Corporate governance is a mutually accepted set of practices and principles for running successful corporations. It’s based on what corporations and shareholders have learned about the issues that are most likely to bring about long-term corporate success. Best practices for corporate governance reflect the respective duties and responsibilities of board directors and shareholders.
While corporations must comply with federal, state and local regulations, best practices for corporate governance are largely self-regulatory. Best practices are based on the belief that corporations will be practical and thoughtful in their decisions. Corporations that abide by best practices for good corporate governance are less likely to experience the risk of shareholder activism.
Best practices for corporate governance assume that board directors, shareholders and auditors will be experienced and qualified. Corporate governance also requires boards to have a majority of independent directors and a balance of power.
Ultimately, board directors, managers and shareholders all want the same thing, which is to enjoy the long-term success of the company. Activism happens when they don’t agree on the structure that they believe will lead to the best outcome.
Shareholder Activism Has Increased in Recent Years
The term activism often accompanies notions of unrest. On the contrary, activism isn’t always a bad thing. It’s a process that can often lead to long-term meaningful change. Shareholders can be instrumental as change agents through private meetings, public votes, media debates and other avenues to drive better corporate governance practices.
Corporations will almost surely pay a price for not paying attention to issues that lead to shareholder activism. Some of the big topics related to activism are executive pay, succession planning, diversity and board director independence.
Shareholders are looking for assurance that executive pay increases are aligned with performance. Taking it a step further, shareholders are also interested in understanding how boards come up with their guidelines for executive pay structures.
Shareholders are also seeking assurance that boards have the experience, skills and diversity to protect their investments and to enable the company to make steady long-term progress. The current climate encourages shareholders to scrutinize all new board director appointments and evaluate them based on how their talents and abilities enhance the board.
Board directors need to be aware of other issues that can lead to shareholder activism, including taking a closer look at the board’s strategy and use of capital. Another hot topic for shareholders is how corporations factor social, ethical and environmental matters into their strategies and general decision making.
The Role of Communications in Preventing Shareholder Activism
Enhanced communications between board directors, executives and shareholders can often reduce the possibility of shareholder activism. Shareholders desire assurance that boards are practicing good oversight to prevent risks and other issues that could lead to a downturn in performance.
Boards that are willing to listen to shareholder concerns on a regular basis and to communicate with shareholders to address their concerns may reduce incidences of shareholder activism. Communication that takes place early and often between boards and shareholders will alert boards to times when the board is taking a direction that shareholders feel isn’t in their best interests. Shareholders can be instrumental in giving boards a heads-up about serious issues early enough to prevent the perception of decreased value.
Boards also need to be aware of shareholder activism styles. In the recent past in the United Kingdom, shareholders generally adopted a more communicative, cooperative style with boards. By contrast, shareholders in the United States were more likely to take a hostile, aggressive stance. In the current climate, the tides seem to be changing, as some U.K. shareholders have been taking the more aggressive U.S. approach to activism under certain circumstances. At the same time, U.S. shareholders are starting to adopt the more private, communicative activism approach that U.K. shareholders have traditionally taken.
How Shareholder Activism Drives Better Corporate Governance
Shareholder activism drives better corporate governance because it ensures strong governance and approaches to investment styles that produce value for shareholders.
Good corporate governance takes for granted that boards will continuously work toward board compositions that support the necessary skills and experience that will net long-term success for the company.
The principles of good corporate governance also place a heavy focus on the fiduciary responsibilities of board directors in managing the corporation’s assets. The focus on duty of care creates an environment in which shareholders are more apt to ask more questions about how the board and managers approach strategic planning, risk management and operations. Among other things, shareholders are seeking information about the board’s approach to environmental, social and governance issues as well as their investment style and principles.
When considering corporate investment styles, shareholders are inclined to be focused on absolute returns, as opposed to relative performance. Shareholders generally review the board’s annual report and vote in favor of management’s proposals if they’re satisfied with them. Questions and red flags may invite formal discussions with the board and executive management. Boards can use these opportunities to attempt to explain and justify their actions.
Where companies are regularly underperforming with little indication of improvement, activism may be looming. Dissatisfied shareholders may respond by voting against management at the annual general meeting. Activist shareholders may also follow up their vote with a letter to the company explaining why they don’t support the company’s decisions and offer recommendations for changes. Shareholders would likely follow the company to see how willing the board is to make changes.
Board Portals Support Good Corporate Governance and Discourage Activism
Best practices for good corporate governance support the notion of separating ownership and control of corporations to ensure the interests of the investors over the long term. To fulfill their responsibilities dutifully, board directors must focus the bulk of their meeting time on strategic planning and oversight. A board portal and other digital software solutions, such as Governance Cloud by Diligent, streamline and enhance many of the vitally important board activities, such as D&O questionnaires, board self-evaluations and minutes software. With the pressures that today’s boards are facing, board efficiency is vital to good governance and improved performance.