Declassifying the Classified (Part 1)(Part 2)
Despite the prevalence of staggered boards, only lately have they become the focus of corporate debate, and the literature on them is still limited. Scholars assume that staggered boards by definition mean a guaranteed term of office, unless cause for removal is present. They further believe that staggered boards contribute to corporate stability, long-term planning, and the board’s independence from management. They primarily debate the desirability of staggered boards in takeovers, some suggesting that staggered boards coupled with poison pills have become the most effective way to prevent hostile takeovers. Scholars also note that overwhelmingly shareholders are powerless to undo staggered boards without the board’s consent and that state legislatures are unlikely to amend the statutes in favor of shareholders. This article argues that we can safely sever the link between staggered boards and entrenchment in office. It suggests that the traditional rationales supporting entrenched staggered boards are no longer valid. In fact, a Delaware statute, protecting staggered boards against removal without cause, was based on a misreading of a judicial opinion, which was not even good law at the time it was enacted.
The article draws an analogy from agency law to contend that the law should not tolerate the irrevocability of staggered terms in quasi-agency relationships of the kind that exist between shareholders and directors, notwithstanding contractual provisions to the contrary. Indeed, other countries with similar statutory protections require only monetary damages for unjustified removals. They treat shareholders’ removal power as mandatory and unwaivable. A look at independent agencies, the closest constitutional analogy, shows that there, too, staggered terms and removal protection warrant only compensatory damages, not reinstatement. This article thus argues for similar treatment of staggered boards and removal for-cause protections, which would resolve one of the most difficult problems in corporate governance today. By permitting only monetary damages, not entrenchment, to directors removed without cause, their entitlement to office is transformed from a property rule to a liability rule, which is fully justified under the contractual theory of efficient breach and restores shareholder power to its intended potency.