Decision Making and Corporate Governance Issues
How Decision Making Gives Rise to Corporate Governance Issues
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What corporate decision-making procedures give rise to issues in corporate governance?
The structure and process for decision making within the corporation can lead to conflicts between officers and directors and shareholders. Below we discuss common decisions or processes that give rise to conflict.
Next Article: Power Struggles and Corporate Governance Issues Back to: CORPORATE GOVERNANCE
What are Corporate Approvals?
Certain approval rights for board actions are reserved to shareholders. That is, shareholders must approve the decision of directors. These checks on authority can often cause tensions between shareholders and those in charge of corporate governance. This conflict is exacerbated by the fact that shareholder voting must often be initiated by a proposal from the board of directors.
Example: An attempt by shareholders to amend the bylaws or articles of organization must begin with a proposal from the board of directors. Further, a proposed merger, acquisition or spin-off must be approved by a majority of shareholders.
What is Capital Distribution?
Shareholders, as owners of the corporation, receive a financial benefit through either a distribution of dividends from corporate profits or an appreciation of their ownership interest. As you will learn in finance, appreciation of the value of stock is generally based upon the expectation of future dividends from corporate profits. Directors are charged with the decision of whether, when, and the amount of dividends to distribute to shareholders. This fact often causes conflict between large shareholders and directors.
Example: Adam is a large shareholder who purchased stock in the corporation for the expected dividend. The corporation is going through some strategic transitions and expects to withhold all dividends and retain capital to acquire competitors. These acquisitions are risky and run counter to Adams objectives in holding the stock.
What are Proxy Statements?
The control that the board of directors (and the nominating committee) exercises over proxy material creates a conflict between director preferences and the ability of shareholders to make proposals for approval to shareholders at large.
Note: Directors, even those on a nominating committee, often have loyalty or are indebted to the individuals who assisted them in becoming a part of the board. These directors may feel pressure to nominate potential directors who have the support of the individuals who supported them.
Example: Eric is CEO and a director on the board of ABC Corp. He supported several of the independent board members in their election to the board. These directors typically work at board meetings for 3-5 days per month and receive tens to hundreds of thousands of dollars per year in salary and benefits for their service. As such, the directors owe a significant debt of gratitude to the CEO. It is unlikely that these directors will fail to support the CEOs future nominees to the board.
What are Written Consents?
Directors and shareholders have the ability to act pursuant to written consents instead of holding a formal meeting to take a vote. These votes require either a majority or unanimous vote from directors or shareholders. Taking actions without meeting reduces the level of information distributed and can lead to conflicts between interested parties.
Example: The board of directors for ABC Corp intends to make a decision on a major environmental cleanup project. It submits the proposed project to shareholder vote. Instead of holding a meeting, they accept votes through written consent. The majority of votes cast were adamantly against the proposal and it fails to pass, as it would decrease short-term corporate profits.
What are Supermajority and Unanimity Requirements?
Often shareholders and directors establish governance standards requiring unanimous or super-majority approval of certain corporate actions. These requirements may lead to conflict and stalemates between interested parties with regard to corporate decisions and actions.
Example: Earl is a major corporate shareholder. He strongly supports a proposed corporate merger that has been submitted to shareholders for approval. Several smaller shareholders have decided that they do not support the deal. Because the board employed unanimous shareholder approval rules, the proposed merger will not receive shareholder approval. Earl is now furious and is considering his options for forcing out directors who refuse to support an amendment to the unanimous shareholder approval requirements.
Discussion: Do you see a common thread among the procedural aspects that give rise to corporate governance issues? Why do you think this is the case? Of the governance procedures listed above, do believe that any should sway in favor of director or shareholder? Why or why not?
Practice Question: What corporate governance rules or procedures for decision making give rise to conflicts between shareholders and directors?