It’s unfortunate, but nearly every publicly traded company board is on the clock. Positive financial performance is the only thing standing between corporate directors and a nasty proxy fight, but the standards regarding what qualifies as “consistent financial performance” are constantly changing.
Corporate directors should anticipate that once the performance of their company stock price declines double digits, activist investors start to take notice. Directors should understand that some of those activists could be considered “professional takeover artists” who firmly believe they can achieve better financial performance than the boards they target—and they have the resources and experience to make a credible argument that they can.
It can sometimes appear that activists are lying in wait for the boards they invest in to make a mistake. But corporate boards have the power and expertise to prevent this from happening.
The Southwest Airlines board is now engaged in an ugly battle with Elliott Investment Management that has become so toxic that Elliott acquired nearly 11 percent of the company’s shares which enabled it to call for a special meeting of shareholders to force changes in Southwest’s CEO and corporate board. According to Reuters, Elliott has “launched a campaign to oust [CEO Bob] Jordan and other top executives, blaming them for the company’s underperformance. It wants Southwest to change the way it runs its business and has laid out plans to replace two-thirds of the board’s 15 directors.”
Once activists go out of their way to acquire shares to force the board to act, a proxy fight is inevitable. The activists generally use the following evidence and arguments to remove directors and gain board seats:
Unchecked stock price declines or poor financial performance. According to Reuters, Southwest’s stock price has declined 43 percent over the last three years. How does any CEO and board defend that kind of poor performance over that length of time without making major adjustments? Generally, shareholders that believe in the company will give corporate boards a certain amount of time to begin turning struggles around, but the amount of time a board gets to implement change varies. Shareholders aren’t as patient as they used to be. Boards might want to consider that they have less time to make strategic changes before activists begin questioning their competence—not more. Taking quick decisive action when performance wanes may provide a better defense against activist’s critics.
The board composition lacks the proper experience to be effective. Once a company performs poorly, the current board will bear the brunt of the blame. Elliott has called for removing the CEO and two-thirds of the board and presented several candidates with credible airline experience to replace them. Poor performance destroys trust in the ability of the CEO and board to run the company.
Poor performance also invites activists to conduct their own assessment of the board of directors, which you can bet will be noncomplimentary. This is why corporate boards might want to consider conducting their own independent self-assessments, particularly when performance is waning. Boards have the power to implement their own board refreshment programs that can improve the overall performance of the company before being forced to refresh by activist investors. It may be better to refresh the board under your own terms than others.
The CEO and board’s decision making cannot be trusted. Once a CEO and board have taken more than one year to show that they are on the road to turning around the fortunes of a company, their decision making can get called into question. In a second open letter to shareholders Elliott stated, “Trusting these executives to implement “transformative” strategic changes and make “difficult decisions,” when they have proven incapable of competently running the airline, represents a long-term risk to the business and its culture.”
It can be difficult for boards to persuade shareholders that they have the right solutions to problems it appears they haven’t been able to solve in years. Boards might want to consider using constant shareholder engagement to build continuing trust with potential activists. Boards might be able to find compromises by listening to criticism privately, BEFORE a proxy fight, instead of trading barbs in open letters because both sides have reached an impasse. Who knows, consistent shareholder engagement might give board members the ability to persuade some investors that they can be trusted with turning around the company. Think about it—if you were a shareholder, would you be more likely to trust someone who makes their case face-to-face or someone who sends you a letter? Making the extra effort might maintain board seats.
