United States: Attracting A Strong Board

In the wake of the recent financial crisis and earlier accounting scandals, investors in public biotech companies increasingly have focused their attention on corporate governance and boardroom underperformance. As a result, the composition of a company's board of directors has become an increasingly important factor for investors in deciding whether to buy, hold or sell stock. At the same time, stricter requirements imposed by government regulators, a higher level of scrutiny by proxy advisory firms and an increasingly litigious plaintiff's bar are making it harder to attract strong board members who meet the tests of independence and experience.

Biotech companies can take several steps to make their boards more attractive to top-tier candidates, including providing access to key management and advisors, and ensuring that board compensation policies are designed in light of recent court rulings.

DIMINISHED POOL OF CANDIDATES

The pool of individuals who are eligible to serve on the boards of publicly listed U.S. companies has diminished as regulators and proxy advisory services have adopted restrictive standards. For instance, the NYSE and NASDAQ both require a majority of their listed company boards to be independent. The SEC and the exchanges also require members of audit committees and compensation committees to be independent (with independence standards beyond what is required for board members, generally). Both exchanges require boards of directors to affirmatively determine whether or not each director is independent, and this review includes evaluating whether the director has a relationship with the company or is an officer, partner or shareholder of a company that has a relationship with the company. In addition, both exchanges list specific relationships that can prohibit a finding of independence.

Further, this past year, Institutional Shareholder Services Inc. (ISS) and Glass Lewis & Co. LLC, which make recommendations to institutional investors on corporate governance matters, have imposed new limits on "over boarding," or the number of boards on which a director can serve. Beginning in 2017, both firms will recommend a vote against a director who sits on more than five public company boards. ISS will also recommend a vote against a director who is a CEO of a public company and sits on the boards of more than two public companies besides his or her own. The new Glass Lewis policy will recommend a vote against a director who is an executive officer of a public company and serves on more than two public company boards.

The result is a situation in which biotechs must compete for a dwindling number of candidates who have the requisite experience in the biotech industry to be an effective board member, can meet the standards for independence and are not overcommitted to other boards.

THE RELUCTANT CANDIDATE

Among the candidates who clear the regulatory hurdles, some may be reluctant to join boards out of fear that this once-coveted position can become a drain on their time, and damaging to both their reputation and their finances.

Directors at public biotech companies are well aware that they are within the crosshairs of a plaintiff's bar with an itchy trigger-finger. Directors of publicly traded biotech companies organized under the laws of the state of Delaware are subject to fiduciary duties that, if breached, can subject the directors to personal liability. Shareholders often file lawsuits after stock prices drop precipitously, even when the cause was totally out of the control of the company, such as an adverse decision from FDA or one of its advisory panels. Although these suits generally get settled, and insurance or the company covers the directors' legal fees or potential damages, there is still a risk that directors may have to reach into their own pockets to satisfy certain asserted claims.

Even if the lawsuit settles and the director does not have to pay any monetary damages, the settlement might not come until after a lengthy and public lawsuit in which the director may have gone through a burdensome deposition process.

Although these lawsuits cannot be avoided, there are steps companies can take to assure potential directors that they will be provided with the tools and resources to successfully defend against a breach of fiduciary duty accusation.

The Delaware courts will ordinarily defer to the business judgment rule, which presumes that the directors acted on an informed basis, in good faith and in the honest belief that their action was in the company's best interests. Therefore, absent fraud, self-dealing or abuse of discretion, the courts will generally sustain directors' decisions as a proper exercise of their discretion if the directors have demonstrated due care in making an informed judgment for a rational business purpose.

Providing directors with regular access to the company's CEO, key management, legal counsel, auditors and outside advisors increases the likelihood that a court would sustain the directors' decisions under the business judgment rule. Companies also should provide the board with information early enough to be able to make decisions. In addition, the board should have free access to the company's outside advisors to assist the board in fulfilling its responsibilities.

DIRECTOR COMPENSATION

Ensuring that directors are protected by the business judgment standard also requires shareholder ratification of non-employee director compensation if that compensation was determined by the non-employee directors themselves.

The practice in the biotech industry is to provide a significant part of non-employee director compensation in the form of equity. For publicly listed biopharmaceutical companies, these equity awards are granted pursuant to a shareholder-approved compensation plan. Oftentimes, these plans provide for a maximum number of shares that each non-employee director may receive annually. The compensation or another committee then determines the actual number of shares that each non-employee director will receive, with the value of the awards determined by the share price at the time of grant.

For publicly listed companies in a buoyant stock market, a rapid rise in share price can mean shareholders, including non-employee directors, may receive many thousands of additional dollars than projected at the start of a year. This may give other shareholders occasion to question the fairness of the non-employee directors' compensation, prompting them to challenge their legality.

Until recently, most companies (and their directors) assumed that shareholder approval of a compensation plan constituted ratification of the board's director compensation decision because of the annual limit contained in the plan. A series of cases in the Delaware Chancery Courts, however, have held that shareholder ratification will not be valid unless the company's equity plan either sets forth the specific compensation to be granted to non-employee directors, or sets meaningful "ceilings" on potential compensation. Further, per the recent case against Facebook, that shareholder ratification needs to be accomplished formally either through a vote at a shareholders' meeting, or by a written consent.

Absent formal shareholder ratification, directors' decisions would be subject to the "entire fairness" standard if the compensation is challenged rather than the business judgment rule. This is a more difficult hurdle than the business judgment standard, and may often lead companies to settle these claims with plaintiff's counsel.

In addition to protecting directors via shareholder ratification of non-employee director compensation, companies should assure their director candidates that these cases will not have an effect on the level of compensation that the directors will earn, and the directors will still be paid at levels commensurate with directors serving on boards of the company's peer group.

CRISIS MANAGEMENT

A final piece of preparedness that can give comfort to director candidates is having a crisis management plan. No company is immune to the possibility that a problem will turn into a crisis. Smaller biotechs often lack the staff and capital resources to plan for or weather the storm that a crisis might bring, and are therefore at a heightened risk of events that could spin out of control and be memorialized and disseminated through the internet.

Class-action lawyers will be ready to pounce on a company or its board for allegedly failing to recognize and address potential risks associated with the firm's operations. Further, failure of risk oversight can lead to a negative recommendation by shareholder advisory groups in voting on director elections.

To protect directors from these scenarios, a company should ensure its board is knowledgeable about the potential risks facing its business and operations, and should brief the board on its crisis management plans. Further, counsel should be included on internal and external communications concerning the plan so as to avoid plaintiff's counsel exploiting any company weaknesses that might be exposed by the crisis management plan.

Originally published in BioCentury - April 2016

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
Shearman & Sterling LLP
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Shearman & Sterling LLP
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions