Jim Hanks, partner at Venable LLP, participated in a Q&A interview in conjunction with REITwise 2021: Nareit’s Law, Accounting & Finance Conference.
Nareit: Jim, you’re a panelist on a session at Nareit’s REITwise conference titled “Post Pandemic REIT Corporate Governance Issues.” Has the pandemic changed board responsibilities and deliberations?
Jim Hanks : It certainly has not changed board responsibilities or duties. Board responsibilities are what they have always been—oversight and decision-making. Directors’ duties for a Maryland corporate or trust REIT are set forth in the Maryland General Corporation Law: Each director must act in good faith; with a reasonable belief that what he or she is doing is in the best interests of the corporation; and each director must act with the care of an ordinarily prudent person in a like position under similar circumstances.
It’s important to emphasize a few things about this three-part statutory standard. First, it applies individually, director by director—not collectively to the board. Some directors may be complying with their duties, and others may not. Second, this statutory standard of conduct is backed up by a statutory presumption that every act of a director complies with that three-part standard. The courts have used that presumption as a basis for upholding director actions. Third, directors have a right to rely on experts, officers of the REIT, and other committees of the board on which they do not serve.
So, while the statutory framework for directors remains the same, a director must always be aware of the conditions or circumstances in which she or he is operating. In a pandemic, any reasonable businessperson, director, officer, manager, or investor should be considering the impact of the pandemic—its risks, threats, opportunities, and other impacts.
In the case of REITs, what does that mean for the REIT? It will differ. It’s going to affect REITs that are nursing home REITs or health care REITs differently than it’s going to affect self-storage REITs. It’s going to affect those REITs differently than multifamily or office REITs. Knowing, identifying, and understanding the particular conditions and circumstances in which the REIT is operating are critical to each director in carrying out her or his responsibilities and duties in a pandemic, a financial crisis, a booming economy, or lots of other situations. This is a continuing obligation.
Nareit: What is some of the latest thinking on board refreshment, including new proxy advisor voting policies?
Jim Hanks : In addressing board refreshment generally, ISS says that it “is best implemented through an ongoing program of individual director evaluations, conducted annually, to ensure the evolving needs of the board are met and to bring in fresh perspectives, skills, and diversity as needed.” As is often the case, ISS lists various factors it will consider in making vote recommendations on management and shareholder proposals on board refreshments but says nothing specific about it in its policies on making recommendations on voting for directors.
Apart from ISS, there is a tension between: (a) the benefit of the experience of many members of the REIT board with the REIT and understanding the business and industry; and (b) the benefit of new ideas, perspectives, and experiences. A prudent REIT board, seeking to comply with the present focus on refreshment, should take account of both ends of that tension—experience on the one hand, new perspectives on the other, and the in-between as well. This plays into the issue of diversity, which is obviously very important.
Most of the companies that I advise, particularly including REITs, are very good at finding directors who satisfy more than one criterion and often several criteria. A lot of board refreshment can and should be done in advance through succession planning. This is especially true for a board that may have some work to do on diversity and refreshment. When they get questions about apparent lack of progress on either of these subjects from investors or the proxy advisors, the next best thing is a very specific and active succession plan at the board level.
Nareit: There has been a lot of discussion recently, including in the REIT industry, about the role of investors versus stakeholders. What are your views on this important issue?
Jim Hanks : My views may be a little bit different than the views of some people. I think REITs and companies generally have to be careful about stakeholders. Stakeholders by definition are not investors. They’re not stockholders. They have some other connection with the corporation—whether it’s as a lender, or as a tenant, a supplier, an employee, or a local community in which the REIT has facilities.
Referring back to the three-part standard of conduct I mentioned earlier, each director has a duty to act with a reasonable belief that what he or she is doing is in the best interest of the corporation, the entity—not the stockholders, much less “stakeholders.” That standard is a fairly low bar that does not require very much in the way of a reasonable belief to sustain it. If you want to do something for your unionized employees that’s not in the collective bargaining agreement because you think, reasonably, it’s going to improve relations with the employees, that’s fine. No court is going to upset that.
It is the same for stakeholders, or people with a non-investment relationship with the corporation. If a health care REIT wants to build a park that is adjacent to one of its nursing homes or other health care facilities and make it open to the public, that’s fine. It would be easy to convince a court that this is in the best interest of our company because the park is available to the patients, even though it’s also available to the public. It’s in the best interest of the local community because it fosters good will for us. It’s inevitable that the park will be used by the families of suppliers to our facilities. So, there’s no issue there at all.
However, if the board decides to spend several hundred thousand dollars or a couple of million dollars on a park in the hometown of the CEO’s husband, and there’s no connection to the corporation, far away from the corporation’s market area, there’s going to be a problem, and there should be. So long as the board keeps its eye focused on what’s in the best interest of the corporation, the expanse of what it can do is very, very broad. Even reputational or relationship benefits count.