ICGN 2010 Annual Conference, The Changing Global Balances: Toronto, Canada
Publisher’s Disclaimer: Many of the speakers, especially those affiliated with governments, indicated their remarks represent their own personal views. Not being the best note-taker, what follows are my cryptic recollections and personal comments. I’d say they are for entertainment purposes only, but that would lead readers to anticipate more than I deliver. For actual quotes and transcripts, contact the International Corporate Governance Network.
TUESDAY 8 June
Session 7 The New Balance – The World’s Largest Shareholders
The weight – and therefore influence of large pension funds and major asset pools
Frank Dubas
continues to grow. This session focused on the investment and governance philosophies of some of the world’s largest shareholders. What are the demands for better corporate governance when you expand investments in developing markets? How will these funds react to the shareholder democracy initiatives in the US? What do they think about say-on-pay and how do they secure the competence of the board of directors in portfolio companies?
Moderator: Frank Dubas, Global Managing Partner – Sovereign Financial Institutions, Deloitte, USA
David Denison
David F. Denison, President and Chief Executive Officer, Canada Pension Plan Investment Board. – Assume risk. Build in for turbulence. Looking to emerging markets. We’re there now assuming they will be there in 10 years. Resilience in this recent downturn. We can have good alignment of interests with some of the long-term sovereign investors in Asia. Compensation is consuming a lot of time but it should because of its multifaceted nature. It is not just what you pay but how ensure it aligns with corporate strategy to reflect key elements. How take into account risk? Manage within tolerable limits. Much of what goes on in the boardroom is invisible but we can see the compensation framework and how directors use their discretion to make those decisions. It is a major indicator re director competency.
There is now a renewed realization that government must play a stronger role. We’ve overshot on the lack of regulation. Focusing on risk, caps on leverage. Capital levels. Canadian banks relied on force capital levels. We encourage government to get back to more regulations. Not stifling regulations. Align risk managers with a 30 yr time frame built into investment horizon. Difficult to build into compensation since discounting factors for 20-year compensation wouldn’t create what we want… wouldn’t retain the talent we need. It is a constant trade off to keep compensation as long as we can but not so long that we don’t attract talent. No easy answer. Engagement: with about 35 companies over past 12 months. Dramatically different attitude post downturn. Say on pay opens conversation to other key governance issues. Important investment related issues. Weighting impact of companies to focus resources. Develop networks, coordinate with others.
Anne Kvam
Anne Kvam, Global Head of Ownership Strategies, Norges Bank Investment Management, Norway. – We’re big and can’t maneuver. Having a well functioning efficient market is key because we can’t beat the market. Very long term. Not a question of being there or not being there. The challenge is how to be there to get information, to be responsible. As investors we’re concerned. UK, its bossy, standard setting.
Phone call from China, why voting against? You gave is no reason to vote for the measure. Without the necessary information to evaluate, we vote against. “Oh, okay we’re going to ignore your vote.” Looking at the competence and quality of boards. Independence… goes well beyond that. Diversity much more than gender. How are board members recruited? Recruitment was changed. What are competencies we’re looking for in women and then started applying that to men as well. Annual election. We vote against all say on pay. We see that as the board’s role. We will hold them accountable for how they do it. We don’t want to be bogged down. More important is that we have the right board. The competence of directors is paramount. Remuneration is important. We measure to what degree they succeed… then we hold them accountable. 9 out of 10 calls have been about compensation. I just don’t think that’s the right place to put the focus.
Government’s role: Self-regulation won’t work. Well functioning, legitimate. Increasing role as shareowner, prudent. Audience: How hold accountable if you can’t vote them off the boards? Even though we don’t have means yet, we will continue that fight, since we will be around for a long time… we’ll stick to our principles. Question re engagement: Not able to engage as much as we would like. Have to say no thanks to many because we don’t have capacity. We want to speak to boards on our agenda, not necessarily their’s. Relative vs. absolute returns. Strict selection of topics, markets and tools.
Scott Evans
Scott Evans, President & Chief Executive Officer, TIAA-CREF Investment Management and Teachers Advisors, USA. – We’re permanent investors. Partner with investors we trust. Focus on individual securities. Avoid exposing to too much risk in any sector. We have an independent risk management group. They scan the skies looking for inclement weather. In some of these markets shareholder rights are much different. We have to evolve our practices to mesh. Agree that competence is what we seek. We have (or soon will have) established so many shareholder rights. Access to proxies, say on pay, majority voting, major planks. We’ve arrived to where we have rights. It’s now going to be about using our power wisely, proactively and consistently. How do we get the wide spectrum of shareholders engaged? Very important time for the transition of corporate governance. Sees government walking a fine line. On the margin, we caution that rules may have unintended consequences but they are good on balance. Question from Peter Clapman re activism. Equity staff actively engaged… both sides of house working together. We pursue engagement quietly were we think there’s a concern and clear changes need to be made. By being focused, concentrating on companies with big problems… stay out of the papers. Has excellent coordination with others investors on issues.
Session 8 – Break Out Sessions – How Do We Fix The System?
US style governance and the system of capitalism has come under attack as a result of the economic crisis. Now is the time to focus on specific problems and specific solutions. Each of the breakout sessions examined a particular issue. I only attended one but provide a few scattered comments reported on some others.
8.2 Carrots, sticks or codes? How can we make shareowners become good stewards?
For the first time the UK will have its own code for investor best practice. Is this a model that will work for the rest of the world? Other jurisdictions are developing their own codes – is there a case for a universal code? What are the barriers? Agreement on need for voluntary adherence. See FRC UK website. Revising to issue code with 7 principles and three objectives, generating a critical mass. Comply or explain may come. Clarifying relationships between fund managers, trustees. Appropriate regulatory reinforcement. Accept responsiblity to obtain or retain. Independent organization to monitor (Peter Butler) driven by shareholders themselves. Carrots – proxy access, disclosure, communication among shareowners themselves. CalSTRS interest in code. Develop and articulate best practices. Some US funds are active owners that but many funds need encouragement. Question to audience: should there be a global code of corporate governance for investors. Yes 74%; No 20%
8.3 What boards have learnt from the financial crisis
Some companies are coming through the crisis bruised and battered. Others have sailed through whilst many failed. What have boards learned from their experiences and what would they do differently now?
Difficult to draw conclusions. Need for boards to pay attention to risk. Key theme is getting right people on boards. Risk committee, risk officers. But still need right people on board and adequate time to have conversations around risk. Institutional changes; at least many are now having the conversation. Those with risk committees fared better than most. Institutionalized way to bring risk issues to board, priority acknowledged. Whatever you institute don’t fall to trap of imitation box ticking. Emphasized importance of accountability and responsibility at board level. Audience survey: 41% think boards aren’t taking adequate steps. Did the pre-crisis focus on independence interfere with technical capacity? No 63%.
8.5 Shareholder litigation
Michelle Edkins
What has been the experience of shareholder litigation over the recent past. Has litigation improved standards of governance? What are the trends in litigation we can expect post the crisis? Is shareholder litigation going to be much more common in jurisdictions outside of the US? Is more litigation good or bad for financial markets?
Moderator: Michelle Edkins, Managing Director, Head of Corporate Governance Europe, BlackRock. – European right to nominate board members much stronger.
Charles Elson, University of Delaware, USA – Benefit of. Effective in duty of loyalty cases. Courts comfortable judging thieves. On the care side much more difficult. Care claim doesn’t exist in DE. Suit on a care claim that forces a specific change like clawbacks can be good where litigation results in decisions to avoid liability. SOX brought 404 review of internal control and risk.
Charles Elson
Danger is that it has resulted in systems better designed to avoid liability than to address actual risk and controls. Institutions had risk depts but missed risk and kept board liability shielded. Ultimately costs the system itself. Cases specifically brought for specific reforms work. SOX created risk analysis. Unintended consequence because someone sold them a bill of goods. Companies typically threw a bunch of retired internal officers at it to cover the legal requirements. Prevention – independent, vibrant elections, skin in the game (incented). Need to address loyalty but can’t really get good governance on that through litigation. Elections have always provided the out, in theory, but you couldn’t get rid of directors in practice.
John Kehoe, Barroway Topaz Kessler Meltzer & Check, LLP, USA. – Tyco, Lehman Bros.
John Kehoe
Shifting $40B in days. Where is corporate governance? Stoneridge did away with second-hand liability. Most important trend is limiting standing to those who purchased securities. Can only sue on offerings purchased. Notice to a class. Custodial banks should be filing claims for you. If you switched banks you often don’t have trading evidence to know if you’re in the class. How assured? If there’s a settlement and you’re in that class, you may have a fiduciary duty to file and be in the action. How do I ensure my claim is being filed? Ask your law firm. At custodian, many fall though cracks. Some comparison of Europe, South America. More European countries moving toward class litigation. Germany has group litigation but can take 13 years. Opt in. Everyone has right to litigate their case. Can settle a case on class basis but not bring them. (Dutch, prepackaged global settlement. Judge gave extraterritoriality on a prepackaged settlement because company wanted it.) What did you money managers know and when? Infrequently go to trial.
Interesting dialogue among audience members on limited discovery rules in Germany. There, loser pays their costs (Canada as well). Markets developing in advance of regulatory framework. Individual actions may be brought together as a group where there is a vibrant active pension fund… angry because they’ve lost huge amount to fraud. Willing to take action. Very uneven and bumpy. Shell wanted to draw a line in sand and get rid of issue of overstating oil reserves. Cultural barrier to Europeans suing in US. More leverage by bigger institutions.
Who benefits most? litigators and market. Who suffers? current shareowners. How hold accountable? remove from office.
8.6 Governance issues in controlled and private companies
There are many controlled companies that perform well over sustained periods of time. What can we learn from these companies? Because of the lack of accountability, minority shareholders need to be aware of the risks and warning signs when things might be going wrong – what are these? How can shareholders put pressure on controlled companies? Dual class shouldn’t be banned but should cease with trigger events. Majority board independence. Cumulative voting for directors. Minority should have board representation. Stand up to board. If not enough liquidity to get out, then don’t go there.
Session 10 – The Quality of Shareholder Votes
Carol Hansell
It is widely acknowledged that there are serious issues with the proxy voting system around the world. When shareholders cast their votes there are a variety of reasons that their votes may not be counted. They could be lost, pro-rated or rejected. The investor will never know if this has occurred. Derivative instruments create a second set issue in the proxy voting system, not only do they contribute to overvoting problems, they also lead to votes being cast by persons with no true economic interest in the corporation. While the result is often benign, it can distort the decision making process. This session examined three issues – the nature and extent of problems with the proxy plumbing system; empty voting/negative voting/hidden voting; and the role of institutional investors in promoting the effectiveness of the voting system.
Moderator: Carol Hansell, Senior Partner, Davies Ward Phillips & Vineberg LLP, Canada
Henry Hu
Henry Hu, Risk Director, Securities and Exchange Commission, USA. – Problem of decoupling votes with economic interest. Negative. Debt can also be decoupled, credit default swaps. Creditors might want company to go into bankruptcy. Role of proxy advisors, states. Dual record dates; how does that dovetail with proxy voting? Participation rate. Retail investors technology to increase. Counting correctly. Overvoting. Votes actually voted. Hidden morphable ownership. Area enormously complex, only solved by a huge research grant (humor from prior academic post). SEC will look at comment letters with extraordinary care.
Erik Breen, Head of Responsible Investing, Robeco, The Netherlands. – Might be rational
Eric Breen
not to vote, depending on expense of voting. Most investors lend to earn more money. Has flexibility to recall shares to my liking but don’t use much. 90%/10% better to have capability in-house to get most payoff. Doesn’t trust the voting system. Uncertain, poor audit trail. Too big of a voting chain. No incentive or liability if they get it wrong. Can’t breakdown into pieces. Keep true interest of beneficiary in mind, if outsourcing.
John Wilcox
John Wilcox, Chairman, Sodali Ltd., USA. – Quality of vote is the issue. Bipolar or split brain issue. On corporate side: real businessmen don’t deal with compliance; they pay others for that service. At institutional investors there’s a gap between investors/traders and governance staff. Shareowners are now more powerful, so voting can make a difference. Some have made votes matter. Shareholder rights are promised in proxy plumbing. Environmental and social movement showed true economic impact. Gulf of Mexico. great lessons against split brain. Voting rights quality going to be recognized and improved through new rights. Lending should be economic. Where does the ownership lie at any one moment? Tax laws are applicable to rapid trading in derivatives. Could those rules be useful in tracking voting rights? We should be trying to make corporate governance process customized to companies.
Ken Burch from audience. Good corporate governance requires real judgment, can’t rely on proxy service for applying. Shareowners are accountability shy. You can’t depersonalize director elections.
Keynote: Lucian Bebchuk, Friedman Professor of Law, Economics, and Finance Director, Program on Corporate Governance, Harvard Law School
The Wages of Failure. The standard narrative of the meltdown of Bear Stearns and Lehman Brothers assumes the wealth of the top executives was largely wiped out along with their firms. Commentators have used this assumed fact as a basis for dismissing both the role of compensation structures in inducing risk-taking and the potential value of reforming such structures. Paper provides a case study of compensation at Bear Stearns and Lehman during 2000-2008 and concludes this assumed fact is incorrect.
We find that the top-five executive teams of these firms cashed out large amounts of performance-based compensation during the 2000-2008 period. Top executive teams of Bear Stearns and Lehman Brothers derived cash flows of about $1.4 billion and $1 billion respectively from cash bonuses and equity sales during 2000-2008. These substantially exceeded the value of the executives’ initial holdings in the beginning of the period, so the executives’ net payoffs for the period were decidedly positive. The divergence between how the top executives and their shareholders fared implies that it is not possible to rule out that executive pay arrangements provided them with excessive risk-taking incentives.
Paying for Long-Term Performance lays out remedies focusing on equity-based compensation, the primary component of executive pay, we identify how such compensation should best be structured to tie pay to long-term performance. We consider the optimal design of limitations on the unwinding of equity incentives, putting forward a proposal that firms adopt both grant-based and aggregate limitations on unwinding. We also analyze how equity compensation should be designed to prevent the gaming of equity grants at the front end and the gaming of equity dispositions at the back end. Finally, we emphasize the need for widespread adoption of limitations on executives’ use of hedging and derivative transactions that weaken the tie between executive payoffs and the long-term stock price that well-designed equity compensation is intended to produce.
Lucian Bebchuk
In contrast to “hold until retirement,” set forth by proponents such as AFSCME and Jesse Brill, Bebchuk and Fried point out that can incentivize premature retirement, especially for long-serving successful executives.
- Prevent the ability to cash out equities quickly. Once vested, unwinding should be limited, holding for a fixed number of years.
- For example, hold for two years after vesting, then allow sale of up to 20% per year for five years (approach adopted by TARP Special Master, Feinberg)
- Limit the fraction that can be unloaded each year, say to 10%. Avoids short-term focus because 90% still held.
Execs may use inside information to decide when to sell or may control release of decisions disclosed.
- Remedied by hands-off cashing schedule, and here’s the part I hadn’t heard before, based on the average price of that year, rather than in a given day.
- One of the most important takeaways was that companies must prohibit executives from engaging in any hedging that protects against downturns in company stock price. If they don’t, executives can undo the effects of pay incentives built in by the board. While one size doesn’t usually fit all, Bebchuk believes this bit of advice is applicable to all companies.
- Another bit of advice. We all recognize that options don’t reflect actual loses. He suggests linking to a broader basket of the company’s securities, such as shares, preferred shares and bonds.
Government’s role: Provide shareowners with rights to prevent structures detrimental to long-term value. UK has stronger rights.
- Effect the power to replace directors: proxy access, majority voting, annual elections
- Effect the rules of the game: initiative to change charter, expand scope of subjects influenced through bylaw changes.
Warned that corporate governance applicable where shareowners are widely dispersed may not be applicable or may even be counterproductive where there are controlling shareownrs. At financial companies government should play broader role. With pay supervision other forms of regulations can be looser.
See also Lucian Bebchuk’s Keynote Speech at the ICGN Annual Meeting, Regulating Bankers’ Pay, The Elusive Quest for Global Governance Standards, and 2000-2010 Publications and Working Papers. When does he sleep?
Also consider: 10 percent of companies with the most highly paid CEOs earned unusually low returns in both the near- and long-term. Another study finds a negative relationship between a higher CEO share of the executive compensation pot and firm value.
Session 11 – The Evolving Role of Hedge Funds in Corporate Stewardship
Jane Buchan
This covered growth in Assets Under Management overall and by strategy type. Particular focus given to equity based strategies: Merger Arbitrage, Statistical Arbitrage and ‘quiet’ Activists. Quantitative and qualitative analysis on recent trends (e.g. leverage/prime broker issues/prop. trading desks, etc.) affecting these strategies and to what extent they are impacting markets. Do these strategies feed into claims of hedge fund short-termism?
Jane Buchan, Chief Executive Officer, Pacific Alternative Asset Management Company, USA. – Says hedge funds bigger than private equity. Asked: What do you fear? Anything that would restrict short selling.
Omar Asali
Omar Asali, Harbinger Capital Partners, USA. – Discussed several cases. Looks for companies that are undervalued. Tries quiet strategy, then noisy. Works behind closed doors most of the time. If interests not aligned, take more adversarial position. We don’t have formulaic answer re proxy policies. turnover 3, 4, 6 times in 3-6 months but some up to 7 yrs… work with management in those companies.
Cliff Asnes
Cliff Asness, Managing and Founding Principal, AQR Capital Management, LLC, USA. – Quant fund, value strategies. Doesn’t like accrual methods, sustainable growth, anti-democratic not better.. seems to be a push…benefits are in the price. Either neutral or we like good governance. Voting on prices. We’re looking for prices that aren’t right. Outsource most of the proxy voting. Useful platform for embarrassing management or to vocalize attention. Statistical arbitrage. Random “riskless” arbitrage (a trade we kind of like… we do it but the guy who runs it says we don’t.. they do it over days, not seconds). 6 to 12 month momentum strategies, profit in 3 out of 4 yrs. Nontaxable investors (like pensions) should be pursing short-term strategies because don’t have to be tax efficient. What do you fear? Anything that would restrict short selling.
Eric Knight
Eric Knight, Chief Executive Officer, Knight Vinke, USA. – Why would you take on government? Take on when gov is a large shareowner. Royal Dutch Shell can’t be taken over, so if mismanaged a lot of potential stored value. There’s an enormous amount of information on these large firms that no one is reading. HSBC board members spend 20 days /yr. reading what’s been handed to them by management. They’re all brain-washed. (With respect.) Who has most votes. Can’t have proxy contests at large firms. Recognizing that, no group can bring about change. Big firms are controlled or at least influenced by stakeholders, gov, press, regulators, taxpayers, competitors. We look at which has interests aligned with shareowners. Communicate with a broad audience through press. Buy full pages in newspapers. Might spend a year before trying to force restructuring. Invests in highly liquid large caps over -5 yrs. We don’t short or leverage because it would handicap us. Avoids stalling tactics. European banks leverage 100 to 1. US 100 to 3.
Moderator: Christy Wood, Chairman, ICGN
Session 12 – The New Balance in Economic Growth – the Emerging Economies
Jang Hasung
Governance is critical to capital market formation in all jurisdictions. Approaches to governance have developed in the emerging economies appropriate to their markets and culture. What corporate governance improvements are under consideration in the emerging economies countries? This session theme is “Distinctive Aspects of Our Governance Practices and Why They Work for us.”
Moderator : Hasung Jang, Dean and Professor of Finance, Korea University Business School – 20 yrs emerging market 1/2 – family dominated ownerships similar to India, Brazil. Some litigation beginning in China. Pensions investing abroad. Recent initiative to introduce poison pills. Q: Why retrograde step now? Ans: We made much progress since crisis. Regulators taking back step to be friendly to business. Hasn’t been legislated yet.
Jose Luiz Osorio
Brazil – José Luiz Osório, Founding Partner, Jardim Botanico Partners, Brazil. – Improved investment market protection. Private special listing requirement. 204 IPOs in 2010 raising $100B. Huge success. Need a free press so can use as tool for activism. Board must vote best interests of owners but large concentration of ownership. New simplified proxies, how they pay (fixed and variable) some didn’t disclose. International accounting standards soon. New reforms 20% independent directors increased to 30%. Growing fast. election yr. wages increased 10% in first quarter. 10% base interest rate? Election yr. seminar, importance of equity markets as second part of presidential debate, so recognized in politics. Do your own diligence. Increased disclosure requirements for manager but 40 companies got together and sought an injunction. 4th largest buyer of US securities. We’ve been allowed to invest abroad for 2-3 yrs. Now listing or ADR equivalents is beginning.
Jamie Allen
China – Jamie Allen, Secretary General, Asian Corporate Governance Association. – Reaction against western standards emotional reaction but will get on. Best ideas come from around the world. Stimulus underlined role of state and state sector. Last 5 years banks becoming more normal. Decreasing non-performing loans. Have they taken step backwards? Independent directors, committees, financial standards, reporting. Not really step backwards but continuum. Different local institutions. Supervisory boards in China but party role strong, playing an important role above boards of directors. Ethical and cultural development is the rationale. Much more disclosure on who’s on committee. (state enterprises) What does it leave for board but implementing strategies, looking at operations… can be useful. Chair may be open minded to get views of others. Meetings fully scripted. Cross border acquisitions in Asia and around world. Dealing with different regulatory regimes may force them to be more open and sophisticated. Evolving. Q: Are minority shareholder allowed to say something in the not so free press? Ans: No, and that will constrain them at some point. Minority shareowners will play a role… especially in other part of Asia. Retail investors in China seem more interested in going to court and protecting rights. If can litigate, they may exercise stronger powers. Potential for plaintiffs bar where in other parts of Asia all the attorneys are working for corporates. Hard to invest abroad. Most still held by state. 20-25% of shares owned by individuals.
YRK Reddy
India – DR YRK Reddy, Founder Trustee, Academy of Corporate Governance. – BRIC $300B foreign reserves. Sansex up 90% in ten years. 2nd most attractive market after China. 139 new issues last year. 25% in public hands may be soon mandated for traded enterprises. That might help discipline minority interests. Unlisted state owned enterprises are going to have to follow same standards. Related party transactions/ relationship based, trust-based. Family businesses. Monarchs are not going to spawn a revolution against themselves. Manner of selecting directors has improved. Activism in boards have changed. Management needs to be challenged. The seem to be realizing the importance of more diverse opinions internally. Structurally, SME can’t take standards in full sum. Will take time. Internationalized firms appreciate world standards. 9% growth. Jamie did white paper on India. There is little counting of actual votes in India. Indian companies have been acquiring companies abroad. 2nd highest in UK.
Brazil wins corporate governance beauty question among those in attendance.
Bresson and Hellebuyck
Closing Remarks and Thanks
Christy Wood, Chairman, ICGN.
Welcome to ICGN 2011, Paris Arnaud de Bresson and Jean-Pierre Hellebuyck – by fall of 2011 we should know more of EEC relation, transparency, new directive.
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