Private Sector: Hewlett-Packard's problems teach lessons about corporate governance

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In Jim Collins's award winning book about rock solid companies, "Built to Last," Hewlett-Packard is the paradigm.

In the late 1990s, H-P's board of directors reached out to Lucent Technologies Corp., choosing Carleton Fiorina as H-P's chief executive officer. For several years, Ms. Fiorina was the most powerful and famous business woman in the world. She criss-crossed the globe in the H-P Gulfstream jet, creating a buzz wherever she went. It was "all Carly, all of the time."

   

Douglas M. Branson is the W. Edward Sell Professor of Business Law at the University of Pittsburgh.

   

In January and February of 2005, the H-P board of directors held several meetings and retreats. The subject was the high profile of Ms. Fiorina, her refusal to delegate, her reluctance to hire a chief operating officer, her continued consolidation of power and H-P's stock price, which was flat over the four years of Ms. Fiorina's tenure. Under pressure, she resigned.

During and following all of this maneuvering, several surprisingly accurate insider accounts appeared in the press. The H-P board chair, Patricia Dunn -- some say encouraged by advice from H-P's outside counsel, lawyer Larry Sonsini of Wilson, Sonsini, Goodrich & Rosati, Silicon Valley's leading law firm -- set out to find the leaks to the press of the board's deliberations.

Ms. Dunn caused the corporation to hire a security firm, which in turn hired a Boston-based private detective agency. They did find the leaks, or most of them, which had come about when a longtime director, George Keyworth, had lunch with a Wall Street Journal reporter.

As with any other board of directors witch hunt, this one came to no good. A preeminent H-P director, Tom Perkins, founder of Kleiner Perkins, the leading venture capital firm, resigned from the H-P board in May 2006, as did Mr. Keyworth, who admitted to the lunch and probable leaks. Mr. Perkins protested the witch hunt, and the tactics used, which had included "pretexting." In pretexting, which is a felony, an investigator assumes another's identity in order to obtain the person's telephone records, in this case those of Pui-Wing Tam of the Wall Street Journal and Dawn Kawamoto of CNET News.

Eventually, Ms. Dunn, who had initiated all of this, had to step down as board chair -- and eventually to resign her position on the board. California Attorney General William Lockyer has said felonies had been committed and expressed his intention to prosecute them.

This whole mess teaches us several things about corporate governance.

1. Neither board of director deliberations nor board minutes are confidential. Even material, nonpublic investment information (inside information) is not per se confidential. The law prohibits trading on such information or tipping others to do so. Communication of such information to persons who will neither trade nor tip is perfectly permissible.

Yet in insider trading prosecutions, SEC and Department of Justice attorneys try to convince juries that what goes on in a corporate board meeting and is recorded in the minutes is confidential. In fact, it is only confidential if the presiding officer first extracts a promise of confidentiality from those in attendance, before he or another person imparts the information or the discussion takes place. For serious matters, a corporation could require each director to sign a Nondisclosure Agreement, although that may be overkill.

In many corporations, the corporate secretary takes notes at the meeting but turns them over to the firm's lawyer to put in final form as minutes. Corporate minute books are stacked atop the filing cabinets in many law firms. They are not in the safe or otherwise under lock and key. An enterprising reporter could probably read minutes for an hour before any associate, secretary or file clerk noticed. They are not confidential and, rightly or wrongly, they are treated as a ho-hum sort of thing.

2. Individual directors have no power to do anything, let alone initiate corporate action. Directors are not agents of the corporation. They cannot bind it to anything -- although one older case holds a corporation responsible for an American Express card a director procured in the corporate name. Directors have their power as members of a collegial group, not as individuals.

3. Chairman of the board is an empty vessel into which various corporations pour various things. But pour they must, either by a bylaw provision or by a delegation from the full board of directors. If the corporation has not outlined duties and responsibilities for the board chair, the holder of that position has no significant powers or status independent of other directors. At most, they are a bit shy of a first among equals or just another director in many other companies. No statutes describe the position of board chair. At many companies, the chair occupies a purely ceremonial or honorary position. The nonexecutive chair may not even preside at board meetings in companies in which the CEO wishes to retain that function. Many CEOs try to control both the board agenda and the meetings.

At the other end of the spectrum, some sets of bylaws or governance blueprints outline a number of powers and responsibilities for the board chair. The chair may function as a senior statesperson, or have an avuncular relationship with the CEO.

Unless there had been a board delegation, Ms. Dunn had no power to do what she did as board chair, let alone as a rank-and-file director.

4. Directors should never spy on or conduct any form of witch hunt regarding fellow directors. A board is a group of equals. At most, the board chair is a first among those equals. Ordering commencement of a process that may delve into telephone or other personal records is unseemly and out of place. If that action may be necessary, then the target should not be on the board of directors in the first place. I have been in several cases in which directors have tried to sanction fellow directors, mostly for statements to the press. I suppose that technically they have power to do so, but the end result is never any good.

5. Directors have no power to remove other directors so sanctions and witch hunts tend to be idle gestures, or end up in nasty fights. Shareholders elect directors. Usually, they alone also have power to remove directors, by majority vote and with or without cause. Most courts hold director attempts to remove fellow directors to be nullities.

What then is to be done when a director allegedly has misbehaved? No witch hunt, for certain. No private detective or security firm. No sanctions.

Instead, if a critical mass of directors has reason to suspect the honesty or integrity of a fellow board member, they should bite their tongues. Management simply should not renominate that person for re-election. Short of re-election, management could seek removal of that director at a special shareholders' meeting called for that purpose but that alternative would cost several hundreds of thousands of dollars in a modern publicly held company. Besides, the offending individual may be around for only up to 11 months. More likely, they will know when they are not wanted, resigning beforehand.

It is only with a classified, or staggered, board, that more serious problems arise. State corporation laws permit corporations and their shareholders to divide directors into up to three classes (Nevada allows four), members of each class to serve two- or three-year terms, as the case may be, resulting in a classified board. It is conceivable that, on a classified board, a director the other board members suspect of misconduct may have 35 months left in a term. In that case, if the target director is a recalcitrant one, a proceeding to remove him or her from office may be an alternative.

While Hewlett-Packard may be built to last in terms of designing and building high-tech products, in corporate governance, H-P, its board chair, counsel and board of directors seem to have a self-destructive death wish, one that could have been avoided with a little thought and the application of basic principles.



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