From today's WSJ:
Former McDonald’s Corp. MCD 0.45%increase; green up pointing triangle Chief Executive Steve Easterbrook agreed to a five-year bar from serving as an officer or director of a public company, to resolve a regulatory investigation over allegedly misleading statements he made about having sexual relationships with employees.
Mr. Easterbrook also agreed to pay a $400,000 fine without admitting or denying the Securities and Exchange Commission’s fraud claims against him, the agency said Monday. McDonald’s also agreed to settle the SEC’s investigation of its conduct, which stemmed from how it described Mr. Easterbrook’s separation from the company in an annual proxy statement for shareholders. ...
The SEC’s action against Mr. Easterbrook highlights the agency’s increased focus on executive pay and related disclosures to shareholders.
I have no sympathy for Easterbrook's conduct. He deserved to be fired.
My problem is: Why is internal personnel/Human Resources/sexual harassment now a SEC enforcement matter?
In my casebook Advanced Corporation Law, I discuss the SEC's use of the proxy rules to affect corporate governance. I start with Gaines v. Haughton, 645 F.2d 761 (9th Cir.1981). Lockheed had made foreign corrupt payments over a period of many years. After the payments came to light, a shareholder sued alleging that the company had violated the proxy rules by failing to disclose the payments. The court drew “a sharp distinction … between allegations of director misconduct involving breach of trust or self-dealing the nondisclosure of which is presumptively material and allegations of simple breach of fiduciary duty/waste of corporate assets the nondisclosure of which is never material for § 14(a) purposes.”
In passing, I mention Amalgamated Clothing & Textile Workers Union, AFL-CIO v. J. P. Stevens & Co., 475 F. Supp. 328 (S.D.N.Y. 1979), vacated sub nom. Amalgamated Clothing & Textile Workers Union v. J. P. Stevens & Co., 638 F.2d 7 (2d Cir. 1980), in which plaintiffs alleged that Stevens’ board of directors violated the proxy rules by failing to disclose an alleged corporate policy to “thwart,” “resist,” and “abuse” federal labor laws. The court dismissed the suit on grounds that a rule effectively requiring the board “to accuse itself of antisocial or illegal policies” would be a “silly, unworkable rule.”
Granted, these cases are not on all fours with the McDonalds case. For one thing, shareholders do vote on matters relating to executive compensation. The SEC takes the position that management integrity is pertinent and material information to which shareholders are entitled. But there is caselaw for the proposition that management integrity is not always material.
In Greenhouse v. MCG Capital Corp., 392 F.3d 650 (4th Cir. 2004), in which plaintiff claimed that the firm’s CEO had misrepresented his college career, the court rejected plaintiff’s argument that management’s integrity is always material. The court distinguished Gebhardt v. ConAgra Foods, Inc., 335 F.3d 824 (8th Cir.2003), on grounds "that the fact misrepresented in Gebhardt—the company’s earnings—might plausibly alter the total mix of information to a reasonable investor; here, Mitchell’s failure to complete his fourth year in college could not." Easterbrook's conduct strikes me as closer to the facts of Greenhouse than Gebhardt.
I point you in particular to this passage from Greenhouse:
Under [plaintiffs'] theory, almost any misrepresentation by a CEO—including, perhaps, one about his or her marital fidelity, political persuasion, or golf handicap—that might cause investors to question management’s integrity could, as such, serve as a basis for a securities-fraud class action. The law simply does not permit such a result.
I thus share SEC Commissioner's Hester Peirce and Mark Uyeda's concern that the McDonalds matter "creates a slippery slope that may expand Item 402’s disclosure requirements into unintended areas – a form of regulatory expansion through enforcement."
The Commission’s Order finds, among other things, that McDonald’s violated Section 14(a) of the Securities Exchange Act of 1934 and Rule 14a-3 thereunder because the company failed to provide the disclosure required by Item 402(b) and (j)(5) of Regulation S-K. Item 402(b) requires companies to disclose all material elements of compensation of named executive officers. Item 402(j) requires disclosure of material factors regarding agreements that provide for payments to a named executive officer in connection with his or her termination. The Order states that McDonald’s violated the aforementioned paragraphs of Item 402 by failing to disclose its use of discretion in treating Mr. Easterbrook’s termination as “without cause” (as opposed to “with cause”) after finding that Mr. Easterbrook violated the company’s Standards of Business Conduct.
...
We are unaware of prior Commission or staff actions or positions applying Item 402 in the way that the Order does. Additionally, the Order can be read to suggest that the underlying reasons for why the company decided to terminate a named executive officer “without cause” instead of “with cause,” and vice versa, need to be disclosed under Item 402. Such “hiring and firing discussion and analysis,” however, is beyond the rule’s scope. A principles-based disclosure rule does not need to expressly describe every possible factual permutation that falls within its scope; however, it also does not provide the Commission with a blank check to find violations when disclosures outside of the rule’s ambit are not made. Industry practice for complying with Item 402 has developed over many years, so to spring a novel interpretation through an enforcement action is not a reasonable regulatory approach.
If the Commission undertook such a regulatory proceeding, it would have to face up to the limitations imposed by Gaines and Greenhouse. Put simply, the SEC's regulatory purview does not extend to C-suite personnel decisions.
