatures and regulators under pressure from irate investors likely will resort to an unending stream of laws and regulations to impose structural changes at significant cost to companies. Compare proxy statements from the 1980s with those of today to see the significant burden placed on small publicly traded companies. Can any investor, institutional or otherwise, assert with a straight face that the additional mandated governance disclosures imposed by the SEC have provided such a meaningful benefit as to overcome the compliance burdens placed on small publicly traded companies?
If small companies are the panacea to get America moving again, then they need to be able to access the public capital markets without the extra financial burden imposed by increased laws and regulations. It is time to acknowledge the real issues in corporate governance -- the quality of the boardroom suite -- and lessen the financial burden placed on small companies by the piling on of more SEC disclosure requirements.
Mark Kessel is a senior adviser at Sagent Advisors Inc. as well as the co-founder of Symphony Capital LLC.