The North Dakota Publicly Traded Corporations Act and Reducing the CEO's Control of the Board

We are discussing North Dakota's attempt to compete for charters, not by out Delawaring Delaware but by adopting a law that gives shareholders a bevy of rights that go well beyond what Delaware typically provides.  As explained in my article, The Irrelevance of State Corporate Law in the Governance of Public Companies, one way Delaware maintains its lead in attracting charters is to provide provisions desired by those managing the company.  Delaware imposes few requirements on the board of directors.  There is no requirement that a board contain independent directors, no requirement that a board contain any kind of substantive expertise, and no limits on the ability of the CEO to dominate the board.  

One way that the North Dakota statute, the Publicly Traded Corporations Act, has sought to alter this dynamic is to separate the positions of chairman of the board and CEO.  The Act provides that the chairman cannot be an executive officer of the company. 

How common is it to combine the two positions in the United States?  Very.  In the paper, The Effects and Unintended Consequences of the Sarbanes-Oxley, and its Era, on the Supply and Demand for Directors, the authors note that in 2004, 66% of large companies (market capitalization of over $750 million) had not separated the two positions, down slightly from 2001 when the percentage was 68%.  For the largest companies, the percentage is even higher.  In the 2006 Corporate Governance Survey conducted by Shearman and Sterling, only 24 of the Fortune 100 companies had separated the positions and only six had in place policies that required separation.  The study did not, however, determine the number of non-CEO chairmen deemed independent.  Thus, for example, when Terry Semel stepped down as CEO of Yahoo last week, he agreed to serve as non-executive chairman of the board.  Under the NYSE or NASDAQ definitions, he would not be considered independent. 

Moreover, the trend is clear.  As the Shearman & Sterling study shows, 82 of the Fortune 100 have a board with at least 75% of the directors designated as independent.  Indeed, in 37 of the top 100 companies, the CEO is the only non-independent director on the board.  In other words, the number of "independent" directors is increasing while the CEO controls the position of chairman in the vast majority of cases. 

This allows the CEO to maintain control over the board of directors.  These boards meet a modest number of times during the year (the board of Wal Mart, the largest company in the Fortune 500 had eight meetings, four physical and four telephonic, in fiscal 2007), the independent directors have other fulltime positions or sit on other boards (all eleven of the independent directors or nominees at Wal Mart either have full time positions or sit on other boards) and they generally receive the information about the company deemed important by the chairman or CEO.  

In other words, the position of chairman matters.  The chairman can typically call board meetings and set agendas.  The chairman can play a critical role in deciding what issues and information are put before the board.  This includes oversight of the CEO, including the need to replace the CEO. 

The combining of the two positions has not gone unnoticed.  It has been a bone of contention with shareholders.  In May, CVS shareholders passed a "non-binding" resolution to separate the two offices.  Moreover, in Britain, the practice is to separate them. 

It is unlikely that shareholder proposals will work in this area.  Shareholder proposals will not work because they will in general be non-binding (as in the case of CVS) and management will resist implementation because of the loss of authority and control.  As the Shearman & Sterling study notes, only six of the Fortune 100 companies have a policy separating the two positions.  The provision in the Publicly Traded Corporations Act will, therefore, be one of the reasons why management will strenuously resist any effort to encourage reincorporation in North Dakota.