Democracy in Corporate Elections


The problems of ENRON, Global Crossing, WorldCom and similar corporations will not solved by more disclosure and stiffer penalties, although such reforms at the margin are long overdue. Those who ask corporate management ("Management") and/or Directors to voluntarily abandon concepts of greed and conflicts of interest miss the core issue.


While the corporation laws of every state, solemnly recite that the Shareholders elect the Directors, each year Shareholders of American corporations are asked to participate in an exercise which bears little resemblance to the word "election" as commonly used in any democratic country.


Shareholders generally have no real choice. Even if an overwhelming majority of Shareholders oppose a Director- nominee, any nominee listed on the corporate proxy will serve as a Director so long as he or she gets one vote, unless an expensive proxy contest is undertaken. The real election for Directors occurs within the boardroom, with Shareholders relegated to a rubber-stamp process of affirmation.


When intelligent, honest professionals repeatedly use a legal term in a manner contrary to its commonly accepted usage, we are entitled to ask why. When the corporation laws of 50 states indicate that Shareholders "elect" Directors; that Shareholders "vote" for their choice of "nominees"; that proxies are solicited for the "election" of Directors, we are given an impression contrary to actual practice.


The "independent" Board of Directors ("Board") is supposed (and assumed) to hold power granted to it by the owners ("Shareholders"). Its actual power in fact derives from the Chief Executive Officer ("CEO"). The vast majority of Board vacancies have been filled via recommendations from the Chairman of the Board ("Chairman"). Further, given that in the vast majority of companies the Chairman is also the CEO, it is clear the CEO plays a dominant role in the selection of Directors. The fact that we speak of Directors as "representing" or being "elected" by Shareholders, when Shareholders play no role in their nomination, is evidence of the challenges we face in corporate accountability.


Since it is the duty of a Director to supervise Management, there is little likelihood that Management will select a candidate who is inclined to ask "tough questions." A Director who does not cooperate with Management will, in all likelihood, not be asked to serve an additional term. However, while dependent on Management and/or fellow Directors for his/her longevity, a Director still has a fiduciary duty to the Shareholders to monitor Management’s actions.


Until Directors can be held accountable by Shareholders, they will not be responsive to the desires of Shareholders. However, it is almost impossible for Shareholders to replace Directors who are incompetent and/or corrupt.


Other potential means to achieve accountability of Directors are ineffective. The threat of potential litigation, through class-action lawsuits by Shareholders, is highly overrated as a deterrent to corporate malfeasance and wasting of corporate assets. When they win, Shareholders end up paying themselves from corporate assets after plaintiffs’ attorneys recover substantial sums.


Under present SEC Rules, it is practically impossible for a candidate NOT selected by Management and/or incumbent Directors to mount an effective proxy contest to replace Directors.


For example, in May of 1991, Robert A. G. Monks indicated he would engage in a proxy contest for one seat on the Board of a public company, something no one had ever done before at any company; his target was Sears. Sears hired renowned takeover lawyer Marty Lipton, brought a lawsuit to stop Monks and budgeted $5.5 million dollars over and above Sears’ usual solicitation expenses, just to defeat him (as Crain’s Chicago Business pointed out, one out of every seven dollars made by the retail operation during the previous year). Sears also assigned 30 of its employees to spend their time working to defeat his candidacy.


The myth is that the Management reports to the Board. The reality is that the Board reports to the CEO. Strengthening the definition of an "independent" Directors will have little impact, as long as they owe their positions to the CEO.


The major barrier to democratic corporate elections is the fact that, under present SEC Rules, only the names of those persons nominated by the corporation are required to appear on the corporation’s ballot.


We hereby join with the Committee of Concerned Shareholders and James McRitchie in their petition for a rulemking by the SEC to amend SEC Rule 14a-(8)(i)(8) to require that ALL nominees for Director positions, who meet the other legal requirements, be required to be included in Corporate proxy materials.