Under Pressure: Directors in an Era of Shareholder Primacy

Jim Rossman is Head of Shareholder Advisory, Christopher Couvelier is Director, and Quinn Pitcher is an analyst at Lazard. This post is based on their Lazard memorandum.

The job of the public company director has never been as challenging as it is in 2019. Today’s directors must execute their core duties while juggling a cacophony of often competing voices: activist investors; increasingly vocal “traditional” owners; index and pension funds wielding the power of their vote; shareholders demanding action on environmental, social and governance issues; employees and unions; local and national political leaders; social media; and of course management itself. Where does a director’s duty reside in this complex landscape? And amid this dissonance, how should today’s director prioritize these many demands?

In pursuit of answers to these questions, Lazard recently hosted “Under Pressure: Directors in an Era of Shareholder Primacy,” an event attended by over 150 directors representing over 200 public companies around the world. The event began with a panel discussion moderated by Dennis K. Berman (Managing Director, Lazard Shareholder Advisory) and featured representatives from academia, regulators, investors and public companies:

  • Robert J. Jackson, Jr., Commissioner, SEC
  • Samuel Liss, Director, Argo Group and Verisk Analytics and Managing Principal, Whitegate Partners
  • Mark D. Mandel, Vice Chair, Senior Managing Director, Partner and Equity Portfolio Manager, Wellington Management
  • Aeisha Mastagni, Portfolio Manager, Sustainable Investment & Stewardship Strategies, CalSTRS
  • Lynn S. Paine, John G. McLean Professor of Business Administration and Senior Associate Dean for International Development, Harvard Business School

The panel was followed by a keynote conversation between Tim J. Buckley (Chairman and CEO, Vanguard) and Kelly Evans (Anchor, “The Exchange” and “Power Lunch,” CBNC).

Briefly summarized below are some of the key themes that, in our opinion, emerged from the event.

A rising tide of shareholder and stakeholder demands—often in conflict—is increasing pressure on today’s public company director

  • Secular trends in asset management have fundamentally altered the profile of public company ownership, and numerous types of shareholders are demanding that their voices be heard in the boardroom
  • The rise of index funds has created a concentrated class of “permanent capital” focused on the corporate governance topics most likely to affect value creation potential over the very long term
  • Traditional active managers—under pressure to drive outsized returns to justify their fee structures—are expanding their toolkit to include forceful dialogue with companies and, in extreme cases, vocal, public agitation
  • A changing culture of political pressure and social awareness is shining a spotlight on social purpose, corporate culture, human capital management and environmental and sustainability issues
  • Amid these heightened demands, questions regarding the appropriate role of the board abound: How long is “long term”? How does the “maximizing shareholder value” paradigm address stakeholder interests? Should corporations pay for social and environmental change?

Directors should raise their “collective intelligence” by proactively defining and implementing bespoke norms and objectives

  • Though shareholders of all types have become comfortable sharing their ideas for value creation, no investor shares the board’s fiduciary duty towards the company
  • As such, a core function of an effective board in today’s market is to exercise judgment in processing and prioritizing competing feedback
  • Rather than aspiring to externally defined “best practices”, boards should establish customized norms and a shared understanding of objectives and responsibilities so that all decision making is calibrated to the company’s strategic priorities
  • Boards should proactively set a time horizon for strategic objectives; although the disparate interests of shareholders and stakeholders may converge over a long enough period, it is incumbent on directors to operate within their own strategic timeframe
  • For the board’s bespoke norms and objectives to be most effective, careful consideration should be given to how frequently they are revisited and how they are disclosed to the investment community

Directors should have a detailed understanding of the investors they represent and craft a shareholder engagement strategy accordingly

  • Boards should routinely be educated regarding the composition of the shareholder base they represent (by investor type and management style) and the key reasons why certain investors do or do not own the company
  • With shareholders demanding more transparency from their stewards in the boardroom, directors should proactively execute a shareholder engagement strategy that prioritizes relationships with the largest, longest-term holders (including passive funds)
  • All engagement should be rooted in disclosure that compellingly articulates a company’s long-term value creation narrative; appropriate disclosure provides a strong foundation on which issuers can build stable, supportive relationships with investors
  • Shareholder engagement aptitude should be considered as a factor in director selection and board refreshment

Executive compensation has the potential to further escalate as a “lightning rod” issue for shareholders

  • Shareholders expect directors to devise a tailored compensation program that clearly incentivizes the achievement of well-defined strategic priorities
  • Investors view a board’s decisions about executive compensation as a window into directors’ thinking on important issues of strategy, culture, succession planning and talent retention
  • As the complexity of compensation programs and disclosure has increased, shareholders have become more prone to opposing say-on-pay, particularly when the absolute quantum of compensation appears excessive
  • The historical practice of deferring to outside compensation consultants may cease to pass muster as an appropriate way to design a compensation program

Public policy responses to evolving shareholder dynamics may soon be forthcoming

  • Efforts to reform “proxy plumbing” seek to leverage technology to modernize the basic mechanics of corporate democracy, including the casting and counting of votes
  • The proxy advisory industry continues to be in the crosshairs, with transparency regarding decision making and conflicts and the ability for companies to respond to proxy advisor recommendations receiving particular attention
  • The increasingly complex shareholder environment is one of many factors contributing to a decades-long decline in the number of newly-listed U.S. public companies; whether and how to stem this trend is front of mind for legislators and regulators
  • There is a growing consensus that combating ESG risks will require significant investment; “maximizing shareholder value” may prove to be an inadequate compass for navigating a new era in which shifts in capital allocation are required to address these risks
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