Let's Fix Board Elections

This article is part of an ongoing series about the Shareholder Bill of Rights currently in Congress. Together, we can ensure that this bill truly represents our interests as shareholders and individual investors.  

In May, shareholders voted out all three Pulte Homes (NYSE: PHM  ) directors up for re-election over concerns about the company's corporate governance. Yet none of the three lost their positions as a result of the vote, because other board members simply reappointed them.

Strange as it may seem, not all companies have a "majority" voting structure requiring directors to have a majority of votes cast to stay on the board. Under so-called "plurality" systems, directors can keep their seats so long as they receive one vote.

So far this year, a record 93 board members failed to receive 50% of votes cast by shareholders,The Wall Street Journal reports. What's all the more startling is that not a single board member who lost these elections actually stepped down.

The current situation
Since when did the meaning of "elected" become so complicated, hanging chads aside? In addition to the majority/plurality divide, there's also the question of whether boards should be "staggered" or not.

Some companies -- among them names such as E*Trade (Nasdaq: ETFC  ) , CarMax (NYSE: KMX  ) , and BorgWarner (NYSE: BWA  ) -- stagger elections such that not all of the board is up for re-election each year. While that approach doesn't entirely lack merit -- see our pros, cons, and comments boxes below -- most folks consider staggered elections a tool that insiders use to keep themselves in the owner's box and you in the cheap seats.

Some boards, including those of Procter & Gamble (NYSE: PG  ) , IBM (NYSE: IBM  ) , and Clorox (NYSE: CLX  ) , instead opt for annual elections for the full slate of their directors. In theory, that puts directors' feet to the fire regularly, which acts in the best interest of shareholders.

What the bill would do
"Each member of the board of directors of the issuer shall be subject to annual election by the shareholders. ... Directors in uncontested elections shall be elected by a majority of votes cast." 

In plain English, that means that you, the shareholder, would get the right to vote on whether you want to keep each member of the board of directors each and every year -- whether that seat is contested or not. In contested elections, whoever gets the most votes wins. In uncontested elections, directors would need at least 50% support to keep their positions.

The pros and cons
Majority-voting rules for uncontested elections seem like a no-brainer. Boards are supposed to represent a company's owners. If a majority of a company's ownership doesn't want a director to represent them, he or she should resign. Corporate Library founder Nell Minow told us that requiring uncontested incumbents to receive a majority of votes cast is absolutely essential to making boards accountable to shareholders. Even John Castellani of Business Roundtable, a vocal opponent of the Shareholder Bill of Rights, told us he supports majority voting, though he noted that most of his member companies have adopted it on their own.

The merits of holding annual elections are less black-and-white. The big pro is that more frequent elections equates to more opportunities for shareholders to affect change. If shareholders aren't happy with a board's performance, those shareholders could organize to kick board members to the curb. Ideally, boards would give more credence to shareholders' goals and concerns knowing that their cushy board seats were on the line each and every year. Indeed, separate studies by Harvard and SEC economists show that staggered boards lead to lower shareholder value.

In terms of cons, look no further than your elected officials. It is no secret that our country has been running on deficits for years, or that we can't afford our projected commitments to programs like Social Security and Medicare. Despite that, making the correct-but-tough choices on these third rails eludes us, probably in large part because your local member of Congress would rather pass the buck on long-term problems than possibly sacrifice his (or her) seat, status, and career.

Board directors with short terms could find themselves in similar positions, possibly incentivized to sacrifice a company's long-run prospects for an extra couple of pennies of quarterly earnings. That's especially true considering the notoriously short time horizons of shareholders -- the average holding period for NYSE-listed stocks is just nine months. Upping the frequency of board elections might actually induce an unhealthy focus on the short term at the expense of long-term results.

Some proposed workarounds for this risk include:

  • Getting rid of staggered boards but giving companies the option to hold elections less frequently (perhaps every one to four years).
  • Giving extra votes to shareholders based on how long they've held the stock.
  • Making it easier for long-term shareholders to nominate directors, as the bill does.
  • Banning the practice of voting with borrowed shares.

How reform will affect you
Should this pass, you'll have an annual vote and voice on the membership of your company's board of directors. Of course, so will other shareholders, who, as a group, may or may not be as long-term-oriented as you, or as the directors we all would have the right to remove.

Shareholders, be heard!
So what do you say, Fools? Should democracy reign supreme? Is requiring majority voting a good idea? Would annual board elections help whip boards into shape, or would they create an unhealthy focus on short-term results?

We want the Shareholder Bill of Rights to come from all of us. So post your comments at the bottom of this article (or any other in this series). Cast your vote in our online polls. Or send us an email at ShareholderRights@fool.com. Let’s all tell Wall Street and Washington what rights we shareholders really need.

Once you’re done, remember to check out "It's Time for a Shareholder Revolution" for more on the Shareholder Bill of Rights.

Joe Magyer owns shares of Procter & Gamble and CarMax. Ilan Moscovitz doesn't own shares of any companies mentioned. Procter & Gamble and Clorox are Income Investor recommendations, and CarMax is an Inside Value recommendation. BorgWarner is a Stock Advisor recommendation. The Motley Fool is investors writing for investors.


Read/Post Comments (8) | Recommend This Article (23)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On October 02, 2009, at 8:05 PM, Sail285 wrote:

    The term limit idea is good for both the politicians and the board of directors. Elect one third of the board each year for a term of three years. An individual could be renominated for a second term. After six years the person must not serve on the board for at least four years. Each year the election would need to include election of a board member to fill the remainder of the term of any unexpected vacancy.

  • Report this Comment On October 02, 2009, at 8:26 PM, standandcounted wrote:

    i think share holders should be able to be on the board just by puting in a propusal and stating why they feel they would be good for the company and what they feel the company needs and how to get there,the CEO should have a 50% say if that person should be voted in and the other 50% should be by share holders votes, if there are 6 seats ,there should be 12 people running,also they should not give away shares to people on the board to sway board member into voting a certain way,but the company should at lest pay for travel and loding to board members and a notice of what board members voted on and get share holders responds by way of e-mail,if its good share prices should rise,and vice versa, more of everyone is involved which makes everyone feel they have some say in what goes on in the company

  • Report this Comment On October 04, 2009, at 11:04 AM, pa1vette wrote:

    I don't understand where we are supposed to get the information to know who is and who isn't a good or prospective board member. Help?

  • Report this Comment On October 05, 2009, at 1:03 AM, globalsailor wrote:

    Companies should have their entire board shareholder approved but directors should be allowed to have as long as ten year terms. This makes the most sense because that's how long a business cycle is.

  • Report this Comment On October 05, 2009, at 8:42 AM, pkt005a wrote:

    Long terms and staggered elections are fine by me. It avoids short term gaming. Majority election rules seem like a no brainer 'yes' to me. Thanks Fools, I was unaware of that critical detail.

  • Report this Comment On October 09, 2009, at 2:24 PM, skat5 wrote:

    Annual elections of all board members could improve accountability but it might result in sudden shifts that would be counter-productive for long-term management. This might need to be balanced by weighting shares by length held, as one of the options proposes. However, that could be devilishly hard to administer. One could argue that is what computers are for, but then we return to the lack of transparency issue when most investors discover they cannot tell if there vote counts. So you might want to keep it pretty simple: if you have held shares long enough to be taxed at a long-term capital gain rate, then you get to vote. Otherwise, you don't. And will we ban the issuance of non-voting stock or different flavors of stock that have different voting rights.

    What about mutual funds, the elephant in the room. Can inverstors in mutual funds vote for some general guidance of what their fund votes for on the proxy ballots it receives? For all that money they suck up, it would be nice if the fund management actually took a more active interest in voting for better corporate governance.

  • Report this Comment On October 09, 2009, at 6:16 PM, haywool wrote:

    Staggered elections for board members is a way to keep "experienced" members on a board while introducing new members to the business. However, what ever happened to "one owner=one vote"? I would like to have my vote count just as much as yours no matter how many shares you own. If I own only 10 shares to your 5000 shares, then my knowledge should count just as much as your knowledge. Our individual votes should count no more and no less than any board member or mutual fund or Warren Buffett or retirement fund or what ever single entity that owns shares no matter how many shares. A single holder of shares gets a single vote.

    Thanx,

    Rich (haywool)

  • Report this Comment On October 09, 2009, at 8:41 PM, fromunder wrote:

    and i think there should be more effort put forth to give shareholders a more thorough bio of potential board members

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 999010, ~/Articles/ArticleHandler.aspx, 11/23/2014 7:38:00 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement