Wachtell Lipton Offers Thoughts for Boards of Directors in 2018

As 2017 draws to a conclusion and we reflect on the evolution of corporate governance since the turn of the millennium, a recurring question percolating in boardrooms and among shareholders and other stakeholders, academics and politicians is:  what’s next on the horizon for corporate governance?  In many respects, we seem to have reached a point of relative stasis.  The governance and takeover defense profiles of U.S. public companies have been transformed by the widespread adoption of virtually all of the “best practices” advocated to enhance the rights of shareholders and weaken takeover defenses.

While the future issues of corporate governance remain murky, there are some emerging themes that portend a potentially profound shift in the way that boards will need to think about their roles and priorities in guiding the corporate enterprise.  While these themes are hardly new, they have been gaining momentum in prompting a rethinking of some of the most basic assumptions about corporations, corporate governance and the path forward.

First, while corporate governance continues to be focused on the relationship between boards and shareholders, there has been a shift toward a more expansive view that is prompting questions about the broader role and purpose of corporations.  Most of the governance reforms of the past few decades targeted the ways in which boards are structured and held accountable to the interests of shareholders, with debates often boiling down to trade-offs between a board-centric versus a more shareholder-centric framework and what will best create shareholder value.  Recently, efforts to invigorate a more long-term perspective among both corporations and their investors have been laying the groundwork for a shift from these process-oriented debates to elemental questions about the basic purpose of corporations and how their success should be measured and defined.

In particular, sustainability has become a major, mainstream governance topic that encompasses a wide range of issues such as climate change and other environmental risks, systemic financial stability, labor standards, and consumer and product safety.  Relatedly, an expanded notion of stakeholder interests that includes employees, customers, communities, and the economy and society as a whole has been a developing theme in policymaking and academic spheres as well as with investors.  As summarized in a 2017 report issued by State Street Global Advisor, “Today’s investors are looking for ways to put their capital to work in a more sustainable way, one focused on long-term value creation that enables them to address their financial goals and responsible investing needs.  So, for a growing number of institutional investors, the environmental, social and governance (ESG) characteristics of their portfolio are key to their investment strategy.”  While both sustainability and expanded constituency considerations have been emphasized most frequently in terms of their impact on long-term shareholder value, they have also been prompting fresh dialogue about the societal role and purpose of corporations.

Another common theme that underscores many of the corporate governance issues facing boards today is that corporate governance is inherently complex and nuanced, and less amenable to the benchmarking and quantification that was a significant driver in the widespread adoption of corporate governance “best practices.”  Prevailing views about what constitutes effective governance have morphed from a relatively binary, check-the-box mentality – such as whether a board is declassified, whether shareholders can act by written consent and whether companies have adopted majority voting standards – to tackling questions such as how to craft a well-rounded board with the skills and experiences that are most relevant to a particular corporation, how to effectively oversee the company’s management of risk, and how to forge relationships with shareholders that meaningfully enhance the company’s credibility.  Companies and investors alike have sought to formulate these “next generation” governance issues in a way that facilitates comparability, objective assessment and accountability.  For example, many companies have been including skills matrices in their proxy statements to show, in a visual snapshot, that their board composition encompasses appropriate skills and experiences.  Yet, to the extent that complicated governance issues cannot be reduced to simple, user-friendly metrics, it remains to be seen whether this will prompt new ways of defining “good” corporate governance that require a deeper understanding of companies and their businesses, and the impact that could have on the expectations and practices of stakeholders.

This post comes to us from Wachtell, Lipton, Rosen & Katz. It is based on the firm’s memorandum, “Some Thoughts for Boards of Directors in 2018,” dated November 30, 2017, and available here.

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