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E-MailPatricia Lenkov is Founder and President at Agility Executive Search. This post is based on her Agility Executive Search memorandum. Related research from the Program on Corporate Governance includes The Long-Term Effects of Hedge Fund Activism (discussed on the Forum here) by Lucian A. Bebchuk, Alon P. Brav, and Wei Jiang; Dancing with Activists (discussed on the Forum here) Lucian A. Bebchuk, Alon P. Brav, Wei Jiang, and Thomas Keusch; and Who Bleeds When the Wolves Bite? A Flesh-and-Blood Perspective on Hedge Fund Activism and Our Strange Corporate Governance System by Leo E. Strine, Jr.
Activist investors attempt to catalyze change at the companies they invest in. They employ multiple strategies and levers to kick-start transformation and growth; among these, corporate board change is an important one.
As of June 30 of this year, activist investors won 95 board seats in the US. In numerous other situations, activists proposed board directors but did not end up with a seat. In all cases, the activist investor requires a robust and uber-qualified pool of director candidates to select from and potentially propose to change and improve the board of the company they invest in. Arguably, to be successful the activist director candidates must be superior in qualifications and experience to incumbents. The activist director candidates need to be stellar if proxy advisors like ISS and others who influence voting will approve of these “outsiders.”
Board recruitment in most ordinary situations is misunderstood, and the process is murky at best when it comes to activist investors. There are many myths and misconceptions, so here are a few with clarification and the reality.
Activists Always Propose the Same Directors
First, it is essential to recognize that not all activists are created equal. There are as many ideas about the best board composition and strategies to accomplish this as there are activists.
A few activists have built a board recruitment mechanism within their firm. They follow board recruitment best practices and appreciate the value of an ongoing mechanism to identify and engage with potential director candidates. Many other activist investors work with board recruitment search firms. The search firms that recruit board directors for activist investors tend to differ from those that recruit for issuers. However, the same or even superior board recruitment techniques are employed.
The search firms that work with activist investors must be agile and highly skilled, as they are often tasked with working at a faster pace than regular corporate board searches. A search firm ensures that the activist investor has a choice of the very best director candidates uniquely qualified for each particular situation. In this way, activist investors propose and nominate the right director for the right situation and not simply the same director as they have in the past.
Activist Nominated Directors Will Be Adversarial
Once a director joins a board, they are an independent director with a fiduciary responsibility to all shareholders. Regardless of how they joined the board, once on the board, they have a duty to work for the company’s betterment. Period. Full stop.
When done right, what the board should get in the activist-nominated director is someone with the expertise and capacity to be a serious and hard-working director. Shareholders hope they ask the tough questions and have the wherewithal to question the status quo. This is not adversarial, although otherwise complacent boards with any level of groupthink may perceive it as such.
Activists Do Not Care About Board Diversity
In a January 2023 article in the Harvard Law School Forum on Corporate Governance, the authors state, “Some companies and activists have started to include requirements in their settlement agreements designed to ensure that any appointees/nominees will assist the board in satisfying diversity-related policies or objectives. Going forward, as diversity requirements and related disclosure obligations continue to grow, it is likely that diversity will become an increasingly important factor in activism campaigns and settlement agreements.”
The idea that activist investors do not care about diversity is antiquated. It comes from a time before board diversity specifically and diversity in general, was appreciated for its value to organizations. For the most part, shareholder activists have evolved. Well-established shareholder activists and often those new to the arena understand the value of well-qualified directors who are also diverse.
Sitting on an Activist Slate is a Death Knell for a Board Director
This myth is reminiscent of the 1991 book, “You’ll Never Eat Lunch in This Town Again.” The belief that sitting on an activist slate will ruin a director’s prospects for future boards used to be more pervasive. However, as shareholder activism has transformed and outperformed, we have moved from avoidance and disdain to appreciation.
In fact, many board directors view aligning themselves with well-known activist investors as highly desirable. Directors do not have to “pick a side” and can have a robust board career that is comprised of both activist-nominated board roles as well as those that are more traditional. Shareholder activism continues to grow globally. Of all the demands that activist investors make, governance changes remain number one, with 327 such demands globally in the first half of 2023 alone.
While most campaigns do not end up with a board seat, demystifying the board search process and establishing a strong process for recruiting board directors can go a long way towards achieving the change and success the activists desire and the companies need.
