Corporate governance is a notoriously tough job. This isn’t just because it’s inherently challenging to make decisions that impact large public corporations — it’s also because there are no shared rules with which to navigate these decisions. If board members are to come up with a viable definition for good governance, it’s important to do so around a few shared values.
While this may seem unrealistic given the chaotic nature of many of today’s corporate boards, it isn’t entirely impossible. By doing away with a few unreasonable actions and implementing some universally beneficial steps, good corporate governance can become a reality.
3 Things Boards Need to Stop Doing to Improve Governance
To properly overhaul corporate governance, there are a few things boards should do away with. The following actions will give board members the confidence to do their jobs and the freedom to act in the best interests of all stakeholders.
1. Eliminate Earnings Guidance
Many of today’s investors hold on to stocks for less than six months.
In that time frame, they often expect corporations to make big moves that yield big profits.
Earnings guidance (when companies report on expected financial outcomes) influences stock market analysts, who in turn influence investors to buy, sell, or hold their positions.
If earnings guidance is good, stock prices often go up. However, if actual results don’t match this guidance, prices often tank, leaving investors in the red. Unfortunately, this moves board members to push for short-term profitability over long-term growth.
With no earnings guidance, boards can focus less on quarterly results and devote more energy to innovation and meeting long-term targets.
2. Do Away With Annual Elections
For shareholders to initiate a successful board takeover, they must be able to grab two-thirds of the director positions. This isn’t that difficult to achieve for unitary boards, where every director position is on the ballot each year. If directors don’t give the shareholders what they want, they could be out the door in 12 months’ time.
This, too, yields a short-term perspective for board members and encourages them to make decisions that may not be in the best interests of the company. This is the opposite of good governance.
So what could be the answer to this dilemma? Instituting staggered boards allows directors to be elected to three-year terms, with one-third of positions up for re-election each year.
This model allows shareholders the recourse they want while limiting hostile takeovers. In turn, board members have more stability and breathing room to think long-term, which is ultimately beneficial for all stakeholders.
3. Stop Reactive Shareholder Engagement
When it comes to resolving issues that boards and shareholders disagree on, many boards wait for the activists to make the first move before they position themselves for corporate defense. Unfortunately, this often breeds contention between the two “sides” and an all-out battle for control of the situation. It doesn’t have to be this way.
What many boards need in the era of shareholder activism is a proactive way to engage — where everyone gets to advocate for their solution but still allow shareholders to make the final decision via vote.
One way to achieve this is to institute laws that require shareholders to disclose their positions once they own 5% of shares. This gives boards advance notice that an issue may be coming down the pipeline and allows everyone time and space to prepare so issues can be dealt with in a way that benefits all involved.
3 Actions That Will Contribute to Better Governance
To achieve good governance, boards don’t simply need to stop detrimental actions. They must replace these actions with more beneficial ways of governing. Here are three steps that can help boards move closer to that goal.
1. Push for Exclusive Forum Provisions
Right now, laws permit shareholders to sue corporations in every single state in which they do business.
Shareholders often take advantage of this by bringing multiple lawsuits when companies make moves they don’t like in an effort to get something they want or provoke a particular action.
Because boards know this, many directors prepare in advance of a big move to surrender decisions that they know will benefit the company in exchange for quick settlements.
Exclusive forum provisions would limit lawsuits to a corporation’s state of incorporation.
Because most large public companies are incorporated in Delaware, boards can rest assured that cases would be heard by knowledgeable judges rather than juries of laypeople with limited corporate law knowledge.
A law like this provides shareholders with a way to hold directors accountable while ensuring lawsuits are fair and outcomes are just.
2. Conduct Better Board Member Evaluations
Instead of the internal evaluations conducted by most corporate boards, many of today’s boards would benefit from more robust third-party evaluations. This not only eliminates the bias that a board chairman or lead director might have when it comes to grading one of their own, but it also makes room for a more systematic approach to ensuring board members are doing their jobs.
In an ideal world, each director would receive feedback on what they’re doing right as well as opportunities for growth. A chairman or lead director would also have access to this information, giving them grounds to stand on when admonishing underperforming directors. These evaluations would go a long way in ensuring that only the best make it onto the board.
3. Allow for Shareholder Proxy Access
Moving forward, it may be a good idea to allow significant shareholders to put directors on the ballot for election. Doing so gives shareholders meaningful opportunities to evaluate the board’s composition as well as the performance of individual directors.
When knowledge and experience gaps become apparent, shareholder proxy access allows stakeholders to decide how to fill them to ensure better boardroom decision-making.
Moving From Conflict-Driven Governance to Shared Values
To achieve good governance, boards must begin to move away from a disorderly and reactive way of dealing with shareholders and adopt a more cohesive approach. This means doing away with earnings guidance, annual elections, and reactive shareholder engagement and embracing exclusive forum provisions, better director evaluations, and more direct shareholder proxy access.
These six actions may seem overly simplistic, but they have the potential to be significant governance game-changers. While these improvements may not all happen at once, boards will be much better off over the long haul if they start making the necessary pivots today.
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