The Debate Over Classified Boards
By Richard H. Koppes, Lyle G. Ganske, and Charles T. Haag *
The Business Lawyer, Vol. 54, No. 1023
American Bar Association | May, 1999
LENGTH: 18769 words
* Mr. Koppes is of counsel in the Sacramento, California office of Jones, Day, Reavis and Pogue (Jones Day) and a consulting professor of law at the Stanford University Law School. He is former deputy executive officer and general counsel of the California Public Employees’ Retirement System (CalPERS). Mr. Ganske is a partner, and Mr. Haag an associate, in the Cleveland office of Jones Day. The views expressed in this Article are solely the personal views of the authors. The authors wish to thank Joseph D. Hatina and Adam R. Beringer for their assistance in the preparation of this Article.
For those concerned that Mr. Koppes has lost some of his activist views, he notes that he remains a strong proponent of shareholder votes on poison pills and the repricing of stock options (at least for officers and directors), as well as an independent board chairperson and/or a lead director position.
Shareholder activists have rallied in recent years to declassify U.S. corporate boards. n1 The rally is based predominantly on the argument that the annual election of directors ensures a higher level of accountability to shareholders. n2 Curiously, the same shareholder activist groups advocating or supporting annual elections to ensure accountability usually are led by classified boards of directors. n3 Are these boards of directors, often in charge of multibillion-dollar pension funds, n4 less in need of accountability controls than U.S. corporations? The answer, which most would agree is obvious, discredits the assertion that accountability and the desire for good corporate governance is the driving force behind the move to repeal classified boards. The key significance of a classified board, and the key reason certain shareholder activists seem to be fighting to eliminate them, is that classifying a board of directors greatly improves the ability of a corporation to defend itself against unsolicited takeover bids and proxy fights. n5
While a classified board can prevent a high-premium unsolicited takeover proposal from being successful, n6 the evidence continues to be inconclusive regarding the impact that a classified board has on a corporation’s share value. n7 Given the ambivalence of empirical studies, it seems premature for corporations to abandon classified boards in all circumstances, and thereby eliminate an important tool that can be used to negotiate higher share premiums in a takeover contest. In addition, classified boards can be valuable for corporations in other ways, including promoting the continuity, stability, and independence of the corporation’s leadership and allowing the board to focus on long-term strategies to improve shareholder value. n8 The foregoing arguments, with the exception of defending unsolicited takeover bids, are essentially the same arguments that shareholder activists would be expected to use to justify their own use of classified boards.
The first part of this Article reviews the history of classified boards, including a review of the legal framework that enables their adoption and guides any attempt to repeal them. The Article then takes a look at the environment that led to the recent movement by shareholder activists to repeal classified boards. This section also reviews recent specific proposals by shareholder activists to repeal the classified boards at two major U.S. corporations. The Article considers the arguments for and against classified boards, finding that benefits of structuring a board in staggered classes apply equally to corporations and governmental and regulatory bodies, including certain institutional investors, that choose to classify their directors. This part also acknowledges the value of good corporate governance, but raises the question of whether declassifying the board is really connected to the core of good governance. Finally, the Article emphasizes that shareholders’ efforts would be better spent encouraging better corporate governance practices by directors and management than attacking classified boards, which can be effective and useful tools for corporations to maximize shareholder value.
n4 Shareholder activist pension funds having classified boards (with the dollar amount under management in parentheses), include: CalPERS ($ 81.5 billion), the Public Employees’ Retirement Association of Colorado ($ 15.2 billion), TIAA-CREF ($ 209.6 billion), the Teachers’ Retirement System of Ohio ($ 38.6 billion), and SWIB ($ 25.3 billion). See Alyssa A. Lappen, America’s Top 300 Money Managers, INSTITUTIONAL INVESTOR, July 1, 1998, at 87.
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