Shifts in corporate governance

It's a time when some of the long unchallenged fundamentals of many investors' approaches to corporate governance are finally being re-explored. For instance I've blogged a lot in the past about my growing scepticism about the value of performance-related pay for directors. I'm at the point where I'm pretty much convinced that it is ineffective, if not actively damaging, and therefore that shareholders waste an enormous amount of time trying to design and re-design incentive schemes.

One of the books I have on the go currently adds a new element - performance pay intended to incentivise more 'good' behaviour can drive out ethical behaviour. According to this book (an easy intro to behavioural ethics) goal-setting generally is dangerous territory, and reward systems intended to incentivise good behaviour can achieve the opposite. Incentive schemes focus attention on what is being rewarded to the exclusion of other factors, crowd out intrinsic motivation and so on. I don't really need any more convincing on this, but useful nonetheless.

However reading through the book, I was interested to discover that other axiomatic 'good thing' in corporate governance - transparency/disclosure - is also something of a double-edged sword. Go to any corporate governance event and sooner or later someone will say something like "sunlight is the best disinfectant". I certainly wouldn't argue against transparency, but we ought to be aware of some of the evidence in this area. For example, there is some experimental evidence that, for example, an approach to conflict of interests based principally on disclosure may make the conflicted party feel more able to act in their own interests.

Thinking about disclosure more broadly, it's interesting that John Kay has joined the ranks of those who believe that quarterly reporting might be problematic. More information may not only not be an effective policy response, it might be a positively bad thing. This is important when you consider that the stock response to many issues in responsible investment in the past has been to demand disclosure of more information.

Finally, John Kay's interim report out today also indicates that the ground is shifting in terms of the unexplored ideas that sit behind shareholder rights. As he says, whilst few are willing to explicitly challenge the idea of treating different types of shareholder/investor (ie short- and long-term) differently, a growing number do implicitly (see paras 3.14 and 3.15). This is potentially important stuff, and a further sign that 1990s vintage corporate governance is on the way out.

UK share ownership

There are some very interesting stats out from the ONS today (hat-tip Duncan @ the TUC). It's been a couple of years since the ONS last did their share ownership report, and they appear to have tweaked the methodology. The headline stats for the two largest blocks of UK institutions - pension funds and insurers - are truly surprising:

At the end of 2010, insurance companies held 8.6 per cent and pension funds held 5.1 per cent by value. These are the lowest percentages since the share ownership survey began in 1963.

Yowser. In contrast UK individuals own 11.5%.

The amount held by overseas investors is now at 41.2%, with 56% of that held by North American investor, 28% by European investors, and 11% by Asian investors. In other words, North American investors own significantly more than UK pension funds and insurers combined.

This, to state the obvious, has implications for UK corporate governance. For example, are the attitudes of North American investors different to those of domestic institutions on issues such as exec pay? As I've blogged before, you can already see the impact of US investors in the voting results on certain resolutions at UK companies, but will we start to see a larger influence on other, more central, governance issues in the future.

It also poses a bit of a problem for the FRC in its implementation of the Stewardship Code, since up tp 4 out of 10 shares are held by investors who are unlikely to be FSA registered, and thus not required to even produced a Code statement.

Random, unrelated things

1. Official easyJet AGM stats are here. Won the pay vote, but failed to pass a notice for meetings resolution (only the second company where this has happened I think?).

There are a couple of interesting little nuggets out there. First I hadn't spotted that Stelios had accused Standard Life of being conflicted (because it manages money for the EADS pension fund), but think that is a cheap shot. Second, interesting that Sanderson Asset Management stuck their heads above the parapet. Yet despite being willing to take a public stand over pay, albeit in this case in defence of a company's policy, they aren't listed on the FRC's list of Stewardship Code statements. (Though their statement does appear on their own site here).

2. The intervention by Sir Mike Darrington, formerly head of Greggs Plc, is enormously helpful. Finally someone with a demonstrable Plc track record is willing to say pay is out of control. NB - he isn't just saying stop top pay growth, he's saying bring it back down again. Let's hope we hear more from him.

3. Even more hacking news. The Telegraph story last night/this morning has the dirt on News Intl's email deletion policy. The cover-up is going to look pretty bad when the full details come out I think. The Telegraph also provides copies of the actual docs obtained, this page is key. If you think about recent arrests you can make a guess at which "NI executive" might be in most trouble here.

And separately the IPCC has announced an investigation into "an allegation of inappropriate disclosure of information between a senior Metropolitan Police Service officer and an executive at News International. "

And there is likely still more to come.

Hacking - it keeps on coming

There are a couple of hacking related developments, both involving News of the World, that any investors engaging with News Corp should familiarize themselves with.

First up, there was a significant development in relation to computer hacking today. This case has been bubbling away for a while, and finally today the individual at the centre of it - Philip Campbell Smith - was convicted for conspiring to illegally access information. Cue splurge of information of what he is alleged to have done, including hacking the computer of an intelligence officer.

Notably this officer was involved with IRA informers, and his emails were accessed by Campbell Smith. Interesting given that another alleged victim of email hacking is Peter Hain. And the trail leads straight back to the NOTW, at the time of Andy Coulson's editorship.

Anyhow, the Grauniad article is worth a read, here's some useful stuff:

Smith is alleged to have hacked the computer of a former British army intelligence officer in 2006 as part of a commission from the News of the World. In a tape recording, Smith says he was in contact with Andy Coulson, the former News of the World editor who went on to become David Cameron's director of communications. Smith also claimed Coulson was in his mobile phone directory.

Smith is understood to be under investigation by a Scotland Yard inquiry, Operation Kalmyk, which is examining allegations that email hacking may have been used against several dozen targets.

The allegations against Smith highlight growing concern over computer hacking. Met officers are known to have approached leading members of the Labour party as possible victims, including Gordon Brown, the former No 10 communications chief Alastair Campbell, the former Northern Ireland secretary Peter Hain, and Tom Watson, the backbench Labour MP who has been particularly vocal in the phone-hacking scandal. If any of the Labour figures were targets, it is not known who carried out the hacking and for whom.

The second thing worth noting is that Robert Thompson, one of the two murderers of Jamie Bulger, is seeking compensation for having his phone hacked. Clearly very few people are going to have much sympathy with his claim, but what we ought to ask is how NOTW got his mobile number. Remember, this is someone who is supposed to have an entirely new, and unknown, identity. Doesn't that rather suggest that someone has been blabbing who shouldn't have? Perhaps another corrupt cop.

Continued on page 23....

Institutional Investor Committee update

There isn't one, it doesn't seem to have done anything since last June. Over the period since then we have seen the Kay Review start, BIS consult on and then set out new ideas on executive remuneration reform, and a protracted public debate about bonuses in banks where the state is a shareholder.

These are all issues where UK institutional investors have a clear interest, and where a body claiming to act on their behalf would intervene. But I don't think there has even been a press release since last June (when it was relaunched, minus the AIC).

What's more it appears that the IIC isn't representing institutional shareholders behind the scenes either. Here's the Government's response to a written question by Lord Myners:

Asked by Lord Myners

To ask Her Majesty's Government whether Ministers or officials from the Department for Business, Innovation and Skills have had any recent meetings with the Institutional Investor Committee in connection with pay at banks in which the Government are a shareholder.[HL15416]

The Parliamentary Under-Secretary of State, Department for Business, Innovation and Skills (Baroness Wilcox): No Ministers or officials from the Department for Business, Innovation and Skills have met with the Institutional Investor Committee on this issue. Government's ownership responsibilities of banks are discharged by HM Treasury through UK Financial Investments Ltd.

They told him the same story just over a year ago year:

Asked by Lord Myners

To ask Her Majesty's Government on how many occasions in the last six months Ministers and senior officials from the Department for Business, Innovation and Skills have met with the Institutional Investor Council.[HL5259]

The Parliamentary Under-Secretary of State, Department for Business, Innovation and Skills (Baroness Wilcox): There have been no occasions when Ministers or the Permanent Secretary have met the Institutional Investor Council. Information on meetings with other senior officials is not held centrally and could be obtained only at disproportionate cost.

So it's a body that doesn't say anything publicly on issues of importance to institutional shareholders, and doesn't meet - as the IIC - with the government department now undertaking various streams of work of relevance. What does it actually do then? And if the answer is "nothing much" why not just scrap it rather than maintaining the illusion that we have a peak organisation representing institutional shareholders?

New Corp news

Just a quick update on the hacking/bribing/destruction of evidence scandal. As the latest arrests demonstrate, there is no question now that dodgy behaviour went beyond News of the World.

The arrests at The Sun also open up some deeper questions about what is appropriate in terms of getting information out of sources. Noticeably today there has been a backlash against the arrests, with lots of people arguing that this will hamper the ability of the press to hold public institutions accountable. Well, maybe. And maybe it just means that when we read stories about crimes we have to wait longer for some of the detail. Maybe we'll also seen less police corruption if they know there isn't a viable market for flogging info.

Also worth noting that two of those arrested at the weekend were someone in the armed forces and an MoD employee. So there's clearly the potential that bribes went wider than the police. Apart from the questions that this opens up again about appropriate journalistic techniques may it also leave News Corp open to charges under the Foreign Corrupt Practices Act.

Finally I am intrigued by the New York Times article that appeared over the weekend about the June 2008 email to James Murdoch, the one that he claims not to have read properly. What surprises me is that such a lot of emphasis was put on this one email, when it's existence, the nature of its discovery and its potential implications have been known about since mid December. I also note that Murdoch biographer Michael Wolff flagged the article up as significant. The implication, clearly, is that James may yet face having a formal chat with the police. Wolff is not the first person to have suggested that this is now a possibility.

If Murdoch Jnr ever does face this situation, needless to say this will call into question the position of some of those who have defended him.

The end of the 1990s

Something is definitely going on in corporate governance in the UK. On the surface it looks like our model remains the same. If anything one might conclude from the noise around the Stewardship Code that a shareholder-focused governance model was becoming ever more entrenched. The ideas floated by the Coalition about executive pay reform also seem to take for granted that really this is a matter for boards and shareholders.

And yet the evidence that some sort of shift is underway is all around us. As I have mentioned previously, the role of the FSA is worth a look. For example, last week Sky's Mark Kleinman got another nice story, this time about the FSA telling the heads of the UK-listed banks that they should try and clawback bonuses from an executives involved in the PPI mis-selling debacle. If any mainstream asset manager has had a conversation like that with the banks I would be very surprised. Of course the FSA has an interest due to the Remuneration Code, but if all companies are supposed to introduce clawback in the future this is exactly the sort of thing that asset managers will need to do if the thing is going work.

It's just the latest in a string of developments that demonstrate very clearly that the FSA is willing to intervene in financial services companies. And remember that it wants more power (to block hostile takeovers, for example). I've called this a regulatory turn, maybe I'm wrong, but there is something going on.

Of course, we have also seen that the Government is willing to get stuck in over bonus policy at the banks (and perhaps others). Thus far it's clearly been a kneejerk reaction to opposition pressure, and no doubt this is because the Tories in particular don't want to end up on the wrong side of public opinion. The impact in turn on the banks could be, incredibly, that the state-owned, or part-owned, banks will move away from bonuses. The greater emphasis could be on LTIPs, which wouldn't be a 'win' in my opinion. But still, political pressure is there in a way it hasn't been before.

As I've blogged recently this has also led Labour to push its thinking on a bit. This was always inevitable a) given that our existing position didn't go much beyond existing best practice and b) once the Coalition demonstrated its willingness to go further, within the existing model. So I'm very interested to see a number of Labour figures make some simple but important points about bonuses - they have become an expectation rather than a reward for exceptional performance, the evidence that they work to motivate is limited etc.

Meanwhile there seems to be a sense of incomprehension within the investor governance community. A combination of regulatory an political intervention is starting to make the views of institutional investors about pay at the banks a bit irrelevant. At the same time they seem unable to shift away from what they've always done. The reaction to the ideas floated by Vince Cable is a case in point - I think BIS probably got the message from most investors (and their representative bodies) that nothing much needed to change. So they have been left looking well off the pace with the Government coming out in favour of binding votes etc. Similarly I've been banging on about the flaws in performance-related pay for two or three years now, and it does seem that scepticism is growing. It wouldn't surprise me if this took off in the public policy world, yet investor bodies don't event seem aware that the idea of tying cash/shares to performance might be a bad idea in essence, rather than because of flawed implementation.

The thing is, if the investor community is in a bit of a mess over remuneration, what are they actually good at challenging companies over? I think the average vote against a remuneration report was about 6% last year, whilst the average vote against a director was around 2% and against an auditor appointment about 1%. It gets worse when you consider that voting at UK companies is becoming distorted by overseas investors with their own priorities. Last year the average vote against a company seeking authority to hold meetings on short notice was waaay higher than the average vote against a director. Already this season we see that overseas impact - look at the Compass AGM last week. Or Imperial Tobacco. In what world is holding meetings on short notice the most important issue?

That in turn will add to the pressure from corporates to regulate the proxy advisory sector. I'm not inherently opposed to this, but I do think the pressure for it is coming from the powerful business lobby in the US. Inexplicably some in the UK are now parroting lines from the US. Whatever you might think about proxy advisers a) it's up to the investor ultimately to decide how to vote and b) more pressure on the sector is only going result in less challenge to companies. It's hardly the case that the UK is littered with cases of directors being voted off boards because of the advice of proxy voting advisers - so what problem are we seeking to address.

At the same time people are getting nervous about what cases like Aviva and Henderson (and Insight) mean. Aren't we supposed to be in an era when shareholders take their wider responsibilities seriously? Well obviously, even after all the noise about mainstreaming responsible investment, it turns out that asset managers think that it's a relatively painless cut to get rid of ESG specialists. According to Aviva they don't get the money in to justify the expense. .

Add all this together and I think something significant is going on. What I actually think we are seeing is the end of the 1990s model of corporate governance. The policy prescriptions that went with it - transparency and disclosure, beefed up shareholder powers, executive pay aligned with shareholder interests, principles-based approach - no longer seem up to the task. The changing nature of the shareholder base of UK companies only adds to the confusion.

It's safe to say that there is no clear alternative. As I've blogged previously, it's more likely that more state and regulatory intervention is the defining theme. We hear more often these day about John Lewis, co-ops, mutuals etc, but it's not clear how serious politicians are about actively promoting such alternatives rather than just saying they like the idea of other ownership models. We are already seeing some renewed interest on the British left in something like co-determination, but again it's not clear that this has momentum yet (it's interesting that some businesses might like it more than some trade unionists).

But even though where we go next isn't entirely clear, I do think we look to be moving on. It looks like the 1990s is finally coming to an end in UK corporate governance.

Coalition wants to see employee directors on boards?

There was an interesting exchange in the Lords yesterday on executive pay, and specifically how to ensure employees' views are taken into account. From the excerpt below from Baroness Wilcox it appears that the Coalition wants to see employees represented on boards, but can't just appoint them if they aren't directors. So the solution, presumably, is employee directors....? Not entirely sure this is actually Coalition policy.

Baroness Wilcox: The Secretary of State gave a very broad, sweeping statement last week, as my noble friend has already mentioned, which he will be speaking to more and more as the weeks go on. Putting employees on board committees is something that obviously everybody would like to see happen. The closed shop of boards and board committees needs to change and we are taking measures to promote diversity. However, as the Secretary of State made clear last week, bringing people on to board committees who are not also company directors, with the associate responsibilities, is not the way forward.