The Promise of Access

With the adoption of Dodd-Frank, Congress took away the only remaining threat to access.  Those who threatened to sue to enjoin the Commission's efforts at access -- rather than work constructively towards a compromise -- provided the impetus for the language in Dodd-Frank.  In the end, it was a regulatory gift that substantially strengthened the role of the Commission in the governance process and eliminated any substantial challenge to the rule. 

The end game is now underway.  The WSJ reported that the Commission would act this month (August) and finally adopt the access proposal that had been adopted more than a year ago.  The provision will likely apply to the 2011 proxy season.

How important of a change is access?  It is the beginning of a paradigm shift in corporate governance, the ramifications of which will take years to fully appreciate.  Lets consider some of the implications. 

First, it will not result in an overnight shift in board membership.  The authority will likely be used tentatively, as institutional investors only favor the nomination and election of insurgent directors hesitantly, unwilling to significantly disrupt the traditional management dominated board.  But gradually, access nominations will occur.

Second, as most have noted, access barely scratches the surface of the costs involved in a typical proxy fight.  But the promise of access is not a repeat of the traditional proxy fight.  It is about providing shareholders with an alternative when they are particularly dissatisfied with management.  This will occur in companies that have poor governance records or overpaid managers relative to the company's performance. 

The campaign will depend less on the need to make an affirmative case for the insurgent nominees and more on the ire of shareholders at management and its nominees.  In other words, insurgent directors will win in most cases because of an anti-incumbency attitude among shareholders.  As an alternative choice for angry shareholders, there will be no need to incur significant costs beyond the subsidies provided by access.

Third, for insurgents to have any hope of winning, they will, in general, have to nominate high quality candidates that appeal to the broadest cross section of shareholders.  Union pension plans will not nominate union officials; public pension plans will eschew ideologues.  It will mean the nomination and election of talented but truly independent directors.

Fourth, the corporate governance debate will shift.  Pressure for legal reform designed to impose one size fits all requirements on all public companies (or listed companies) will diminish.  The need for preemption will diminish.  Pressure for governance reform will still occur but it will arise, ironically, from a flourishing of private ordering.  Shareholders will seek the removal of staggered boards or the separation of chair and CEO on a case by case basis, with the threat of an access election as leverage.  Indeed, it is likely that had access been put in place sooner, there would have been no say on pay and no SEC authority to define independent directors. 

The promise of access is that those companies with the overpaid managers or the poor record in corporate governance will incur a cost.  They will risk the threat of the election of non-management directors.  With insurgent directors in the boardroom, the decision making process will change.  The board will become less deferential towards management.  Salaries will require greater justification.  There will be real debate over the proper direction of the company.  It will change the way decisions are made and will result in greater diversity of opinion in the board room. 

The only way to avoid this is to proactively prevent an anti-incumbency crescendo.  The best way to do so is to communicate with shareholders more often and implement a governance system shorn of the most offensive kinds of provisions.  Gradually, boards will pay more attention to shareholders and become less likely to ignore proposals adopted by shareholders.  

All of this will take time.  For those public companies that treat shareholders with indifference, overpay management, and leave in place unacceptable governance structures, things will change.  In the pre-access era, shareholders had little option but to sell their shares.  In a post-access era, shareholders will have the authority to offer alternative nominees and, where shareholders are angry enough, the nominees will be elected.  Their election will cause disruption inside the boardroom and directors will become less complacent.  It will be, at least in some cases, a painful process.  But the decision making process will evolve and the board will become less deferential to management.

Boards will increasingly become more responsive to shareholders if for no other reason than to avoid an access challenge.  It will accelerate the end of CEO dominated boards.  This will be a profound change. 

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The promise of access is that those companies with the overpaid managers or the poor record in corporate governance will incur a cost.