Dissenting Directors: Should You Shut Up, Quit, or Fight?
from
September/October 2002
by Julie Connelly
The duty of a director is clear—in concept,
anyway. You serve as the shareholders' surrogate and are obliged to
speak up when you disagree with a management decision that's important
to the company's future.
The reality, however, is that when a director actually does dissent, the crystalline concept of disinterested duty promptly fogs. Were Hewlett-Packard's shareholders actually better off after the fierce proxy battle and lawsuit that Walter Hewlett launched, supposedly on their behalf? Was he a courageous board member doing what he could to head off a merger that he feared would sink the company? Or was he just petulant and resentful of That Woman for mucking around with Daddy's company (not to mention his own inheritance)?
The shareholder vote on HP's merger was almost equally divided—and so too, probably, are the corporate governance community's views on Walter Hewlett's actions. Richard Hanselman, the non-executive chairman of Health Net Inc., a managed-care company in Woodland Hills, California, thinks Hewlett did shareholders a favor. "What was gained was a clear vetting of the issue," he says. "Could HP paddle its own canoe more effectively without joining Compaq? It's clear that Walter's dissent was a valid thing to do." Richard H. Koppes, a partner at Jones Day Reavis & Pogue in Los Angeles, sees it quite differently. Generally a fan of the HP board—"From what I know about the directors, they were pretty strong and independent. They weren't lackeys"—he found the spat with Hewlett distasteful: "All of this he-said-she-said, it reminds you of dealing with children. That can't be the model we're looking for in American corporations." Koppes is the former general counsel of CalPERS and was responsible for creating the big pension fund's aggressive corporate governance program.
Yet dignified silence doesn't seem to be the model either. For if Enron, Global Crossing, Tyco International, and Adelphia Communications have anything to teach directors, it's that a supine attitude toward management is increasingly risky. Carl E. Metzger, a partner at the Boston law firm Testa Hurwitz & Thibeault, notes with considerable understatement, "The directors of Enron will be facing significant impositions into their lives."
Securities class-action suits are proliferating. The likelihood that shareholders will sue a company has increased by 137.3% since 1995, according to National Economic Research Associates, a New York City think tank. True, 300 of the 498 suits filed last year charged misdeeds related to initial public offerings, but that leaves 198 suits related to just about everything else—and it's impossible to lay down rules about how and when a director should dissent, because every case is unique. "There's no code of practice or case law, as there is with selling the company, that states, 'If you dissent, here are your five rights,'" says William E. Mayer of Park Avenue Equity Partners in New York City, who has served on 14 boards over 25 years. His current directorships include Lee Enterprises, a newspaper chain in Iowa, and First Health Group, a health-benefits company in Oakbrook, Illinois.
A board's three major responsibilities are deciding whether to merge or sell the company, hiring or firing the CEO, and determining the CEO's compensation. After that, a director is in the murk of management's prerogative to run the business. You can argue with the CEO about the wisdom of certain marketing decisions or the location of a new plant, but those are his or her calls to make—until they result in huge costs to the company. And when they do, board discussion reverts appropriately to succession issues.
When directors discover they are lonely voices crying in the wilderness, however, they have an equal number of choices. The first is to shut up in the interest of harmony—and a widely held view says that boards should be instruments of consensus whose decisions must be unanimous. If individual directors find that untenable, they can exercise their second option and resign. You may reliably assume that most board members who cite "time considerations" as the reason they're leaving the board before their term expires disagreed with the other directors on matters of substance. Don't bother to look for statistics on this. There aren't any. The code of omertà is as binding in boardrooms as in the social clubs once frequented by John Gotti. The third option is the most controversial: Go public with a disagreement and hunker down for what might turn out to be a nasty fight.
A lot of dissent is aired in boardrooms and settled, one way or another, without a whiff of gunpowder escaping to the outside world. Duke Bristow, an economist at the Anderson business school at UCLA, likens these boardroom battles to the unknowable number of airline crashes that don't happen, thanks to the skill of the pilot. "Skilled CEOs and directors avoid problems all the time," he says. "They simply go unobserved. The public only sees the crashes, the Enrons."
Occasionally dissent does become public—famously so at Coca-Cola in 2000. Over the course of a five-hour board meeting, über investor and Coke director Warren Buffett put the kibosh on the company's proposed stock merger with Quaker Oats. Coke chairman and CEO Douglas Daft had pushed for the deal, and even gone public with it. But Buffett, whose Berkshire Hathaway investment company owned 8% of the drink-maker's stock, choked on the price. "Giving up 10% of the Coca-Cola Co. was just too much for what we would get," he said later. Other board members had a similar reaction, and the deal died. Of course, Buffett's reputation and the fact that he controlled so many shares gave him persuasive muscle. "He has a strong personality and the firepower to back it up," says Morris Offit, CEO of Offit Hall Capital Management in New York City—and himself a former dissident director, of Wachovia Corp. (for more, see the box on the opposite page).
Walter Hewlett had an investor's interest in Hewlett-Packard and personally owned 0.02% of HP's stock; he was also a trustee of both the William R. Hewlett Revocable Trust and the William and Flora Hewlett Foundation, which together owned 5.6% of the company. Moreover, his views swayed the Packard family interests, which accounted for another 12%.
But suppose you don't have such a stake? What are your options if you are a run-of-the-mill board member who opposes the course that the CEO and your fellow directors have endorsed, and you've been unable to change their minds or reach a compromise you can live with? Consider your choices carefully, because all have legal pitfalls:
Shut up. Sure, raise your objections, but be a team player and go along with the majority when it comes time to vote. Robert Mittelstaedt, vice dean at the Wharton School, believes that you ought to voice your concerns in a meeting, but then "your responsibility to shareholders dictates that you should get on board when a decision has been taken." That's generally been the accepted, and expected, behavior—particularly "if board members are selected because the CEO feels that these folks will be friendly or aligned with him or her," says psychologist Stephen Gravenkemper of Right Management Consultants, a consulting firm in Houston. In those cases, he adds, "you have dynamics that make dissent increasingly difficult."
The price of not going along isn't only monetary, though some directors enjoy very generous compensation packages, including lavish travel and other perks. Also prized is the prestige that comes with a directorship. Get a reputation as a naysayer, and you may not only lose what you have but make yourself an unattractive candidate for other boards. Word on you gets around. One experienced director recalls a time when he was invited to join an additional board. Just before he was to be elected, the chairman of the nominating committee called to reassure him, "You check out okay." Says the nominee: "He wasn't talking about my résumé."
One thing you must be careful not to do as a director is vote in favor of an action you cannot support just in order to go along. When you can't side with the majority on a significant matter, "I'd advise people to record their objections [in the minutes]," says Raymond Troubh, a New York City financial consultant who was recently named interim chairman of the Enron board. Should the company be sued, you want to be able to show that you were a conscientious and alert director aware of the risks the company was taking.
Getting yourself on the record as a dissenter can backfire, however. Class-action law firms routinely subpoena boardroom minutes, and what you had to say could well provide a trail of phosphorescent bread crumbs for those seeking evidence that the board did wrong. As a result, you might find yourself caught up in time-consuming depositions, perhaps leading to your having to give testimony in court—or before Congress. What was a private disagreement now becomes a public one, often requiring you to testify against other directors. If the board managed to reach a consensus, don't use the minutes to grandstand about the fact that you once had an issue with the other directors on a particular vote. Instead, get your dissent into the minutes when you fear the board is making a decision that may come back to haunt the company in the form of a lawsuit; common sense dictates that you protect yourself. "If a director makes a clear record of opposition to an action and does all that he or she might reasonably be expected to do in objecting, then the risk of personal liability is reduced dramatically," says Boston attorney Carl Metzger.
Resign. Should you simply slip off silently into the night when it's clear you are at odds with everyone else? Absolutely, says Mittelstaedt, and particularly if your dissent is going to become an ongoing battle that will detract from the business. Troubh is also in favor of a quiet departure; he thinks it catches the attention of other directors and therefore benefits shareholders. He was once on the board of a company he thought was playing fast and loose with accounting regulations. Rather than raise his objections at board meetings—"This was some years ago," he explains, "and I wasn't smart enough or tough enough then"—he opted to bow out quietly. After he left, he says, two new directors were elected who were more rigorous than the ones who remained, and they were instrumental in gradually upgrading financial procedures. "So that was a beneficial impact," he says. "I honestly think it was the result of my leaving."
Others think quiet resignations are wrong. Says Charles Elson, director of the University of Delaware's Corporate Governance Center: "I think you ought to stay and do the best you can. Once you leave, that dissenting voice is stifled." Patrick McGurn, vice president of Institutional Shareholder Services, a proxy advisory firm in Rockville, Maryland, takes the same position. He cites the recent resignations of two directors of a disastrously managed communications company. They reportedly told friends that they had qualms about the CEO's gargantuan pay package, but no outsiders seem to know for sure why the pair quit. "In my mind, they haven't done their duty," says McGurn. He thinks the directors should have written letters laying out the reasons for their resignations, and then demanded that the company include the letters with its 8-K filing. Shareholders would benefit because journalists—and plaintiffs' attorneys—routinely trawl those filings, looking to make this kind of information public.
Again, such letters are risky; they can be like blood in the water to class-action sharks. Even so, says Richard Koppes, "I think directors ought to make known why they're resigning or not re-upping. And that's when shareholders can take matters into their own hands. They can run their own slate of dissenting directors."
Take your fight public. As Walter Hewlett can attest, life gets unpleasant when dissent makes the news. Taking your case to the media is polarizing, and a sign that you've been unsuccessful in the boardroom. Your fellow directors will be unforgiving. "Do you care about what people say about you?" asks Park Avenue Equity's William Mayer. "Most directors do. The price for any kind of dissent is really high." You'll be vilified as Hewlett was, isolated so that you're kept out of the information loop, and if you don't quit it's likely that you won't be nominated for reelection when your term expires. And there can be other costs. George Cloutier, CEO of American Management Services and a director of Circon Corp., a manufacturer of medical devices, went public with his dissent in a 1998 battle that not only ousted Circon CEO Richard Auhll but cost Cloutier a 30-year friendship. (For more on why the two fell out, see the box on the opposite page.)
One group of directors who are all but guaranteed a public fight with other board members are those who are elected to a board as dissidents, either individually or as part of a dissident slate, and are implicitly charged by shareholders to shake things up. Not surprisingly, such newcomers often find themselves both in the spotlight and sharing the stage with hostile co-directors. Guy Adams, a money manager from Los Angeles, experienced this last year when he successfully challenged Lone Star Steakhouse & Saloon's founder, chairman, and CEO, Jamie B. Coulter, for his board seat. Two days before the election, Adams discovered that the other directors had formed an executive committee that would transact all pertinent board business. Needless to say, there was no room for him on the committee once he'd won his seat. Nor was he appointed to any other committee, and his requests to sit in on any of them as a non-voting observer were denied. "He seemed to be getting the mushroom treatment," says Patrick McGurn. (For more on the Lone Star dissident, see page 32.)
Sometimes the isolation of such dissidents can be even more petty. In 1997, Charles Elson was elected as one of two dissident directors to the board of Circon Corp., the same company George Cloutier served as a board member. Ultimately, the dissidents (with Cloutier's help) won the day at Circon. But when Elson flew from his Florida home to Santa Barbara, California, for his first Circon board meeting, he wasn't booked into the plush lodgings reserved for his fellow directors. "They put me up in a place that was pretty long in the tooth, complete with a paper sanitary band over the commode," he recalls. "They were 'sorry,' but all of a sudden there was nothing else available."
The sweetest victories for dissenting directors, of course, are those that follow the boardroom battles shareholders never hear of, the air crashes that don't happen. But winning these battles calls for careful planning. "You can't point to any one thing about the best way to dissent," says J. Franklin Balotti, a partner at Richards Layton & Finger, a Wilmington, Virginia, law firm. "It depends on the director's skill at getting his or her point across and the thickness of the skins of the other directors." You gain credibility among your peers, however, if you are seen to be an "important" director—that is, one who sits on a powerful committee, such as audit, finance (Buffett was on both at Coca-Cola), or compensation. Otherwise, even if your comments are well reasoned, it could take you as long as a year to win others over to your point of view, says Health Net chairman Richard Hanselman. "In the final analysis," he notes, "not everyone on a board is equal. It's the law of the jungle."
You'll help your cause if you have some special knowledge not available to the others, something that will help you add a dimension to your argument. Says Stephen Currall, an associate professor of management and psychology at Rice University's Jones School of Management: "If you introduce some factual information or information based on some analysis, this is always seen as a positive by other directors."
As you'd expect, you should stay cool, cautions a veteran board member. Discussions can get heated, and while short bursts of anger will be tolerated, no one has any use for a loudmouth who is determined to win by intimidation.
Finally, you'd be wise to lobby other directors in private before you weigh in at a board meeting. As a professional observer of group dynamics, New York City therapist Olga Silverstein, says: "The first rule is to line up support. The less you are alone, the more powerful your position is." And the more likely you are to win your battle—and keep your board seat.
