The Case Against an Independent Netflix, Inc. Chairman

As much as it makes sense to split the CEO-chairman role, there are good reasons to keep co-founder Reed Hastings exactly where he is.

Jun 10, 2014 at 10:37AM
Reed Hastings

Reed Hastings has been chairman and CEO of Netflix for several years now. Source: Netflix.

Despite objections from a pair of institutional shareholders, Netflix, Inc. (NASDAQ:NFLX) investors yesterday voted against separating the roles of CEO and chairperson. Company founder Reed Hastings has held both titles since 1998.

According to an early tally, 53% of Netflix shares voted against splitting the workload. Was it a bad call? Let's review the proposal, its merits, and why I believe it deserved to fail. 

The argument for splitting duty
Months ago, pension fund CalPERS and New York City Comptroller Scott Stringer took the necessary steps to introduce a formal shareholder proposal in Netflix's proxy filing (page 25). Institutional Shareholder Services and Glass, Lewis & Co. also backed the proposal, The New York Times reports.

Their argument was simple, and drawn from general industry themes my Foolish colleague Alyce Lomax has covered time and again.

At present, the Company's CEO also serves as chairman of the board, a conflict of interest that we believe can result in excessive management influence on the board and weaken the board's independent oversight of management. The consequences can include higher executive compensation, lower shareholder returns, more aggressive risk-taking, and ultimately less sustainable companies for the long-term.

They also cited GMI Ratings data that point to better performance for companies that separate the CEO and chairperson role. Specifically, of the 180 publicly traded North American companies GMI studied, those with an independent chairperson delivered 28% better shareholder returns. Meanwhile, each day brings more evidence that CEO pay is ripping us off like never before. Logic says that Hastings should let someone else take over his duties as Chairman.

Why Hastings should stay put
And yet Netflix is a unique company and Hastings a unique leader. Here are four reasons I think investors were right to keep him in the roles of chairman and CEO for the foreseeable future.

1. His reputation is on the line. What Steve Jobs was to Apple, Reed Hastings is to Netflix. If the company fails to cash in on its vision of streamed anytime, anywhere programming where even entire seasons can be batch-viewed in a weekend, it'll be Hastings who is remembered for getting it so wrong.

2. Netflix is a visionary company that needs a visionary leader. Hastings is defying conventional wisdom, and, in the process, leading Netflix through a fog of uncertainty. That sometimes means making unpopular decisions. Will his choices backfire from time to time? Undoubtedly (see Qwikster). But if speed and flexibility are important at this stage, then Netflix needs a leader with the clear-eyed authority to pivot fast.  

3. Under Hastings, Netflix has enjoyed a history of outperformance. The Qwikster fiasco notwithstanding, Hastings has done an uncommonly good job creating a business that's generated huge value for himself and fellow shareholders. The stock is a 50-plus bagger since its May 2002 IPO.

4. He doesn't lack for humility. When Hastings blew it with Qwikster, he took to social media to apologize. He was also contrite in a follow-up letter to shareholders. Penalizing Hastings for his mistakes would have only made sense if he refused to acknowledge and fix them.

Foolish final thoughts
In most cases, it makes sense to split the role of CEO and chairperson. Mature, cash-rich businesses, in particular, can be a ripe target for a careless manager whose primary interest is lining his or her pockets. Independently led boards guard against these sorts of hucksters.

Hastings isn't one of them.

Yes, he may be stubborn, occasionally careless, and sometimes just flat wrong. So be it. Knowing his record and passion for the business, I'm still grateful he'll be allowed to steer the Netflix ship without having to clear his orders each time. The streaming market is simply too volatile for a rigid chain of command. Do you agree? Which way did you vote? Leave your thoughts in the comments box below.

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Tim Beyers is a member of the Motley Fool Rule Breakers stock-picking team and the Motley Fool Supernova Odyssey I mission. He owned shares of Apple and Netflix at the time of publication. Check out Tim's web home and portfolio holdings or connect with him on Google+Tumblr, or Twitter, where he goes by @milehighfool

The Motley Fool recommends and owns shares of Apple and Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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