More Shareholders are Nominating Directors
from
September/October 2006
by Julie Connelly
It’s happening slowly, but investors are gaining influence over the director-nomination process and chipping away at board members’ ability to restrict membership in their club. The growing interest in majority voting for directors is one sign, but there are others. In seven shareholder suits settled since 1999, institutional plaintiffs have successfully bargained for the right to nominate one or more directors. The sample is small, but pay attention to it––it’s likely to get bigger as more outfits come clean on options backdating.
That practice is already resulting in shareholder suits whose settlements may well include demands by plaintiffs for board representation. (For more on options backdating and majority voting, see the following stories.) Says Darren Robbins, a partner at Lerach Coughlin Stoia Geller Rudman & Robbins, the plaintiffs’ lawyers responsible for six of the seven settlements already reached: “This is a reform that everyone is interested in.”
Everyone but board members, that is. “No board wants a plaintiffs’ implant there,” says Victor E. Grijalva, a director of Dynegy Inc., Hanover Compressor, and Transocean Inc., an offshore-drilling contractor. Directors recoil from permitting plaintiffs to nominate candidates for the board; the nightmare is that a thuggish combo of Che Guevara and Jimmy Hoffa will be rammed down their throats. But institutional plaintiffs usually remain as shareholders in the company after a suit has been settled, and their lawyers frequently take some part of their fees in shares. So they’re generally not interested in sponsoring anyone who threatens to destroy the value of their investment.
As Victor Grijalva’s experience at Hanover and later at Dynegy makes clear, working with the institutional lead plaintiffs to canvass the other institutional shareholders for likely board members can have a surprisingly successful outcome. Shortly after he retired as vice chairman from Schlumberger, an oil-field services and equipment manufacturer, Grijalva (pronounced “Gree-
hall
-va”) agreed in 2002 to go on the board of Hanover, Schlumberger’s Houston neighbor, which is in the natural gas compression business. A month later Hanover had restated three years of earnings, the Securities and Exchange Commission had announced an investigation, and a class-action suit was launched. Grijalva was made both chairman of the board and chairman of a special litigation committee. “And the first thing I had to do,” he says, “was recommend a change of management—the CEO
and
the COO. Can you imagine that?”
With new management in place, the board turned its attention to settling with the SEC and the lead plaintiffs, a group of five institutional and individual shareholders represented by Darren Robbins. Not only did the settlement, which was reached in 2003, call for Hanover to pay damages of more than $85 million in cash, stock, and debt, it also demanded that the board accede to a number of governance reforms, to remain in effect for five years—among them giving institutional holders of 1% or more of the company’s stock the right to nominate two directors. “The board wanted to put everything behind us, so as long as the two new directors were qualified and not imposed on us, we agreed,” Grijalva says.
The plaintiffs engaged corporate governance consultant Richard Bennett, then of Lens Governance Advisors, to represent them and work with Grijalva in putting together a list of candidates acceptable to both sides. From the plaintiffs’ point of view, says Bennett, who is now CEO of the Corporate Library, “we wanted a successful process. The nominating committee and the full board had to feel comfortable with the people. We didn’t want an odd shoe.” For his part, Grijalva made it clear that he would balk at anyone who did not meet Hanover’s criteria for board membership, which included such competencies as finance, accounting, international business, and relevant technical expertise. “I said that it was indispensable to have qualified people rather than political appointments, and that once on the board they would have to represent all the shareholders. They were not just there to represent the plaintiffs,” he recalls. “I was adamant that I couldn’t accept anyone not qualified.” Adamant he was. “Victor was very difficult in the beginning,” says Robbins.
With input from the institutional shareholders, Bennett and Grijalva whittled a list of about 10 candidates down to five, and then, according to Grijalva, “we came out with two outstanding directors.” One was Margaret Dorman, 42, CFO of Smith International, an oil-field services company in Houston. “I recommended her because I knew Smith International and we wanted financial expertise,” says Grijalva. The other nominee was Stephen Pazuk, 62, the retired senior vice president and treasurer of Wellington Management, an adviser to some of the Vanguard mutual funds. Both joined the Hanover board in 2004.
The settlement obliged the board to renominate only one of them in 2005. Yet both were reelected that year, and again in 2006. Moreover, both are active on Hanover’s committees. Dorman chairs the audit committee and is a member of the nominating and governance committee; Pazuk chairs the finance committee and serves on the audit and compensation committees. Says Grijalva, who stepped down as chairman of the board in 2005 but remains a director: “The two of them will be renominated as long as they want to be directors. The fact that they both chair committees can tell you something.”
After the two directors were found, an article in
USA Today
about the settlement noted that Darren Robbins “praised Hanover chairman Victor Grijalva for pushing for corporate-governance reforms.” Grijalva was astounded: “I was on the other side of the table. And they actually said something nice!”
Then in 2005, after Dynegy, also in Houston, settled a class-action suit brought by the regents of the University of California for $468 million and gave the regents the right to nominate two directors, Richard Bennett, who was again the plaintiffs’ adviser, called Grijalva to ask if Bennett could include him among the candidates he was submitting to the regents. This spring Grijalva was elected to the Dynegy board, where he was put on the audit and governance and nominating committees. “I felt I could help a company that needed it,” he says. “As opposed to joining a well-oiled situation where the job is to keep it that way, I like the ones that are going through recovery.”
Other companies have also had positive experiences with shareholder nominees. UCAR International, a manufacturer of graphite and carbon products that is now known as GrafTech International and based in Parma, Ohio, settled a shareholder suit for $40 million in 1999 and gave the lead plaintiff, the Florida State Board of Administration pension fund, the right to recommend a director. This was probably the first time such a provision was included in a settlement. The fund’s nominee was Mary B. Cranston, 58, chair of the Pillsbury Winthrop Shaw Pittman law firm in San Francisco, who became a director in 2000. The fund was obliged to renominate her only through 2002, but there she was, still part of management’s slate, in the 2006 GrafTech proxy.
No matter how successfully some shareholder nominations work out, it’s still not the path to the boardroom that most directors favor. But at a time when many boards are complaining about the difficulty of finding competent candidates, perhaps help from the plaintiffs’ quarter is something they should welcome. As Hughes Hubbard & Reed’s Kevin Abikoff, who defended both Hanover and Dynegy in their lawsuits, puts it, “These settlements are not necessarily castor oil.”
