Nasdaq Proposes Additional Changes to Corporate Governance Rules

August 20, 2002
7 minutes

On July 24, 2002, Nasdaq approved more than 25 new proposals designed to strengthen corporate governance standards. These new proposals supplement the initial corporate governance proposals approved by Nasdaq in May. The proposed changes are summarized below (the changes proposed in May are marked with an asterisk). The status of the rule proposals vary greatly. Some, as indicated below, are already effective. Others have been submitted to the SEC and are awaiting approval, while others have not yet been submitted. We will provide updates on the proposals as soon as they have been approved by the SEC, and effectiveness dates become certain.

Stock Options:*

  • Stockholder Approval Required. Stockholders must approve all option and stock purchase plans in which officers and directors participate and any material modification of a plan.
    • There are no exceptions for broadly-based plans, de minimis issuances or issuances using treasury shares.
    • Exceptions are retained, however, for tax qualified, non-discriminatory benefit plans, plans assumed in a merger or acquisition, and inducement grants for new officers, so long as the inducement grants are approved by a compensation committee comprised solely of independent directors or by a majority of the company’s independent directors.

      The proposal calls for existing plans to be grandfathered, and the rule to become effective 60 days after SEC approval.

Independence of Board of Directors:

  • Independent Directors to Comprise a Majority of the Board. The Nasdaq proposals contemplate that every company must have a board of directors comprised of a majority of independent directors. The adoption of this proposal will result in the Nasdaq requirements mirroring those set forth in the revised NYSE proposals. In addition, Nasdaq would require that the independent directors hold regularly convened executive sessions.
  • Definition of “Independent” Director. The Nasdaq proposals are intended to clarify and tighten the definition of an “independent” director. The additional restrictions will preclude the following individuals from being considered independent:
    • A director who accepts payments, or has a family member who accepts payments, other than for board service (but including political contributions) in excess of $60,000 during the current or previous fiscal year.*
    • A director who is an executive officer, partner or controlling shareholder of any organization (including charities) which received payments from the company exceeding the greater of $200,000 or five percent of either the company’s or the organization’s gross revenue in the current year or any of the past three years.*
    • A shareholder owning or controlling 20% or more of the company’s voting securities.
    • Any relative of an executive officer of the company or any of its affiliates.
    • A former partner or employee of the outside auditors who worked on the company’s audit engagement.

The new proposals include a three year “cooling off” period for directors who are not independent due to:

  • Interlocking compensation committees.
  • Receipt by the director or a family member of payments (other than for board service) in excess of $60,000.
  • Having worked on the company’s audit engagement.

Nasdaq proposes that these changes be applied to newly listed issuers that begin to trade 60 days or more following SEC approval of the proposal. For currently listed issuers, the changes would be applied to the next definitive proxy statement filed in the period beginning 60 days after SEC approval.

  • Role of Independent Directors in Compensation Decisions. The new proposals mandate the involvement of the independent directors in setting compensation for executives of the company.
    • Independent directors will be required to approve CEO compensation, either by an independent compensation committee or a majority of independent directors in an executive session.
    • Independent directors will be required to approve executive officer compensation, either by an independent compensation committee or a majority of independent directors in a meeting where the CEO may be present.
    • A single non-independent director would be permitted to serve on the compensation committee under the “exceptional and limited circumstances” provisions that presently apply to the audit committee, but the exception would be limited to two years.
  • Role of Independent Directors in Nomination Decisions. The new proposals also involve the independent directors in nominating individuals to serve on the board of directors.
    • Independent directors will be required to approve director nominations, either by an independent nominating committee or by a majority of the independent directors.
    • A single non-independent director would be permitted to serve on the nominating committee if:
      • The individual is a shareholder owning more than 20% of the company’s securities (even if that individual is also an officer of the company).
      • Under the “exceptional and limited circumstances” provisions that presently apply to the audit committee, but the exception would be limited to two years.
  • Role of the Audit Committee. The Nasdaq proposals also contemplate a number of new requirements regarding composition and responsibilities of the audit committee. For a detailed discussion of the proposals, please refer to the client alert titled “Important Developments Affecting Audit Committees (Nasdaq-Listed Companies).”
  • Continuing Education for Directors. Nasdaq proposes to require continuing education for all directors, pursuant to rules to be developed by the Nasdaq Listing and Hearing Review Council and approved by the Nasdaq board.

Non-U.S. Companies:

  • Disclosure of Exemptions. The proposed rule would require non-U.S. companies to disclose exemptions to the Nasdaq corporate governance requirements, initially at the time the exemption is received and thereafter on an annual basis. Exemptions are available to non-U.S. companies if the Nasdaq rules would require the company to do anything that is contrary to the laws, rules, regulations or generally accepted business practices of the company’s home country.
  • Filing of Reports. The new proposals require non-U.S. companies to file with the SEC and Nasdaq all interim reports (translated into English, as necessary) filed in their home country, and, at a minimum, file a semi-annual report including a statement of operations and an interim balance sheet prepared in accordance with the requirements of the home country marketplace.
  • Applicability of Listing Standards to Non-U.S. Companies. The new proposals would require non-U.S. companies to comply with the following listing requirements that are currently applicable to domestic companies:
    • Small Cap initial and continued listing requirements for bid price and market value, subject to an 18 month phase-in period.
    • Underlying shares of Small Cap issuers with listed ADRs would have to satisfy the same publicly held shares and shareholder requirements.

Code of Conduct:

  • Adoption of Code. The proposal calls for all companies to have a code of conduct which must be publicly available. The code of conduct must address, at a minimum, conflicts of interest and compliance with applicable laws, rules and regulations. The code of conduct must provide for an appropriate compliance mechanism, with waivers granted to executive officers and directors only by independent directors. Any waivers granted would need to be publicly disclosed.

Other proposals:

  • Listing.
    • Nasdaq has proposed to amend Rule 4330(c) to clarify that issuers may be delisted for failing to provide information or for making material misrepresentations to Nasdaq. Effective immediately.*
    • Nasdaq has also proposed to clarify that it has the authority to deny relisting to any company based on a corporate governance violation that occurred while the company’s appeal of the delisting was pending.
  • Disclosure of Material Information. Currently, Nasdaq rules require that companies disclose information to the public via a press release. The new proposal modifies the rule to allow companies to use all Regulation FD compliant methods (such as conference calls, press conferences and web casts), to comply with their Nasdaq disclosure obligations. In addition, companies will be required to provide notification to Nasdaq StockWatch of certain planned material news announcements that are expected to affect the value of the company’s securities or influence investor decisions (such as financial-related disclosures, reorganizations, management changes, etc.) prior to their release to the public. Effective immediately on SEC approval.
  • Change of Control. Nasdaq will presume a change of control will occur for purposes of the shareholder approval rules once an investor acquires 20% of the company’s outstanding voting power, unless a larger ownership and/or voting position is held on a post-transaction basis by either:
    • a shareholder or identified group of shareholders unaffiliated with the investor, or
    • the company directors and officers that are unaffiliated with the investor.
  • Going Concern Qualifications. This proposal requires the issuance of a press release to disclose any audit opinion that contains a going concern qualification. Although the audit opinion is available in the company’s Form 10-K, Nasdaq believes that this information is so material that it should be brought to the attention of the public through the use of a press release. The release must be made within seven calendar days of the filing of the audit opinion with the SEC. In addition, the company must provide the text of the press release to Nasdaq StockWatch prior to the public announcement. Effective immediately on SEC approval.

Contact Information
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