MCI Adopts Federal Monitor’s Governance Rules

MCI (formerly WorldCom) Tuesday unanimously adopted the extensive new
guidelines on corporate governance — aimed at shifting power to
shareholders — designed by Richard C. Breeden, the court-appointed
Corporate Monitor for the bankrupt telecommunications giant, and former chairman of the U.S. Securities and
Exchange Commission (SEC).

The 78 recommendations in Breeden’s Restoring Trust report, filed with
Judge Jed S. Rakoff of The United States District Court for the Southern
District of New York Tuesday, cover the selection of directors,
qualification, conflicts and independence standards for board members, the
functioning of the board and its committees, establishment of the position
of non-executive chairman, specific limits on compensation practices,
equity compensation programs, accounting and disclosure issues, ethics and
legal compliance programs, and other areas.

Breeden said the new guidelines should give MCI a set of corporate
governance policies and procedures that go beyond those of any other major
public company — all in an effort to prevent future abuses like those
which led to what WorldCom investigators believe to be the largest
accounting fraud in U.S. history.


“Many of these standards are followed by other companies, though a few,
like the process for selecting new directors, will be unique to MCI when
put into place,” Breeden said in his report. “However, in corporate
governance, it is the totality of the system, not its individual parts, that
counts. The totality of the governance system at MCI as a result of
implementing all the recommendations of Restoring Trust will be a set of
policies and procedures that go beyond what any major public company has in
place today. The result will be a stronger, more capable and more
independent board of directors, limits on problematic compensation
practices, and a much greater emphasis on transparency and integrity in the
company’s internal operations. Shareholders will in the future have a much
stronger voice in setting limits of behavior.”

The company is required to implement the recommendations, unless it
receives leave of the court not to implement a specific recommendation.
However, MCI’s directors worked on the report with Breeden, and said
Tuesday that they had unanimously approved the adoption of all
recommendations.

“Mr. Breeden’s report not only sets new standards for good corporate
governance, but also establishes a roadmap that helps us build our
foundation for the future,” said Michael Capellas, who was brought on
board
as chairman and CEO of the company last November with the goal of
rebuilding the company in the wake of the accounting scandal. “The company
has already implemented many of the proposed corporate reforms, but we know
we have to do even more to regain public trust.”


Breeden’s report focuses on 12 major themes:

  1. establishing a governance
    constitution for the company,
  2. more shareholder communication,
  3. selection of
    directors,
  4. an active and independent board,
  5. a non-executive chairman of the
    board,
  6. active board committees,
  7. term limits and auditor rotation,
  8. compensation limits,
  9. equity compensation programs,
  10. enhanced transparency of
    financial information,
  11. strengthening of the General Counsel’s office
  12. and
    continuance of the new Ethics Programs, and a change in control devices.

First and foremost, the report calls for the new governance standards to be
placed in the company’s Articles of Incorporation, which will then be used
as the ‘Governance Constitution’ for the company. Once in place, the
standards could only be changed with prior shareholder consent.

“This represents an important shift of power from the board to the
shareholders,” Breeden said. “The board’s discretion in matters of business
oversight remains extensive, but as to the governance rules themselves,
shareholder consent will be required in advance for changes to be made.”


The report also requires the board to establish an electronic “town hall”
where shareholders can communicate with the board and propose resolutions
for consideration — whether or not the proposed resolution would be
allowed under SEC proxy regulations. The report said proposed resolutions
adopted through the “town hall” process must be included in the proxy the
following year.”

Much of the report focuses on the selection and criteria for the company’s
board. The guidelines require that at least one new director be elected
each year — and gives the shareholders the power to nominate their own
candidates for inclusion in the management proxy statement if they don’t
agree with proposed candidates to fill board vacancies. In addition, all
board members, except the CEO, must be 100 percent fully independent. The
CEO will not be allowed to sit on any other corporate board, and the
independent directors will be limited to a maximum of three boards,
including the company.

Also, the guidelines require the full board to meet at least eight times
per year, to hold an annual strategic review, and to attend annual
refresher training on topics related to board responsibilities. They are
also required to visit company facilities each year, independently of board
meetings, and to meet at least annually with the CFO and General Counsel
independent of the CEO. They must also meet for some portion of each
meeting without the presence of the CEO or any other employee of the
company.


The guidelines also firmly separate the CEO and chairman positions,
requiring a non-executive chairman of the board. In addition, the
guidelines require the company to have an Audit Committee, Governance
Committee, Compensation Committee and a Risk Management Committee which
will be composed entirely of independent directors.


Directors of the company will be limited to 10 years in office under the
plan, and independent auditors of the company will also be limited to the
same term before a required rotation of auditors.


In the area of compensation, the guidelines require the board to establish
a maximum compensation level for any individual in any year without
shareholder approval.

“The recommended starting level is not more than $15 million, though the
board will be free to set a lower number,” Breeden said. “No executive can
be granted more than this amount in any year, including cash, equity
grants, and all other forms of remuneration, without a vote of the
shareholders.”

Most ‘retention’ grants are banned under the guidelines, and maximum dollar
limits are placed on severance awards. The guidelines also bar the award of
stock options for a five year period, after which shareholders must approve
their use in advance. Also, any stock options granted at any time must be
expensed in the company’s financial statements. Additionally, the report
stipulates that equity programs use restricted stock awards exclusively,
and that a substantial portion of restricted stock must be retained by
senior officers until after they leave the company.

In an effort to enhance efforts to develop more transparent disclosure
practices that go beyond SEC requirements, the report also requires the
company to work to develop enhanced cash flows and publish a target
dividend policy. The report said the initial target for dividends would be
“not less than 25 percent of net income annually.”

“Restoring Trust definitely shifts the balance of power in governance of
MCI in the direction of a bit more power and authority for shareholders,”
Breeden said. “This is a measured change, and one that seeks to avoid
changing the internal balance of power too much. Rather than more
regulations to protect shareholders, these recommendations seek to give
more power to shareholders to protect themselves. In view of WorldCom’s
history, the recommendations as a whole concentrate on placing limits on
the discretion of management and the board of directors to change the rules
of the road for governance. However, both management and the board must
retain discretion to handle business issues as they arise, and the
recommendations must seek to avoid damaging management’s flexibility to
meet the world’s business challenges as they arise.”

In June of 2002, the SEC filed
charges
against WorldCom and its executives alleging the firm had
cooked the books to meet Wall Street expectations and goose its stock
price. The SEC said at the time that the fraud pumped up WorldCom’s
earnings by $3 billion in 2001 and $797 million in the first quarter of
2002.

The SEC’s fraud charges, filed in a civil suit in a Manhattan federal
court, came just a day after WorldCom’s bombshell
admission
that it had overstated its cash flow by $3.8 billion over
five quarters. The SEC had already begun an investigation into Clinton,
Miss., company’s accounting in February.

WorldCom followed up by filing for Chapter 11 bankruptcy protection in
July, making it the largest bankruptcy reorganization in U.S. history. The
SEC expanded
its investigation
in November 2002, when WorldCom warned it would
restate $9 billion in revenue.

In July 2003, Judge Rakoff approved a
settlement
reached between MCI and the SEC to deal with the company’s
$11 billion accounting scandal.


The settlement called for a civil penalty of $2.25 billion, which would be
satisfied by a $500 million cash payment and $250 million in common stock
to shareholders and bondholders upon the company’s emergence from Chapter
11 bankruptcy protection. The $250 million in stock was added to the
settlement last in response to critics of the original $500 million
settlement.

The $11 billion accounting scandal originally drew a $1.5 billion fine. The
fine, to be distributed among WorldCom’s victims, was reduced in light of
the company’s bankruptcy proceeding.

The settlement also called for the appointment of a monitor by the court.

In the report filed with the court Tuesday, Breeden praised the efforts of
Capellas and the company to turn the company around.

“Hopefully, these recommendations, coupled with the strong efforts of the
new management team led by CEO Michael Capellas and the new board of
directors, will enable MCI to succeed in its goal of becoming a model of
excellence in corporate governance,” Breeden said. “There is a deep
commitment at the company to eradicating the practices of the past that
harmed so many, and in their place to follow new standards representing the
very best ideas for responsible governance.”

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