Thu, Jul 18, 2024

The official Financial Regulation Journal of SAIFM

LTSE proposes listing standards to support long-term value creation

By Cydney Posner

As evidenced by Corp Fin’s most recent Roundtable, short-termism is a major concern of SEC officials, both in terms of its potential impact on Main Street investors—who are investing for the long term to fund their retirements and other long-term needs—and its potential to deter companies with a long-term focus from becoming public companies, instead driving them to seek funding in the private markets, where short-termism is less of a factor. (See e.g., this PubCo post and this PubCo post.) As SEC Chair Jay Clayton commented during the Roundtable, with so many companies delaying their IPOs or avoiding them altogether, at the end of the day, he was concerned that, in 10 years, the general public would not be able to participate in 70% of the economy because those companies would be privately held. (See this PubCo post.) Will the Long-Term Stock Exchange, a novel concept for a stock exchange that was approved by the SEC in May (see this PubCo post), come to the rescue?

Much has been written about the problems associated with the prevalence of short-term thinking in corporate America. As noted in a post from The Harvard Law School Forum on Corporate Governance and Financial Regulation, an academic study revealed that “three quarters of senior American corporate officials would not make an investment that would benefit a company over the long run if it would derail even one quarterly earnings report.” (See this PubCo post and this article in The Atlantic.) There are, of course, many points of view with regard to the causes of short-termism, with blame attributed to, among other things, executive compensation (see this PubCo post and this PubCo post), pressure from Wall Street to increase quarterly results (see this PubCo post), traders’ compensation (see The Atlantic), the “legal underpinnings” of capital markets regulation and the business model and prevailing culture of the investment management industry (see this PubCo post), caselaw regarding directors’ fiduciary duties (see this PubCo post), and, perhaps most significant, hedge-fund activism (see this PubCo post).

The San Francisco-based LTSE, which is expected to begin accepting listings and to start trading later this year, is a concept that started to come to fruition in 2017, backed by some heavy-hitting investors. (See this PubCo post.) The concept is to offer, through listing standards and other tools, a “new approach to governance designed for the mutual benefit of companies and investors.” In particular, LTSE’s founder said that he discovered in his conversations with entrepreneurs that many were reluctant to go public. Why? Always for the same reasons: “managers are concerned. Concerned about losing control of their company. Concerned about having to manage to the quarter. Concerned about compromising the company mission. Concerned about the distractions that take energy away from serving customers and creating value. Concerned about being punished by the markets for investing in anything other than driving short-term metrics.” What was needed, he decided, was “a new public securities exchange designed to promote long-term value creation.” The new exchange would “craft a new bargain between great companies and long-term-oriented investors that share the collective goal of innovation and value creation.”

While the LTSE would certainly “be a marketplace for buying and selling shares of listed companies,” the Exchange’s CEO explained, the LTSE expects that when companies list shares for sale to the public, “they will adopt a set of governing practices that are designed to help them build lasting businesses and empower long term-focused shareholders. For example, we expect that companies listed on LTSE will, among other things, develop indicators of progress toward long-term success and link executive pay to long-term performance. And that they will disclose investments in long term-focused research and development, and explain their approaches to community, diversity, and the environment.”

As discussed in this PubCo post from 2017, the LTSE had originally planned to include, as part of its “bargain” with listing companies, these three tenets:

  • Additional disclosure policies, such as a moratorium on “guidance,” and disclosure requirements that allow investors to know what investments the company is making, such as more detail on R&D spending.
  • Tenure voting, meaning that long-term holders (which the exchange’s founder refers to as “citizens of the republic,” according to the NYT) have incrementally more voting power than short-term holders (termed “tourists”), so long as the investor discloses the real name of the beneficial owner. (For a discussion of tenure voting, see this PubCo post from 2015.)
  • Selection from “a menu of LTSE-approved compensation plans designed to make sure executive pay is not tied to short-term stock performance,” with vesting required for at least five years and recommended for as long as 10 years, even after the executive may have left the company. Reportedly, these plans would avoid bonuses tied to metrics such as EPS, which, the exchange’s founder believes, “pushes [executives] to goose the numbers.”

With regard to the tenure voting component, which was criticized in a comment letter from the Council of Institutional Investors, the founder has acknowledged that it’s “likely that the tenure voting proposal, which is controversial among many market watchdogs, will need to be revised,” according to the However, the other principles were not evident in the LTSE’s listing application either. In response to the LTSE’s application for approval as an exchange, the SEC concluded that its corporate governance standards were “substantially similar to the corporate governance listing standards of other exchanges, such as the NYSE and Nasdaq, including its Voting Rights Policy.” Tenure voting aside, what happened to the LTSE’s much ballyhooed governance practices for listed companies focused on long-term value creation? Where’s the beef?

It turns out that a lot of the beef is in this Notice of Rule Proposal recently filed with the SEC, which, if approved, would provide for new listing standards that “require companies listed on the Exchange to develop and publish certain policies that the Exchange believes will facilitate long-term focus and value creation.” Under the proposed new listing standards, the company would be required to review all of these policies at least annually and make them publicly available on or through the company’s website, disclosing that fact in its proxy statement or 10-K. These policies would be required to be consistent with the set of principles below, developed by the LTSE and its affiliates over several years to promote long-term value creation and to help combat short-term pressures:

  • “Long-term focused companies should consider a broader group of stakeholders and the critical role they play in one another’s success;
  • Long-term focused companies should measure success in years and decades and prioritize long-term decision-making;
  • Long-term focused companies should align executive compensation and board compensation with long-term performance;
  • Boards of directors of long-term focused companies should be engaged in and have explicit oversight of long-term strategy; and
  • Long-term focused companies should engage with their long-term shareholders.”

The LTSE believes that adding these mandated policies to its listing standards will help to differentiate LTSE-listed companies for investors that want to “promote long-term focus and value creation.” Listed companies will have flexibility to develop policies appropriate to their businesses, so long as they include certain minimum elements and are consistent with the principles identified above. LTSE’s proposed new policy requirements are described below (substituting “company” for the LTSE’s defined term “LTSE-Listed Issuer”):

Long-Term Stakeholder Policy

This policy would explain how the company, in operating its business, takes into account “all of the stakeholders critical to its long-term success. At a minimum, this policy must include a discussion of (i) the stakeholder groups the company considers critical to long-term success, (ii) the company’s impact on the environment and its community, (iii) the company’s approach to diversity and inclusion, (iv) the company’s approach to investing in its employees, and (v) the company’s approach to rewarding its employees and other stakeholders for contributing to the company’s long-term success.” The LTSE believes that consideration of sustainability and various stakeholders enhances long-term planning.

Long-Term Strategy Policy

This policy would explain how the company “prioritizes long-term strategic decision-making and long-term success,” and would include a definition of the company’s “long-term time horizon,” and include a “discussion of how this time horizon relates to the company’s strategic plans, how the company aligns success metrics with that horizon, and how it implements long-term prioritization throughout the organization.” The LTSE believes that “long-term” success should be measured in “years, decades, and generations rather than quarter-by-quarter, and this approach should be integrated into strategic planning and decision-making throughout the organization.” Disclosure of this policy is also intended to “increase transparency for shareholders on the strategic goals of the company’s managers and provide for greater alignment and accountability between a company’s long-term vision and investor expectations.”

Long-Term Compensation Policy

This policy would explain how the company aligns executive and board compensation (financial and non-financial) with the company’s long-term success and long-term performance metrics. The Exchange believes that long-term focused companies seek to align the compensation of their executive officers with long-term performance. Even though much of this information is required in CD&A, the LTSE believes that the policy disclosure would still be helpful because it would extract and possibly expand on the CD&A discussion “most relevant to a long-term focus.”

At the recent Corp Fin Roundtable on short-termism, one institutional investor attributed the problem of short-termism to a misalignment of incentives, beginning with the confluence of deeply embedded incentive schemes that have long promoted short-term interests, including, for example, large components of equity compensation for management triggered by short-term performance goals. With that as the root cause, he suggested, an answer might lie in shifting the focus to long-term incentives. He indicated that some benefit might result from the increased attention to long-term plan metrics and investor dialogue that have stemmed from say on pay. He also discussed the need for companies to promote their long-term strategies and marry those with investor needs, such as by laying out their core purposes and how they plan to address big trends and big risks. This type of disclosure would help provide a context in which investors could better judge “misses.” (See this PubCo post.)

Long-Term Board Policy

This policy would require the company to explain the nature of the involvement of the company’s board in maintaining the company’s long-term focus, including “discussion of whether the board and/or which board committee(s), if any, have explicit oversight of and responsibility for long-term strategy and success metrics.” The LTSE advocates a forward-looking engagement role for the board on strategy rather than a role in “primarily an audit function and looking backwards, as many boards seem to today.”

Long-Term Investor Policy

This policy would require the company to explain how it engages with long-term investors. In the LTSE’s view, “forward-thinking companies value long-term investor input and consider their perspective on company governance as important to the development of the company’s long-term strategy.” Engagement is also likely, in the LTSE’s view, to better enable investors to support a company’s long-term approach.

In its application, the LTSE also indicated its intent to separately propose other changes in the future designed to further a long-term perspective.

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