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The Boardroom

Proxy Contests and Shareholder Slates

Earlier this year, Delaware adopted new legislation making it easier for shareholders to put forward nominees for a company's board of directors. The Securities and Exchange Commission (SEC) proposed similar changes to the federal proxy rules. Under the SEC proposals, shareholders holding 1% or more of companies with a global market value of at least $700 million could have the names of their board nominees included in the company’s proxy circular. Similar provisions would apply to shareholders holding at least 3% of midsized companies and 5% of smaller companies. The SEC delayed its vote from this November to early 2010 to wade through hundreds of comments received on both sides of the issue.

To learn more about how investors target companies, select board candidates, and what questions you should ask if you're invited to serve on a shareholder slate, BusinessWeek columnist Beverly Behan spoke with Dennis Johnson. A veteran of numerous contested board elections as the former head of governance at CalPERS, Johnson is now a managing director at Shamrock Capital Advisors and managing director of the Shamrock Activist Value Fund. Shamrock recently waged a successful campaign to get three seats on the nine-member board of Texas Industries (TXI). Edited excerpts of their conversation follow:

What are some of the things that you look at when you make a decision to wage a proxy contest to get some of your own nominees onto a company's board?

First and foremost, we look at the performance of the company over a sustained period of time and relative to that company's peers. When we see a situation where performance is lagging, and we don't see adjustments being made to address business-performance issues, this suggests to us that the board may not be doing its job in terms of appropriate oversight.

We look at the governance practices of the company. Are there consistent practices that suggest entrenchment of the board and management such as a poison pill, a staggered board? Do we have a situation where the former CEO has been serving for a lengthy period as chair?

Then we look at the profiles of the board members. For example, in the case of one company whose board we are engaged with now, none of its independent directors have any industry experience, and none had experience in corporate finance. This is critical on that particular board because its business requires significant capital investment, and the company wasn't earning its cost of capital.

We also look at the tenure of the board members. This isn't to say that having someone who has served on a board for a long time is necessarily a bad thing. But if you've got a number of people who have been on that board for decades, that can be indicative of a problem.

What do you look for in candidates when you are recruiting for your slate in a proxy contest?

The most important factor is integrity. We also look for a demonstrated history of good business judgment. When you review the individual's track record, you should see a consistent pattern of good business decision-making throughout his or her career.

Finally, I look for the specific experience, skills, and capabilities required to address some of the weaknesses we've identified in the board's composition. I also want to be certain the individual can make the time commitment required to be effective as a director in terms of other board commitments.

What should a prospective candidate ask before deciding whether to serve on an activist slate?

First you need to do the same type of due diligence that you would if you had been invited to serve on a board by the Nominating Committee—review the financial performance, the bios of board members and company executives, recent developments, key competitors, governance policies, etc.

If you have been asked to stand for election to the board on a shareholder slate, however, you also need to do your due diligence on the fund that's putting your name forward. Review the disclosure form filed with the SEC when the fund registered as an investment adviser.

Ask to see any audits or reviews of the firm conducted by the SEC, if there have been any. You want to have a commitment from the fund that it will be completely transparent about all its activities in the proxy contest so you know exactly what's transpiring. You also need to understand the fund's investment time horizon: How long has it held stock in the company, and how long does it plan to hold the stock going forward? Will it be 12 months or three years? That can make a big difference.

What's the most important issue for a prospective candidate to discuss with the nominating shareholder?

Your independence. You may have been nominated by a particular shareholder, but once elected to the board, your fiduciary duty is to ALL shareholders. You need to be comfortable that this is well-understood and that there is no expectation that you will be reporting back to the shareholder or providing it with confidential information from board discussions.

Is there any stigma attached to people who serve as shareholder nominees for a board?

Some people worry that serving as a board member in a proxy contest may diminish opportunities to be nominated to other boards in the more traditional way—by a nominating committee. They fear that after having served on a shareholder slate, they may be viewed as a troublemaker.

Personally, I think this is an antiquated view, even though I have heard it expressed recently. There are some outstanding people who have put their names on shareholder slates. What investors want are the best possible candidates serving on the boards of the companies they have in their portfolios.

What advice would you give someone who enters the boardroom as a director nominated by a shareholder?

Enter that boardroom with complete professionalism and respect. Demonstrate very clearly that you understand your responsibility as a board member is to ALL shareholders, not just the shareholder who nominated you. It's also important to have a sense of both urgency and patience. You are typically going onto that board as a shareholder nominee because there are performance problems with the company. That drives a sense of urgency to ensure that these problems get addressed. However, you also need to have the patience to foster collaboration with the rest of the board or you won't be able to achieve the changes that are necessary to serve the interests of all shareholders and improve the company's value.

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