U.S. lawmakers last night agreed to a bailout bill, dubbed the Emergency Economic Stabilization Act of 2008, that is intended to calm jittery financial markets and provide a comprehensive solution to the credit crisis. Notably, from a governance perspective, the Act will curb some forms of executive compensation at participating firms, though it lacks an earlier draft provision that would have given shareholders a non-binding vote on compensation at the firms benefiting from federal aid.

Sections 111 and 302 of the bill, which will be voted on by members of the House later today, provide for three types of restrictions when the government makes direct purchases of troubled assets from a financial firm:

* Prohibition on executive officers of the firm from receiving "incentives . . . . to take unnecessary risks" that could threaten the institution's value during any period that the government holds its equity or assets;

* "Claw-back" provisions, or those allowing for the recovery by the institution of any bonus or incentive pay based on financial statements proven to be "materially inaccurate"; and

* Prohibition of "golden parachute" severance payments to the institution's senior executive officers (defined as one of the top five executives of a public company, subject to SEC disclosure requirements, and the non-public company counterparts).

If the bailout involves auction purchases of troubled assets, the golden parachute prohibition would be in effect when such purchases exceed an aggregate of $300 million.

Additionally, the bill calls for an amendment to Internal Revenue Code Section 162(m) by adding special rules on the tax treatment of executive pay at firms where the government's aggregate bailout exceeds $300 million. Specifically, it bars tax deductions on pay that exceeds $500,000 to any CEO or CFO or any of the other three highest compensated officers.

While provisions related to "say on pay" and proxy access, or the ability of investors to nominate corporate board members, were excluded in the final legislation, governance observers predict that their inclusion in the draft bill, and growing debate over executive pay, will help spur such reforms in the near future.

"Clearly, executive pay immediately raised its head in the debate because the average citizen has been angered by executives leaving with such large payouts," said Timothy Smith, senior vice president of the environmental, social, and governance group at Walden Asset Management. "This sends a strong signal to the business community that statesmanship would dictate they step forward and adopt 'say on pay' voluntarily without waiting for it to be legislated."

Smith has a been at the center of this year's "say on pay" shareholder campaign, which saw a consortium of investors file shareholder proposals calling for the right at more than 75 companies. Investors at 10 companies so far this year have given majority support to the proposal, while 10 companies this year and last have agreed to allow for future "say on pay" votes or did so this year.

Smith noted that acceptance of government controls on executive compensation violates a basic principle for the business community, which is non-governmental interference in compensation matters. That, coupled with recognition in recent weeks that compensation issues are a major concern not only for investors, but also the average citizen, will "auger well" for any upcoming vote on an advisory pay vote bill.

A House bill allowing for "say on pay" passed earlier this year, though companion legislation, sponsored by Illinois Senator and Democratic presidential nominee Barack Obama, has stalled. Observers say passage of full legislation will be a top priority for the next administration, whether it be Republican or Democratic.

The recent upheaval in the U.S. financial industry has generated another flurry of securities class-action lawsuits.

During September, investors in 26 companies filed new federal lawsuits, according to RiskMetrics Group's Securities Class Action Services data as of Sept. 26. In addition, there were nine new cases brought in state courts. The volume of federal filings exceeds the 20 investor cases filed in September 2007, which was soon after the collapse of the subprime mortgage market. (Editor's note: This data doesn't include lawsuits filed by the Securities and Exchange Commission.) Even before this latest wave of lawsuits, federal case filings were on pace this year to surpass historical averages, largely because of the continuing investor losses caused by the credit crisis.

The pace of filings began to pick up after the U.S. government took over mortgage giants Freddie Mac and Fannie Mae on Sept. 7. The next day, investors sued Fannie Mae and its officers, alleging that they made "materially false and misleading statements" about the firm's business and prospects and misrepresented the company's financial statements.
Investors also filed a separate lawsuit against the five underwriters who participated in Fannie Mae's $2 billion preferred stock offering in May. The defendants in that case include Merrill Lynch, Citigroup, Morgan Stanley, UBS Securities, Wachovia Capital Markets, and four senior executives of Fannie Mae. Likewise, Citigroup, Goldman Sachs, and JPMorgan Chase were sued by Freddie Mac investors over a $6 billion preferred stock offering in November 2007.

After Lehman Bros. filed for bankruptcy protection on Sept. 15, holders of the company's preferred "Series J" stock sued senior Lehman executives and the six investment banks that underwrote that offering. That suit contends that the prospectus for the February offering contained "material misstatements and omissions."

In addition, Constellation Energy was sued on Sept. 22 by investors whose shares plunged over concern that the company's energy trading operations would be hampered by Lehman's bankruptcy.

Another casualty of Lehman's bankruptcy was Reserve Management's "Primary Fund" The money-market fund was hit with multiple lawsuits after its holdings of $785 million in unsecured Lehman debt became virtually worthless after the investment bank's bankruptcy filing. According to Business Week, the case appears to the first time that investors have sued a money-market fund manager for allowing assets to fall below $1 for each dollar put in. Ameriprise Financial also has sued, alleging the fund managers tipped off favored institutional clients about the fund's troubles before Ameriprise's retail brokerage customers could pull their money out.

Other financial firms facing new suits include: Canadian Imperial Bank of Commerce (over disclosure on its exposure to U.S. subprime mortgages); BankUnited (over disclosure of its mortgage lending practices); Northern Trust (auction rate securities); and State Street Global Advisors (investors in the firm's "Intermediate Fund" contend that State Street failed to fully disclose the fund's mortgage investments).

As usual, investors have continued to sue non-financial firms over significant share declines. Among the companies to be hit with recent lawsuits are Carter's, Oshkosh, Spectranetics, Hansen Natural, and NextWave Wireless.

The ongoing turmoil on Wall Street is providing activist shareholders and Democratic lawmakers a historic opportunity to push reforms that could help alter the prevailing U.S. corporate governance model from one that is director-centric to one that is more shareholder-centric.

While the proposed reforms would be welcomed by good-governance advocates, corporate advocates and other observers are warning of unintended consequences from "hasty" congressional decisions as lawmakers race to shore up an economy weighed down by the credit crisis.

Provisions allowing for proxy access, or the ability of shareholders to nominate corporate directors, and non-binding votes on executive compensation, were contained in a draft bill sponsored by House Financial Services Committee Chairman Barney Frank of Massachusetts. That bill also would limit senior executives' compensation by excluding incentives for those who take risks deemed "inappropriate" or "excessive," allow for "claw backs" of ill-gotten gains by executives, and bar severance payments to executives.

A companion draft bill in the Senate, put forward by Christopher Dodd of Connecticut, chairman of the Committee on Banking, Housing, and Urban Affairs, similarly would restrict some forms of executive compensation, though it did not contain a "say on pay" or proxy access provision. Provisions of both Democratic bills apply only to those companies seeking aid under the proposed $700 billion bailout program.

Dodd announced on the afternoon of Sept. 25 that negotiators had reached agreement on "fundamental principles" and that a final bill could be ready within days, but details on governance provisions were not disclosed. Reports indicate that the Bush administration had agreed to some restrictions on executive compensation at companies participating in the bailout.

This is "good governance coming in through the federal backdoor," said veteran Washington attorney John Olson, a partner at the law firm of Gibson Dunn & Crutcher. Olson predicted on Sept. 24 that a final bill may contain a "say on pay" provision, though proxy access is not likely to be included.

According to Olson, supporters of access will have to wait, though potentially not for long. Democratic presidential nominee Barack Obama and Republican presidential nominee John McCain "will likely support access and appoint a [Securities and Exchange Commission] chairman who will push for it," said Olson. "Both have run fairly populist campaigns, so there's a fairly high likelihood they will appoint someone who will get it through."

Other observers share Olson's skepticism of any final bill containing language allowing for access, while still others question the wisdom of legislating governance reforms. "I don't think putting the [governance] provisions into the bill is a good idea," University of Delaware professor Charles Elson told Risk & Governance Weekly. "These issues are complicated, and to add them through the bill in a rush is not necessarily thoughtful."

According to Elson, "say on pay" and access are issues that "need to be settled through hearings and debates" and that the appropriate process for putting in place such mechanisms for shareholders is effectively being "leapfrogged." That, he said, may hinder reform efforts down the road.

"Look at claw-back provisions under Sarbanes-Oxley," Elson said, arguing such provisions were put together hastily, and that observers would now be hard pressed to find cases where those provisions were used successfully.

"Federalizing this issue and leaving federal courts to resolve such concerns is not the way to go," said Elson. "They would not be able to create the consistency of the approach that you see in Delaware, and, ultimately, that would lead to less accountability for shareholders."
Elson called this week's dealings on Capitol Hill the most fluid situation he'd ever seen and that it was "anybody's guess" as to how a final bill might look.

Still, activists were hopeful that the window of opportunity presented by the bailout would not close without significant reforms being legislated, including proxy access.

"One of the critical aspects for us in dealing with this is that there be a strengthening of the governance at these companies so this doesn't happen again," said Daniel Pedrotty, director of the AFL-CIO's Office of Investment. "We need tools to hold boards accountable, and central to that is 'say on pay' and proxy access."

Pedrotty agreed with the need to approach any governance-related legislation deliberately, though he dismissed claims that the House bill did not do so. "The sky will not fall as a result of these reforms, and claims to that effect are just not credible," he said.

Richard Ferlauto, director of pension benefit policy at the American Federation of State, County, and Municipal Employees (AFSCME), said Sept. 23 that he anticipates that the final bailout bill will include some limits on "golden parachute" payments and a claw-back provision. "It's pretty clear there is bipartisan support to demand some reciprocity [from financial firms] on the pay issue," he told Risk & Governance Weekly.

Ferlauto recalled that AFSCME went to court to try to get access procedures in place at American International Group, which was taken over by the U.S. government on Sept. 16. After the union fund won a 2006 court ruling, investors were allowed to file access proposals in 2007, but the SEC barred those resolutions before the 2008 proxy season. "With independent board leadership at AIG, some of this mess could have been avoided," Ferlauto said.

Regardless of what happens with the bailout bill, Ferlauto said he expects Congress will consider legislation to address "say on pay," claw-back provisions, and possible caps on deferred compensation early next year. In the long run, the bailout debate "gives a tremendous impetus to 'say on pay' as a market-wide response," he said. He also is hopeful that Congress will approve access legislation in the future. "Proxy access is an essential part of these reforms," Ferlauto noted.

Support for the House and Senate bills from investors more broadly were noticeably tempered with respect to the "say on pay" and proxy access provisions. In a Sept. 23 press release, the Council of Institutional Investors made no mention of either provision, or expressed support for the House bill over the competing version in the Senate, which lacks those reforms. The council's corporate governance guidelines have long backed proxy access and call on companies to give investors an annual, non-binding vote on compensation. In its statement, however, the council did indicate it supported congressional efforts to curb pay at those firms benefiting from the bailout.

As the global credit crisis continues, several European pension funds have temporarily stopped lending shares of financial companies to discourage short selling, while two U.S. mutual fund groups have halted any new share loans.

The asset managers for the BT Pension Scheme, the largest U.K. pension fund, and Dutch pension giant ADP have stopped loaning shares of U.S. and European banks, according to Global Pensions, a London-based magazine. Paul Lee, a director at Hermes Equity Ownership Services, which manages assets for the BT fund, told the magazine that Hermes decided to take this action before the U.K.'s Financial Services Authority and the Securities and Exchange Commission acted last week to temporarily bar all short-selling of financial stocks. Regulators in Australia, the Netherlands, Belgium, France, Ireland, Germany, Canada, and Switzerland also have acted to curb short selling.

On Sept. 19, the Investment Management Association, which represents the U.K. asset managers, urged its members "to consider carefully the implications of any participation in the lending of stock in U.K. banks, so long as current conditions prevail." Dutch asset manager PGGM also said it would stop lending shares in financial firms, according IPE.com, a pension fund news site.

In the United States, two mutual fund groups, Vanguard Group, and Bank of America's Columbia Management said they have suspended new loans of shares in all public companies, the Boston Globe reported. "We have decided to stop new lending activity for now, until such time investors regain confidence in the market and the volatility abates," a Vanguard spokesman said, according to the Globe.

In Australia, the Equipsuper pension fund suspended its share lending program in March, citing concerns about short selling, according to The Australian newspaper. The fund said it would resume lending if regulators acted to require more transparency.

The California Public Employees' Retirement System (CalPERS), the California State Teachers' Retirement System, the New York State Common Retirement Fund, and Maryland's state pension fund have acted recently to limit the lending of financial stocks. The New Jersey Division of Investment stopped loaning shares to short sellers in July, according to the Reuters news service. The number of stocks excluded from share-lending programs varies by institution; CalPERS pulled four stocks, while the New York fund removed 19 companies.

In a Sept. 22 memo, the corporate law firm of Wachtell Lipton Rosen & Katz called on the SEC to encourage institutions and asset managers to refrain from lending the shares of financial firms or banks for 90 days. The law firm said the agency should also "examine whether there is a potential conflict of interest" for a mutual fund or a pension fund to lend securities to a short seller whose trading activities may decrease the net asset value of the fund's portfolio.

These voluntarily steps by institutions and asset managers to limit securities lending come as the lucrative practice has expanded in recent years. Share lending generated almost $1.7 billion in revenue for U.S. pension and mutual funds in 2006, according to the ASTEC Consulting Group.

As Congress debates the proposed $700 billion bailout of the financial industry, House Democrats are pushing for the U.S. government to require financial firms that receive assistance to hold annual "say on pay" votes on executive compensation, curb severance payouts, and provide for proxy access.

A Sept. 22 draft of the House Democratic bailout bill calls for the Treasury Department to require the following governance standards of firms that participate in the bailout:

* a requirement that the financial institution permit any shareholder or group of shareholders holding, in the aggregate, equity securities of the institution representing three percent or more of the equity securities of the financial institution, access to the proxy solicitation and shareholder vote for any election of the board of directors of the institution for the purposes of nominating and electing a designated individual to the board of directors of the institution;

* a requirement that the financial institution afford all shareholders the opportunity to cast a non-binding vote, in any annual proxy solicitation and shareholder vote, on the executive compensation to be provided to the executive officers of the financial institution; and

* a prohibition on the institution paying severance compensation to its senior executive officers during any period in which the Secretary [of Treasury] continues to hold an equity position in the financial institution.

These governance provisions would apply only as long as the firms participate in the bailout program. While the Senate Democratic bailout legislation does not include proxy access or "say on pay" provisions, the bill does call for "claw backs" of incentive compensation based on earnings that later prove to be inaccurate, as well as limits on incentives to take risks that the Treasury Department "deems to be inappropriate or excessive."

It's unclear whether any of these governance provisions will be included in the final bailout bill. Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke are urging Congress to pass bailout legislation "quickly" to avoid a recession.

Richard Ferlauto, director of pension benefit policy at the American Federation of State, County, and Municipal Employees, which has advocated for "say and pay" votes and proxy access, said he anticipates that the final bailout bill will include some limits on "golden parachute" payments and a "claw-back" provision. "It's pretty clear there is bipartisan support to demand some reciprocity [from financial firms] on the pay issue," he said.

Regardless of what happens with the bailout legislation, Ferlauto said he expects that Congress will consider legislation to address "say on pay," claw-back provisions, and possible caps on deferred compensation early next year. In the long run, the bailout debate "gives a tremendous impetus to 'say on pay' as a market-wide response," he said.

As the House and Senate weigh in on the Treasury's ground-breaking $700 billion plan to bail-out the ailing financial sector, Democrats seem determined to include controls on executive pay at the firms that take advantage of taxpayer largess. As several firms (Citigroup and J.P. Morgan among them) are rumored to be looking at a buyout of Washington Mutual (WaMu). it's worth taking another look at the employment contract that the troubled mortgage lender reached on September 7 with new chief executive Alan H. Fishman, who replaced long-time WaMu head Kerry Killinger.

In addition to taking the CEO post, 62-year-old Fishman will chair the board's corporate development committee. He previously served as chairman of Meridian Capital Group, a commercial mortgage brokerage firm, and was president and chief operating officer of Sovereign Bank.

The terms of Fishman's contract, which runs until 2011, suggest that WaMu's directors were willing to pay generously for a CEO they believe can navigate the bank through continued turbulent waters, with a few safeguards for shareholders built in. According to an 8-K filing on Sept. 11, Fishman's annual salary is set at $1 million, and his target annual bonus equals 365 percent of base salary, or $3.65 million, both matching the levels received by former CEO Killinger in 2007. Fishman's long-term incentive awards will be determined by the board's human resources committee, but--providing that he remains at the company through 2009--his grant value is guaranteed to be at least $8 million.

The Seattle-based financial institution has faced investor criticism in the past over its compensation practices. At the company's annual meeting in April, investors withheld more than 30 percent support from five human resources committee members, in part because of WaMu's decision to shield 2008 executive bonuses from its mortgage losses.

To bring Fishman aboard, WaMu also provided him "inducement" awards of cash and equity. This includes a $7.5 million signing bonus, 5 million options, and 612,500 restricted shares (worth approximately $2.6 million at the Sept. 5 closing price of $4.27 per share). WaMu also agreed to contribute up to $50,000 to cover Fishman's legal expenses to negotiate the contract.

Notably, if Fishman resigns without good reason or his employment is terminated for cause within a "certain" (as yet undisclosed) time, he is obligated to repay all or part of the $7.5 million cash bonus. Also, vesting of the restricted shares occurs in equal increments over three years, subject both to his continued employment and the satisfaction of performance goals each year. These goals are to be "mutually agreed on" by Fishman and the human resources committee within 60 days after he begins employment.

The inducement options all have seven-year terms. Some also have performance conditions, although 25 percent (i.e., 1.25 million shares) are strictly time-based and will become exercisable one year after the grant date. The remainder are to vest in three increments, when the company's average closing stock price over 20 consecutive trading days equals or exceeds the following levels: $10, $14, and $18 per share, respectively.

Fishman's acceptance of these performance strings perhaps reflects his confidence that WaMu's financial health can be restored. But in case things don't work out, the board also strapped him into a "golden parachute" that will ease the pain of any departure. It provides that, if he is terminated without cause or resigns after a "constructive termination," Fishman would receive lump-sum cash severance based on 2.5 times the sum of his salary and bonus (either the award paid for the preceding year or, if termination occurs in 2008 or 2009, the target amount of 365 percent of salary). In addition, any unvested time-based options would become immediately exercisable and remain so for 12 months. His performance-based options would continue to require satisfaction of the stock price targets, but they would remain outstanding until the later of one year after Fishman's termination or three years after his hire date (subject to the seven-year option term). Any unvested shares in his inducement award of restricted stock would also vest as long as the applicable performance goals are satisfied within 12 months after his termination.

In case WaMu goes the way of Merrill Lynch and is acquired, Fishman's severance package would be grossed up to compensate for any excise taxes related to change-in-control payments. A sale appears to be a real possibility. The New York Times reported that WaMu has retained Goldman Sachs to put the firm up for auction. On Sept. 17, TPG Capital, which provided WaMu with a $7 billion capital infusion earlier this year, said it was willing to accept dilution of its stake to facilitate a sale or outside cash infusion.

For his part, Fishman agreed to covenants related to confidentiality and intellectual property rights, as well as a two-year post-employment non-solicitation and non-competition agreement. He may waive the latter in the event of his termination without cause or "constructive" termination, but only if he also waives his right to severance benefits.

Some Severance Payments Beat the Regulators
The Federal Housing Finance Agency, which took control of Fannie Mae and Freddie Mac, says it will curtail severance payments to their ex-CEOs. But at least two CEOs of ailing firms may have gotten away with hefty golden parachutes before the government could intervene.

Based on information in the company's 2008 proxy statement, WaMu's board deemed Kerry Killinger's separation a "termination without cause," which should entitle him to a cash severance payment of $16.5 million (as disclosed in the proxy). That is based on three times the sum of his base salary and the higher of his actual or target bonus. Killinger's equity awards are also slated to be cashed out--that portion of his parachute was worth more than $5.8 million at the end of 2007, but only about $1.8 million based on the Sept. 5 closing price prior to his Sept. 7 termination date. Killinger, a 32-year veteran of the company, also had accrued pension and deferred compensation totaling about $18 million, according to proxy disclosures.

Of course, the feds have not taken over WaMu, but at AIG--which they have--former CEO Martin Sullivan was ousted in June as a resignation for "good reason." He was thus entitled to approximately $19 million in cash termination pay, consisting of a $15 million severance payment and a pro rata bonus of $4 million, according to an AIG 8-K filing on July 1. Under an employment agreement that Sullivan had negotiated with the company in March 2005, he was entitled to receive only cash severance payments after a resignation for "good reason." However, as part of the March 2008 extension of his contract, Sullivan became eligible for continued vesting of long-term awards that the company said were worth about $28 million at that time; some are subject to performance goals that presumably will not be met, however.

The turbulent market of a mere few months ago has reached a new highpoint. And as the heat continues to rise, some feel that a meltdown of the financial market may be closer than anticipated. The effects can be felt throughout the institutional investor community, as many look to sell their securities in favor of less risky investments. RiskMetrics Group will hold a webcast, Financial Markets: The Financial Storm Continues for Institutional Investors, on Tuesday, September 23 at 1:30 p.m. EDT.

With the federal government bailouts of some of the world's leading financial institutions and the mounting fear and anxiety felt by investors globally, it is essential for institutional investors to have the latest information and insight in order to make sound portfolio decisions. During this webcast, RiskMetrics Group's Financial Research & Analysis Financial Sector senior analysts, Zach Gast, Nathan Powell and Kevin Mixon, will share their forensic accounting perspective as it relates to:

-The impacts on the broader financial sector, including the federal government's response, counterparty risk and fair value accounting;

-The status of the banking sector; and

-Trends and developments in the U.S. and Europe.

To register for this webcast, please visit here.

We've been receiving quite a few questions lately asking why the government has structured the Fannie Mae/Freddie Mac takeovers at 79.9% ownership, rather than 80% or some other figure.

My answer is that it likely is related to taxes. The IRS did a special ruling in the last couple of weeks that basically allowed them to takeover Fannie and Freddie without it qualifying as a "change in control" for tax purposes. A change in control would have threatened all the huge deferred tax assets which have built up with the recent losses. Without those deferred tax assets (in the form of net operating losses or NOL's), the companies would be much less valuable no matter what they decide to do with it (keep in conservatorship, sell off in pieces, spin back out to the public…) The change in control formula limiting the NOL's takes into account the market capitalization at the time of the change. So had they not issued this new rule, the plunging market caps at Fannie and Freddie would have substantially limited the NOL's they would have been able to retain post change in control.

There's a good article on this at cfo.com. To access the article, please visit here. The AIG loan/bailout is also just less than 80% I believe, for probably the same reasoning.

The SEC said Sept. 17 that it would move to prevent naked short sales of all publicly traded companies in a bid to calm jittery markets reeling from upheavals in the U.S. financial sector.

Earlier this summer, the commission had barred naked short sales on 19 financial stocks under an emergency authority that expired Aug. 12. This week's market turmoil may have forced the commission to extend the rule far more broadly than expected.

"These several actions today make it crystal clear that the SEC has zero tolerance for abusive naked short selling," SEC Chairman Christopher Cox said in a statement.

In a standard short sale, the seller borrows a stock and sells it, with the understanding that the loan must be repaid by buying the stock in the market. But in an abusive naked short transaction, as defined by the SEC, the seller does not actually borrow the stock, and fails to deliver it to the buyer. For this reason, commission officials argue, naked shorting can "allow manipulators to force prices down far lower than would be possible in legitimate short-selling conditions."

The commission adopted three rules designed to address specific concerns related to naked short selling. The first rule would require short sellers and their broker-dealers to deliver securities by the close of business on the settlement date (three days after the sale transaction date, or "T+3") and impose penalties for failure to do so.

The second would mandate options market makers to abide by the hard T+3 closeout requirements that effectively ban naked short selling, while the third, Rule 10b-21, addresses fraudulent actions tied to naked short selling. Specifically, it covers short sellers who "deceive broker-dealers or any other market participants," and clarifies that those who "lie about their intention or ability to deliver securities in time for settlement" will be in violation of the law when they fail to deliver.

Today's actions will be welcomed by the business community and on Capitol Hill where lawmakers have been pressing the SEC to take action on naked short sales and other activities deemed to increase market volatility.

In a Sept. 16 press conference, Senate Banking Committee Chairman Christopher Dodd, D-Conn., told reporters he was disappointed with the SEC's inaction over naked short selling and called on Cox to address the issue urgently in light of market turmoil.

Meanwhile, corporate law firm Wachtell, Lipton, Rosen, & Katz this week called on the SEC not only to extend its emergency order on naked short selling to all companies, but also to reinstate the so-called Uptick Rule, which has regulated short selling since the late 1930s. The rule, which mandated that short sales only be allowed when a share was trading up and was designed to prevent precipitous declines in share price due to shorting, was eliminated last summer. The SEC believed the 70-year-old rule was antiquated and took the step last July after running a pilot program to gauge its efficacy in regulating modern capital markets.

"The limitations of the SEC's pilot program, which was conducted in a period of a rising market and unusually low volatility, are painfully clear," Wachtell attorneys Edward D. Herlihy and Theodore A. Levine wrote in a Sept. 16 memo to clients. "The risks associated with unrestricted short selling in these periods of high volatility and large market declines were necessarily beyond the pilot's scope."

The 2008 Australian proxy season, which gets underway at the end of September, promises to be dramatic. As has happened in a number of global capital markets over the past year, the credit crisis has exposed shortcomings in the risk management practices and business plans of Australian companies, while a slowdown in the world economy also has focused investor attention on links between executive pay and company performance.

Three key issues look set to dominate the proxy season: Director quality, executive pay, and the fate of listed, externally managed vehicles trading at significant discounts to director valuations.

The 2008 season is likely to be the first in several years where executive pay will not be the primary focus; Australia has since 2005 had a mandatory annual non-binding vote on company remuneration reports, and the 2007 season saw two major companies, AGL Energy and Telstra, have their remuneration reports defeated by large margins.

Director quality, however, is likely to trump pay as the key issue for 2008 after the credit crisis caught many Australian companies seemingly unprepared. Many of these companies will face annual meetings between September and November and some of their directors may be at risk of losing their seat in the face of shareholder anger. Notably, Australia mandates a majority vote standard for director elections.

A prime casualty of the credit crisis and key focus of investors will be Centro Properties Group and its listed subsidiary, Centro Retail. The twin entities' inability to refinance their debt has left them at the mercy of bankers for nearly a year, and directors of both entities will be facing a host of questions from investors over what they perceive to be inadequate disclosure and poor risk management.

Also facing scrutiny will be directors of Allco Finance Group, the investment and finance firm that has since early 2008 relied on bankers to stay afloat when a collapse in its market value triggered debt covenants. Directors of Allco who approved the disastrous December 2007 purchase of property manager Rubicon, a business in which Allco's former executive chairperson and another Allco director had major shareholdings, are also likely to face scrutiny, not only at Allco but at other companies at which they are directors.

Incumbent directors of ABC Learning Centre, the child-care operator that has been forced to delay the publication of its 2008 results as its new auditor reviews its accounting practices, are also likely to be under the microscope. The company announced significant changes to its board earlier this year in a bid to address investor concerns after a loss of market confidence around disclosure issues following its interim 2008 results. Still, the firm's inability to finalize its 2008 accounts suggests investors will still have questions for the remaining directors.

Aside from these high-profile victims of the credit crisis, directors of companies such as IAG, Foster's, Transurban, Challenger, and Mirvac are likely to face stormy meetings as investors question them over failed acquisitions, substantial payouts to departed executives, and faltering performance.

The decline in the Australian equity market over the past 12 months is also likely to lead to renewed interest in executive pay. As noted above, large payouts to departing CEOs are likely to again be a focus, and signs are emerging that some boards will be seeking to "compensate" executives for the impact of external economic factors on company performance. This is unlikely to be received well by investors, given many company executives have enjoyed windfall gains stemming from increased bonus payments over the past five years as the Australian economy boomed.

Part of the fallout from the credit crisis is the steep decline in the value of externally managed listed entities investing in infrastructure or similar assets. These funds, many of which will face investors at meetings over the next three months, have generally carried high levels of debt, leading to investor anxiety as debt has become more expensive and harder to find. Such worries were heightened when one entity, Babcock & Brown Power, announced a shortfall as it attempted to refinance debt following acquisitions in late 2007.

Governance features of these entities, especially the fees paid to external managers and the level of power they enjoy, have also come under scrutiny as security prices decline. Several entities managed by Babcock & Brown are seeking to renegotiate management agreements with that firm, while investors in some other funds have called for the entities to be wound up. The market's corporate regulator, the Australian Securities & Investments Commission, has already signaled that these entities, and in particular their attempts to reduce the discount between director valuations and security prices, are likely to be a major area of focus as the watchdog deals with the post-credit crisis market environment.

The U.S. Securities and Exchange Commission has released a proposed road map for U.S. publicly traded companies to transition to international financial reporting standards (IFRS). The SEC estimates that perhaps more than 100 companies will qualify for IFRS reporting as early as 2009, with the proposed shift being complete by 2015. This transition away from U.S. GAAP will create challenges for investors seeking to analyze and compare the financial statements of U.S. companies.

Marc Siegel, RiskMetrics Group's Head of Accounting Research and Analysis, will lead a webcast on Wednesday, Sept. 17 at 10 a.m. that will outline what investors can expect from such changes. During the webcast, Mr. Siegel will also discuss:

-The potential impact this change in accounting standards has on the institutional investor.

-The SEC's rationale and proposed timeline for moving companies to IFRS.

-Examples of how the IFRS and U.S. GAAP approach critical accounting issues differently in different industry sectors.

To register for the webcast, please visit here.

Members of the International Working Group of Sovereign Wealth Funds agreed in early September to a voluntary set of principles to guide their governance, accountability, and investment practices. The principles are currently being debated by the funds' home governments, and will be publicly disclosed at an International Monetary and Financial Committee meeting in Washington on Oct. 11.

"These principles and practices will promote a clearer understanding of the institutional framework, governance, and investment operations of [sovereign funds], thereby fostering trust and confidence in the international financial system," said working group co-chairs Hamad al Suwaidi, undersecretary of the Abu Dhabi Department of Finance and a director of the Abu Dhabi Investment Authority, and Jaime Caruana, counselor and director of the International Monetary Fund's Monetary and Capital Markets Department.

Roughly two dozen nations comprise the working group, dubbed the IWG, including several that operate sizeable sovereign funds (SWFs) such as Australia, Singapore, Russia, China, Norway, and Qatar. By most estimates, SWFs now collectively manage $2-3 trillion in assets, while some analysts project those holdings will grow to between $10 and $15 trillion by 2015. Growth will depend on commodity prices and exchange rates, however, given that most SWF wealth is derived from oil and natural gas sales and export-account surpluses.

Sovereign funds have received widespread media coverage for taking stakes in Merrill Lynch, Citigroup, and other distressed financial institutions in the U.S. and Europe. Some regulators, politicians, and financial market participants have debated the wisdom of allowing for SWF investment in the absence of robust transparency and disclosure regarding the funds' investment motives.

To address these concerns, the Group of Seven finance ministers last October called on the IMF to develop a code of conduct to address SWF transparency, governance, and disclosure. The Organization for Economic Cooperation and Development is developing best practices guidance for countries receiving SWF investment. Some countries, meanwhile, are also proposing limits on investment that could ward off sovereign investors. The German government last month proposed legislation to bar foreign entities from purchasing large stakes in key domestic companies. The law would apply to investments of 25 percent or more by buyers outside the European Union or European Free Trade Association. The law, which still requires approval by parliament, would allow the government "to intervene within three months of the deal being made, but only if it was thought to pose a security threat," BBC News reported.

The specter of such a law has not deterred some companies from seeking out sovereign funds in bid to shore-up their long-term investor base, however. German industrial conglomerate Siemens is now in talks with Russian and Gulf-based funds, according to press reports.

We "would very much welcome an active involvement" by sovereign funds, Joe Kaeser, Siemens' chief financial officer, told the Financial Times. "We are very open to anyone who would want to join us as an investor…"

SEC commissioners voted Aug. 27 to publish for comment a proposed "roadmap" that could require U.S. corporate issuers to begin filing accounting statements using International Financial Reporting Standards, or IFRS, as early as 2014. Officials say the commission would make a decision by 2011 on whether IFRS is in the "public interest," while a finite number of select companies will be allowed to file in IFRS as early as 2009.

"An international language of disclosure and transparency is a goal worth pursuing on behalf of investors who seek comparable financial information to make well-informed investment decisions," SEC Chairman Christopher Cox said in a press release noting the plan. "The increasing worldwide acceptance of financial reporting using IFRS, and U.S. investors' increasing ownership of securities issued by foreign companies that report financial information using IFRS, have led the [SEC] to propose this cautious and careful plan." U.S. issuers now use the Generally Accepted Accounting Principles, or "U.S. GAAP."

The Council of Institutional Investors (CII), which represents U.S. public, union, and corporate pension funds, expressed concern about whether the IFRS will be as rigorous and useful as GAAP. The council also questioned the independence of the International Accounting Standards Board (the London-based group that oversees IFRS) and said the board needs more investor representation. "We urge the SEC to make the switch when, and only when, international standards meet or exceed the high level of investor protection that current U.S. standards afford," Jeff Mahoney, CII's general counsel, said in an Aug. 28 statement.

The SEC's move is a signal of the growing dominance of IFRS. More than 100 nations–including all European Union member countries–currently require or permit IFRS reporting, according to the SEC. Approximately 85 of those countries require IFRS reporting for all domestic, listed companies. Moreover, a host of countries including Canada, India, Brazil, and South Korea are slated to use IFRS in the coming years.

While some U.S. companies with a significant global presence may begin using IFRS in 2009, few companies overall appear ready to adopt IFRS. A 2008 survey by accounting firm Deloitte & Touche found that 36 percent of respondents had not yet considered a plan for adoption of IFRS. Moreover, nearly 42 percent of respondents indicated they would not consider adopting IFRS, while 30 percent would, and a further 18 percent were undecided. The full roadmap will be published in the Federal Register; public comments will be due back to the commission within 60 days of publication.

RiskMetrics Group will hold a webcast on Wednesday, Sept.17 at 10 a.m. EDT titled, Accounting Convergence: What Investors Need to Know about IFRS. Marc Siegel, RiskMetrics Group's Head of Accounting Research and Analysis, will outline what investors can expect from such changes. To register for the webcast, please visit here.