Corporate governance: succession planning through crises and emergency transitions
By Alex Lee
NEW YORK, March 23 (Business Law Currents) – In an environment of increased corporate governance scrutiny, succession planning through both departures and crises is a focal point for shareholder interests and transparency-related issues. Companies historically kept succession plans close to their vests, but recent succession episodes at Apple Inc., Bank of America Corpand Hewlett-Packard have highlighted the multitude of issues that shareholders have with respect to the concern shown by boards on such a significant matter.
In October 2009, the Securities and Exchange Commission (SEC) reversed its long-held position whereby the exclusion of shareholder requests for disclosure of succession plans from proxy statements was allowed. The SEC clearly recognized that succession planning-related matters are within the remit of shareholder proposals, and that boards must significantly address the issues as leadership voids or uncertainty could adversely affect companies.
In the aftermath of the SEC reversal, a plethora of proposals were filed and disclosures made in 2010 and 2011 regarding CEO succession arrangements by Comcast Corp,FedEx Corp, Kohl’s Corp, Nordstrom Inc., Verizon Communications Inc., UnitedHealth Group Inc. and Whole Foods Market Inc., among others.
Gone are the days where succession planning happens in a vacuum. With activism increasing to ever higher levels, shareholder value is again stepping up as a primary driver in corporate processes. Poor succession planning and time-consuming executive searches can dampen investor confidence, often leading to falling stock values and generating uncertainty about the strategic objectives of a company.
The negative consequences of inadequate succession planning can be seen in Hewlett-Packard CEO Mark Hurd’s exit from the company in late 2010. Shareholder litigation ensued, with Hurd’s $40 million separation agreement referred to as “corporate waste” by shareholders. Not only did his departure lead to a 12 percent drop in stock price, but the downward spiral of share value continued for months and Hewlett-Packard did not quickly stabilize its leadership conundrum.
On the flip side of the coin, there are situations where successions are well planned and the transition from one leadership regime to the next is as smooth and efficient as possible. Apple’s recent succession is a case in point. Even though Steve Jobs was an icon and the face of Apple, the selection of Tim Cook as CEO helped to stabilize potential uncertainty.
Although succession planning is usually the subject of shareholder proposals, a slightly different slant on succession plans has increased in significance in the form of crisis successions. In the past couple of years, turnover amongst prominent executives has put emergency succession planning on center stage. Such high profile executives are sometimes seen as the faces and driving visionaries of the companies they lead, and their potential departures often lead to far greater shareholder anxiety and company uncertainty than with normal pre-planned successions.
Microsoft’s Bill Gates and General Electric’s former CEO Jack Welch are inexorably and indelibly linked to their enterprises and their succession plans had or have consequences far beyond normal successions. The resignation of David Sokol, the heir apparent to take over Berkshire Hathaway, was a severe reputational blow to the succession planning of Warren Buffett.
These days, contingency plans alone are not necessarily sufficient to deal with the loss of a key CEO. Sometimes, a crisis situation begets another crisis situation, putting a company into turmoil and a painful downward spiral. A powerful example of this dynamic is the case of Olympus. Michael Woodford, the former CEO, was given the pink slip after only two weeks on the job, leading to a three-month battle to replace management that ultimately failed due to lack of shareholder support.
Companies now are often forced to deal head-long with emergency succession issues. Last year, Legal & General Assurance (Pensions Management) Limited submitted shareholder proposals for inclusion in News Corp’s proxy materials. The proposals specifically requested that News Corp adopt and disclose a written and detailed succession planning policy to confirm that “the board will begin non-emergency CEO succession planning at least 3 years before an expected transition and will maintain an emergency succession plan that is reviewed annually.”
News Corp subsequently submitted a no action request pursuant to Rule 14a-(8)(j) and highlighted that: “Our emergency chief executive officer succession planning enables the company to respond to an unexpected vacancy in the chief executive officer position while continuing the safe and sound operation of our company and minimizing any potential disruption or loss of continuity to our company’s business and operations, including in the case of a major catastrophe.” The proposal and the no action letter request were later withdrawn.
Similar shareholder proposals were advanced by the Indian Laborers Pension Fund to FedEx with respect to emergency succession planning. The SEC Division of Corporation Finance ascertained that FedEx had substantially implemented the proposal and did not recommend enforcement action for succession planning related omissions from proxy materials in reliance of Rule 14a-8(i)(10). FedEx stated in its no action letter request that:
We have historically had and continue to have a management succession plan that includes both long-term and emergency succession guidelines for the Chief Executive Officer position, as well as other senior management roles. Rule 303A.09 of the New York Stock Exchange Listed Companies Manual requires listed companies, including FedEx Corporation, to engage in management succession planning. Under Rule 303A.09, succession in planning should include policies and principles for CEO selection and performance review, as well as policies regarding succession in the event of an emergency or the retirement of the CEO. We have been and continue to be in compliance with Rule 303A.09.
The rationale behind shareholder proposals with respect to emergency succession plans is not unreasonable. In the current economic environment, CEOs do not often enjoy lengthy tenures. Indeed, with activist shareholders chomping at the bit, leadership changes occur far more frequently than ever before. Coupled with cases of management upheaval due to poor stock performance, episodes of financial impropriety and even fraud, it is easy to surmise why shareholders wish to see evidence of solid succession plans in place.
Ideally, all successions would be smooth and planned for with long term foresight. A good example of an orderly succession was Craig Donohue’s announcement that he would vacate his CEO role at CME Group at the end of 2012. The board of CME appointed Phupinder Gill, the current president, to CEO at the end of Donohue’s tenure at the derivatives marketplace. The two have worked together extensively over the past few years and will coordinate in tandem prior to the CEO role handover to create as seamless a transition as possible.
An example of succession with even longer-term foresight is that of Strattec Security Corp. CEO Harold M. Stratton II announced he would step down in the fall of this year and that Frank J. Krejci would replace him. The company asserts that this transition is part of a planning process that crystallized over the past several years, and will involve Stratton staying in with the company with involvement in oversight and strategy activities.
Outlier examples such as Apple, where succession planning was shrouded in secrecy, are exceptions to the rule of transparency. The transition of Berkshire Hathaway to leadership other than Warren Buffett is one of the most highly anticipated corporate transformations ever. Buffett claims to have identified a successor but he has not yet disclosed that person’s identity.
Already, AFL-CIO investors are clamoring for information on Buffett’s protégé and the union is demanding a written succession plan. Berkshire’s board strenuously disapproves of the proposal, arguing that public succession plans can give competitors unfair advantages, undermine a company’s efforts to recruit and retain executives, and that the public identification of candidates can lead to unwanted poaching of talent.
Short of an Apple-type situation where disclosure of a formal succession plan was put to a shareholder vote and overwhelmingly rejected, boards must be cognizant of the necessity to more clearly elucidate succession planning to investors. Directors should implement long term plans, constantly maintain emergency arrangements, establish transparent CEO criteria and provide annual disclosures to shareholders. With these elements in place, companies can expect to allay the fears inherent in leadership transitions that otherwise could lead to investor unrest, internal discord and market perception related volatility.
(This article was first published by Thomson Reuters’ Business Law Currents, a leading provider of legal analysis and news on governance, transactions and legal risk. Visit Business Law Currents online at http://currents.westlawbusiness.com. )