For whose benefit should a corporation be governed? That question would get a very different answer 20 years ago. What’s changed since then? Well a lot, as we found out in the inaugural episode of "The Sidley Podcast" in which we spoke with Thomas Cole, senior counsel and chair emeritus of the Executive Committee of Sidley Austin. Tom shares insights in current issues related to corporate governance and discusses his new book, “CEO Leadership: Navigating the New Era in Corporate Governance.”
For whose benefit should a corporation be governed? That question would get a very different answer 20 years ago. What’s changed since then? Well a lot, as we found out in the inaugural episode of "The Sidley Podcast" in which we spoke with Thomas Cole, senior counsel and chair emeritus of the Executive Committee of Sidley Austin. Tom shares insights in current issues related to corporate governance and discusses his new book, “CEO Leadership: Navigating the New Era in Corporate Governance.”
For whose benefit should a corporation be governed? That question would get a very different answer 20 years ago, so what's changed since then? Well, a lot as we'll find out in today's podcast, the new era could be best characterized as representing the transition from management centric decision making to board centric. I think the CEOs who get it right are those who look at their board and think of it as an asset. Would you join a public company board in this era? Sure. You're dealing with very smart people on very important issues in important institutions in society from the international law firm, Sidley Austin. This is the Sidley podcast where we tackle cutting edge issues in the law and put them in perspective for business people today. I'm Sam Gandhi.
Speaker 2:Hello and welcome to the podcast. We're really happy to be presenting the first of what we hope are going to be many podcasts and I'm pleased to have as our first guest today Sidley's own Thomas Cole. Tom is a senior counsel at Sidley and was a partner at the firm in our Chicago office over a period spanning four decades and served as chair of our executive committee for 15 years. He is also one of the country's leading authorities on M and a and corporate governance as well as executive compensation and shareholder activism. I'm also lucky that he's been a mentor and friend to me for many years. Tom, welcome and thanks for being on the podcast. Glad to be here. You're out with a new book. It's called CEO leadership, navigating the new era in corporate governance. So what is new about that new era in corporate governance? The new era or it
Speaker 3:could be best characterized as representing the transition from management centric decision making to board centric decision making. That's the new piece. It all really started, uh, in the late eighties. That's when the seed was planted for this new era, uh, through, uh, important case law of focusing on board decision making, like the van Gorgon decision, better known as the TransUnion case. Then there was the Avon letter and founding of ISS, which, uh, has a big impact on how institutions interact with, uh, with corporations. Then in the mid nineties, it really picked up steam, uh, institutional ownership for the first time, exceeded household ownership of, uh, equities of public companies. Corporate governance in a way became an industry. Then it was further boosted in the early two thousands with the Sarbanes-Oxley, uh, legislation that followed the, the fall of Enron and other companies. Um, the new in the new era. Getting back to your first question is really board centricity in terms of decision making on the big subjects, uh, strategy, succession risk, and major transactions. There's also a new element of greater scrutiny by shareholders in part because there's less diffusion of ownership. And in part because there's a, uh, shareholder activism, which is in and of itself, uh, its own business, uh, model. One of the great benefits of the movement, uh, from management centricity to board centricity is it management. It's while they still run the companies and have leadership in the companies have to sharpen their analysis before they undertake a major transaction or a major decision, like a shift in strategy because they have to make the sale to the board. Uh, and by sharpening that analysis and understanding that they're not going to be the final word, I think decision making has been enhanced. So do you think that the change in governance has really been reactive to issues or has it been better for management? The question really is, is that, you know, these changes in from management centric to board centric has really been somewhat, you just talked about how reactive it's been to events. Has it ultimately become better for the corporation from a management standpoint? I think so. Uh, for the reason I just gave, which is management has to sharpen its analysis. Uh, it's not the final word. Uh, and, uh, also the, uh, the other big change has been, uh, the, the principal source of disciplining both managements and boards is now the shareholders and potential shareholder activism. In the 1980s, the principal discipline was the threat of a hostile takeovers. That's less of a threat now. Uh, and really both boards and management serve, reacting to potential shareholder activism. So for whose benefit is the corporation to be governed at this point, there seems to be a diversity opinion on this than in the past and it seems like it's tied among other things to the rise and expectations of corporations need for social responsibility. How, how has that kind of changed? Eras are still the shareholders still King. I don't know that the shareholder has ever been absolutely King. But the question you raised is really the shareholder stakeholder question. And in many ways when you consider this three different concepts get conflated, what's the purpose of the corporation? To whom are duties owed? And then finally for whose benefit? The purpose of the corporation that was standing with the business round table said to my mind is to provide goods and services. Uh, the purpose of the corporate form of course is to fellows to facilitate capital formation duties. On the other hand, going from purpose to duties, directors and officers have duties to all the stakeholders. Uh, that's, uh, the stakeholders include employees and so on. Uh, and not just the shareholders, but for the non shareholders stakeholders. Those duties are derived from specific laws, regulations and contract for the shareholders. That duties are much more and they're derived from, uh, codes or con, uh, standards of conduct called fiduciary duties. So then we get to the benefit. Um, corporations are still to be run after satisfying all these duties to the other stakeholders. There's still to be run for the benefit of the stockholders and that means maximizing shareholder value in the long term. I somewhat discredited a phrase these days, but director's and officer's can pursue actions that benefit these other stakeholders. So long as there is really any rational connection with the longterm shareholder value. And that's in some ways things have changed in terms of the rhetoric around the whole subject. But in terms of fundamental legal obligations and the economic considerations, there's still, uh, the, the, the responsibility of directors and officers is to operate, uh, the company for the benefit of the shareholders for the long run. So at Goldman Sachs, the old trader Gus levy used to say that we are longterm greedy, right? We didn't go after short term results, we were longterm greedy. So it sounds like though that the goal of the corporation over the longterm as the shareholders, but in your book you talk a lot about short-termism and how that's affected boards and management. There is a problem with short termism, uh, and in many ways it's, uh, it's survived from the threat of shareholder activism. Shareholder activism really causes boards and managements to take their eye off the longterm. Uh, it's not just shareholder activism of course. It's the way the markets react to, uh, relatively short term swings in, in profits, uh, short term swings in outlook for the, for the near term. But longterm greedy is, is, is probably a good term, so long as it's understood to be longterm greedy for the benefit of the shareholders. Not for the management and the directors. So what are the forces are shaping corporate governance in this era that weren't there a generation ago. The, the increase influence, uh, by, uh, institutional shareholders, uh, is, is quite significant and in some measure, uh, that is reflected in pressure from institutions such as BlackRock toward, uh, corporate social responsibility. Uh, even though BlackRock says their, their principle goal is to have returns for their investors. Uh, they will note that a returns for their investors can be enhanced or diminished depending upon, uh, the, the entities, uh, perspective on, on social responsibility and how well they deal with, uh, various issues such as safety and whatnot. Uh, so that, that, that's a big difference. Uh, corporate social responsibility is much more in the four right now, although in some ways the enemy of corporate social responsibility is a, the, the financially oriented activists that are looking for short term results.
Speaker 2:You and I have talked about the rise of expectations that shareholders have about having a company have a greater emphasis on social responsibility. What are, what are the highest priorities that the shareholders are looking for a corporation to really focus on in that area?
Speaker 3:Well, first of all, not, not all shareholders are concerned about it, but to the extent shareholders are concerned about it and it gets sort of translated into a corporate behavior. In fact, it really, it depends on the company. It depends on the industry. It's in, um, you know, corporate social responsibility for, uh, an oil and gas company, uh, would be probably more focused, obviously more focused on environment, corporate social responsibility for a, a consumer facing company, say that consumer packaged goods company that could have, that could be, uh, reflected in their use of plastics in a, in packaging, uh, corporate social responsibility, uh, for retailers, uh, could, could, could be reflected in, uh, how they deal with employees, particularly, you know, part time employees or seasonal employees, whether they're being given a fair shake. Uh, but so it really depends upon not just the pressure they're getting from shareholders, but what makes sense for the company. Because again, corporate social responsibility, uh, while in the short term I appear to benefit more mostly, uh, the non shareholder stakeholders in the longterm, it has to have some connection with the longterm benefit, uh, to the shareholders.
Speaker 2:And Tom, in the book you also talk about the tension between board centricity and shareholders centricity. And there are a number of constituents who are trying to push for greater shareholder centricity, the corporation. What are your thoughts on that?
Speaker 3:Well, corporations are shareholder centric in the sense that they are to be managed as we've discussed for the Bennet ultimate benefit of shareholders after taking care of the other stakeholders. But the notion of having board centric as shareholder centric decision making I think is a bad idea. A shareholders are very different, uh, than directors. First of all, they're not fiduciaries unless they are a dominant or majority shareholders. They have no fiduciary duty, so they can act in their own unbridled self interest. Second, they will sometimes push for things and not be around, as I like to say, to eat their own cooking. A shareholder who forces a company, uh, to have a buy back that maybe is a, a share buyback that's at a, an imprudent level. They don't have to stick around and see how it works out. They just get to the shares perhaps at too high a price. Third, they're not expert. Uh, someone who is a good stock picker, uh, may not be expert in the actual operations of the company. So their ideas may not really have, uh, that much, uh, uh, credibility or relevance. They're not fully informed. Not all information about a company is out there in the public domain and that's appropriate because there are, there are plans that are, uh, that are highly sensitive, they're confidential and whatnot. And then finally, there's this notion that, uh, um, some academics have written about called empty voting, which is they may have the vote, but through derivatives and other means they've laid off the economic risk. So if you take all those things together together with the fact that I think board centricity has been a real positive, uh, because of the interaction between boards and management, I'm in favor of board centricity on, on big issues, but not in favor of shareholder centricity.
Speaker 2:Your book also spends a lot of time on board members, expectations of board members and the roles of directors on the board. Has the role of a director change meaningfully in the last 20 years?
Speaker 3:Absolutely. Uh, in, in, in some ways it's captured in the notion of how much time a public company director actually spends on that role. Uh, it is, is, it's much greater. Uh, they spend much more time there. They're more frequent meetings. They're more frequent, uh, special meetings. Uh, the, the role of the of the board again, is really, uh, an enhanced involvement in, in major decisions. And one of the most important decisions of course, is a succession, a CEO succession. Um, I note in the book, uh, uh, our, our, our esteemed colleague, Newton Menno once told me, because he served on any number of public company boards in a way that, uh, that, uh, a senior lawyer don't no longer does, but in his view, 40% of the time a CEO succession is botched. And so the directors really have to spend a lot of time thinking about that. Another element of the role is a much, much greater participation in strategic planning. I remember talking to a, an old school CEO who said, Oh, he would never involve his board in strategic planning because they were too risk averse. Uh, now the boards are very heavily involved in strategic planning. They will frequently have a strategic planning retreat offsite at least once a year. Um, and strategic planning has become an iterative process. Certainly the, the initial thought, the first draft as it were of a strategic plan should come from the management, but then iterates between the management, the board, because a well-selected board with all the right skills and experiences can make great contributions, uh, to the thinking of the management. And again, going back to a point I made earlier, uh, because management knows they're going to have to bring these things to the board. That first draft at least as presented to the board is much sharper than it might otherwise have been.
Speaker 2:So Tom and the beginning of the podcast, we talked about boards that kind of crossed the line into more management and impeding on the role of the CEO as an advisor to boards. When you see that, how do you pull the board back from doing that?
Speaker 3:I can give you, I can give you a story about that. There was a, a, a a board member who was the chair of a compliance committee. Now, not all, not all companies have a compliance, a board compliance committee, but this was in a regulated industry. And so it had a compliance committee. This chair of the compliance committee felt that she had hiring and firing authority over the chief compliance officer. And, uh, I was asked by the lead independent director to set her straight. Well, I didn't want to make it too personal. So I suggested and said that I give a bit of a board education session for the whole board, not just this one individual. And one of the things I pointed out was that if a board member acts too much like an officer, they could lose the protection, a very important protection of the sculptor Tory charter provision, which is that thing in the certificate of incorporation that says a board member will not be held responsible, financially responsible for breach of the duty of care. Well, if a board member behaves like an officer, there's at least a theoretical possibility that they will not have the benefit of the, of that provision because it doesn't protect officers. So that's one way to, one way to pull them back. Another way, frankly, uh, is not so much for the lawyer to do it as it is for a they, these are the lead independent director or a non executive chair to just have a bit of a one on one conversation and if, if, if all that fails and sometimes it can come up in a, in an annual board evaluation where if, uh, where the board will be evaluating individual members or if it's not a board evaluation that does that, it could be the decision of the nominating and governance committee annually when they're, when they're slating the, uh, the, the candidates to serve on the board and they can talk to the person about, you know, you're, you're really overstepping a bit. And the worst overstepping actually the, it takes place when a board members go around, uh, an accepted protocol or an agreed upon protocol about getting information, uh, from people within the organization. If you have a board member who goes deep into the finance committee or finance function of a cava company and asked an analysis of this or that, it can wreck havoc. Uh, and so there are these, these protocols are fairly important. They're really quite important.
Speaker 2:What did he do in a situation where you feel like the board's not spending enough time?
Speaker 3:The, the, the classic case would be, uh, in considering a major transaction. And in that instance, uh, frankly, the, the, the lawyer together, the outside lawyer together with the general counsel, with the, uh, with the consent of the CEO and whoever's the lead independent director simply says, we're, you know, we're just going to have to have, we're going to have to have a series of meetings. I mean, I've, if you do it, if you sell a public company, it's not at all unusual to have 15 board meetings over, over that issue. Uh, and people will show up if you call a meeting,
Speaker 2:you have a great story in your book that you once asked Congressman Michael Oxley shortly before the enactment of Sarbanes-Oxley, whether he would join a public company board and he said he would wait a while for the law to work itself out. I think he said, wait till the dust settles. Well would you, would you join a public company board in this era?
Speaker 3:Sure. Although it's interesting, uh, you know, folks who had the position that I've had in, in our law firm, my predecessors, I mentioned Newt minnow, uh, served on any number of boards. Uh, these days outside lawyers are not typically invited to serve on a board, but I would serve on a board if they were looking for, uh, me as, uh, for, for business advice. Uh, if they simply want legal advice, uh, as I've told any number of people they can rent that they don't have to put me on the board. But more broadly, a lot of a lot of folks will ask me, you know, should I serve on a board? I shouldn't. I be concerned about a financial risk and all the rest. And my answer to that is given, given the suite of protections for, for corporate directors, uh, the reality is the number of times the directors actually had to write a check if very, very small, very, very small. Now you can have reputational exposure and that's not to be minimized. But the positives of serving on a board are that you're, you're dealing with very smart people, uh, on very important issues in frankly in important institutions in society. Cause the corporate America, uh, is really a very important, uh, element of our society, uh, and can do lots of good things and with the right boards can avoid doing some of the bad things.
Speaker 2:My guest today is Tom Cole, senior council and chair emeritus of the executive committee of Sidley Austin. And he's the author of the newly published CEO leadership navigating the new era in corporate governance. Tom, we talked in the first part about governance, but your book is really focused on CEO leadership and modern challenges to the longterm leadership. Well, what are those challenges in the new era?
Speaker 3:Well, first I'm going to start by noting that in my view, and I reflect it in the book, leadership is more than just management. And I don't mean to diminish the importance of management and execution, but leaders, uh, do more than just all of that. So right now the, the main challenges to Lee CEO leadership, particularly for the longterm in this new era of governance are I would say threefold. One is boards that crossed the line, uh, and get go from the proper role of a board into management, uh, or God forbid micro management and boards are sometimes uh, influenced to do that by their past, by their own biases but also because they're feeling pressure from shareholders but bores across the line. And the management is one of the impediments to CEO true leadership. The second is the time that's required of, of a CEOs now to deal with boards and with shareholders and not all of that time is productive and not all that time. It really advances business and strategy or allows as the CEO to be a leader. And then finally is a activism by financially oriented activists, many of whom are very, very short term oriented. Some have a much longer perspective but but many are very short term oriented. Why did that happen? Why do you think that changed so much? I mean, we've talked a little bit about kind of the new era and what the, what have been the drivers, but why do you think the perception of what the CEO should be doing has really changed substantially in the last generation? In fact, I don't know that the perspective of what they should be doing has changed. Uh, it's simply that impediments had been put in place to keep them from being able to do it as much CEOs certainly have to spend much more time and attention on governance matters. I did in the course of preparing this book that a little informal survey of a bunch of CEOs and it was non-scientific because I'm not a pollster. Uh, but these were folks I knew well and I promised them and an imitate and I, and confidentiality. And one of the questions I asked them was, you, you define governance anyway you want, but tell me how many hours you spend a year on, on governance stuff. And the range was between 200 and 600 hours a year. And they were quick to point out that not all of it was productive in terms of advancing the business. So 200 and 600 hours a year, take a mid point or not even a mid point 300 hours, that's, that's over 10% of a really hardworking person's time, uh, that might otherwise be applied to, uh, advancing the business and, uh, looking out for shareholder interests. So we've talked about how, uh, CEO's duties have changed. Have our expectations of what a CEO should really be changed as well? Well, one of the really positive, uh, changes of our expectations is that CEOs are really expected to drive a positive corporate. Uh, CEOs are expected to set a, an important tone at the top for compliance, but also to establish a positive culture, uh, within the, within the organization. And a positive culture means of course, uh, showing respect for employees and demanding that of others, but also their own behavior. I mean, if you look at the number of CEOs who have left suddenly in the past, call it 24 months, uh, the number that can be characterized as part of the hashtag me too, uh, uh, issue, uh, is very significant. Uh, so CEOs are really expected, uh, to, to be, to be much better role models, uh, than perhaps in the past a was expected of them. Well, let me ask you another question, which is out of an executive had an opportunity to be the CEO of a public company and came to you and asked you whether your should, should do that, what would you tell them? I personally would tell them to do that. Now, I've had, uh, I had a very interesting conversation with a guy who was a CEO of a public company and then went into the PR and became the CEO of a portfolio company of a private equity firm. Uh, he was later, uh, while he was still the CEO of the private company, uh, was invited and was asked by a head Hunter if, uh, he wanted to be considered to be CEO of a$50 billion market cap company. Uh, in his industry. He would have been perfect for the job. But his response after having gone from public to private was, why would I ever want to do that? That's a great story. Did he do it? No, no. And he stayed in PR and he stayed in the private sector. He stayed in the private sector. There we go. You know, part of this is, you know, what are you interested in fame or fortune? Uh, and if you're a CEO of a public company, you might get both. Um, it, it's much more of a public platform. So for example, if you were, if you were interested in, uh, an important social issue, like gun violence slash gun control, uh, you, you have a better, a better, uh, platform from which to speak. So then there are a couple of prominent examples. There's Dick's sporting goods, but that's relevant to their direct, directly relevant to their business. The other example though is Levi Strauss, you know, they don't sell guns. They, they, they, they do blue jeans, right? Uh, but they have been, their CEO has been very open and, and uh, and a very public advocate, uh, about, uh, gun control and gun violence. So, and other reason maybe to be a CEO of a public company is that you will, you simply are going to be more prominent in society and that can Beckon operate to the good. So tell me in your, in your career, describe a CEO that actually gets this right. I think the CEOs who get it right are those who look at their board and, and think of it as an asset. I, I can describe one CEO. Um, this is an entrepreneur, very big personality. Own 20% of the public company could frankly do whatever he wanted. But he also had assembled a terrific board and he really wanted their advice. Uh, he, he, he could have been the kind of CEO who came in and said, well, I've decided to do this so you know, all in favor, but he didn't do that. He would, he would literally engage in the Socratic method around the board table and nobody could hide. So that's on the, on the one hand, he also got it right in terms of shareholders. He was very focused on shareholders. Uh, he would, he would, he would engage with shareholders even before shareholder engagement. It became a cliche or, or an aspiration perhaps that's more kinder, kinder way of putting it. And then finally he was, uh, he was extremely focused on his people, uh, and their families. Uh, he was a CEO who's, uh, lost a large group of people, uh, and on nine 11 and he attended, I think he told me a hundred funerals. So that's a guy who got it right.
Speaker 2:I could talk a lot about this, but we've got to end the podcast at some point. And we've been talking to Tom Cole, senior counsel at Sidley Austin and the author of the new book CEO leadership. Navigating the new air in corporate governance. Tom, thanks for coming on our debut podcast. It's my pleasure. Thanks for having me, sir. This is the Sidley podcast. Listen at sidley.com/sidley podcast
Speaker 1:[inaudible].