Shareholder Group Contends HP's New Board Is Too Chummy

When it shook up the membership of its board of directors in January, Hewlett-Packard flouted its own rules when new CEO Léo Apotheker participated in the selection of of new directors. That’s among the findings in a report on HP by Institutional Shareholder Services, an organization that advises investors on corporate governance issues. The report’s findings were first reported by Bloomberg News, but I’ve gotten my own copy of it.

The report raises several questions about exactly how five new directors, including former eBay CEO Meg Whitman and former Alcatel-Lucent CEO Patricia Russo, were selected to join the board. They were, the report says, identified by an “ad hoc committee” formed in November of last year consisting of Apotheker and three non-employee directors, whose identities were not disclosed in a subsequent proxy filing with the U.S. Securities and Exchange Commission.

ISS said it had learned from its discussions with HP that the members of this committee were Ray Lane, now HP’s chairman, Lawrence Babbio and John Hammergren. Of those, only Babbio serves on the Nominating and Governance Committee, which is the board committee usually tasked with finding new directors. The report then cited a paraphrased comment from Lane to The San Jose Mercury News: “Lane said he and Apotheker personally reached out to the candidates they wanted to join HP’s board.”

The result: Only two of the seven director nominees were properly identified by the board’s nominating committee, while the other five were named by this ad hoc committee, which included Apotheker.

ISS then went on to question their independence, saying that at least four of the five director nominees have connections with Apotheker. HP director Dominique Senequier, CEO of Axa Private Equity, sits on the board of Schneider Electric with Apotheker. And at least three of the director nominees had been customers of SAP, where Apotheker was the CEO.

While ISS conceded that it’s not uncommon for directors and executives to serve together on outside boards, or for one’s company to be a customer of another, in HP’s case, this combined with Apotheker’s participation in the selection of the new directors “raises red flags,” it says.

“Given the problematic board issues that have arisen at the company in the past (including the forced resignation of a former independent chair in 2006), shareholders would have expected the company to adhere to the highest standards of board governance,” the report said. “A CEO’s participation in the appointment of directors, especially if the director has significant relationships with the CEO, can make it difficult for such directors to be objective.”

So what to do? ISS suggested that shareholders vote against the nominations of three directors up for relection: They are Babbio, Sari Baldauf, the former head of Nokia Networks, and Ken Thompson. HP’s shareholder meeting is on March 17.

HP didn’t comment right away on the ISS report, and I’ll add anything it says when I hear from someone there. The ISS report does say that the ad hoc committee acted like a search firm and that board candidates ultimately were vetted by the board’s nominating committee and finally approved by the full board. Still, the ISS said, the fact remains that the new CEO was involved from the earliest stages of the process.

These shareholder advisories always make for interesting reading, though to be frank, they’re usually an exercise in holding up reality to an improbable ideal. They also rarely have an effect on the outcome of shareholder votes.

Yet given the the history of turmoil on HP’s board, you’d think that HP might have gone a few extra miles in making sure the director selection process followed every last rule in order to avoid these very criticisms, and injected a little more transparency into the process. As the management guru Gary Hamel recently wrote, “Transparency is as effective as a rigidly applied rule book, and usually more flexible, and less expensive to administer.”

Update:HP just sent me a statement on this:

“HP has strong and robust governance practices. We believe that ISS’s recommendation is based on their misinterpretation of the process that HP employed in identifying, selecting and nominating our directors. We do not believe that it would be in the best interests of HP’s stockholders to lose the service of the experienced and dedicated Board members who have been delegated primary responsibility for establishing and maintaining those governance practices and who, by any standard, have carried out their obligations in a fully compliant manner.”