A recent letter from activist investor Elliott Management to Southwest Airlines' board of directors is a reminder that the board does not have unlimited time to demonstrate its support for the implementation of the turnaround plan. Southwest Airlines shareholders expect the board to refresh its membership with seasoned, experienced directors who can make significant adjustments that will improve the company's performance even in the toughest economic environments. Shareholders believe that is not happening, which is why they are seeking to replace two-thirds of the board.
Frustrated by a roughly 46 percent drop in the low-cost airline's stock price over the past five years, Elliott is buying more of the company so it can negotiate with current management to make changes or launch a proxy fight for control of the board to force change. Reuters reports that Elliott and Southwest are planning to meet on September 9 to discuss a solution.
Elliott has already publicly stated his plans to nominate 10 directors to Southwest's 15-person board. Among Elliott's candidates for board renewal are former Virgin America CEO David Kusch and former Air Canada CEO Robert Milton. The activists have also publicly called for the removal of current Southwest CEO Robert Jordan and Executive Chairman Gary Kelly from the board, to prevent them from “maintaining control of Southwest for as long as they wish for their own convenience.” Additionally, Elliott has proposed creating a special board committee to review Southwest's operations and develop a plan to bring about “transformation” at the airline.
It should be noted that CEO Jordan says he has a great plan to turn around the struggling airline. Unfortunately, the timeline for executing the “turnaround” is beyond what investors like Elliott can tolerate.
In general, activist investors have become more aggressive in targeting directors they perceive as impeding positive change at companies. But in this case, the investor patiently waited five years of poor performance before sending the board a letter. Most boards do not have the five-year grace period to develop and implement a turnaround plan. The situation at Southwest is becoming combative. Corporate directors observing the current situation might consider asking their boards the following:
What mechanisms can we use to counteract poor stock price performance? Five years of stock price declines with little board action is a trigger for activists to challenge the board. For this reason, boards must be willing to ask themselves whether they can deliver an acceptable level of performance. Agreed-on benchmarks must be set for how much stock price performance can lag before a major effort to turn things around is initiated. Similarly, there must be agreement on how steep a quarterly or year-over-year decline in performance must be before swift action is required. Steps must be taken to ensure action is taken when these benchmarks are reached. And each board must have the integrity to follow through.
If performance is declining, how do you know if updating your board will help? Self-evaluation is difficult, but every board must be willing to do it. When things are going wrong, making changes to the board to get things back on track is an option. Southwest Airlines took too long to staff its board, and now 10 board members are at risk of losing their jobs.
Fresh perspectives can be very helpful. Boards should consider being open to the idea of asking shareholders what additional experience they think would strengthen the board. Such collaboration could delay a proxy fight call. Alternatively, boards could study the composition of the boards of peer companies that have achieved good results. They may find that competitors’ boards have skill sets that their own company lacks.
Is there really a restructuring plan if major shareholders aren't on board? Without shareholder buy-in, most business plans will face problems. It is difficult to turn a company around if you cannot convince shareholders of the merits of the plan. If the company needs a turnaround plan, the board has already lost investor confidence. Getting shareholders to accept the plan is a critical part of any “turnaround.”
