Summing Up
"It is pretty clear to me to whom the board is accountable: the shareholders."—J. W. Penland
"When the board deviates from long- and short-term shareholder interests as it has recently done in some instances, it creates a vacuum that no other part of the corporation can fill."—Allan Page
"There is no definitive answer to the question of how any given board balances the needs of various classes of shareholders, employees, vendors, etc."—Amy Savin
"The board should be guided by the company's stated mission."—C. J. Cullinane
These comments, along with other very thoughtful responses, suggest a wide divergence of views on the role of the board in the life cycle of a corporate entity. Interestingly, those who teach corporate law suggest that board accountabilities are subject to very broad interpretation. Lynn Stout, for example, points out that "... corporate law grants directors a wide range of protection from liability for decisions that sacrifice shareholders' immediate financial interests while serving the interests of other corporate 'stakeholders.'" Margaret Blair states, "To generate wealth for shareholders, corporate managers and directors must first be accountable to and for the satisfaction of customers, the loyalty and opportunities for growth of employees [and others] ..."
How does this play out in the consideration of bids for a company from a premium bidder whose interests may not coincide with those of employees, customers, or the public, as opposed to a substantially lower bid from a company whose interests are more closely aligned with the seller's and its various constituencies? Some of you opted to sell to the high bidder; some did not.
Ian Taylor had what is perhaps the most creative approach to the dilemma. "Several years ago ... as a board we sat and discussed this very issue... [and decided that] the board should be prepared to sell to a lower bidder ... But the discount should be set by a third party [group board or non-execs] because we do have a responsibility to shareholders to get the best price."
In the experience I related, the board decided that the 20 percent discount involved in the sale to the desired bidder was just too much. Influenced in part by large shareholders, the board accepted the higher bid. Was it the right thing to do? Would the approach of Ian Taylor's board been more acceptable? Are long- and short-term interests of shareholders synonymous at the moment of truth of the sale of an entity they own? What do you think?
Original Article
In his newly published book, Authentic Leadership, Bill George reopens this question, based in part on his former role as CEO of a highly respected S&P 500 U.S. corporation. He makes clear his position by asserting that boards' almost single-minded devotion to shareholder returns may be an important cause of the recent shortfalls in corporate governance and leadership integrity, and a bias toward short-term thinking in general among corporate directors of U.S. firms.
George's view brings to mind the story of a well regarded, widely read, influential regional newspaper that was forced into a public auction by a hostile buy-out offer. While the board was willing to accept a small discount in price in order to sell to an organization with a comparable journalistic reputation, the fear of a shareholder lawsuit limited the size of the discount, even in a company with a semi-public, family-controlled ownership. What, if anything, was the board's responsibility to the public? And what, if anything, would the courts have to say about it in response to potential shareholder lawsuits? As it turns out, the two final bids involved two news organizations, one with a stellar journalistic reputation willing to pay 20 percent less than its competitor who had a reputation for meeting its numbers by cutting the newsgathering budget.
What is a board's responsibility to employees and customers, among others? And just how can it be exercised in the context of a rich history of shareholder (versus employee or customer) litigation against boards? Do you agree with Bill George? As a director of the newspaper described above, which of the two offers would you vote for?
Curiously, the proposed Sarbannes-Oxley guidelines say little about this. What, if anything, should Congress or the legal establishment do to encourage more balanced board responsibility? Do governance policies and processes for non-U.S. companies provide any guidance in this matter? What do you think?
India is making an attempt towards corporate governance by packing the boards with independent directors. Already, however, critics are questioning the wisdom of vesting too much power in directors who do not have personal stakes in the company.
"Maximization of shareholder wealth" as a guiding principle has led corporations to self-serving interpretations that violate ethical standards. Since morality cannot be legislated, the Sarbanes-Oxley guidelines can only limit violations. A public statement of ethical standards by which the board will be guided will go some distance in curbing excesses.
I believe the central problem is that boards generally define their accountabilities too narrowly and have become too easily manipulated by the managements that put them in place.
The results are predictable, whether it’s GE (why should future shareholders pay for a retired CEO’s morning newspaper or travel?) or the more egregious Enron or Adelphia.
It seems to me that employees (who help create value too) have virtually no voice in the U.S. and seem viewed as the age-old cost "input" to be minimized. And, we lose sight of the fact that society wants large companies to create secure jobs—and our system grants those corporations all manner of privileges to do so. Boards seem to have little sense that they should make management pay for failing, when management eliminates jobs or moves them offshore to make the company "more competitive." It takes no management genius to eliminate jobs. But it does take genius to create them.
There's probably more detail behind the scenes that may make the lower bid you describe more desirable. Based on the information provided, I would opt for the higher bid; reputation vs. restrictive budgeting does not equate to a 20 percent difference between the two bids.
The European and American perspectives differ slightly on the typical role of boards in corporate governance, which is perhaps a subject for separate studies and discussion. But an answer to the question would not be that differences around the world bar basically unnecessary but very costly legal hairsplitting.
Boards are primarily accountable to shareholders, owners of companies. Their definition of the interest of the shareholders must be governed by their own personal, integral, and long-term understanding of the functioning of society and economy. Sometimes this may involve defending an unpopular or not obvious position, creating one's own constituencies, channels of communication, etc. At the end of the day it's also about demystifying apparent conflicts of interest where there are none—if the right perspective is applied. Bill George's book quote is about creating lasting value, so is ultimately the remit of corporate governance, including boards.
As a professor who teaches corporate law, I can attest that the rules are less than crystal clear when it comes to whether a board can reject a premium takeover bid in order to accept a much lower bid from a company with a better track record of protecting employees, customers, or the community. Nevertheless, it is widely agreed that corporate law grants directors a wide range of protection from liability for decisions that sacrifice shareholders' immediate financial interests while serving the interests of other corporate "stakeholders." What's more, there is strong support in economic theory for such director discretion.
According to the team production model of the corporation, successful firms need not only cash investments from investors, but also nonfinancial investments from other groups—for example, investments of expertise, loyalty, and imagination from the firm's employees and executives. To some extent, corporate "team members" make such nonfinancial investments in return for formal promises of salaries and other payments. But formal contracts are not the entire answer. Employees and executives often work harder and longer than they can be required to because they believe they have a stake in the firm and its future. Similarly, customers, creditors, and communities develop loyalties to the firm that contribute to the bottom line.
Such loyalties can be exploited when control of a firm passes to hostile hands. As a result, if corporate team members believed that the board not only could, but must, sell to any bidder who offers a dollar over market price, they might be far less willing to put in today the extra effort and loyalty that makes the firm a success tomorrow. The end result is that a firm without at least some anti-takeover protections is less likely to become a profitable enterprise (and a good investment) in the first place.
This analysis explains why the vast majority of companies that go public nowadays include strong anti-takeover protections in their charter. (If anti-takeover defenses were really so bad for shareholders, one would think that corporate promoters would avoid anti-takeover defenses at the IPO stage, in order to get a higher price.) Team production theory also supports Bill George's arguments. When investors need others' contributions to build a successful corporation, forcing boards to sell to any bidder who offers a premium may not only be bad for society—it may be bad in the long run for investors as well.
It is pretty clear to me to whom the board is accountable: the shareholders. The board is elected by the shareholders to represent their interests since it would be too costly and inefficient for the shareholders to oversee management themselves.
To effectively represent the shareholders' primary interest of maintaining and building enterprise value, board members must always be mindful that businesses are fundamentally an effectively designed grouping of offers that have been made and accepted between the company and customers, suppliers, employees, and owners.
When evaluating future actions, board members must carefully consider how the company's proposed actions will influence the company's ability to produce a return on the shareholders investment today and into the future.
While the boards are to be held accountable to the shareholders, it is the responsibility of shareholders to hold their board members accountable for the results that are produced during their tenure.
In this case I would, without hesitation, vote in favor of the company with a stellar journalistic reputation.
Shareholders are part of society too, and the well-being of society must take precedence over shareholder expectations.
While the board of directors should certainly be accountable to shareholders, their actions must at all times be aimed at improving the quality of life for society as a whole. In other words, if it is a question of having to choose between what is good for shareholders and what is good for society, and if there is a conflict between the two, the board must have the courage to opt for the latter.
The commitment made by employees and consumers is a difficult-to-contract "stick with us" agreement that asks that they forego other choices based on trust. There is no legal guarantee that the commitment will be fully rewarded. Why not widen the scope of obligation to suppliers and lenders who have developed products and credit for specific customers—interests often supported only by trust in the long-term viability of a company? Perhaps in addition to shareholder value, directors need to promote trust among the various people whose participation is needed for the growth of the company.
If our objective is to create a sustainable equitable and responsible society, boards should become accountable to the strategic stakeholders of the corporation after the time horizon of the equity investors.
Ideally, society should not provide a license to any corporation to exist unless all property rights transfer to strategic stakeholders over, say, twenty years to create an ownership transfer corporation (OTC). In this way boards would become accountable to both investors and stakeholders, to answer the question raised by Professor Heskett: "What, if anything, should Congress or the legal establishment do to encourage more balanced board responsibility?"
This approach would also invigorate capitalism, as equity investors would demand full pay out of corporate earnings to recover their investment with a competitive return. To expand a business, management would need to raise new funds through spinning off some assets to an offspring OTC formed through a rights issue of shares to their equity holders. In this way, a more efficient capital market would be created with major investment decisions transferred from management to investors.
OTCs could be introduced on a voluntary basis by the government offering to, say, halve the tax rate of existing corporations that changed their constitutions to create stakeholder equity interests. Existing shareholders would vote for the change to obtain a bigger, quicker, less-risky cash return in exchange for relinquishing long term ownership that citizen stakeholders would not discount as an adjunct for social security income.
Governments would increase their tax revenues as the corporate tax base transferred from institutional shareholders to citizens who typically pay tax at higher rates. OTCs provide a way for "democratising the wealth of nations" as described in my 1975 book of that name and in my 2002 pocket book, A New Way to Govern: Organisations and Society after Enron.
To whom and for what should corporate directors be accountable?
Many things, including providing at least a fair return to investors. But share price is, at best, one measure of how well a corporation is doing in general and how much wealth it is generating in particular. In fact, the Enron experience suggests that share price may well be a lagging indicator.
To generate wealth for shareholders, corporate managers and directors must first be accountable to and for the satisfaction of customers, the loyalty and opportunities for growth of employees, the success of franchise operators, strong relationships with suppliers and with the larger community, and making sure that all of these participants in the corporate enterprise are engaging with each other in productive ways.
If the corporation does these things well, profits for shareholders will follow. But a corporation that sets "share value maximization" as its mission will soon find that this is a hollow goal that provides no guidance to managers and employees about how to achieve it.
Several years ago, while in the middle of a sale and due diligence, as a board we sat and discussed this very issue.
We thought about employees, suppliers, and our responses to monopolies and mergers ... especially as the higher bidder intended to reduce operating capacity! And we thought we were it.
Today I would follow the guidance formulated that the board should be prepared to sell to a lower bidder and to help employees, friends, and colleagues—as management involves emotion and is not practiced by robots. But the discount should be set by a third party (group board or non-execs), because we do have a responsibility to shareholders to get the best price.
It is a fine balancing act—but one where I would prefer to remain emotionally involved and not divorced from my colleagues by an act dictating that I act only to take the highest price. To act on the cost of something and not its value would be a backwards step for our society.
This debate targets the core definition of an organization.
While laws like Sarbanes-Oxley can address specific aspects of breaches and can limit the scope of the moral dilemmas, there are always going to be wider issues where boards will need to make a decision between a right and a right. It is this duty that governance structures have more recently abdicated.
A rethink of the principles-based governance is required; a new definition of ethical behavior is required. It is difficult. Globalization means that there is no single societal norm that can be enforced or considered. Increasing market pressure means board decisions have a lot hanging on them, and decreasing market tolerance means that these decision makers could be persecuted by shareholder lawsuits.
Again, it is difficult. But what is the ethical decision? Which decision would be beneficial to every stakeholder or least detrimental to all?
There is no question that the board and management of a public company have many "stakeholders" to whom they are accountable. Case law tells us who can sue a board/management for breaching duties owed to such stakeholders. Congress has tried, unsuccessfully, to legislate morality, integrity, fairness, and honesty into boardrooms and CEO/CFO/GC management offices since 1933. Their efforts continue through Reg. FD and SOX legislation.
So why do the scandals and corruption inside board rooms and management offices continue? Simply put, some public boards and senior management teams fail to self-govern themselves and fall into what I call the "buddies for life" fraternity. I call it this because in most corporate corruption cases, like Enron and WorldCom, it took a group to carry out the fraud. One individual could not have done it alone.
Where was the CEO? Where were the auditors, audit committee, general counsel (in-house and outside)? These people suspected or knew nothing? I do not believe it. Legislation alone will not create fear in the boardroom or in the management suites, but it can set forth the punishment. Only stiff criminal penalties and fines that are handed out swiftly and fairly according to responsibility and accountability will truly impact such corrupt practices and unethical behavior.
We know to whom the board and management are accountable. The real question is, what happens if a board or management group breaches this duty or trust? I submit to you that if the legal system and public investors can create real fear in the hearts of board members and management, a cultural change will occur inside the boardroom and management offices. Maybe it has started, but until some of these board members and senior officers, who have ethically, morally, and legally violated their duties, are put behind bars and financially ruined, the "buddies for life" fraternities will continue to meet and carry out their selfish deeds.
There is no definitive answer to the question of how any given board balances the needs of various classes of shareholders, employees, vendors, etc. Therefore, it is imperative for each board to state its guiding principles publicly in advance of any pressing decision. Any investors, employees, or vendors can then choose in advance whether they like the guidelines and want to stay affiliated with the company. It also gives the board a chance to state its beliefs and ensure that all members are in agreement.
Boards of late—whether passing on executive compensation, conflicts of interest, option awards, executive loans and on and on—have neglected the shareholder, in my opinion. It is the responsibility of the CEO to assess and balance community, employee, supplier, and other constituent needs in order to maintain a profitable, efficiently operated organization. When the board deviates from long- and short-term shareholder interests, as it has recently done in some instances, it creates a vacuum that no other part of the corporation can fill.
A company's values determine its direction and mission. The board should be guided by the company's stated mission.
If the primary mission of the company is to service the customer with a "reputable" source of information, then once that company is sold the mission is complete. The sale of the company should then be for shareholders' benefit.
It is the board's job to run the company on an ethical basis while the company is under its control. If the company is being sold, the chance of the board voting in its own interest is too great. Price should determine the new owner.
The government should not be involved…
A problem arises in two cases:
1. When the decision maker has a conflict of interest in making the decision of self versus shareholder—it is the shareholder who suffers.
2. When the evaluation timeframe is short-term versus long-term—it is the long-term interest that should be considered, although invariably the short-term interest is, since the association of the decision maker with the company is a short-term phenomenon.
The decision maker takes the long-term perspective only when he or she considers a long-term association to be a viable proposition.
A corporate board has obligations to its shareholders and employees. The integrity of the board and the corporation are wrapped up in the total environment of the company. It is like the analogy of a body working without the head to negate the accountability of the board. Furthering this analogy to include the stockholders and the employees would be like a body functioning without arms or legs. While the body could function to some degree, it would do so at a reduced rate. Eventually, the body would suffer deterioration from the lack of limbs.
The same is true with the corporate body. Without the "functional" parts of the whole, the corporation would suffer the same deterioration. Employee apathy and shareholder loyalty will erode in direct proportion to the accountability, or lack of, demonstrated by the board.
In conclusion, the board has to be accountable, both to the shareholder and employees, with an eye to elevate its own integrity over some desire to make an easy buck.