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: The Race to the Bottom

The SEC and the Erosion of Director Independence (Part 2)

By J. Robert Brown

We are reviewing Exchange Release No. 58367 (August 15, 2008), where the SEC approved changes to the NYSE definition of director independence.  The changes weaken the definition.  The first change was to raise the amount of "direct compensation" a director could earn and still remain independent.  The second concerned relationships with the outside auditor. 

Section 303A provided that a director lost his/her independence if an immediate family member was a current employee of the accounting firm and worked in the audit practice.  As the release noted: 

• "NYSE's current test has required a listed company's board to conclude that a director may no longer be deemed independent when the director's child took an entry-level job in the audit practice of the listed company's external auditor upon graduation from college, notwithstanding the fact that the child was a low-level employee in a different region and had no involvement with the listed company's audit."  

The solution?  Disqualification occurs only when the family member is a partner of the auditor or works on the lited company's audit.  What does this exclude?  Employees who are not partners but work in the same office where the audit takes place; employees who work on the company's account but are not actually working on the audit (providing, for example, assurances or tax compliance advise); and employees who are not partners but otherwise participate in the setting of standards that could affect the company's audit.

The NYSE identified a problem, albeit one likely to arise rarely.  Nonetheless, in solving the problem, it would have been easy enough to exclude employees who are not partners, not in policy making positions, and conduct no work for the company subject to the audit.  Instead, the change permits a far broader category of relationships than the specific problem identified by the NYSE.

That the NYSE would come up with these changes is no surprise.  The organization is, after all, a for profit business that benefits by making listing standards easier.  It is the SEC that is the gatekeeper and should ensure that investors are protected.  There is no indication with that change that the SEC played this role. 

 

Full post as published by The Race to the Bottom on August 28, 2008 (boomark / email).