Archives: March 1997

A recent survey by KPMG and the Australian Institute of Company Directors showed fewer than one in six directors had a total understanding of corporate governance. Less than a third of the directors were implementing corporate governance initiatives, although another 21% said they already had initiatives in place. 58% said they would be looking at increasing shareholder value, while only 34% would be examining the fairness of remuneration of directors and upper management.

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The LA Times reports on sokaiya gangsters who threaten to disrupt shareholder meetings or threaten to expose corporate scandals. The Shareholder Ombudsman group, formed last year to increase corporate disclosure and accountability, now has its court calendar full of organized crime cases as they try to muscle the mob off the corporate payroll. Takashimaya execs pleaded guilty to paying $1.3M, Nomura may have paid $4000,000.

A survey by Grant Thornton LLP finds the boards of directors for many Minnesota midsize manufacturing companies do not meet frequently enough to be effectively involved in a number of critical areas.

In a mail survey of 125 Minnesota manufacturing companies, local board members report they are most involved in reviewing/approving corporate acquisitions (51%), monitoring their company’s financial status (34%) and reviewing strategic plans (33%). On the national level, board members are significantly more involved in monitoring their company’s financial status (56%), and in reviewing strategic plans (48%). The study reveals local boards are far less likely to be involved in reviewing/approving capital projects (19%) than are their national counterparts (42%).

More than a third (41%) of the Minnesota boards comprise five members or less while another 49% have between 6 and 10 members. Only 10% have more than 10 members. This compares to the national results which report nearly three-fourths (71%) of the company boards have five or fewer members, 24% have between 6 and 10 members and only 5% have more than 10 members.

More than half of Minnesota manufacturers (56%) compensate their boards with meeting fees compared to 32% nationally. Significantly more local manufacturers (40%) grant stock ownership to their board members than reported on the national level which is at only 22%. The number who pay an annual retainer fee (37%) is more than double the number (18%) indicated by the results of the national survey.

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CalPERS announced corporate governance principles for the United Kingdom and France building on six basic concepts that CalPERS has identified as fundamental to free and fair markets throughout the world. The six “global” principles include director accountability to shareholders, transparent markets, equitable treatment for all shareholders, easy and efficient voting methods, codes of best practices that clearly define the director-shareholder relationship, and long-term corporate vision which at its core emphasizes sustained shareholder value.

CalPERS principles are designed to complement the Cadbury Code and Greenbury Report in Britain, and the Vienot Report in France. In Britain this means regular elections of all directors, confidential voting, and improved access for shareholders to present resolutions through the company proxy. In France, CalPERS recommends an accountable and independent board and identifies ways to strengthen the director-shareholder relationship. The recommendations include a one-share, one-vote capital structure, an end to cross shareholding, the regular elections of all directors, and a greater disclosure of executive compensation.

Currently, CalPERS international equities comprise more than $20 billion of the System’s total investment portfolio. The System is expected to develop and consider governance principles for Germany and Japan by the end of the year.

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On March 19th Investor Relations Magazine announced the winners of its U.S. awards for excellence in the profession. The highlight was the presentation of the National Investor Relations Institute Grand Prix for Best Overall Investor Relations by a U.S. Company to General Electric, in the large-cap category, and to Morton International, in the smaller-cap category. Award winners and runners-up in 18 categories were determined by a survey of over 1,450 portfolio managers and buy and sell-side analysts. General Electric also won for best corporate governance.

TIAA-CREF is starting six no-load mutual funds.

Fortune carries an interesting article, CEO PAY: MOM WOULDN’T APPROVE by Thomas A. Stewart. He cites Pearl Meyer, an executive pay consultant in New York. The typical CEO pay package is now “21% salary, 27% short-term (annual) incentives,16% long-term incentives, and 36% stock-based pay (mostly options, which usually cannot be exercised for three years).” But he adds that “we’re still a long way from pay heaven. In the first place, the usual way to add risk to CEO pay has been simply to stack goodies on top of existing pay. Result: The CEO runs only the risk of making tons more money. Getting stock options, for example, is nothing like buying shares, since options have no downside.” Stewart’s main gripe, however, is that “shareholders don’t act like owners.” “hard numbers on the value of investor loyalty are hard to come by, but all the anecdotal evidence shows that superior long-term performance and a loyal shareholder base go hand in hand.”

CalPERS announced they will begin managing more of their domestic equity portfolio in-house. Currently, about 83% of that portfolio is passively managed. The move will bring the actively managed proportion up to about 20%. (see press release) A March 17th editorial in Pensions & Investments says the plan “deserves tough scrutiny and skepticism” and goes on to raise doubts concerning probable success.

We have added a link to the Securities Class Action Clearinghouse, under LinksLaw. I expect it will become an important site to any of you who are taking advantage of provisions of Private Securities Litigation Reform Act of 1995. We also want to point out an important new article “Does Coordinated Institutional Activism Work? An Analysis of the Activities of the Council of Institutional Investors.”

Institutional investors are calling for more information on individual directors, including their business track records and their specific contributions. They want boards to be evaluated by outside observers and they want boards to be more aggressive in weeding out underperforming members, according to the 1997 U.S. Survey of Institutional investors, released by Russell Reynolds Associates.

The survey, entitled “Setting New Standards for Corporate Governance,” was conducted for Russell Reynolds Associates by Wirthlin Worldwide, and is based on interviews with 231 portfolio managers and institutional shareholders. 62% of investors opposed limits on CEO compensation. In the past year alone, 77% of the investors surveyed have communicated their opinions directly to a board either verbally or by letter, sought more direct involvement in board oversight, sponsored a shareholder resolution or voted in favor of one. CONTACT: Russell Reynolds Associates, Sally Laroche, 212/351-2000 Fax: 212/286-8518.

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The LENS site recently posted an excerpted version of“Putting a Value on Corporate Governance” which appeared in The McKinsey Quarterly. In a survey of investors and CEOs, the authors found that investors would pay more for good corporate governance. Those more likely to do so were investors with low turnover in their portfolio, “value” investors, and those with high net worth.

February’s Corporate Secretary carried an article by Olena Berg, of the PWBA. She discusses the findings of PWBA’s third proxy practices project, pointing out that a significant number of plans did not routinely monitor their managers’ voting to ensure that proxies were voted in accordance with the plans’ stated policies…many did not even provide investment managers with voting guidelines. In addition, few of the plans surveyed engaged in any form of corporate governance activism.

Berg cites a study by the Competitiveness Policy Council saying that institutions should acquire larger stakes in fewer companies. This would encourage them to act as long-term owners. Since corporate managers complain of pressures for short-term results from impatient investors, such a shift would meet their needs as well. However, the Council also recommended that PWBA allay unfounded fiduciary concerns with respect to prudent investing by clarifying that ERISA’s diversification standard does not require investment in hundreds or thousands of stocks. Although Berg’s remarks implied agreement, we still haven’t seen formal clarification through administrative guidance. In addition, although she is obviously concerned, Berg’s agency has never taken action against a plan sponsor for failure to monitor the voting decisions of outside managers tainted by conflict of interest. Perhaps she will have more to say about these issues when she addresses the Society of Corporate Secretaries at their conference this July in Boston.

The WSJ featured an article about the growing trend by mutual fund managers to have a substantial investment in the funds they run. Among those so mentioned were Neuberger & Berman; Tweedy, Browne Co.; Franklin Resources (Michael Price); Baron Asset Fund; Delafield Fund; Yacktman Fund; Davis Selected Advisers (Davis New York Venture); Friess Associates (the two Brandwine funds); Southeastern Asset Management (the three Longleaf Partners funds); Harris Associates (the Oakmark funds) and the Crabbe Huson Special Fund.

CalPERS continues to shake Apple. According to CalPERStwo of Apple’s directors sit on four or more boards. They question if Apple’s directors have the time and dedication to turn around Apple when they sit on other boards and are also concerned that three board members don’t even own stock.

Apple’s 1996 compensation plan was to provide senior executives bonuses correlated with performance. However, when losses continued to drain the company, Apple changed the plan so that senior managers would get a bonus if Apple reported a profit in the fourth quarter. They did it by taking a one-time gain from inventory adjustments. In the tree quarters that didn’t count last year (for executive pay) Apple lost $841 million. Shareholder’s might well wonder if Gilbert Amelio really earned his bonus of $2,334,000.

TIAA-CREF increases its investments in Project Finance, according to PRNewswire. Their portfolio of loans for large capital projects is now crossing the billion dollar mark.

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Archives: February 1997

The increasing value of “human capital” is acknowledged inFortune magazine article by Thomas Stewart.

The Conference Board released the first issue of their Institutional Investment Report. At the end of the second quarter of 1996, U.S. institutions held more than $11.1 trillion in total assets, up from $10.5 trillion at the end of 1995 and $6.3 trillion in 1990. In the past five-and-a-half years, institutional assets have increased by slightly more than 75 percent, rising 15.1 percent from 1994 to 1995 alone, and another 6.2 percent during the first six months of 1996.

“These data are important because they indicate changes in the balance of power between corporate managements and institutional shareholders,” says Dr. Carolyn Kay Brancato, the report’s principal author and director of the Board’s Global Corporate Governance Research Center. Pension funds continue to control the largest block of U.S. institutional assets, although their share of total assets has been giving way to open-ended mutual funds. Open-end mutual funds have enjoyed staggering growth during the past few years, rising 14% during the first six months of 1996 alone. Investment companies increased their share of total U.S. equity markets from 6.4% in 1990 to 11.7% in 1996. Continue Reading →

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Archives: January 1997

Investor Relations Business [email protected]reports that representatives of the Council of Institutional Investors,American Society of Corporate Secretaries, National Association of Individual Investors and the Interfaith Center on Corporate Responsibility have “tentatively agreed to tentatively agree” to proxy reforms outline by Commissioner Steve Wallman of the SEC in a speech before CII last October. Proposals from those holding 3% or more of company’s outstanding stock would be automatically included in a company’s proxy along with mainstays such as proposals for staggered boards, director compensation and takeover policies. The “Cracker Barrel” decision eliminating all employment-related proxy proposals under the ordinary business exclusion would be overturned. A draft is currently being hashed out by attorneys.

In other news from IRB, the number of companies with Internet sites has increased from 35% in 1995 to 80% in 1996 with only 1% not planning a site according to a recent survey by Straightline International (compare with last year’s findings). 57% of money managers surveyed use the Internet for company research. Continue Reading →

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Archives: December 1996

Spencer Stuart survey of Midwestern companies confirms trend towards alignment of corporate boards and shareholders.

The annual study of board practices at 95 leading Midwestern companies with sales of $500 million or more found the number offering retirement plans to board members fell from 54% in 1995 to 34% due to mounting pressure from shareholder activist groups to eliminate benefits that may compromise director independence.

Compensation is increasingly in stock. Stock options were offered at 38%, 35% offered stock grants, and 21% offered directors the option to receive their annual retainer in cash, stock or a combination of the two. Baxter International, Brunswick Corporation, Chrysler Corporation, McDonnell Douglas, Sears, and the Tribune Company provide 100% director compensation in stock. Last year 13% of companies surveyed required directors to hold stock; this year its 21%. Continue Reading →

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Archives: 1995 – November 1996

Nasdaq will seek public and industry comment on a series of changes to its asdaq will seek public and industry comment on a series of changes to its listing qualification standards. Among the governance standards are: a minimum of two independent directors; an audit committee with a majority of independent directors; an annual shareholders meeting; and shareholder approval for large, below-market issuances. The comment period runs through Dec. 20, 1996.

A survey of 203 company officers responsible for relationswith investor asked which factors have greatest impact on their company’s stockprice. Topping the list: the quality of senior management. (See National Investor Relations Institute.) We learned of the survey through the “Wharton Leadership Digest.” If you would like to receive it via e-mail, send a message to [email protected] . In the subjectline, enter the word subscribe. Continue Reading →

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Review – Investor Capitalism: How Money Managers Are Rewriting The Rules Of Corporate America

Investor Capitalism: How Money Managers Are Changing the Face of Corporate America. Managerial capitalism ascended during the century’s middle decades. “The decisions they made often affected the lives of thousands of people, yet they were seemingly accountable to no one.” The large holdings of institutional investors and the growth of indexing as a major investment strategy have  prevented the ready selling of underperforming companies; investors are now more likely to “speak out than to cash out.” Whereas managerial capitalism tolerated a host of company objectives, Useem argues that under investor capitalism enhancing shareholder value has become paramount. Continue Reading →

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Ending the Wall Street Walk: Why Corporate Governance Now?

Wall Street BullWhat would you do if the company in which you’ve invested your hard earned dollars throws it away on fat retirement benefits to outside members of its board of directors? One individual investor, Richard Ayers, conducted a proxy battle this year with Nevada Power Company over the issue. Although he won more than 30% of the vote, individual investors and “ethical” funds face a Sisyphisian task in bringing change to today’s corporations.

The reality is that if you don’t like the way the management handles your business, you have traditionally had two choices: hold your nose or sell out. The message is usually the same whether it is being dispensed by Barron’s, Merrill Lynch or the manager of a so-called “socially responsible” investment fund. It’s called the “Wall Street Walk.”

But dumping stocks is an easy short term solution that only compounds the short term investment horizon that plagues Wall Street. In many cases, this conventional wisdom may not only be wrong for the investor, the cumulative effect of such acts may also profoundly impact the quality of our products and environment, the treatment of employees, our balance of payments, and the well being of society-at-large. The real issue is often not last quarter’s balance sheet but the strategic direction of a company and the integrity of its management.

Corporate Governance

Corporate governance, the nuts-and-bolts of how a public company fulfills its responsibilities to investors and other stakeholders, is oddly frequently overlooked in debates over corporate social responsibility. Despite its still relatively low profile, it’s where much of the real action is going on when it comes to positively changing corporate behavior.

In 1932, Lewis Gilbert owned 10 shares in New York’s Consolidated Gas Company and found that his questions were ignored at the annual meeting. Lewis and his brother pushed for reform. Finally, in 1942, the Securities and Exchange Commission adopted a requirement that companies put shareholder resolutions to a vote under specified circumstances. In 1967 organizer Saul Alinsky, a Rochester based community organization, and several national churches turned to shareholder activism to target Kodak’s poor record of minority hiring.

More recently, the social investment community has focused on high profile, public campaigns aimed at divestment of corporations involved in perceived social injustices such as involvement in apartheid South Africa, Dow Chemical, GM, or companies that operate in Burma. Although such shareholder actions have certainly had an impact, most won only a small fraction of votes. Progress has been made largely because targeted corporations wanted to minimize adverse publicity.

Corporate governance actions spearheaded by huge, multi-billion dollar pension funds such as CalPERS, the California Public Employees’ Retirement System, and other large funds, changes the balance when such social concerns are seen as affecting share value. Their entry provides the foundation for the beginnings of a much larger degree of meaningful self regulation of businesses by owners.

Robber Baron Accountability

At the turn of the century, corporations were dominated by “captains of industry.” Carnegie, du Pont, Mellon, Morgan, Rockefeller, and others owned large blocks of stock and exercised direct control over their investments. “Agency costs” were not much of a problem because ownership and control were embodied in the same individuals. Corporations were accountable to their owners.

By 1932, however, Adolph Berle and Gardiner Means documented a significant shift in their book The Modern Corporation and Private Property. Ownership had become so dispersed that control had shifted from owners to managers. Owners essentially traded their ability to monitor management for increased diversification and liquidity. Being an active shareholder no longer paid because, despite potential gains to shareholders as a group, it was no longer rational for any one shareholder to act. Why shoulder the entire expense of corporate activism for only a small portion of the gains while other shareholders get a “free ride?”

Mark Roe, a professor of law at Columbia University, recently reexamined the historical evidence and concludes that our corporate system based on strong managers and weak owners is not the inevitable result of large scale production as Berle and Means assumed. Instead, it is the unintended consequence of political decisions which reflect the public’s dislike of concentrated financial power. The framework of corporate democracy, much of which developed in reaction to the stock market crash of 1929, restored public confidence by subordinating finance to commerce and providing legitimacy for the otherwise uncontrollable growth of power in the hands of a few private individuals.

The New Deal’s Glass-Steagall Act separated investment and commercial banking. Similar laws limited control of stock by insurance companies and mutual funds. Together, they insured that financial institutions could not easily control industry, but they also restricted collective action. Although these reforms may have saved us from the real evils of concentrated wealth and power in the finance sector, they had the unintended result of ensuring that management of America’s corporations would soon be accountable to no one. The framework of corporate governance set up in the aftermath of the 1929 crash has the appearance of being democratic (one share, one vote) but lacks basic mechanisms to carry out more than an illusion.

Since the 1930s, corporate governance consisted primarily of attorneys engaged in theoretical debates about reducing “agency costs” – essentially inefficiencies which arise when the “principles” (stockholders) hire an “agent” (chief executive officer, CEO) whose interests differ from their own. Stockholders want their shares to increase in value and pay higher dividends; the CEO wants status, a high salary, bonuses and perks. The Holy Grail for those in the field of corporate governance has been to develop a variety of rewards and punishments to better align the CEO’s interests with those of the shareholders. Instead of actively participating in corporate governance issues, shareholders became passive. With few options left to them, dissatisfied owners were told by the system to love it or leave. That strategy became known as the “Wall Street Walk” or the “Wall Street Rule.”

The Politics of Corporate Governing

This rather dry history has been overtaken by a series of high-profile, hot button debates swirling around the role of the corporation in society. Issues of corporate governance — junk bonds, corporate takeovers, downsizing, executive pay, the rise of pension funds– are discussed daily in the press. So what has changed and how can it lead to more effective and responsible, corporate leadership?

In the 1960s, empire building by CEOs led to a kind of merger madness, as conglomerates gobbled up unrelated companies. When many of these conglomerates lagged in price in the 1970s, it heightened the realization that CEOs needed oversight. Accountability, of a sort, came in the 1980s when corporate raiders using “junk bonds” took many companies private, disassembled them and sold them back to the public in parts. The results to employees and communities were often devastating in the form of plant shutdowns and lost jobs. While workers and communities struggled with massive layoffs, CEOs invented golden parachute severance packages and designed poison pills which made takeovers less attractive through stock dilution mechanisms which hit new shareholders.

By the late 1980s, a backlash set in. The “junk bond” market imploded, and an irate public and corporate boards began to demand a more active role in corporate governance. They recognized that their intervention could soften the impact of corporate restructuring on workers, communities, operations, and profits.

These developments led to the modern field of corporate governance which examines the legal, cultural and institutional arrangements that determine the direction and performance of corporations. Practitioners include: (1) the shareholders, who usually hold one vote per share of common stock owned, (2) the board members, whom shareholders elect, and (3) the management of the firm, which is usually headed by a CEO appointed by the board. Other participants include advisors, creditors, employees, customers, suppliers, government and its citizens. Each party can influence the firm’s direction.

Pension Fund Power

Between 1955 and 1980, the institutional investor share of outstanding stock rose from 23% to 33%. In 1990, it had risen to 53% and now stands at more than 60%. Pension funds, as a subset, experienced even more rapid relative growth. Their share of the market rose from 0.8% in 1950 to 9.4% (1970), to 18.5% (1980), to 28% (1990) and stands above 30% today. This shift has set the stage for the rise of a subtler form of corporate governance which has yet to be fully realized. Instead of waiting for corporate raiders to impose dramatic changes through hostile takeovers, pension funds have the opportunity to become long term “relational” investors, working with boards and CEOs to make needed adjustments earlier and less painfully. Corporate governance would then move from revolutions and palace coups to the smoother transitions characteristic of democratic governments.

While legal impediments largely preclude mutual funds, insurance companies, and banks from holding large blocks of stocks, fewer such prohibitions apply to pension funds. Most pension funds are free to hold blocks of stock large enough to make monitoring of management feasible, from a cost-benefit standpoint. In addition, the Department of Labor, which governs most pension funds under the Employment Retirement Securities Act (ERISA), has clarified that voting rights are plan assets. It is, therefore, the duty of pension fiduciaries (trustees) to ensure such assets are voted solely in the interest of plan participants and beneficiaries. Unlike individual investors who can just throw their proxies away, pension funds are legally required to follow the issues of corporate politics and to vote.

Ideally, pension funds, who have predictable payouts, should be taking a long term investment time horizon and should be urging the firms they invest in the to do the same. The growth of pension funds dramatically increases the capacity of the financial community to identify and redress agency costs, since they bring the possibility of sophisticated monitoring by professional analysts. Unlike other institutional investors, pension funds have nothing to sell their portfolio companies and no intrinsic interest in acquiring operating control.

CalPERS: Leading the Pack

The California Public Employees’ Retirement System involvement with corporate governance issues can be traced back to a morning in 1984. Jesse Unruh, then treasurer of California and a CalPERS board member, read that Texaco had repurchased almost 10% of its own stock from the Bass brothers at a $137 million premium. Essentially, Texaco’s management paid “greenmail” to avoid loss of their jobs in a takeover. CalPERS was also a large shareholder but, of course, was not given the same option of selling its stock back to the company at a premium. Unruh quickly organized a powerful shareholder’s rights movement with the creation of the Council of Institutional Investors (CII — composed mostly of pension funds) to fight for equal and fair treatment of shareholders, shareholder approval of certain corporate decisions, and needed regulatory reforms.

CalPERS has $100 billion in assets, serves 1 million members and is administered by a 13 member board. Six are elected by various membership groups; the others are either appointed by elected officials or serve by virtue of their elected office. In contrast to the short time frame of most institutional investors, CalPERS takes along-term perspective. Their average holding period ranges from 6 to 10 years.

CalPERS equity strategy consists of making long-term investments so it can be in a position to influence corporate governance. Many pension fund managers, subject to the “star” system on Wall Street, actively manage their funds with hopes of beating the market. But recent studies have shown that active management is not cost effective. After factoring in fees and turnover expenses, “indexing” – owning a representative share of a particular market – is the best strategy for most pension funds (as well as for most individuals through low-cost index funds such as those offered by Vanguard).

CalPERS targets poor corporate performers in its portfolio and pushes for reforms. These range from firm specific advise, such as arguing a few years ago that Sears and Westinghouse should divest poorly performing divisions and redefine their strategic core businesses, to more general advice. For example, CalPERS believes most firms need to expand employee training and shared managerial authority with lower level employees. Although CalPERS must often bear the full cost of monitoring, and other shareholders get a “free ride,” the sheer size of its investments makes such monitoring worthwhile.

A 1995 study by Steven Nesbitt, Senior Vice President of the consulting firm of Wilshire Associates which was under contract with CalPERS, examined the performance of 42 companies targeted by CalPERS. It found the stock price of these companies trailed the S&P 500 Index by 66% in the five year period before CalPERS acted to achieve reforms. The same firms outperformed the Index by 52.5% in the following five years. A similar independent study by Michael P. Smith (with Economic Analysis Corporation, Los Angeles) concludes that corporate governance activism has increased the value of CalPERS’ holdings in 34 firms over the 1987-93 period by $19 million at a monitoring cost of $3.5 million.

Unfulfilled Promise

CalPERS’ investment strategy is hardly typical. Most institutional stock owners are adopting shorter and shorter time horizons, evaluating companies on a 1-3 year time frame, rather than the longer term outlook of CalPERS. The average holding period has declined from more than 7 years in 1960 to about 2 years today. The result has been an increase in transaction costs. In 1987, for example, $25 billion was spent on stock trading in the U.S. That is an amount equal to one-sixth of corporate profits or 40% of dividends that year. Money managers have shifted the emphasis of capital from long-term investments to making a quick buck.

Although CalPERS has been active in corporate governance, most pension funds are not. While some progress is being made, the Department of Labor reports that only 35% of plans which delegated voting authority could provide evidence that they performed substantive monitoring of how their investment managers carried out proxy voting. But its no wonder plans don’t monitor; the Department has never taken an enforcement action against a fund for their failure to properly monitor voting decisions.

Most pension funds exist in a culture of “blame avoidance” built around the legal concept of “prudence.” Although portfolio theorists generally agree that 99% of the risk management value of diversification can be achieved with a portfolio of only 100 stocks, pension plans continue to over diversify. While the aggregate holdings of institutional investors now stand at more than 60%, the holdings of individual institutional investors in individual companies rarely exceeds 2% and tends to be in the 0.1% to 1% range. Since the holdings of most pension funds are not nearly as large as those of CalPERS, they would derive similar benefits from active corporate governance only if they consolidated their holdings into larger blocks to make monitoring cost effective.

If more pension funds would follow CalPERS’ lead, accountability might finally make its way into the boardroom. That would be a healthy development for investors, companies, employees and the environment. For example, it is widely accepted that employees in “knowledge” industries, such as computer software, hold the key to additional wealth generating capacity in their training, skills and information networks. Margaret Blair, a Senior Fellow at Brookings Institution,points to evidence that this is true not only in Silicon Valley but for most industries in the United States. Blair calculates that tangibles, such as property, plant and equipment, accounted for 62% of the total value of mining and manufacturing firms in 1982 but only for 38% in 1991. The value of intellectual property has risen dramatically as workers have become more educated.

More democratic and flexible workplaces make fuller use of employee capacities and yield tangible economic benefits. Yet managers faced with a potential loss of status and power have been slow to change. A 1986 study by the National Center for Employee Ownership found firms with significant employee ownership and participation in decision making grew 8 to 11% faster than their counterparts. A year later the General Accounting Office found that such firms experienced a 52% higher annual productivity growth rate. Findings, such as these, led CalPERS to advocate employee training and shared managerial authority. Similar findings linking “social responsibility” to the bottom line have led TIAA-CREF (a cooperative pension fund for educators) to push for more women and minorities on boards.

Corporations have a profound effect on the quality of our environment and our lives. If they were governed and operated more democratically the influence they have on other social institutions such as government, education and even the family could be expected to change in a positive direction.

Ending Corporate Demockery

What measures can be taken to bring about more genuine democratic corporate governance? Perhaps the most important are in the area of corporate elections. Corporate board elections are about as democratic as old-style communist regimes: they talk the talk but don’t walk the walk. A 1991 study found that over 80% of board candidates were filled by CEO recommendations. Until 1992, when the SEC revised its proxy rules under pressure from CalPERS, CII, and others, shareholders could not even communicate with each other without going through elaborate and expensive filing procedures. Serious obstacles to communication remain. Filing is still required whenever a voting group owning 5% or more, in total, agree to vote together. In addition, most votes are only advisory and access to shareholder lists is limited.

Management controls the proxy machinery. Since proxies are normally voted well in advance of the annual meeting, they can find out how shareholders vote. Many money managers, who act as investment and voting agents for fiduciaries, have business relations with the management of firms holding elections. They are not required by law to maintain written records of how they voted on behalf of their clients, so they are likely to change their vote, if requested by management. In addition, unvoted proxies are often counted in favor of management.

To realize the potential of more democratic corporate governance we need to encourage monitoring and active participation in corporate governance by investors, especially pension funds. Among the many reforms needed, Congress and/or the Securities and Exchange Commission could:

  • Institute proxy reform measures, especially for confidentiality in collection, independence in tabulation and uniform treatment of votes and abstentions.
  • Change the definition of a “voting group” so that shareholders who are not seeking to control a corporation can freely communicate with each other.
  • Allow groups of investors holding at least 10% of outstanding shares access to proxy statements to nominate at least one independent director and to present other non-control related proposals to shareholders.
  • Require investment companies, banks and insurance companies to meet the same fiduciary standards for the voting of proxies as pension funds under ERISA.

Congress and/or the Department of Labor could:

  • Require ERISA trustees to keep records to demonstrate they have acted for the exclusive benefit of plan participants in their voting and governance actions.
  • Ensure pension funds are voted solely in the interest of plan participants and beneficiaries through enforcement efforts.
  • Clarify, through administrative guidance, that diversification standards under ERISA do not require investment in hundreds or thousands of stocks; prudence is to be evaluated on a portfolio-wide, rather than individual investment, basis.
  • Require trustees of employee stock ownership plans to vote unallocated shares in the same proportion as employees vote.

Further Reading

Blair, Margaret M., Ownership and Control: Rethinking Corporate Governance for the Twenty-First Century, The Brookings Institution, 1995.

Denham, Robert and Michael Porter, “Lifting All Boats: Increasing the Payoff From Private Investment in the US Economy,” Report of the Capital Allocation Subcouncil to the Competitiveness Policy Council, Washington, DC, 1995.

Hawley, James P. and Andrew T. Williams, “Corporate Governance in the United States: The Rise of Fiduciary Capitalism a Review of the Literature,” Saint Mary’s College of California, Moraga, 1/31/96.

Monks, Robert A.G. and Nell Minow, Watching the Watchers; Corporate Governance for the 21st Century, Blackwell Publishers Inc., Cambridge, MA, 1996.

Roe, Mark J., Strong Managers, Weak Owners: The Political Roots of American Corporate Finance, Princeton University Press, Princeton, NJ, 1994.

U.S. Department of Labor, Pension Welfare Benefits Administration, “Proxy
Project Report,” Washington, DC, 2/23/96.

Organizations of Interest

Council of Institutional Investors
1730 Road Island Avenue, NW #512, Washington, DC 20036
Telephone: (202) 822-0800.

National Center for Employee Ownership
1201 Martin Luther King Jr. Way Oakland, CA 94612-1217
Telephone: (510) 272-9461

National Council of Individual Investors
803 East Street Frederick, MD 21701
Telephone: (800) 663-8516

Thanks, to Jon Entine for several suggestions to the above article. For an example of Jon’s work see, The Messy Reality of Socially Responsible Business. An edited version of “Ending The Wall Street Walk: Why Corporate Governance Now?” appeared in the September/October 1996 edition of At Work [email protected], by Berrett-Koehler Publishers. The issue also carried several articles on ethical investing and corporate accountability/responsibility. For more current news and commentary, see corpgov.net/news.

 

Contact: [email protected]

All material on the Corporate Governance site is copyright ©1995-1997 by Corporate Governance and James McRitchie except where otherwise indicated. All rights reserved.

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Fiduciary Responsibilities for Proxy Voting

PWBAO’Barr, Conley and Brancato trace the common thread in the culture of pension funds in their book, Fortune and Folly: The Wealth and Power of Institutional Investing, to “an overriding concern with managing personal relationships” and an all pervasive “need to manage responsibility and blame.” Involvement by fund trustees in corporate governance issues is not yet the norm. Perhaps many fiduciaries are caught in a culture which makes it difficult to do anything but follow the herd. Continue Reading →

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