I am still out in the field and on assignment in Palo Alto at the Stanford Law School Directors’ College. The keynote speaker on the first full day of the event was Myron Steele, the Chief Justice of the Delaware Supreme Court. Later in the morning, SEC Enforcement Director Robert Khuzami presented what the conference organizers called a “short shot.” Both speakers’ presentations were thoughtful and interesting.


Chief Justice Steele’s presentation addressed his concern about “the significant intrusion of the federal government into corporate governance.” The problem with the changes that both SOX and Dodd-Frank are bringing about is that the new federal statutory standards were enacted without proper appreciation of the possible “unintended consequences” and without a proper “cost/benefit analysis.”


Steele suggests that the Congress adopted the changes even though they were “missing an analytic basis” for the change. Steele described this approach as “faith-based corporate governance,” because the changes were imposed on “faith that changing the corporate governance will result in better corporate governance.” Rather than basing the changes on empirical proof that a certain practice would produce better governance, the changes were “dictated by the politics of the hour.”


Steele’s position is that “the federal government shouldn’t have a role in corporate governance of state-chartered system.” A state-based approach is preferable, according to Steele, because it allows different companies to choose and it allows experimentation, because what works for some may not work for others.


As examples of the alternatives available at the state level, Steele contrasted the approach of two other states, North Dakota and Nevada, with that of Delaware. The critical distinction, Steele asserted is the legal system that is available in Delaware, which provides “predictability, clarity and consistency.” The Delaware legal system provides reassurance to directors that if they act in the best interests of the corporation, then they won’t have to worry about “some bizarre result.”


Steele said that if he had to describe the Delaware judiciary in two words, they would be “prudence” and “reasonableness” – that is, that the courts would be “prudent” in their review and  the courts would apply a “reasonableness” test in their application of the laws. He said that the test of every judicial doctrine in Delaware comes down to that single word – reasonableness.


In answer to a question from the audience, Steele referred to the conduct of the Airgas board taken during the course of the recent attempt of Air Products for a hostile takeover of the company. After Airgas had first rejected Air Products buy out offer, Air Products had managed to bring about the election of a short slate of new directors to the Airgas Board. The reconstituted Airgas board then took up the question whether the date for the next director election should be accelerated, which theoretically could have allowed Air Products to control a majority of the Airgas board and then to have the Airgas poison pill provision set aside. However, the newly constituted board, included the short slate of Air Products designees, declined the election date change and also continued to reject the Air Products offer.


Steele said that the Airgas board’s performance “renewed his faith and confidence in the boards of publicly traded companies” because the newly elected board members did not come onto the Airgas board as “shills” for the would-be acquirer. Rather, when they took their seat on the Airgas board, they took their duties to Airgas seriously.


Khuzami on the SEC Whistleblower Rules: Robert Khuzami’s presentation essentially amounted to a defense of the approach the SEC took in the recently released Dodd-Frank whistleblower rules. Khuzami began by noting that under Dodd-Frank, the payment of the whistleblower bounties is not discretionary, as the statutory provision “requires” the SEC to pay a reward when a whistleblower’s information results in a fine or penalty meeting the statutory requirements.



Khuzami noted that the Commission received a large volume of comments about the SEC’s proposed rules and that many commentators were concerned that the rules will create incentives such that whistleblowers will report “out” rather than “up,” which could create prevent companies from remediating problems themselves. Although the Commission staff met frequently and discussed these concerns at length, in the end the decision was made not to include a requirement that whistleblowers would have to report their information internally first in order to qualify for the bounty, because such an absolute requirement would be inconsistent with Dodd-Frank itself, as the statute has no requirement that whistleblowers report internally first. The Commission was concerned that requiring internal reporting first might “chill” whistleblowers from coming forward, particularly where the person to whom the whistleblower might have to report the information is involved in the misconduct.


However, the Commission recognizes great value in internal compliance, and therefore adopted an approach that, rather than requiring internal reporting, provides incentives for internally reporting. First the final rules give a whistleblower a “120-day grace period,” within which the whistleblower might first report to the company and have the measurement date for determining whether or not the whistleblower was first to report to the SEC related back to the date of the internal report. Also, if the whistleblower reports to the company and the company accumulates information and then self-reports to the SEC, the whistleblower will get the benefit of the entire package of information reported in order to determine whether or not the other bounty requirements had been met.


Khuzami emphasized that the Commission did not want to undermine internal compliance efforts and processes, so there are certain types of whistleblowers who are disqualified from the bounty, including attorneys and internal compliance offices, as well as those who obtained those who obtained their information in violation of the law.


Khuzami said that the Commission and its staff are going to remain attentive and if what they see requires further changes. As for the Commission’s ability to handle the whistleblower reports, he expressed confidence that the Commission could handle the reports, although he added that he does not expect a “huge flood” of reports.