On Aug. 26, Richard C. Breeden, the former SEC Chairman appointed as Corporate Monitor for MCI, filed a report in U.S. District Court that recommended sweeping changes in the firm's corporate governance practices.

DETAILS

Download The Report

Download The Entire Breeden Document, "Restoring Trust"

Commentary

Corporate Governance on Steroids, From Mike O'Sullivan At Munger, Tolles & Olson

About The Report's Author

Richard C. Breeden has over 25 years of financial and governance experience.

During the Administrations of Presidents Reagan, Bush and Clinton, Breeden held a series of government positions that culminated in his appointment to SEC Chairman from 1989 to 1993.

Immediately prior to the SEC, Breeden served four years in the White House as a senior financial and domestic policy advisor to President George H.W. Bush.

For three years after leaving government he served as Chairman of the worldwide financial services practice of Coopers & Lybrand, and in 1996 started his own advisory and strategic consulting firm, Richard C. Breeden & Co.

In July of 2002, he was appointed to act as Corporate Monitor of WorldCom, Inc. on behalf of the U.S. District Court overseeing the case.

He has served as a member of more than a dozen boards of directors or commissions in the U.S. and internationally, including European bank BBVA and WorldCom (ex-officio member).

The report, titled "Restoring Trust," includes 78 recommendations on a wide variety of issues — from yearly director re-election requirements to limits on compensation — and was filed in connection with the SEC's enforcement proceedings against Worldcom (now MCI).

Though many of the proposed standards are followed by other companies, a few — like the process for selecting new directors — would be unique to MCI when put into place.

The report has come under criticism from a number of firms — including Wachtell, Lipson, Rosen & Katz — as being a plan that would "straight-jacket and enfeeble boards of directors," making it difficult to guide the corporation effectively. (Comments from Wachtell are available in column at right)

MCI is required to implement all of the report's recommendations unless it obtains "leave of the Court" not to implement a provision. MCI Chairman and CEO Michael Capellas has already said he approves the recommendations.

Ending "Imperial Reign"

Recent investigations of WorldCom have shown that the company's board ceded power to former CEO Bernie Ebbers, providing him "nearly imperial reign" over the affairs of the company.

According to Breeden's report, though over 80 percent of Ebbers' board would likely meet today's director independence standards, most of the directors had been associated with Ebbers for years and some "owed most of their personal net worth to his actions."

As a result, the independent directors were anything but — there were no checks or balances against Ebbers' power.

In addition, compensation abuse was widespread at the firm, with hundreds of millions of dollars of loans and stock options granted to Ebbers and his top executives and "to whomever he wished, in whatever amounts." Breeden described the retention program as "a giant compensation slush fund."

Recommendations for Change

Breeden's "Restoring Trust" contains 78 individual recommendations on a variety of topics, including:

Establishment Of A Governance Constitution

Articles of Incorporation are to be used as a "Governance Constitution." Governance standards of the company are to be placed in the Articles, where they can only be changed with prior shareholder consent.

More Shareholder Communications

Shareholder votes are required to change governance standards, to approve certain types of compensation programs, and in other situations.

The board of directors is also required to establish an electronic "town hall" where shareholders will be free to communicate with the board and to propose resolutions for consideration, irrespective of whether the proposed resolution would be allowed under SEC proxy regulations.

Resolutions that are adopted through the "town hall" process must be included in the proxy the following year.

New Approach To Nominating Directors

Recommendations require at least one new director to be elected each year.

Shareholders will have the power, if they do not agree with proposed candidates to fill board vacancies, to nominate their own candidates for inclusion in the management proxy statement.

Unless a mutually acceptable compromise is reached, there will be a contested election for filling the vacancies in that year.

Active, Informed And Independent Board

With the exception of the CEO, 100 percent of directors must be fully independent.

The company's CEO will not be allowed to sit on other corporate boards, and independent directors will be limited to sitting on a maximum of three boards, including MCI.

The full board is required to meet at least eight times per year, to hold an annual strategic review, and to attend annual refresher training on topics relating to board responsibilities.

In addition, board members are required to visit MCI facilities each year independently of board meetings, the must meet at least annually with the CFO and General Counsel, independent of the CEO.

There are also high standards for director independence and qualifications.

No compensation, consulting agreements, or payments of any kind to directors is permitted other than board and committee retainers, and there are strict prohibitions against related-party transactions involving board members.

Board members will not be eligible to receive equity grants, though they will receive a "meaningful" board fee in cash and will be required to spend at least 25 percent of those fees to purchase — and hold — company stock.

Non-Executive Chairman

The company is required to create the position of non-executive Chairman of the Board.

Active Board Committees

The Company is required to have an Audit Committee, Governance Committee, Compensation Committee and a Risk Management Committee.

The CEO can not serve as a member of any of these committees, so that each is composed entirely of independent directors. There are minimum meeting requirements for each committee, as well as qualification standards, refresher training requirements, and other required activities.

Term Limits and Auditor Rotation

Directors of MCI will be limited to a maximum term of ten years in office. Independent auditors will also be limited to ten-year maximum term before a required auditor rotation must occur.

Compensation Limits

The MCI board will be required to establish a maximum compensation level for any individual in any year without shareholder approval.

The recommended starting level is not more than $15 million, though the board will be free to set a lower number.

No executive can be granted more than this amount in any year, including cash, equity grants, and all other forms of remuneration, without a vote of the shareholders.

Most "retention" grants are banned, maximum dollar limits are placed on severance awards, and so-called "evergreen" contracts are prohibited. All personal use of corporate aircraft and other corporate assets is prohibited.

Equity Compensation

Breeden's recommendations bar the award of stock options for a minimum of five years, and possibly longer unless shareholders approve their use. The company would be required to expense any options granted at any time.

Equity programs will be exclusively composed of restricted stock awards, all of which must also be expensed on the company's financial statements. A "substantial" portion of restricted stock must be retained by senior officers until after they leave the Company.

Enhanced Transparency And Internal Controls

The company is also being urged to develop disclosure practices that will result in transparency of financial information beyond SEC requirements. Specifically, MCI is required to work to develop enhanced reports of cash flows, and to publish a target dividend policy. The initial target will be for dividends equal to not less than 25 percent of net income annually.

The recommendations also note MCI's historically weak financial expertise, and call for the company to intensify efforts to hire new full time accounting and finance personnel with extensive experience.

Legal Compliance And Ethics

The role of the General Counsel's office is to be strengthened, and existing ethics programs are to be continued and enhanced. The existing "Ethics Pledge" will be required of all new hires and will be extended to all employees. Training in ethics, disclosure and accounting issues will be continued and enhanced as well, and an assessment of MCI's diversity programs will be performed.

Change In Control Devices

The recommendations propose limits on the types of change in control devices that can be utilized, assuming that the board determines to adopt any such provisions. "Dead hand" poison pills and a staggered board are barred, though "chewable" shareholder rights plans are permitted for a limited period.

According to the Breeden report, the goal is to build a "more capable and more independent board of directors, limits on problematic compensation practices, and a much greater emphasis on transparency and integrity in the Company's internal operations."

The recommendations also seek to give more power to shareholders to protect themselves.

The complete text of Breeden's report is available for download in the right-hand column, above.