“I am shocked that in this time of extreme financial crisis for the bank that you would spend the time and legal expenses to challenge a resolution of this sort when the bank could simply ask the proponent to withdraw in light of the fact that you were now implementing the advisory vote,” wrote Tim Smith of Walden Asset Management in a letter to BofA executives. Walden was behind one of the say-on-pay proxy initiatives. “Is this a sign that bank executives don’t even know how to have a simple conversation with their shareowners to work out a basic agreement?” he scathed.

The BofA case highlights a well-known fact in the relationship between boards and shareholders: what we have here is a failure to communicate. The financial crisis and swooning stock market have heightened investors’ hunger for more information on corporate governance issues. Frustrated shareholders unsatisfied with structures in place for executive compensation, CEO succession planning, board nominations, and other hotly debated governance issues, are calling for a forum to voice their concerns directly to the board. “The collapse of the economic system has everyone talking about corporate governance… boards need to have a rational dialogue with shareholders,” says Stephen Brown, director and associate general counsel of corporate governance at TIAA-CREF.

Currently, the majority of boards do not have an open forum in which both sides are receptive and willing to meet to hear the other side’s concerns. Proxy resolutions, viewed today by some activists as a way to “knock on the door” of boardrooms, could instead become a last resort should changes be made in how investors and directors communicate with one another.

The news is not all bad. According to a recent survey by Spencer Stuart, data collected over the past 10 years from proxy reports filed by S&P 500 companies and surveys of corporate secretaries and general counsels found that 45 percent of respondents reach out to shareholders in some way. However, despite this number, only recently has progress been made toward regular dialogue that seeks to find middle ground between boards and investors. Pfizer was something of a test case in 2007, when it planned a meeting with large shareholders to discuss governance issues. Last summer, UnitedHealthcare Group created an advisory committee to allow shareholders to suggest new directors. PepsiCo signed a broad set of governance guidelines last June known as the Aspen Principle, which includes a promise to facilitate more communication with their shareholders. The boards of Home Depot, Hewlett-Packard, and Northrop Grumman have held dialogues with shareholders on compensation issues or even to discuss board nominees.

The Reg FD Effect

These companies are still the exception rather than the rule. Over the last several years, major changes have occurred that have curtailed the amount of information disclosed to investor groups. Barry Genkin, partner at Blank Rome, who has advised CEOs, boards, and audit and compensation committees in proxy battles, believes a lot of the unrest began when regulation prevented the amount of information companies made public, known as Regulation Fair Disclosure or Reg FD. “Companies used to meet with analysts and those analysts would write up reports,” says Genkin. “After new regulations intended to prevent ‘selective disclosure,’ companies were limited to only information they could place in an 8-K or press release.” Instead of working out other ways to inform investors, companies simply sent out less information, he says.

Edward E. Lawler III, a professor at the University of Southern California Marshall School of Business and founder and director of the University’s Center for Effective Organizations, believes that the SEC’s more recent efforts to push companies for more disclosure has backfired. “In a failed effort by former SEC chairman Christopher Cox, who pushed for more disclosure—what he got was more paper,” argues Lawler. “It backfired. With 30-page proxy statements, I don’t think people became more knowledgeable.”

“Information didn’t dry up,” adds Genkin. “But it wasn’t as robust.” Overall, Genkin agrees that companies have not dealt well with the disclosure requirements to investors. “A constant communication mechanism needs to happen,” says Genkin. “Enlightened companies who are aware of their company’s communication shortcomings need to be very aggressive.”

Some experts think that boards will soon have little choice but to communicate better with large shareholders. “Early on, investors were rebuffed because they were coming from a single direction,” says Patrick McGurn, special counsel at proxy advisory firm RiskMetrics Group’s ISS governance services unit. “Investors were reaching out and directors did not reach back.” McGurn emphasizes that the old way of communication is being absolved. He advises boards to open the door to large investors, and he says progress is being made, with some boards more actively connecting with their largest shareholders and telling them the changes their board is looking to make. “[Directors] want to stop any backlash that might happen when such information is actually disclosed in a proxy statement,” says McGurn. Establishing an open line of communication could help directors and investors avoid lengthy and costly proxy battles later on.

Last year, the National Association of Corporate Directors assembled a blue-ribbon commission on board and shareholder communications. Among its many recommendations was that the governance committee should have oversight of board and shareholder communications and make efforts to ensure that they are open, candid, and productive.

Pfizer’s Breakthrough

The concept of open communications is not new. As far back as 1992, Martin Lipton, a partner at Wachtell, Lipton, Rosen & Katz, and an opponent of “excessive” input by investors, and Harvard Business School professor Jay Lorsch called for the boards of U.S. companies to “meet annually in an informal setting with five to 10 of the larger investors of the company,” according to the paper, Talking Governance: Board-Shareowner Communications on Executive Compensation, co-authored by Stephen Alogna of Deloitte & Touche and Stephen Davis, project director at the Millstein Center at the Yale School of Management and the founding editor of Global Proxy Watch.

“The collapse of the economic system has everyone talking about corporate governance…boards need to have a rational dialogue with shareholders.

- Stephen Brown, TIAA-CREF

“It’s still a very slow and very rare process in the United States for boards to open up dialogue,” says Davis. “The investor relations function tends only to get investors to buy shares when pushing out information, but a two-way dialogue is what is needed.”

An important step toward opening the lines of communication occurred in 2007, when pharmaceutical giant Pfizer’s board decided to plan a meeting with larger shareholders for the sole reason of discussing governance issues. “When it comes to finding channels and pioneering ways of opening dialogue, Pfizer is a good example,” says Davis. Pfizer’s board met with 30 of its largest investors and took questions from them on corporate governance issues. “This is not about strategy, and it’s not about a dog-and-pony show,” Margaret “Peggy” Foran, former senior vice president of corporate governance, associate general counsel, and corporate secretary of Pfizer, said at the time. “[The board] just wants to gather as much information as possible to make the best decisions. I never thought of listening as a dangerous sport.”

Foran, now vice president, general counsel, and corporate secretary of Sara Lee, believes that eventually Sara Lee will follow the example set by Pfizer. She believes informal “listening exercises” involving large investors, lead directors, the CEO, and executives like herself, can lead to an official meeting, such as Pfizer’s. With many issues investors are seeking to address, boards realize that shareholder groups are diverse—and not everyone is going to leave the table happy.

Pfizer director Suzanne Nora Johnson agrees that creating a dialogue can be a positive step in building trust between boards and stakeholders. Yet, she says, the board serves a broad range of sometimes competing stakeholder interests, and it cannot select the ideals of a few at the expense of the many. “There are many different types of stakeholders,” says Nora Johnson. “You have to listen carefully and best evaluate whether the stakeholder has both short-term and long-term interests.” Since the 2007 meeting, the Pfizer board has not met again with shareholders apart from the annual general meeting, scheduled for April. But Nora Johnson says the board found the experience to be beneficial and says it will hold similar meetings again in the future, either annually or biennially.

“I think you will see a lot more informal [meetings between shareholders and directors],” says Foran. “For the past five or six years, boards have gotten more involved, with the help of shareholder proponents like RiskMetrics.” Moreover, Foran says, it’s becoming noticeably routine that all board members are attending annual meetings rather than only a select few.

Yet some directors do not agree that such meetings can be productive. Ashok Shah, a director at Sapient, a technology consultancy, thinks that opening the lines between directors and shareholders could create static. “I believe strongly that the relationship with the shareholder should be with one body in the company,” he says. “Today it’s mostly the CEO and the management team, and having that one relationship with the shareholder is the most productive and healthy method, rather than introducing one more conversation with the board. Otherwise, you have two teams talking with shareholders, which could lead to confusion and contradiction.”

J. Thomas Presby, a director who serves on multiple boards, including American Eagle Outfitters and Tiffany & Co., isn’t sure if greater communication is the answer. “At this moment, I’m not persuaded. I’ve attended a lot of annual meetings; most are orderly, and there are some but not a lot of questions. No one has stood up and said they need more communication,” he says.

To be sure, shareholders are a varied lot, often equipped with competing agendas and different views on governance. Genkin warns of the shareholder wolves in sheep’s clothes—the investor who is only interested in short-term performance. From his experience, there are shareholders out there looking to pursue their own aims under the guise of everyone’s interest. He notes that boards can hone in on who is legitimately concerned with the company’s long-term well-being and those looking for fast returns. Careful listening is required. “I’ve had activist shareholders approach boards saying ‘we’re your friends,’ while offering views that could be useful to the board,” says Genkin. “Some of the ideas of activist shareholders have become beneficial to the company and it becomes a win-win.”

Good Listeners

Many directors are warming up to the idea of establishing better communications with investor groups. Last fall, Bonnie Hill, a director at Home Depot, told a gathering of directors at an NACD conference: “Directors are accountable to—and should be responsive to—shareholders.” She said it should be the lead director or committee chairs who meets with large shareholders and that the talks should be structured and well planned. “The chairman or CEO should be the first point of contact. Then I think there are directors who might be clearly involved, such as the chair of the compensation committee. But it’s important to identify in the boardroom what kind of communication will take place—and who will do what.”

Some directors say that any outreach should be more of a listening exercise for boards than engaging in a back-and-forth dialogue. “It would certainly benefit the company if there were a more open line of communication between shareholders and directors,” says Charles “Randy” Whitchurch, a director at SPSS and Scan Source. “But this should be more of a one-way conversation, the board ought to be hearing the shareholders. I do not think the board should be the voice of the company speaking to shareholders; that’s the role of management. I think the danger of having a conversation is that it will become more of a two-way debate. Directors aren’t always as tuned into what the company’s message is. You run the risk of directors going off message…having been a CFO of a public company for 17 years, it was very important that we followed clear protocols on who and how we communicated with shareholders.”

Thomas C. Wajnert, lead director at Reynolds American, agrees that the focus should be on gathering feedback from shareholders. “Yes, they should be communicating, but I think it should be in the context of listening,” he says. “I think where the board has to draw the line is engaging in a debate—the board needs to be in listening mode.” Governance Road Show Opening the lines of communication means going beyond a telephone call or email. TIAA-CREF’s Brown suggests a “governance road show,” where a combination of general counsels, corporate secretaries, and lead directors, go out to meet with their investors. The hope is that relations will improve and become more accessible if investors know senior leaders in the company are interested in their concerns. “One firm we work with sends its general counsel to make the rounds with its large investors,” says Brown. “The feeling on our side is: we have access and feel as comfortable picking up the phone as he does.”

“I think the dangers of having a coversation is that it will become more of a debate. Directors aren’t always as tuned into what the company’s message is. You run the risk of directors going off message.”

- Charles “Randy” Whitchurch

Boards are expected to enact a more proactive role in listening to issues concerning shareholders. Experts believe that boards who refuse to adjust their communications strategy risk repercussions during proxy season. “The boards who are worried [about lack of communication with shareholders] are who should be least worried,” says Nell Minow, editor and co-founder of The Corporate Library. “Those who aren’t worried…they’re in trouble.” Minow advises that boards be open to more frequent dialogue, even if that means overhauling the way business is done.

Once the doors to dialogue are opened, rather than a lot of “babbling,” says Foran, it is better to seize the opportunity and narrow the criteria. “Shareholders should use the dialogue constructively— not micromanage,” she warns. “If boards allow shareholders to use the opportunity to talk as a weapon, boards are not using their fiduciary duty in the correct way.” Foran believes that in most cases, investors are trying to learn and understand—not attack. She notes some companies are initiating dialogues before a crisis rather than fending off shareholders made angrier because they feel ignored.

There may be another reason to for boards to seek more open communications with shareholders: majority voting. Some experts think that shareholders may withhold votes for directors who they perceive to be unopen to hearing their concerns. “There is a carrot and stick equation with communicating—with majority voting being the stick,” says McGurn. “If companies don’t dialogue when they’re approached by investors, they’ll see some effort to withhold or vote against.” If that begins to happen, some directors may be putting their largest shareholders on speed dial.

The terms of the deal will have Combinato issuing approximately 36 million common shares to Nueromed stockholders; each company will hold about half of the voting power. The combined company will take the CombinatoRx name.

The deal is expected to close in the foruth quarter.

Nueromed is currently conducting late-stage trials for its leading drug candidate, Exalgo, a pain reliever. Specific ownership constraints will depend on the outcome of the drug’s review.

Pfizer offered to divest some or all of its animal health business assets to ease EU regulatory concerns of its merger with the pharmaceutical company Wyeth. The European Commission, the 27-state antitrust regulator, has until July 20 to review the Pfizer’s $65 billion acquisition of Wyeth, according to Bloomberg. Shareholders of Wyeth are also expected to vote on the merger on July 20.

Pfizer would not state specifically what assets it would divest for competitive reasons. It has said before that such action may be necessary. However, any divestiture of its animal health business assets is not expected to be more than 10% of its $4 billion annual revenue.

Pfizer’s acquisition of Wyeth would offset any revenue loss when Pfizer’s Lipitor drug begins facing generic competition in 2012. Lipitor contributes $12 billion to Pfizer’s annual revenues. Pfizer will gain the pneumonia vaccine Prevnar and depression pill Effexor from the deal. According to Pfizer’s Chief Financial Officer, Frank D’Amelio, the merger will help sustain Pfizer’s 2008 sales and profit levels through 2012. Pfizer expects the deal to close by year’s end. 

Global mergers and acquisitions fell by a third in the first quarter to $444 billion, as the economic crisis deterred deal making, reports Reuters.

Despite the bank bailouts and two U.S. drug industry tie-ups, M&A had its slowest first quarter in six years, according to Thomson Reuters data.

Bankers have credited the downturn with the tough economic conditions and do not foresee improvements until credit markets become more welcoming, shares stabilized, and an overall improvement in the economy.

“There’s a lack of confidence in valuations, and a lack of credit,” Ian Hart at Citigroup told Reuters, which advised clients including Pfizer, Lloyds, Essent NV, and the Treasury on several of the year’s biggest deals.

“Executives are very cautious and are focussed on seeing their businesses make it through the downturn,” said Hart, Citi’s co-head of European M&A.

“There will come a time when people feel it’s the right time to move but they don’t feel any need to hurry.”

David Livingstone at Credit Suisse, which ranked top for European M&A, said M&A remained highly dependent on the economic outlook.

“There’s less overall confidence in making strategic moves, and continued dislocation in credit markets. We’d anticipate this situation will broadly continue through the rest of the year,” he said.

Gilead’s $1.4 billion offer comes to $20/share for CV investors, a marked improvement over Astellas’s offer of $16/share in January. CV closed yesterday at $16/share.

“The acquisition of CV Therapeutics represents a unique opportunity to complement and strengthen our growing cardiovascular portfolio,” Gilead CEO John C. Martin said in a prepared statement. CV’s flagship drug is Ranexa, a treatment for chronic angina. Gilead is a maker of HIV drugs, which have sold well in the face of the recession.

The merger marks the third so far this year in a pharmaceutical industry that is rapidly consolidating. Following Pfizer’s decision to purchase Wyeth in January, Merck announced just last week its intentions to purchase rival Schering-Plough.

Richard T. Clark, Merck’s chairman, president, and chief executive who will also head the newly combined company, was optimistic about the future company. “We are creating a strong, global healthcare leader built for sustainable growth and success,” he said. “The efficiencies we gain will allow us to invest in strategic opportunities, while creating meaningful value for customers.”

44 percent of the buyout price will consist of cash, with the remainder based on Merck shares. Merck said that it is committed to keeping its dividend, which is three times as large as what current Schering-Plough holders receive.

The Merck merger comes on the heels of Pfizer’s buyout of Wyeth in January, which was valued at $68 billion. The deal has yet to be finalized.

“This makes Pfizer the first biopharmaceutical company to commit to reporting payments for conducting Phase I to Phase IV clinical trials, in addition to disclosing payments for speaking and consulting,” Pfizer said in a statement.

Despite the global tightening of the credit markets, business leaders in attendance at theWorld Economic Forum forecast that efficiency opportunities could be gleaned from the synergy of M&A actions.

Worldwide mergers dropped 30 percent by volume in 2008, according to data from Thomson Reuters.

“We’re going to see further waves of consolidation as weaker players are taken over by stronger players,” said Mark Foster, global head of management consulting at Accenture, who predicted an M&A surge in the consumer goods, pharmaceuticals, and communications industries.

“The big sector, obviously, in terms of restructuring, is financial services,” said Blackstone Group senior managing director John Studzinski. “There is also an enormous amount of work in energy and infrastructure…I think that trend will continue.”

The big M&A deal so far in 2009 has been Pfizer’s acquisition of Wyeth, as the pharmaceutical giant announced earlier in the week a $68 billion bid for the smaller company.

Pfizer has offered to pay a total of $50.19/share for Wyeth, a 29 percent premium, according to the Journal. Wyeth shares were valued around $38.50/share before news of the merger talks broke last week.

Despite going forward with the deal, Pfizer has certainly been healthier in the past. 2008 Q4 income for the pharmaceuticals company dropped 90 percent in light of $2.3 billion in litigation expenses, which led the company to announce a 10 percent cut in its workforce. Pfizer has already fired over 15,000 employees since 2007.

The merger between the two companies will certainly lead to further job cuts as the two pharmaceuticals manufacturers work to consolidate their processes. The two companies combined produce 17 unique products that generate over $1 billion in annual sales.

The deal is the largest pharmaceutical buyout since Glaxo Wellcome’s acquisition of SmithKline Beecham in 2000 for $76 billion.

The appeal is in the latest in a series of cases the court has agreed to hear on suits brought under state laws concerning FDA-regulated products, such as drugs and medical devices.Two other cases–one involving Medtronic and the other involving Pfizer–are also pending in the Supreme Court’s current term.

In its appeal, Wyeth contends that instructions for Phenergan, an anti-nausea drug, met FDA requirements superseding any state product liability claims.

According to a report this morning in The Wall Street Journal, the Chamber of Commerce hascalled the battle “the business case of thecentury.” The Bush administration has long promoted the idea thatfederal law pre-empts state lawsuits. It has included the notion ofpre-emption in regulations for dozens of products, ranging from suntanlotion to seat belts, and has weighed in on Wyeth’s side before theSupreme Court.

The American Bar Association has posted all briefs filed in support of both the respondent, Diana Levine, and Wyeth.

ImClone Systems is expected to announce later today that it is continuing talks to sell itself to a major pharmaceutical concern for a price in the range of $6.1 billion, according to The Wall Street Journal. Activist investor Carl Icahn has been searching for a higher bid.

The biotech company, which last week rejected an unsolicited offer from Bristol-Myers Squibb to acquire it for $5.4 billion, is expected to announce a deadline by which it hopes to have a deal with its other suitor. The two sides remain in “deep discussions” according to the WSJ, and they believe they can reach a solution within the next few days.

ImClone has also expressed interest in exploring possible deals with Pfizer and Eli Lilly.

ImClone chairman Carl Icahn called the revised offer from Bristol from $60-per-share to $62-per-share “absurd.” He mocked Bristol CEO James M. Cornelius for making it.

“If you wish to make your attorneys wealthier, I can show you more productive ways to do so,” Icahn wrote in an open letter. “Or, if you simply want publicity, I can also help you in that regard without your having to make unnecessary expenditures.”

“If you’re on the industry side,it kills you that Roberts recused himself,” Mark Herrmann, aproduct-liability lawyer at Jones Day in Chicago. “That’s your fifth vote.”

Roberts’s recusal, and others thisterm, have fueled calls for the nine justices to shed their stock holdings andput the money into funds or other investments less likely to create a conflictof interest, according to the Bloomberg news report.

“They ought to be encouraged todump the whole portfolio,” Richard Painter, a law professor at the University of Minnesotain Minneapolis,told Bloomberg.

Painter, who was President George W. Bush’s chief ethics lawyerand worked on the nominations of Roberts and Justice Samuel Alito, called stockownership by jurists “a huge problem.”

Five days before the Pfizerdeadlock, the court considered the $2.5 billion punitive damage award for the1989 Exxon Valdez oil spill without Alito, an Exxon Mobil shareholder. Thecourt ruled on shareholder lawsuits with no input from Justice Stephen Breyer,69, who owned shares of Cisco Systems, the parent of a company involved in thecase.

The report, Talking Governance: Board-Shareowner Communications on Executive Compensation, examines why “sustained two-way dialogue” between directors and shareholders is still rare in the United States. The silence could be due to directors’ concerns that reaching out to large shareholders could be considered selective disclosure, it concluded.

Adopted by the Securities and Exchange Commission in 2000, Reg FD restricts selective disclosure of material corporate information to analysts and large investors without providing it to the public at the same time. The SEC has launched only a few Reg FD probes so far, but the law has been widely considered to have changed the nature of investor relations.

Essentially, the report finds, the argument is that directors could risk disclosing matters of material interest to the market to a select group of shareholders rather than the market as a whole. But there is value in healthy communication, and advantages commonly resonate among those engaged in dialogue:

• Minimizing the use of shareholder resolutions as means of encouraging dialogue
• Humanizing the board, management and shareholders
• Gaining greater clarity with respect to the company’s long-term objectives
• Creating an understanding of the shareholder’s interests in the long-term objectives
• Garnering goodwill and trust from shareowners

“Regulation FD was created to prevent companies from selectively disclosing non-public, material information in a private setting. It does not appear to have been the intention of the commission to restrict private meetings with investors to review governance matters.” -Stephen Davis, Millstein Center for Corporate Governance and Performance, and editor of Global Proxy Watch.

Recently, Office Depot said that the SEC was exploring possible Reg FD violations at the big box retailer. That announcement came at the same time that CFO Patricia McKay announced her resignation.

Not every company considers Reg FD a deterrent to communicating with shareholders. Last year Pfizer announced that it would hold formal talks with large investors to discuss corporate governance matters. It said then that it would not be releasing anything that could be considered new material information during the talks.

The report states that companies motived to start conversationswith investors have commissioned in-house or outside counsel to providebespoke legal advice on the frameworks and constraints affecting suchinitiatives. 

Moreover, if the SEC were to issue market-wide guidance affirming the circumstances under which a director-shareholder communication on governance issues occurs, costs could diminish. Currently, the report finds, companies have had to shoulder a cost burden to produce custom legal guidance.

Stephen Davis, program director at the Millstein Center and co-author of the report along with Stephen Alogna, a vising research fellow of the Center, writes that board members should not shun investors because of the fair disclosure rule: “Reg FD is a caution, not a barricade.” He added that directors and investors can continue to engage in “constructive communication” without running afoul of the rule by adequately education directors on what can or can’t be disclosed in meetings and by developing corporate charters to govern the talks.

“Regulation FD was created to prevent companies from selectively disclosing non-public, material information in a private setting,” writes David, also editorial director for Global Proxy Watch. “It does not appear to have been the intention of the commission to restrict private meetings with investors to review governance matters.”