February 5, 2015
Spin-off transactions require a focused, intensive planning effort. The deal team must make decisions about how best to allocate businesses, assets and liabilities between the parent and the subsidiary that will be spun-off. It must address complex tax issues, securities law questions and accounting matters, as well as issues related to capital structure, financing and personnel matters. In addition, it must resolve a long list of governance issues, including questions about the composition of the spin-off company board, the importance of mechanisms for dealing with conflicts of interest and the desirability of robust takeover defenses.
Transaction planners do not always give the governance issues high priority. They may assume that the spin-off company can simply replicate the governance mechanisms that the parent uses, and that any issues can be addressed during the late stages of the planning effort. In fact, however, designing an effective governance structure for the spin-off company can be quite complex. Even relatively simple issues can take time to resolve because of the need to ensure that the business leaders are satisfied with the choices being made. To take an obvious example, the parent board and the management team are likely to be very interested in who will serve on the spin-off company’s board of directors. As a result, identifying, vetting and selecting candidates for the new board can take months.
Spin-off transactions proceed more smoothly if the deal team begins its work with a clear understanding of the governance issues they must address and if they start work on these issues early. The balance of this client alert describes some of the most important governance questions planners will need to consider and answer.
Should the spin-off company simply replicate the parent’s governance structure?
The transaction planners often say that they want to copy the parent’s governance structure when they create the spin-off company. For example, they will propose that the spin-off company adopt a set of bylaws that look like the parent’s bylaws and duplicate the parent’s board committee charters and conflict policies. For a variety of reasons, however, copying the parent’s governance structure may not make sense. Instead, the parent’s structure should be viewed simply as a useful starting point.
The typical parent in a spin-off transaction is a large, long-established public company. It has dealt with its stockholders for many years and may have adjusted its governance structure in response to criticisms from institutional investors, activists, stockholder proponents and proxy advisory firms. For example, it may have dismantled takeover defenses or adopted proxy access rights giving stockholders the ability to include director nominees in company proxy materials.
The spin-off subsidiary, by contrast, will be a new public company with the ability to write on a clean governance slate. The directors and management of the spin-off company will address issues very different from the issues that the leaders of the pre-spin combined company confronted. Among other things, because the new company does not have a stand-alone operating history and is smaller than the combined company from which it was spun-off, it may be more vulnerable to activists and hostile bidders. At the same time, the spin-off company may have a lower profile than the pre-spin parent company, and therefore may be less likely to attract the attention of stockholder proponents and other governance reformers. Given these differences, fresh thinking is entirely appropriate.
The spin-off company will also have the opportunity to take actions that the parent company does not have the realistic ability to consider. For example, transaction planners might consider whether the spin-off company should incorporate in the same state as the parent or should incorporate in a state with more management-friendly laws, especially if there are business reasons to justify the move.
Should the spin-off company implement a classified board and other similar takeover defenses?
The transaction planners should consider implementing robust takeover defenses. For example, they should examine whether it makes sense to establish a classified board, limit stockholders’ rights to call special meetings, and establish supermajority stockholder approval requirements for mergers and substantial asset sales. The planners will be able to make good arguments in favor of these measures given the spin-off company’s relative vulnerability to hostile bidders and activists.
The transaction planners should recognize, however, that investor resistance to provisions that restrict stockholder rights grows stronger every year. In particular, there is a greater risk that the proxy advisory firms will make recommendations to withhold votes from, or vote against, directors up for election at the company’s first annual meeting.
As an historical matter, spin-off companies have been able to adopt classified boards and other shark repellents out of the public eye, before the spin-off, without drawing immediate challenges from investors or proxy advisory firms. They were sometimes even able to incorporate shark repellents in their charters, because obtaining the required stockholder approval for charter amendments is relatively easy when the spin-off company is still a subsidiary of the parent. These companies understood that over time, they would come under pressure from investors, activists and stockholder proponents to dismantle their defenses. But they chose to begin life as a public company in a relatively aggressive position.
In the future, however, spin-off companies may not get a free pass from proxy advisory firms Institutional Shareholder Services ("ISS") and Glass, Lewis & Co., Inc. ("Glass Lewis") when they adopt takeover defenses without stockholder approval. ISS recently adopted a policy regarding so-called "unilateral" bylaw or charter amendments — provisions adopted without public stockholder approval. Under this policy, beginning in 2015, it will generally recommend withholding votes from or voting against directors who, without putting the provision to a stockholder vote, approved bylaw or charter provisions that have the effect of restricting stockholder rights. ISS noted the "recent trend of companies adopting a suite of shareholder-unfriendly governance provisions shortly before, or on the date of, their initial public offerings." Recognizing that some investors may wish to evaluate governance actions on a case-by-case basis, ISS added the timing of adoption (pre or post IPO) to the list of factors it will consider under its policy regarding restrictive provisions.
Glass Lewis also recently modified its approach relating to anti-takeover measures. Glass Lewis ordinarily gives new public companies a one-year grace period to allow them time to comply with applicable regulatory requirements and meet basic corporate governance standards. However, if the company implements an anti-takeover measure such as a rights plan or a classified board before its initial public offering, without offering a sunset for the rights plan of three years or less or a "sound rationale," and the measure is not subsequently put to a stockholder vote, Glass Lewis will consider recommending voting against all members of the board who served at the time the measure was adopted. This policy change took effect beginning in 2015.
As a result of these policy shifts, there is a significant risk that ISS and Glass Lewis will recommend withholding votes from or voting against directors of a spin-off company who participated in the decision to implement anti-takeover provisions such as a classified board, or other provisions viewed as unfriendly to stockholders. This outcome is not a certainty, but spin-off companies that adopt classified boards or other shark repellents before they go public may subsequently have to choose among dismantling the defenses, seeking stockholder approval of the defenses or facing recommendations to withhold votes from or vote against directors who were on the board when the defenses were adopted.
The landscape should be somewhat less foggy after the completion of the 2015 proxy season. Transaction planners will be able to assess how often ISS and Glass Lewis actually recommended withholding votes from or voting against director nominees, and they will be able to see how institutional investors responded to these recommendations. They may also be able to assess whether different combinations of provisions prompt different responses. The advisory firms and investors may view companies that adopt a full set of defenses, including a classified board and strict limits on stockholders’ ability to call meetings, more negatively than companies that adopt only one or two less potent defenses.
In the near term, transaction planners’ decision about whether to adopt defenses should be shaped by their views on takeover and activist risk, and whether they think they will be able to persuade stockholders that defenses are appropriate. Cautious planners may decide not to adopt shark repellents that are likely to be hot buttons for investors. More aggressive planners may push forward, reasoning that the upside of a strong takeover defense is worth the downside risk of offending their stockholder base.
Does it make sense to implement stockholder rights plans?
Stockholder rights plans remain the most potent takeover defense that companies can deploy. Rights plans force hostile bidders and activists to negotiate with the board of directors by providing that if they cross a specified ownership threshold, their ownership position will suffer massive dilution. Although rights plans are very powerful defense mechanisms, spin-off companies generally do not implement them before going public. As noted above, Glass Lewis and ISS have indicated that they will consider recommending withhold votes or votes against directors who served on the board of a company when it adopted a rights plan if the company does not subsequently put the rights plan up for a stockholder vote.
As an alternative, many companies are preparing a rights plan and "putting it on the shelf." The company’s advisers draft the plan and describe its principal features to the board of directors, but the directors do not actually approve and implement the plan; instead, they save it in their files. If and when a hostile bidder or activist surfaces, the company is in a position to deploy the plan very quickly. There is a fairly substantial body of court decisions, primarily in Delaware, upholding the adoption and use of rights plans for various purposes, including to provide time for the board of directors to consider and explore alternatives to a takeover proposal and to prevent a person seeking control from acquiring a large ownership position in a manner contrary to the best interests of stockholders.
Should the transaction planners consider implementing exclusive forum bylaw provisions?
The transaction planners should also consider a number of other bylaw and charter provisions that might be viewed as management friendly and that improve the company’s leverage in a variety of situations. In particular, Delaware companies should consider implementing an exclusive forum bylaw provision that would require plaintiff stockholders who want to make claims under Delaware corporate law to file their lawsuits in Delaware state or federal court. The Delaware courts have said that they will enforce these provisions, which can help reduce the risks and costs associated with multi-forum litigation.
A number of spin-off companies and other companies that have gone public have included exclusive forum provisions in their bylaws in the past year. Here also, however, a change in the policy of proxy advisory firms may slow this trend. Glass Lewis will recommend withholding votes from or voting against the chair of the governance committee if a newly public company does not ask its public stockholders to vote on a previously adopted exclusive forum provision. In contrast, ISS encourages companies to seek stockholder approval of exclusive forum provisions but we understand at this time that it is not likely to recommend votes "against" directors solely as a result of the board unilaterally adopting an exclusive forum provision. Notably, if a company then determines to seek stockholder approval of the provision, ISS will consider the provision on a case-by-case basis and take into account factors such as whether the company has already experienced harm resulting from multi-forum litigation. The ISS approach appears to stem from ISS having concerns about exclusive forum provisions, but recognizing that many institutional investors (their clients) support exclusive forum provisions even in the face of a negative ISS voting recommendation. If those institutional investors’ views were to change, ISS might change its proxy voting policy in the future.
The significance of this change in policy will become more clear after the end of the 2015 proxy season. In the meantime, transaction planners that are willing to accept the possibility of problems at their annual meeting should consider adopting exclusive forum provisions. Spin-off companies should be able to make a good case that as a newly public company, they face heightened multi-forum litigation risk, and that an exclusive forum provision may work to protect the company and its investors.
What about fee-shifting provisions?
In the wake of a 2014 decision by the Delaware Supreme Court indicating that it would enforce bylaw provisions giving non-stock corporations the right to impose the cost of litigation on unsuccessful plaintiffs, transaction planners have been considering whether to incorporate a fee-shifting provision in the spin-off company’s bylaws. The outlook for these provisions remains quite uncertain, however. Legislation that would nullify the Delaware Supreme Court decision with regard to traditional stock corporations was introduced last summer. Groups including the National Conference of Public Employees Retirement Systems, labor unions representing more than 16 million public and private sector workers, and the Council of Institutional Investors have pushed for this legislation to be considered again in early 2015. Even if the legislation does not pass, ISS and Glass Lewis will take strong positions against directors of companies that adopt fee-shifting provisions without putting these provisions up to a public stockholder vote. Moreover, institutional investors are very likely to follow these proxy advisory firm recommendations. As a result, only a very small number of new public companies have actually adopted the provisions. Transaction planners should also be aware that if a spin-off company includes a fee-shifting provision in its bylaws, the SEC may require the company to include disclosure in its registration statement on Form 10 addressing the company’s ability to rely on the fee-shifting provision in connection with claims under the federal securities laws.
How should the transaction planners navigate the director independence rules?
One of the principal challenges that the transaction planners will face is the maze of director independence rules that govern who can serve on public company boards of directors and their audit, compensation and governance committees. These rules have a variety of sources, including the Sarbanes-Oxley Act of 2002, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, SEC regulations, the NASDAQ and NYSE listing standards, the Section 16 rules and the tax rules. The rules overlap in some respects, but not entirely — so the planners must consider each set of rules when they select their directors. There are differences between the NYSE and NASDAQ corporate governance requirements, including requirements relating to standards of director independence, which transaction planners may wish to consider when deciding on which exchange to list. It is also important to note that proxy advisory firms have their own director independence standards that, in many respects, are more onerous than the exchange standards.
Describing all of these rules in detail goes beyond the scope of this client alert. Each set of rules has its own particular requirements, but speaking broadly, they require that a majority of the board of directors be independent. In general, they further require that all of the audit committee, compensation committee and nominating and governance committee members be independent, and that at least one of the audit committee members be a financial expert. Additionally, members of the audit and compensation committees need to meet various heightened independence requirements.
The relevant rules include both bright line tests (for example, a director that is also a current company employee is not independent) and subjective tests (for example, under the NYSE rules, a director who has a "material relationship" with the company cannot be independent; under the NASDAQ rules, a director who has a relationship that would interfere with his or her independent judgment as a director — in each case as determined by the board — cannot be independent). Some of the tests consider not only the current facts and circumstances, but also facts and circumstances relating to the director and the company during the prior three years. For the purposes of these tests, the parent company and the newly public company would be viewed as the same. Therefore, as we explain in more detail below, a director that had a relationship with the parent company in the recent past may be precluded from being an independent director of the spin-off company.
The NYSE and NASDAQ generally allow newly public companies a grace period of up to one year to comply with certain requirements relating to director independence. Although only the NYSE rules expressly provide that this grace period is available to companies that have been spun-off, the NASDAQ Corporate Governance Certification Form indicates that companies that are listing on the NASDAQ can take advantage of a similar grace period.
Perhaps the most important step that the planners can take is to start identifying director candidates early, so that they have ample time to undertake the complex analysis of determining whether the independence standards will be satisfied. Most companies use a director questionnaire to help identify independence issues. But a mechanical review of the candidate responses is not likely to be sufficient; follow-up questions are necessary to determine whether a candidate will receive a clean bill of independence health. In this regard, the planners should keep in mind that the NYSE and NASDAQ independence requirements include not just bright line tests, but also a subjective standard, as discussed above.
Planners should also allow themselves time to confirm that the proposed slate of spin-off company directors does not include any individuals who already sit on other boards and whose appointment to the spin-off company board will give rise to prohibited overlaps under the Clayton Antitrust Act of 1914, which bars companies that engage in competing businesses from having overlapping directors.
The transaction planners should also remember that under the NYSE and NASDAQ listing rules, the board of directors of the spin-off company, rather than the deal team, is the ultimate arbiter of whether individual directors satisfy the independence requirements. The NYSE rules provide that no director qualifies as independent unless the board of directors affirmatively determines that the director has no material relationship with the company. Similarly, interpretive commentary to the NASDAQ rules explains that the board has a responsibility to make an affirmative determination that a director has no relationship that impairs his or her independence. The deal team can collect information regarding directors and put the board in a position to exercise its judgment regarding their independence, but it cannot force the spin-off company board to accept the deal team’s judgment.
Can directors of the parent company also serve as directors of the spin-off company?
The transaction planners will often ask whether some of the same people who serve on the parent board can also serve on the spin-off company board. In general, these arrangements are not prohibited, but they do present several challenges.
First, to the extent the parent and the spin-off company will continue to do business together, an individual who serves both companies will have a conflict of interest and a resulting fiduciary duty of loyalty problem whenever these business arrangements are considered. The duty of loyalty requires that a director act solely in the best interest of the company, free of any self-dealing or conflicts of interest. A director who owes fiduciary duties to both the parent and the spin-off company will face a significant conflict. The parent and the spin-off company must think about how they will resolve this problem. To take a simple example, the companies may have entered into a transition services agreement under which the parent will provide specified administrative services to the spin-off company for a period following the completion of the spin-off transaction. The parent and the spin-off company should strongly consider walling off a director who serves on both companies’ boards from participating in decisions regarding this agreement. The same problem may arise with respect to issues arising under the separation agreement between the parent and the spin-off company, which describes how assets and liabilities are allocated, and with respect to issues under any supply, distribution, employee benefits or intellectual property licensing agreements.
Second, as noted above, the Clayton Act prohibits companies that engage in competing businesses from having overlapping directors. While parent and spin-off companies do not usually compete directly, overlapping directors may become a problem where the parent and spin-off company engage in closely related businesses.
Third, persons who serve on the boards of both companies may not be viewed as independent for purposes of satisfying the NYSE and NASDAQ independence requirements. Sitting on the boards of both companies, in and of itself, does not automatically preclude a director from being considered independent. But if the companies continue to do business together or if the parent company continues to own a portion of the spin-off company, satisfying the independence requirements becomes more difficult. NYSE rules preclude a director from being independent if he or she has a material relationship with the listed company, including an indirect material relationship as a partner, stockholder or officer of an organization that has a relationship with the listed company. Similarly, the NASDAQ rules preclude a director from being independent if he or she has any relationship that would interfere with the exercise of independent judgment in carrying out the responsibilities of a director.
Fourth, rules on over-boarding may interfere with the plan to place parent company directors on the spin-off board. The proxy advisory firms will recommend withhold votes or votes against individuals who, in their view, serve on too many boards. Many large institutional investors also have over-boarding policies that may be more impactful than the proxy advisory firms’ policies.
Can current employees of the parent company serve as directors of the spin-off company?
Transaction planners sometimes propose that an officer or employee of the parent should serve on the board of the spin-off company. They reason that this individual will have special business insights, perhaps because he or she was involved in the business operations of the spin-off company before the transaction was completed. It may be true that the employee will be a positive addition to the spin-off company’s board of directors. And, as a general matter, there is no outright ban on the selection of parent employees. But the transaction planners should recognize that choosing a parent employee to serve on the spin-off company board presents significant independence issues. Under the NYSE and NASDAQ rules, a director will not be independent if she was an employee of the listed company within the past three years, or has received more than $120,000 in direct compensation from the company during any twelve month period within the last three years. For the purposes of the NYSE and NASDAQ tests, a director who is (or has been during the three years prior to the determination date) an employee of the parent is viewed as an employee of the spin-off company.
In addition, the employee of the parent will face conflict of interest and fiduciary duty problems every time the board reviews business arrangements between the parent and the subsidiary. These problems are very similar to the problems faced by individuals who serve on the boards of both the parent and the spin-off company.
The NYSE and NASDAQ compensation committee interlock rules may prevent directors who are executive officers of the parent from being independent. Specifically, if any directors of the spin-off company are executive officers of the parent, and an executive officer of the spin-off company serves on the parent’s compensation committee, none of the spin-off company directors who are (or were during the past three years) executive officers of the parent will be considered independent.
An employee who serves on the spin-off company board may also not meet the independence standard in Section 162(m) of the Internal Revenue Code, which governs the deductibility of performance compensation payments. Specifically, if the parent company and the spin-off company are still part of the same affiliated group for purposes of the Internal Revenue Code, a director of the spin-off company who is a former officer of the parent company may not be considered an "outside director" for purposes of Section 162(m) of the Internal Revenue Code.
Can former employees of the parent company serve as directors of the spin-off company?
Transaction planners sometimes hope to solve independence problems by placing former rather than current employees of the parent company on the board of the spin-off company. They reason that the former employee will have some of the same important business insights that a current employee would have, but will carry less independence baggage. They may also argue that a former employee of the parent will not have a conflict of interest or a fiduciary duty problem when he or she reviews business arrangements between the parent and the spin-off company.
However, status as a former employee does not eliminate independence problems. Under both the NYSE and NASDAQ standards, as indicated above, a former employee of the parent company will not be viewed as independent for a period of three years following the time that the former employee left the parent.
How should the parent and the spin-off company deal with conflict issues?
As suggested above, the parent and the spin-off subsidiary are likely to continue to have extensive business dealings after the spin-off is completed. Some of these business dealings will arise out of the separation agreement and transition agreements that the companies entered into as part of the spin-off transaction. The parties may also have business dealings that extend beyond separation matters. For example, the parent company may have agreed to supply the subsidiary with certain services or goods that it will need to operate its business. If the parties have overlapping boards of directors, or overlapping employees and directors, conflicts of interest and fiduciary duty problems may arise.
In these circumstances, where there is a risk of recurring conflicts, or where the conflicts relate to particularly significant matters, the companies’ respective boards of directors might each consider establishing a standing committee of disinterested directors to insulate the decision-making process from the conflicts. If the boards are unlikely to face conflicts on a regular basis, a standing committee may not be necessary. Instead, the boards can create special committees on an ad hoc basis, or ask the conflicted directors to recuse themselves as appropriate.
What about the risk of corporate opportunity issues?
Where the parent and the subsidiary may have an interest in similar business opportunities, and some individuals serve both entities as directors or officers, issues may arise under the corporate opportunity doctrine. This doctrine provides that directors or officers have a fiduciary obligation to present new business opportunities to the company if the company has a legitimate interest in the opportunity or a reasonable expectation that it would be given the chance to pursue the opportunity. The conflict issue arises if the director or officer serves another company as well, and the other company also has a legitimate interest in or reasonable expectation with respect to the opportunity.
The corporate opportunity problem will arise only if the parent and the subsidiary have overlaps in their directors or officers as well as overlaps in the business opportunities they may wish to pursue. If they do have such overlaps, they should consider the need to address rights to different categories of business opportunities in the separation agreements. They should also consider the need to create special committees of disinterested directors who can guide decision-making in the event disputes arise regarding business opportunities.
Can a spin-off company take advantage of the independence transition rules?
A spin-off company may be able to take advantage of transition rules that give newly public companies a grace period before they must satisfy the independence requirements. The NYSE rules, at least on their face, seem to give spin-off companies significant breathing room. For example, a company listing its securities on the NYSE does not need to satisfy the majority independence requirement for the board of directors until one year after the date that the company’s securities first trade on the NYSE (the "listing date"). If the company was not required to file periodic reports with the SEC prior to listing, the audit committee needs only one independent director by the listing date, and a majority of independent directors within 90 days of the effective date of the registration statement. It has a year from the effective date of the registration statement to establish a fully independent audit committee. Similarly, the company needs only one independent member on its nominating committee and on its compensation committee by the date the transaction closes, and has until 90 days from the listing date to have at least a majority of independent members and one year from the listing date to have fully independent committees. The NASDAQ transition rules take a very similar approach.
Transaction planners are often reluctant to rely too heavily on these rules, however. Identifying and vetting candidates is such a slow process that companies risk missing the one-year deadline if they delay too long. Moreover, investors will be much more comfortable if they know who the independent directors are at the time the company first goes public. The transition rules do not provide any relief from the requirements that committee charters, governance standards and codes of conduct be in place on the listing date. In addition, the transition rules do not apply to various other independence requirements.
What special issues arise in connection with sponsored spins?
From time to time, parent companies engage in sponsored spin-off transactions, in which they sell a stake in the spin-off company to a private equity firm or other financial sponsor at the same time as they distribute shares in the spin-off company to their stockholders. The end result of these transactions is that the spin-off company becomes a public company with a financial sponsor as a significant stockholder. For tax reasons, the financial sponsor generally does not acquire a greater than 50% stake in the subsidiary. After the spin-off, however, the sponsor is likely to be the largest stockholder.
The financial sponsors in these deals will generally insist on extensive governance rights. In particular, they are likely to demand board seats, and may also request the right to approve certain corporate actions. In addition, they may ask for registration rights. The parent is likely to push back on these demands, seeking to limit the number of board seats and to restrict the financial sponsor’s right to transfer its shares. It may also ask the sponsor to enter into a standstill arrangement under which it agrees not to increase its stake in the spin-off company without board permission.
Depending on the structure, the company may be able to take advantage of the controlled company exception to the NYSE and NASDAQ independent board requirements.
What special issues arise in connection with spin-offs that include a subsidiary IPO?
Separation transactions are sometimes structured so that they include a subsidiary IPO. First, the subsidiary conducts an IPO in which some of its shares are sold to the public. Then, after an interim period, the parent distributes the balance of the subsidiary shares to its stockholders. During the interim period, the parent will retain control of the subsidiary. Under the relevant tax rules, a spin-off will be tax free to the stockholders and the parent under Section 355 of the Internal Revenue Code only if the parent possesses at least 80% of the voting power of the spin-off company stock and 80% of each class of non-voting stock of the spin-off company prior to the spin-off.
If the parent wants to sell shares representing more than 20% of the economic interest in the subsidiary, it may establish a dual class capital structure that includes low-voting and high-voting shares. It retains the high-voting shares so that it can satisfy the 80% voting power requirement and sells the low-voting shares in the IPO. Whether it uses the dual class structure or not, the parent may provide in the charter or by contract that it can appoint a majority of the board of directors, and also provide for various specific approval rights.
During the period before the spin-off, the spin-off company should be able to take advantage of the controlled company exceptions to the NYSE or NASDAQ independence requirements. After the spin-off, it can take advantage of the transition rules. As in the case of a straightforward spin-off transaction, it is likely to feel pressure from investors to satisfy the majority independence requirement as quickly as possible.
What considerations should the spin-off company take into account when it schedules its first annual meeting as a public company?
Under Delaware law, stockholders have the right to ask the Court of Chancery to order the company to hold an annual stockholder meeting if the company fails to hold a meeting within 13 months of the latest to occur of the organization of the company, its previous annual stockholder meeting, or the last action by written consent to elect directors in lieu of an annual meeting. In addition, a company is required to hold annual meetings under the NYSE and NASDAQ listing requirements. Companies with fiscal years ending around December 31 generally hold their annual meetings in late spring.
The transaction planners should think about whether they schedule the annual stockholders meeting for the year in which they go public so that it takes place while the parent company is still the sole stockholder of the spin-off company. If they do this, the spin-off company will not have to hold its first annual meeting as a public company until the next year. It can push off the somewhat onerous task of preparing a proxy statement, dealing with proxy solicitors, holding its first say-on-pay vote, addressing proxy advisory firm issues and the like. Of course, depending on when the spin-off occurs, this may not work from a calendaring standpoint.
What about compensation and other benefits matters?
The transaction planners will have to consider a number of compensation matters as they review governance issues. How will directors be paid? Will they receive both cash and equity? Will their compensation be approved in advance of the spin-off, or only after the spin-off is effective? Will equity be granted pursuant to an approved plan? If the plan has not been approved by stockholders, when will it be approved? Will the directors receive an initial equity grant to compensate them for work they have done for the spin-off company prior to the spin-off? The details are legion and require focus.
In conclusion, as the foregoing discussion should make clear, the transaction planners in a typical spin-off transaction should begin their work on governance issues early. In addition to the matters discussed above, there are a litany of other issues to be considered, including making sure there are no loans outstanding from the company to its directors and executive officers, preparing the company to comply with the financial and other reporting obligations of a public company, adopting policies required as a result of SEC disclosure obligations such as related party transaction policies, clawback policies and anti-hedging policies, and more. The issues list is long and requires the planners to consider a wide range of demanding, detail-oriented rules.
 "Of 39 spinoffs that have begun trading over the past two years, about half count an investor with a history of activism among their 10 largest stockholders." Activists Flock to Fledgling Spinoffs, The Wall Street Journal (Dec. 29, 2014).
 Planners should be aware that stockholder activists that held stock in the parent and received stock of the spin-off company as a result of the spin-off can tack the period during which they held the parent’s stock to their holding period for the spin-off company stock for Rule 14a-8 purposes. As a result, at the time of the spin-off, such activists may have already satisfied the requirement that they hold the spin-off company’s stock for one year before they may submit stockholder proposals to the spin-off company under Rule 14a-8.
 Specifically, beginning in 2015, ISS may recommend withholding votes from or voting against directors individually, committee members or the entire board if a company amends its governing documents in a manner that materially diminishes stockholders’ rights without putting the provision up for stockholder vote. The ISS proxy voting guidelines list several factors ISS will consider when developing its recommendation, including, among others, the board’s rationale for adopting the amendment without stockholder ratification, disclosure by the company of any significant engagement with stockholders regarding the amendment, whether the amendment was made prior to or in connection with the company’s initial public offering and the level of impairment of stockholders’ rights caused by the amendment. ISS United States Summary Proxy Voting Guidelines (Dec. 22, 2014) ("ISS Guidelines") at page 12.
 ISS United States Proxy Voting Guidelines Updates 2015 Benchmark Policy Recommendations at page 4.
 The ISS proxy voting guidelines do not expressly state that adoption of such by-law or charter amendments before or in connection with a company’s initial public offering will be a negative factor in ISS’s analysis. However, the conservative approach would be to assume that it will be considered a negative factor.
 Glass Lewis Guidelines 2015 Proxy Season (United States) ("Glass Lewis Guidelines") at pages 1 and 18.
See, e.g., Moran v. Household Int’l, Inc., 500 A.2d 1346 (Del. 1985); Third Point LLC v. Ruprecht, C.A. No. 9469-VCP (Del. Ch. May 2, 2014); Air Prods. & Chems., Inc. v. Airgas, Inc., 16 A.3d 48 (Del. Ch. 2011); Yucaipa Am. Alliance Fund II, L.P. v. Riggio, 1 A.3d 310 (Del. Ch. 2010) aff’d, 15 A.3d 218 (Del. 2011).
 The efficacy of a forum selection bylaw will depend heavily upon the willingness of courts outside of Delaware to enforce exclusive forum selection bylaws and dismiss stockholder lawsuits filed in their courts. Most courts outside of Delaware confronting forum selection provisions recently have respected and enforced them.
 Glass Lewis Guidelines at page 1.
 ISS Guidelines at page 23.
 ATP Tour, Inc. v. Deutscher Tennis Bund, 91 A.3d 554 (Del. May 8, 2014).
 ISS Guidelines at page 24; Glass Lewis Guidelines at page 1.
 NYSE Listed Company Manual ("NYSE") Section 303A.00; NASDAQ Corporate Governance Certification Form.
 NYSE Section 303A.02(a)(i).
 NASDAQ Stock Market Rules ("NASDAQ") Rule 5605(a)(2).
 NYSE Section 303.02A(b)(i)-(ii); NASDAQ Rule 5065(a)(2)(A)-(B).
 NYSE Section 303.02A(b)(iv); NASDAQ Rule 5065(a)(2)(E).
 NYSE Section 303A.00; NASDAQ Rule 5615(b)(1).
 NYSE Section 303A.00; NASDAQ Rule 5615(c).
 Planners should also consider discussing with the relevant exchange during the listing process whether the exchange requirement to hold an annual stockholder meeting can be waived for the spin-off company’s first year as a listed company.
Gibson, Dunn & Crutcher’s lawyers are available to assist with any questions you may have regarding these issues. For further information, please contact the Gibson Dunn lawyer with whom you usually work or any of the following:
Stephen I. Glover – Washington, D.C. (202-955-8593, firstname.lastname@example.org)
Elizabeth Ising – Washington, D.C. (202-955-8287, email@example.com)
Lori Zyskowski – New York (212-351-2309, firstname.lastname@example.org)
Alisa Babitz – Washington, D.C. (202-887-3720, email@example.com)
Please also feel free to contact the following practice group leaders and members:
Securities Regulation and Corporate Governance Group:
Brian J. Lane - Washington, D.C. (202-887-3646, firstname.lastname@example.org)
Ronald O. Mueller – Washington, D.C. (202-955-8671, email@example.com)
James J. Moloney - Orange County, CA (949-451-4343, firstname.lastname@example.org)
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