Issue link: https://digital.shearman.com/i/1512772
Shearman & Sterling LLP Evolving Notions of Board Effectiveness | 24 investors to cherry pick directors for the board in a contested election, focusing on the qualities of each incumbent director. This development could potentially give activists more ammunition when negotiating with companies because of the potential for losing a seat if any company nominees have vulnerabilities such as long tenure or poor skills alignment with changing company priorities. This year, activist investment firm Trian Management LP launched a proxy battle against The Walt Disney Company for a board seat, in part due to issues it had with the company's succession planning process. Trian sought to install a board member with a campaign focused at replacing a specific incumbent director, citing that director's lack of experience on other public boards. While Trian ultimately withdrew its proxy contest in response to Disney outlining a deal to address its concerns, this example illustrates the vulnerability that companies may have to these types of challenges in the future. While ISS and Glass Lewis have so far been cautious about supporting activist nominees against company incumbents, it is not hard to imagine that if more of these contested situations take place and there are clear points of contrast between alternative and incumbent directors, one or both proxy advisory firms might support an alternative director, especially if the basis for the activism is compelling in some way. This seems especially true in an environment where Rule 14a-19 allows support of and a vote for one alternative director in lieu of a weak incumbent. As boards and nominating committees consider their own skills requirements and refreshment priorities, they will also have to consider the potential scrutiny of individual board members that may become vulnerabilities in the face of activist challenges. Board Effectiveness Implications • Board Leadership and Composition • The board composition priorities discussed in the sections above coupled with increasing scrutiny on individual board members and the potential for more specific challenges to individual directors in the future mean that independent chairs, lead independent directors and nominating committee chairs need to be forward thinking and exercise leadership in driving board consensus on the timing and nature of board refreshment and the qualities the board is looking for and making sure that consensus is continually examined and kept up to date. Leadership needs to also extend to the director search process to ensure that the board has the greatest opportunity to fill vacancies with candidates that best fit the priorities the board has agreed upon. In addition, board leaders should foster awareness of potential vulnerabilities on the board, in order to ensure that any challenges are faced with well thought out responses and realistic assessments of any weaknesses rather than letting the board be caught off guard. • Board Culture and Dynamics • Given the challenges described above and the focus on individual directors, it seems certain that boards will feel a sense that the pace of the need for refreshment is accelerating. Traditional models for ensuring reasonable turnover on the board, such as mandatory retirement age and term limits are blunt tools that may not result in the optimum outcomes in terms of board configuration and deliberation, especially at crucial moments in a company's evolution. Also, these approaches may lead to a loss of experience, leadership or critical skills at an inopportune time. Boards need to consider whether these methods operate as crutches to avoid difficult interactions about continued service or hobble their plans for refreshment. A flexible approach, where length of service and other factors are considered in the renomination process, may prove more effective, especially if coupled with a board culture that is more accepting of director departures when tenure, skills or other factors call for it, fostered by strong leadership and constant communication about the board's needs.