Hands-off ownership

This month’s Off The Record takes a look at the subject of shareholder activism and the extent to which pension funds should get involved in the affairs of the companies in which they invest.
European pension funds hold a significant share of corporate assets. Yet in general they take little active interest in the management of the companies whose shares they hold.
There are notable exceptions such as the PGGM pension fund in the Netherlands, Hermes in the UK, and the AP 7 buffer fund in Sweden. However, most corporate pension schemes are reluctant and unwilling to become ‘governance activists’.
This is a failure of the private sector primarily. In the US most shareholder campaigns are led by public bodies – church organisations, labour unions, socially aware mutual funds, and public sector pension funds like CalPERs and TIAA-CREF.
Bob Monks, one of the founding fathers of shareholder activism in the US, says that pension funds in the US and UK, are breaking the law because they that they are not exercising their ownership rights: “The law is very clear. The law requires that the trustee should act exclusively for the benefit of the plan participants in the pension scheme. Unhappily the law is not enforced. The plan participants are being defrauded because they’re not getting the protection that is advertised.”
Monks says that arguments that trustees are not qualified is simply an excuse for inaction. “You can’t allow someone to accept the compensation of being a trustee and for them to say that they choose not to exercise the obligations of being a trustee.”
He has just issued a set of proposals to concentrate the minds of pension fund trustees. He proposes that all fiduciaries – those who hold securities on behalf of others, whether they are pension fund trustees or investment managers - must be required to act solely long term interest of their beneficiaries. This, he says, means that institutional shareholders must be made responsible for exercising their votes in an informed and sensible manner.
His is not a lone voice. Governments are now putting pressure on institutional investors to take corporate governance more seriously. In the UK, largely as a response to government threats of statutory regulation, the Institutional Shareholders Committee, which represents the major institutional investors in the UK has drawn up a set of principles which are intended to be a blueprint of shareholder activism.
The principles are the first comprehensive statement of best practice governing the responsibilities of institutional shareholders and investment managers vis a vis the companies in which they invest.
This monitoring is to be backed up by direct engagement – going into companies and talking to them – where necessary. If companies persistently ignore the concerns of shareholders, institutional investors will vote against their boards at general meetings.
So in future, institutional investors will be expected to monitor the management of companies and intervene where necessary. But how far should this process go? Do pension fund trustees really have the time to scrutinise the companies in their fund’s portfolio? Is it really the investment managers’ job, rather then the pension fund’s, to keep an eye on companies and blow the whistle when things start to go wrong?
We wanted to know what you thought. How useful is shareholder activism? Who should get involved? And how far should they go?
Perhaps the strongest argument for stakeholder activism is that enhances shareholder value. The vast majority (95%) of the pension fund managers and administrators who responded to our survey have no doubt that shareholder activism can lead to higher shareholder returns.
Nor were respondents impressed with the conventional objection to shareholder activism by pension funds – that it compromises the fiduciary duty of pension fund’s trustees or board of administration. Only 10% of pension fund managers subscribe to this idea.
On the contrary, a substantial majority (81%) think pension funds’ administrative boards or trustees should take a more active interest in the companies whose shares their funds hold. However, there is some ambiguity here. Some pension fund managers clearly feel that it is the investment manager’s job to keep an eye on companies. So when they say that trustees should take a more active interest, they mean that they should require reports on companies from their investment managers, rather than investigate them themselves – something obviously beyond their scope.
This is borne out by the response to the question of whether pension fund trustees or board members should intervene in the management of the in the management of the companies whose shares their funds hold. Only a small majority (55%) feel that intervention is justified. Clearly, many feel that it is the investment manager’s job to intervene, rather then the pension fund trustee’s.
Others felt that this should be a last resort. One Dutch pension fund manager said that intervention should take place “only on rare occasions and in the worst situations.” Another Dutch fund says pension fund trustees should intervene “only in a real emergency”.
Again, there is a strong feeling that if anyone has to intervene, it should be the investment manager. The manager of an Irish pension scheme comments : “Intervention should be via investment managers who are charged with the deciding whether to hold particular shares and should, therefore, be in the best position to decide on any questions that arise.”
This perhaps explains the unanimous support for the idea that fund managers have a duty to monitor the management of the companies whose shares a pension fund holds and report to the pension fund board or trustees. There is some disagreement whether this reporting should occur regularly or only when things go badly wrong.
Opinions are evenly balanced on the legality of intervention. A slim majority (53%) feel that pension funds, as the owners of the companies they invest in, are legally obliged to intervene. However, one Belgian pension fund manager neatly sidesteps the question: “Legally not, morally yes.”
The argument about whether pension funds have a legal obligation to intervene boils down to the question of ownership. Bob Monks believes that pension fund members, as the beneficiaries of defined benefit schemes, are the real owners of the companies their pension fund invests in.
This idea wins only moderate support. Slightly over half (57%) of pension fund managers feel that fund members are the owners of the companies their fund invests in.
Setting aside the legality for a moment, what kind of intervention is justified? Voting on executive pay is clearly seen as quite justifiable.
A substantial majority of respondents (94%) choose voting on the remuneration of executives, 81% sat the replacement of senior executives is acceptable and 76% think institutional investors they should have a say in the strategy or direction of a company.
A similar percentage (90%) believe that pension fund trustees or their investment managers should vote their proxies only for the benefit of pension fund members.
But how do you know a fund or manager is voting its proxy in this way. Most fund managers do not reveal how they vote their proxies. In the US, TIAA-CREF, one of the country’s leading shareholder activists, recently voted down a proposal from to disclose how it votes its proxy on social and environmental issues. Only 18.7% of participants (shareholders) voted in favour of the proposal that CREF disclose its proxy votes on social and environmental issues while 76.5% opposed it.
If they will reveal proxy voting, who will? Currently, the US Securities and Exchange Commission is sounding public on a measure it proposed in September that would require all mutual funds to disclose their proxy votes. Perhaps the same should apply to investment managers and the pension funds they serve.

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