As activist investors begin to negotiate with companies to resolve proxy situations, we explain an often-overlooked element of BoD functions.

Once we mostly ignored BoD committees. We thought the important decisions happened at the full BoD. Why spend negotiating chips on committee roles when we had many other priorities? Alas, we were quite wrong.

A couple of notable proxy contest settlements remind us of the importance of BoD committees. Earlier we explained a variety of elements of these settlements.

At Sotheby’s, the settlement specified committee assignments for all three Third Point directors. Dan Loeb joined the executive, nominating and corp gov, and business strategy committees. The other two directors joined the compensation, finance, and business strategy committees. Sotheby’s formed a business strategy committee to plot the future direction of the company, so joining that committee naturally puts all three new directors in the middle of the action.

At Zoetis, Pershing Square appointed a single director, and will collaborate with company management to recruit a second independent director. The corp gov committee leads that search, and the new Pershing Square director joins that committee.

What Committee Do

In addition to special committees like the business strategy committee at Sotheby’s, BoDs typically have three standing committees, two of which control important components of the work of the BoD.

The nominating committee, sometimes including corp gov, recruits directors. Members determine who remains on the BoD, and who joins. It decides who among incumbent directors will stay for another term. It also identifies, interviews, assesses, and nominates new directors. The “corp gov” role entails drafting those endless committee descriptions, barely worth reading much of the time.

The compensation committee designs CEO pay, and sometimes that of other senior executives. Members determine how the company compensates and retains those executives. It typically serves as the locus of CEO performance evaluation.

The audit committee, the third standing committee, is important, but few shareholders fight to place directors there. The committee makes few critical strategic or leadership decisions relative to others. Since it must consist of independent directors, companies frequently stick a shareholder nominee here anyway.

A few BoDs have an executive committee, such as the one at Sotheby’s, which frequently serves as a shadow BoD. It often has many of the same powers as a BoD, and can act between BoD meetings.

Why Care?

Why focus on the committees, instead of the full BoD? In our experience, committees research and debate critical issues in more detail than the full BoD. An independent director on one of those committees can influence materially BoD composition or CEO compensation.

Sure, the full BoD reviews, debates, and votes on committee recommendations. The BoD, though, might veto the work of a committee, if even that, rather than modify it. Most BoDs also are loathe to contravene the work of a committee that presumably worked hard to address the finer points of an exec comp package, or recruit a new director.

Committee practices vary by company size. Larger companies, with larger BoDs, have distinct committees, with little overlap in committee membership. They necessarily let committees do the needed work, and review and ratify the findings.

At smaller companies, smaller BoDs have much more overlap. Often, all directors serve on all committees, with only the committee chair rotating. The full BoD still might review a committee’s work, but the committee already made the key decisions.

Until recently, we didn’t pay much attention to committee assignments in assessing BoDs, or resolving proxy contests. We do now.