The appointment of activist-nominated directors can bring value to the boards on which they serve. They bring fresh perspectives, demand attention to pressing matters, and offer new kinds of expertise to the group dynamic. Companies often do well — shareholders in particular benefit — when they welcome such board members and heed their advice. However, a new study published in Strategic Management Journal found that activist directors tend to impose a managerial myopia and yield increased reports of stakeholder harm.
The research team — Brian L. Connelly of Auburn University, Mark R. DesJardine of Dartmouth College, Wei Shi of University of Miami, and Zhihui Sun of Capital University of Economics and Business in Beijing — saw a gap in the literature as it related to the emerging phenomenon of directors nominated by activist shareholders. During the first half of 2024, for example, activists won 74 seats; they won 93 in the same period of 2023.
“Most of what we think we know about activist investors being on boards is based on examples,” Connelly says. “The problem with this approach is that consequences are often contextual. To develop knowledge about the phenomena that is more generalizable, it was important for us to look at a wide range of board appointments over time.”
For their study, the researchers pulled data on thousands of companies that had directors appointed to their board by an activist investor between 2008 and 2019. They compared these boards to those without activist-nominated members to determine the likely consequences of the board appointments across a broad range of scenarios.
The team’s definition of stakeholder harm includes a wide range of non-financial corporate outcomes related to the interests of non-shareholders who are connected to the company: customers, suppliers, employees, alliance partners, and the community where it operates. Because the researchers couldn’t precisely know when the organization began the process of harming stakeholders, they focused on observable outcomes by way of three different types of reports:
- Rater reports, which come from evaluator agencies such as KLD who consider the extent to which companies engage in behavior that is concerning for community, diversity, employees, products, the environment, or human rights.
- Media reports, which are somewhat more grievous because they are focused on violations that rise to the level where they attract journalist attention.
- Regulator reports, which are more rigid in that they operate in an institutional context, originating from federal agencies such as OSHA and the EPA, as well as state and local agencies.
They found that activist directors do bring immediate benefits to shareholders, but they also appear to reduce executives’ inclinations to make long-term investments. The team also discovered the adverse effects on stakeholder harm to be most profound when a director is a delegate — meaning they work directly for an activist investor — compared to when the director is a trustee — meaning they are appointed by, but do not work for, an activist investor.
“Nobody, including the activist directors themselves, wants to see more stakeholder harm,” Connelly says. “It is more likely a consequence of extreme pressure on short-term results, but if this is tempered with an appreciation for the potential consequences of re-allocating strategic resources, boards could get the best of both worlds: immediate benefits to financial outcomes without going overboard to the point where they sacrifice strategic, sustainably-related outcomes.”
The researchers recommend that companies vie for a trustee, as opposed to a delegate, whenever possible. This gives activist investors the seat at the table that they desire, but trustees (versus delegates) are less beholden to activist pressures and are better positioned to listen to the company’s concerns about long-term stakeholder interests. “Trustees are likely to be better for everyone in the long haul,” Connelly says.