Stagger System

Stagger System

Investopedia / NoNo Flores

What Is a Stagger System?

A stagger system is a method of electing a company's board of directors that puts up only part of the board for re-election in any one year, in contrast to the system in which all board members go up for re-election annually.

Key Takeaways

  • A stagger system involves dividing a company's board of directors into classes and electing them in turns, instead of holding a single election.
  • Staggered board make hostile takeovers extremely difficult because bidders have to win more than one proxy fight over a period of time to take control.
  • The advantage of staggered boards is that they promote stability and continuity in management, but critics say they can harm shareholders' rights by making it difficult to remove directors.

Understanding Stagger System

Staggers systems are common practice in the United States. Each group of directors falls within a specified "class"—of which three to five classes is the norm—which is why staggered boards are also called classified boards. Class 1 members serve a one-year term on the board, Class 2 members serve two years, Class 3 members hold their seats for three years, and so forth.

Staggered boards make hostile takeovers extremely difficult. Hostile bidders have to win more than one proxy fight at successive shareholder meetings to take control of the target company, which takes years. This is why stagger systems are a particularly effective anti-takeover measure, particularly when combined with poison pills.

Defenders of staggered boards say they promote stability and continuity in management, and that they also foster a long-term strategic vision for corporate initiatives. But by making it more difficult to replace directors, and protecting companies from raiders, they can harm shareholders' ability to hold the board to account. Consequently, directors may not always act in the interests of shareholders, which damages shareholder value.

Example of Stagger System

Company XYZ has 12 directors divided into three classes, each consisting of four directors. Each director serves a five-year term. Class 1 is elected one year, followed by Class 2 and Class 3 in subsequent years. Company ABC attempts a hostile takeover of XYZ.

However, its attempt is stymied due to the class system of directorship adopted by XYZ. In one year, it is able to win the support of only one class (i.e., four directors). By the time the next election occurs a year later, the circumstances of XYZ's business have changed for the better and ABC is forced to call off its bid.