I continue my review of The Handbook of Board Governance: A Comprehensive Guide for Public, Private, and Not-for-Profit Board Member. With the current post, I provide comments on Part 4 of the book, The Rise of Shareholder Accountability. As a shareholder advocate, this is my favorite part of The Handbook of Board Governance. See prior introductory comments and those on Part 1, Part 2 and Part 3. I suspect The Handbook of Board Governance will soon be the most popular collection of articles of current interest in the field of corporate governance.”
The Handbook of Board Governance: The Happy Myth, Sad Reality
Robert A.G. Monks warns, capitalism without owners will fail. The chapter is a condensed and updated version of Citizens DisUnited: Passive Investors, Drone CEOs, and the Corporate Capture of the American Dream, which I reviewed here.
The central point is that we, the owners of America’s corporations, have abdicated our responsibility. We have sliced and diced our stock holdings to the point where it is not worth it for most of us – even large institutional investors – to monitor the companies we own. Without accountability, focus has shifted from profit maximization (and, I would add, social purpose), to managers increasing their own wealth and power. “Management has captured control of the corporation and the corporation has captured control of government.”
After Citizens United, corporate managers can contribute millions, even tens millions of dollars with no impact in the value of the corporation. “They cannot be held to account because no one knows where the money has been directed.” He quotes Sheila Krumholz,
We empower, encourage, goad citizens to exercise their right to vote, but now we tie one hand behind their back, forcing them to interpret election messaging without the benefit of knowing what ulterior motives or hidden benefits may be driving the messenger to air those ads.
So, what can we do? Monks argues government regulations are ineffective, better boards unlikely the idea of enlightened management illusionary. Monks concludes that “owners themselves must attempt to resurrect meaningful duty and responsibility in this country,” and government must do its part. Government’s best role in this effort is one of activating the commitment of institutional investors through dramatic enforcement action. Frankly, I’m not sure what he has in mind.
One of the first posts I made in 1995 that somehow managed to survive the transition to WordPress is Fiduciary Responsibilities for Proxy Voting. I did a little digging and found that although fiduciaries are required to treat proxy votes as assets (in part, thanks to Monks) to be voted in the interest of plan participants (ultimate owners), no regulatory body or court had ever taken an enforcement action. Perhaps this is what Monks has in mind. Wouldn’t that be a dramatic way for the next President to demonstrate their independence from Wall Street?
The Handbook of Board Governance: Board-Shareholder Engagement
Richard Fields and Anthony Goodman begin their chapter with a review of how 2014 became the year of board-shareholder engagement, starting with a statement at the end of 2013 by SEC Chair Mary Jo White, “The board of directors is—or ought to be—a central player in shareholder engagement.” Board–shareholder engagement suddenly became the topic du jour.
The author’s found four related factors supporting engagement:
- increased concentration of ownership by institutional investors
- increasing attention to corporate governance
- investor stewardship initiatives, and
- shareholder activism.
For boards and companies, engagement helps tell their long-term strategy and they learn what the Street thinks of them. Shareholders learn in return and can often influence governance policies and practices. However, we are reminded, such engagements are not without cost. A careful cost-benefit analysis and framework can ensure efforts are worthwhile. The authors review how three groups framed the task — the SDX Working Group, Conference Board Project and NACD Commission. They go on to provide practical suggestions. Similar lists are proliferating. I link just a few examples below.
- Recap of Panel Discussion on Shareholder Engagement (Squire Patton Boggs)
- ICD Guidance for Director-Shareholder Engagement
- Key issues: Shareholder engagement (pwc)
- Engagement: New Imperatives
As the authors conclude: “We may look back at 2014 as the year it all changed, but one thing is clear: there is no going back.” With increased demand for mandatory say-on-pay, disclosure of pay ratios approaching and proxy access, I also see more shareholder engagement on the horizon.
The Handbook of Board Governance: The Individual’s Role in Driving Corporate Governance
Since I wrote the chapter, I’ll just give a brief further reflection here. Corporations should not be democracy-free zones. Try to see today’s corporate governance like the founding phase of the United States. Both have/had the aspirational trappings of democracy but democracy is only realized through the ongoing effort of citizens and individual investors and evolves with our values to be, hopefully, more inclusive.
One of my sociology professors from decades ago, Peter Berger, wrote about the importance of institutions like the family, church and neighborhood – as “mediating structures” between the individual and society. As I argued with Berger back then, he left out the most transformative mediating structure of our time… corporations. Corporations can become facilitate individual self-actualization but only if workers and owners can engage not just their bodies and money but their values. Behavioral economics is finally moving us away from a conception of man as a totally selfish homo roboticus. There is no law that requires corporations to maximize shareholder value or to externalize costs onto society.
As Monks noted in The Happy Myth, Sad Reality, corporations largely control our political institutions. They are too big and powerful to be controlled solely from outside. To solve our major problems, we need to build human values into our institutions through democratic mechanisms, especially corporations and institutional investors. In this chapter I provide several examples of such efforts (many of which I have been involved in). ProxyDemocracy.org is one of the last such efforts standing. Watch for changes going forward as my involvement with them deepens.
We help shareholders vote their shares by publicizing the intended votes of institutional investors with a track record of shareholder engagement. We help mutual fund investors understand the voting records of leading funds, making it possible for them to purchase funds that represent their interests and pressure those that don’t.
One very important group I failed to mention in the chapter is SumOfUs.org.
We own the corporations that are causing all these problems. They rely on us to buy their products. They count on us to buy their stock. They need us to work for them. They need us to continue to elect governments that let them get away with murder.
We are SumOfUs.org, and we’re not going to take it anymore.
Companies with democratic corporate governance can be a humanizing influence on our economy, in addition to making them more effective. Join us; let’s transform corporations from democratic-free zones to bastions of democracy.
The Handbook of Board Governance: Thoughts on the Origins and Development of the Modern Corporate Governance Movement and Shareholder Activism
To understand the current trajectory, it is always helpful to know a little history. Jon Lukomnik, more than most, has been in leadership positions at progressive organizations shaping the corporate governance movement. In less than ten pages, he tours some of the most important highlight. Few academic papers have changed the way the world invests. Harry Markowitz’s 1952 paper, Portfolio Selection, was one of them.
He effectively popularized diversification as a way to manage risk, and gave rise to modern portfolio theory (MPT) with its focus on asset classes, and risk as well as return. MPT, in turn, gave rise to index investing…
Institutional investors controlled 7% of US equities in 1950; 61% as of 2016. One reason the growth of indexing is important is because indexers can’t just walk if unhappy; they have to used their voice, which filed the corporate governance explosion in the 1980s. Lukomnik chronicles the rise of greenmail and the Council of Institutional Investors.
Efforts transitioned from defensive measures to going on the attack agains underperforming companies.
An early study by Wilshire Associates of 53 companies that CalPERS had targeted reported that those companies had, on average trailed the stock performance of the S&P 500 by some 75.2 percent in the five years prior to CalPERS intervention, but had excess returns of 54.4 percent in the five years following. McKinsey soon weighed in with a survey of investors that found that they would, on average, pay an 11 percent premium for a well governed company.
Lukomnik also explores the birth of activism. As Tom Jones, then with Citigroup, once explained:
If we spend money to shareholder activism, Citigroup asset management shareholders bear the expense but don’t get a benefit that is distinct from other shareholders.
However, public defined benefit plans like CalPERS didn’t care if others benefited from their actions. Activist hedge funds invested heavily in targeted firms and reaped disproportionate rewards. For a second edition of The Handbook of Board Governance, Leblanc might consider opening the The Rise of Shareholder Accountability with Lukomnik’s chapter.