For the second time in two years, Sears ( S) shareholders voted last week in favor of a recommendation that the company elect all of its directors on a yearly basis. Just don't bet on it happening anytime soon. As popular as they are with shareholders, corporate governance proposals often go nowhere. They face daunting bureaucratic hurdles, and there is little forcing boards to follow them. "It is unfortunate, but not unusual, for companies to not take actions recommended by investors. It's a sensitive issue for investors," said Ann Yerger, deputy director of the Council of Institutional Investors. "It's a frustration and it's a core problem." Investors' frustration has grown in recent years as the stock market has posted three straight years of declines. Meanwhile, outsized executive pay packages and corporate scandals at the likes of Enron, WorldCom, Tyco ( TYC) and most recently HealthSouth have left many shareholders questioning the management of public companies. In response, shareholders have filed a
record number of proposals this year, regarding items such as the expensing of stock options, executive pay, the election of directors and so-called poison pill provisions that prevent takeovers. And support for those proposals has been gradually increasing. About one-third of the 800 proposals in 2002 received majority votes, up from 24% of the proposals in 2001 and 21% of those in 1999, according to the Investor Responsibility Research Center. But just because investor anger is rising doesn't necessarily mean that companies are listening or responding. Last year, about 90 companies saw investors vote in favor of one or more shareholder proposals, Yerger said. But only a handful of those companies acted to adopt those resolutions, she said. That's not unusual. For six straight years, shareholders at Bristol-Myers Squibb ( BMY) voted to recommend that the company junk its classified board system, where shareholders vote on only a fraction of board members each year, in favor of a declassified system, where all board members are elected every year.
But the company, which has faced its own governance questions amid an Securities and Exchange Commission investigation,
restated earnings and a plunging stock price, resisted the proposal until this year, when it finally put a binding proposal on its proxy ballot that would change its certificate of incorporation to allow annual board elections. Shareholders overwhelmingly voted for the change this week. Like those at Bristol-Myers, Sears' management has also resisted popular shareholder proposals. A proposal on declassifying its board received support from 61% of shareholder votes cast on Thursday, after receiving 68% of shareholder votes last year. Another proposal that had passed in earlier years, one recommending that the company submit any poison pill measures to a vote of shareholders, failed to pass last week. Sears management opposed both measures. Sears' board has decided that declassifying the company's board is "not in the best interest of shareholders," said company spokeswoman Jan Drummond. However, Drummond left open the possibility that the company might revisit the issue. "The board always takes the shareholder votes under advisement," she said. Boards generally are not required to enact shareholder proposals because they typically come in the form of recommendations, not as binding resolutions. State laws typically reserve for directors the power to make certain decisions, such as negotiating mergers or putting antitakeover provisions in place.
Meanwhile, the terms of corporate directors and other matters are often governed by companies' bylaws or certificates of incorporation, which can't be changed by nonbinding resolutions. In order to change how directors are elected at Sears, for instance, the board of directors would have to put forth a proposal to change the company's bylaws, Drummond said. To pass, the provision would need the support of 75% of all shares outstanding, she said. But just because shareholder proposals often have little direct force doesn't mean that board members can afford to ignore them, said Seth Taube, who serves as chairman of the securities litigation department at law firm McCarter & English. When something goes wrong at a company, boards could face liability if they ignored a shareholder proposal that could have prevented the problem, Taube said. For example, before the Sarbanes-Oxley act, shareholders could have voted in favor of a company having an independent audit committee. If the company's board ignored the suggestion, board members might face shareholder suits if the company subsequently had to restate earnings or was the subject of an accounting scandal. "Even though they're not mandatory, shareholder proposals expose the board to litigation risk," Taube said. "The board will be challenged to demonstrate that their actions, which were inconsistent with the majority of their owners, are still justified and reasonable."
But litigation may be necessary on the front end to force companies to be more responsive to shareholder proposals, Yerger said. Regardless of how shareholders vote, corporate boards are often reluctant to give up control over items such as poison pills, executive compensation policies and their terms of service, she said. "Some of these topics that are winning votes, from a corporate perspective, are considered holy grails," Yerger said. "The companies feel very strongly --they don't want to get rid of them."