Strategy

Staggered Boards Energize the Young, Bury the Old


No corporate-governance topic has been more heavily debated in recent years than the effect of staggered boards.

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Though staggered boards don't unambiguously improve firm value, they may be valuable at a particular stage in a firm’s life cycle, findings of a recent study suggest.

Staggered boards and insulation from shareholder intervention appears to be of more value to early-life-cycle firms and might “usefully be paired with sunset provisions that phase out these powerful insulating forces as firms mature,” says a recent working paper from the Harvard Business School. The authors studied a Massachusetts state law adopted in 1990 compelling organizations to adopt staggered boards. Authors examined the values of treated firms (firms that gained a staggered board because of the legislation) compared to similar control firms from 1984 to 2004.

According to the research, firms forced to adopt staggered boards saw an increase in Tobin's Q (the ratio of the market value of a company's assets divided by the replacement cost of the company's assets) of 15.9% over 15 years.

The results suggest that the greater insulation afforded by staggered boards is valuable to an important subset of firms, and are consistent with the empirical observation that a large proportion of IPO firms who are typically younger and face greater information asymmetries - adopt staggered boards.

An example is Dr Pepper Snapple Group Inc., which spun off from Cadbury PLC in 2008.  A classified board made sense because it was a new company with no operating history.

However, the authors admit the study is unable to resolve the ongoing debate on the effect of staggered boards among the largest and most mature public firms. Generally speaking, when public firms have matured, investors oppose staggered boards and prefer to rely on the market for corporate control. Today, as a mature, public company, Dr Pepper Snapple has repealed their staggered board and is joining the ranks of companies planning annual elections for its directors.

When a board of directors is staggered, only one-third of the directors are up for re-election in any given year. Staggered boards are controversial because they enable directors to resist shareholder attempts to change control of the firm. Even if all shareholders want to replace the current directors with new directors, they can only oust one-third of the board each year.

The benefit is that by preventing shareholders from making immediate changes, directors have more time to adjust to the role and make wiser decisions. Managers can focus on creating long-term value and avoid short-termism.

Opponents argue that by insulating directors from shareholder intervention, the organization will face conflicts of interest between a company's management and the company's stockholders. Much of the empirical research to this time has supported this position and, thus, investors increasingly oppose staggered boards.