Workers on Boards Unite!

A shareholder campaign to nominate employee directors seeks to introduce a European idea to the US

US investor, NorthStar Asset Management, is continuing its campaign of shareholder proposals, begun last year at FedEx and Microsoft, calling for a report “describing opportunities for the company to encourage the inclusion of non-management employee representation on the Board”.

It’s a live debate in the US. Presidential candidate, Senator Elizabeth Warren, has also proposed legislation that would require employee representation on corporate boards.

Each of NorthStar’s proposals received less than 5% support from shareholders at the two companies’ annual meetings last year, though it is, of course, early days for the idea in the US. 

“We believe this reflects the fledgling nature of this topic,” NorthStar said, “as it is our understanding that institutional investors and proxy advisors often need more than one proxy season to examine the issue and determine a stance on the matter. When bringing a new ‘ask’ to light, our approach is always to mitigate risk to company value; however, often others have not yet seen the risk. Risk is often disclosed in arrears and only taken seriously when a negative incident occurs.”

We are particularly interested in those companies that have had employee relations issues, or because management was lax in considering risk to company image or productivity that could have been mitigated with greater stakeholder involvement…. NorthStar

The campaign for 2020 includes proposals at medical technology firm Stryker, fluidics engineer IDEX Corporation, smart metering company Badger Meter, medical device manufacturer Boston Scientific, HR software provider Automatic Data Processing (ADP), and mobile payment company Square. 

Regarding the selection of companies, NorthStar said: “We view this as a corporate governance issue and a matter of best practice. The targets for the proposal this year were determined partially by whether or not we have an existing engagement at the company. We are particularly interested in those companies that have had employee relations issues, or because management was lax in considering risk to company image or productivity that could have been mitigated with greater stakeholder involvement, such as consideration of information from rank-and-file employees.”

NorthStar is considering resubmitting at FedEx and Microsoft – which were chosen for the same reasons as this year’s batch – in the coming weeks as their deadlines for submission of shareholder resolutions are coming up in the spring. None have been challenged at the SEC, the firm said.

In contrast, WalMart associate Cynthia Murray saw her employee director proposal challenged by the retail behemoth earlier this month.

She had earlier presented the resolution before Congress at a hearing arranged by Senator Tammy Baldwin, of Wisconsin, who is reintroducing legislation called the Reward Work Act, which would require companies to allow workers to elect a third of the company’s board members. Presidential candidate Senator Elizabeth Warren has also introduced legislation that requires employee representation on corporate boards.

Of course, employee directors are standard practice in other economies, particularly Germany, where the system of co-determination, the concept that involves the right of workers to participate in management of the companies they work for, is almost universal. Depending on the size of the company, between one-third and a half of companies’ supervisory boards must be comprised of employee representatives. 

Many attribute the success of these arrangements in Germany to the supervisory board structure, “which,” says a Glass Lewis report, “is clearly separated from the executive board and has a distinct oversight function”. 

And research from last November by Germany’s National Bureau of Economic Research found that rather than reducing owners’ capital investment, as many who oppose the practice fear, granting formal control rights to workers actually raises capital formation.

NorthStar said that it believed that its approach to this issue could apply to all of the companies in its portfolios. Nevertheless, the concept will be a difficult one to introduce in the US. Even Leo Strine, former chief justice of the Delaware Supreme Court, in a paper on responsible capitalism, felt that co-determination did not really fit “with our economy”. His solution was to give “workers more leverage by requiring all societally-important companies to have board level committees charged with ensuring fair treatment of employees, authorizing companies to use European-style works’ councils to increase employee voice, and reforming labor laws to make it easier for workers to join a union and bargain for fair wages and working conditions”.

Germany also has works councils, so it’s not an either/or situation. NorthStar said it had engaged with most of the companies where it had filed for this season: “We have had more than one dialogue meeting with several of those companies,” they told me, “indicating their interest in the issue. The engagements have been mutually educational, as each company has asked very useful questions to understand the proposal more in depth and consider our suggestions, though we have not been able to withdraw any of the proposals so far.”

In the UK, more recently, as a result of a special intervention by a surprising candidate for ‘workers’ heroine’, former Prime Minister Theresa May, the corporate governance code, outlined requirements for engagement with the workforce. Companies must choose between: an employee director; a formal workforce advisory panel; or a designated non-executive director. 

But according to a Local Authority Pension Fund Forum report, Employees on Boards: Modernising Governance, employees have been appointed to boards at only two companies since the code change in January last year, sports equipment retailer Sports Direct and housing and care provider Mears Group.

Appointing an employee director is, of course, not a panacea. If there are cultural problems and lack of communications between the board and its workforce, these structural issues need to be addressed as well.

FirstGroup, the bus company, the report notes, has for a long time had an employee director on the board. Speculation as to why Sports Direct appointed an employee director would be focused on its troubled relationships with its employees and its widespread former use of zero hours contracts. And Mears? To say that its success depends entirely on its employee culture might be true, but that is true of almost every other company in the world. A statement in its governance report, as to why it appointed an employee director, does not illuminate: “clearly underlining the Company’s commitment to progressive business practice and corporate governance. Mears understands the vital role that our workforce plays in the success of the Group”. Surely every company should understand the vital role its workforce plays in its success.

According to the OECD’s Corporate Governance Factbook, 10 EU countries have established legal requirements regarding the minimum threshold of worker representation on the board, which varies from one member to half the members of the board, with one third being the most common. More than twice as many have adopted the practice voluntarily. Outside of Europe, no jurisdiction requires worker representation on the board.

The three most studied are the German, French and Dutch models. In France, the requirement is five worker representatives or one third of the board, depending on the size of the board. In the Netherlands, in companies with a market capitalisation greater than €16 million and 100 employees based in the Netherlands, the workers’ council has the right to nominate representatives, but they must still be approved by the shareholders.

Clearly there is no single model, and this is driven partly by differences in institutional models, but also by regulations related to company size. For example, in Denmark, a company has to have more than 50 employees for them to have board representation. In Germany, it is 500. There are also differences in how employee directors are nominated; by trades unions, staff associations, works councils or employees; or a combination in some cases. There are also different rules as to how they are appointed, who can be eligible, and how many employee directors are required. 

There are other models available, such as requiring worker representation only on state-owned or majority state-owned companies, though this would exclude large numbers of public and private companies from the benefits of having employee representation. A difference of approach is not a sign that having employee directors is a bad thing.

The LAPFF survey findings, which looked at compliance with the UK’s code and the options chosen, showed that two-thirds of companies disclosed compliance with the code and the option they had selected, while around a fifth said they would be explaining their non-compliance. Almost three-quarters said they would be appointing a designated non-executive director, with just over a quarter putting together a formal workforce advisory panel and only 5% appointing an employee director from the workforce. Most felt that the reforms in general would have either a positive or neutral effect.

Some of the objections to employee directors were: company size, conflicts of interest, the creation of two classes of directors, tokenism, and a lack of skilled or suitable candidates. The last objection is a common one; as is the fact that they would need to undergo a training regime if one were found. But, so would any director new to a board position.

Appointing an employee director is, of course, not a panacea. If there are cultural problems and lack of communication between a board and its workforce, these structural issues need to be addressed as well. 

But it’s a start.