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Stifling Debate on Classified Boards: Je Suis Charlie!

jscHere’s an old question. I’m sure you’ve heard it before. What are the consequences of alpha-seeking shareholder activism, i.e. of the use of an equity stake in a company to pressure the management for corporate policy moves that will increase stock value, and thus allow the activist a successful quick cashout?

At the extremes, one view condemns such activism as “greenmail,” and complains that its historical consequence is a shortening of the attention span of board members, keeping them focused always on the latest numbers, monthly or quarterly: the contrary view lauds the activists for their entrepreneurial spirit and for shaking up moribund bureaucracies. This latter greenmailer-as-hero view also condemns out-of-hand any measures (such as the staggering or “classification” of board seats) that might insulate boards from outsider demands. There exists a lot of room between those two extremes, and there are a number of different ways of slicing up this big question into smaller parts.

I’m musing about this now because recent days have seen a twist on the old debate that may steer it into a new and very unhealthy direction.

There was this, for example: a working paper by Daniel M. Gallagher and Joseph Grundfest. The paper is noteworthy, first, because of those authorial names. They represent the Securities and Exchange Commission present and past. They make for a unified bipartisan front, too: Gallagher is an appointee of President Obama; Grundfest was a nominee of President Reagan. The paper also has what seems from these authors a remarkably provocative title: “Did Harvard Violate Federal Securities Law?”

Spoiler: Their Answer is “Yes”

The case for a “yes” answer turns on Harvard’s support for shareholder activism, especially when exercised by public pension funds. Harvard’s Shareholder Rights Project has long encouraged shareholder proposals calling for the de-classification of boards. Part of the motive for such proposals is that in principle a control or policy-change-seeking activist group should be able to win control of the whole of an unclassified board at a single stroke, a possibility that even when seldom produced does increase the ability of such groups to bring pressure on the incumbent to, say, agree to a suitor’s takeover proposal or divest a controversial subsidiary.

What irks Gallagher and Grundfest is that Harvard’s SRP “relies on a summary of academic research that portrays staggered boards as categorically detrimental to shareholder interests.” In the Gallagher/Grundfest view, there is a “larger body of opposing research” that reaches the opposite conclusion, that staggered boards can be a good thing for shareholder value.

These two gentlemen aren’t simply contributing to the on-going debate over activism, classified boards, etc. They’re seeking to stifle it. They’re suggesting a litigation campaign against the side of the debate they oppose. They say that the arguments that the SRP makes in support of the “Harvard Proposal” are so one-sided that Harvard’s silence about contrary research is a “material omission” and thus a violation of Rule 14a-9. They suggest both that the SEC “could bring enforcement proceedings against Harvard University alleging violations” of that rule, and that private parties “should also be able to prevail.”

A First Amendment Fight

This is disturbing. It may turn the (healthy) debate over the effects of shareholder activism into a quite ugly and unnecessary first amendment fight. A government official and former official are in the position of warning certain advocates on a matter of public policy, with views contrary to their own, that they will be in violation of regulations and subject to both public and private liabilities if they don’t change their tune.

Several scholars have weighed in on this matter, generally criticizing the past-and-former commissioners for their heavy-handedness. One of those who have spoken up is Tamar Frankel, of Boston University School of Law. Professor Frankel, portrayed above, is the author of Law and the Financial System (2009).

She observes in her response to the Grundfest/Gallagher paper, “There is a big difference between discussing general policy problems, which SEC Commissioners should be doing, and attacking or urging actions against particular individuals and organizations, which SEC Commissioners should not be doing.” That is an effective use of understatement, professor.

I applaud Frankel’s response (and I’d very much like you, dear reader, to follow that link to read it in full). Then we can say it together: Nous sommes Charlie. Or maybe Nous sommes Carl would be more fitting in this case.