The 2011 Yale Governance Forum: A Report

Monday, August 1, 2011 - 01:00

The Editor interviews Ira Millstein , Theodore Nierenberg Adjunct Professor of Corporate Governance and Senior Associate Dean for Corporate Governance, Yale School of Management, and Stephen M. Davis , Executive Director & Lecturer, Millstein Center.

The Millstein Center for Corporate Governance and Performance at the Yale School of Management is a leading global resource for testing, challenging, and advancing the premise that corporations should, and can, serve society. Approximately 200 conferees consisting of leaders from the global corporate governance community gathered on June 16 and 17 for the sixth annual Yale Governance Forum, one of a handful of events considered a "must attend."

The goal of the event was to stimulate in-depth discussion and explore key issues with the conferees regarding the growing debate over whether boards, management and investors can influence corporations to achieve long-term corporate sustainability, not just quarterly results. The conferees included leading institutional investors, corporate directors and executives, regulators, academics, corporate governance advisors, rating agencies, executive search firms and other experts around the world comprising the governance community.

This report reflects a sense of the views the conferees expressed during the forum rather than the views of Messrs. Millstein and Davis. Because the forum was conducted under Chatham House rules, the conferees know that they will not be directly quoted. That permits them to let their hair down and say what they really think.

Each of the following questions is based on a theme of a particular segment of the forum.

Editor: What is short term? Tell us about the need to retest assumptions.

Davis: The theme for the conference as a whole was "governance fit for the long term." Our effort in each of the panels was to test assumptions that have long been dominant in the United States. What we found is that the conferees questioned whether assumptions that have been in place, in some cases for decades, any longer apply - particularly in the wake of the financial crisis and the Dodd-Frank Act.

One of the panelists presented a fairly persuasive argument that the stock market does not reflect the fundamental value of companies. If you take that as accurate, it means that much of the effort of shareholders and boards expended for years to tie CEO incentive pay to stock-price performance really is not as relevant as everyone thought. That was one of the takeaways.

Another takeaway (and this you can cite) was the observation by Richard Davies, a representative of the Bank of England, that what investors consider long term has become much shorter term over time. This was based on a paper that the bank published recently written by Davies and Andrew Haldane. Now consider that given the growth of shareholder power, boards are tied more closely to shareholders. If investors are increasingly short term in their thinking, boards are certainly under pressure, to behave short term because that is what their shareholders want.

However, there is some dispute that this is really what shareholders want - or whether this is only what their money managers, investment advisors, pension funds and other agents say they want. In other words, agents, the intermediaries, may have a shorter-term focus than beneficiaries.

Editor: Can investors behave long term?

Davis: What I just said about the previous panel took us to the next big question, which was the theme of the second panel. It considered whether there is really an alignment between the interests of the ultimate beneficiaries and their agents. Someone on the panel said the answer is "yes," "no" and "maybe."

It's certainly true that those advising investors can behave long term. There are advisors that manage to bring their investment strategies into sync with the interest of their beneficiaries, but too often there is a misalignment. Investment advising is really a trade. Fund managers are paid for short-term results, so they pressure companies for short-term performance.

Ira emphasized in his panel remarks that the chair or the CEO needs to get involved in letting long-term investors know that the company is being managed to produce long-term results and that communicating that message shouldn't always be left to an investor relations department.

Millstein: I don't think it's correct to talk about the goal being either long term or short term. It's both. In order to achieve long-term corporate sustainability, you likely need to also achieve at least some short-term results. The question is whether a corporation can continue to be viable if it only focuses on one of these goals, while excluding the other. The answer is "no." You need balance. In order to have a future, a corporation cannot focus only on quarterly results.

The conferees emphasized the importance of boards and management communicating their long-term plans to shareholders. Most boards and management are able to identify 20 to 30 percent of their shareholders. The key is for boards and management to regularly and effectively communicate their long-term plans, as long as the plans are credible, to their true long-term shareholders. This allows boards and management to gain long term shareholder support for their plans, even if there are bumps along the way.

Editor: What about corporate governance challenges worldwide?

Davis: One thing that is clear is that local corporate governance cultures are under stress because of the global dimension of capital allocation. Companies now have shareholders from all over the world. They can pull out in seconds - just as quickly as they come in. As companies go global, they need boards that really reflect their businesses, the global reach of those businesses and the growing global ownership of their businesses.

The main takeaway from this panel was that cultures that prevent their companies from adapting to global needs are under stress.

Editor: Is the corporate secretary the key to board effectiveness and investor dialogue?

Davis: Everyone seems to realize that the corporate secretary is in many ways the key to board effectiveness. But, there are questions. Is the corporate secretary really part of management exclusively or should he or she be accountable to the board or both? Is that role a compliance exercise or something more? What role does the corporate secretary play in outreach to shareholders given that the investor relations department may feel it owns that role?

Millstein: In the UK and Australia, the corporate secretary often has a more significant role on the management team and is accountable to the board, in some cases, as opposed to management. One of the reasons we put this piece on the program was to show what was happening overseas and why that model was different, and perhaps preferable.

Editor: Is governance moving toward the technology cloud? Can short-term social media be harnessed for long-term gain?

Davis: These are early days, but there is a sense that because social media demonstrated its power as a communications tool in the Arab Spring, it will also affect the capital markets. This will result in companies expanding their use of social media to communicate to investors. The panel emphasized that some leading-edge companies are not only using Twitter and other social media channels to get their messages across to investors and other stakeholders but also using it to learn how they feel about those companies.

The explosion in the amount of such information raises substantial additional risks. As we've seen with WikiLeaks, even governments can't control the flow of information. Social media makes it far more difficult for companies to control information, or overcome misinformation, reaching the public and to get their side of the story out.

Millstein: Here is an example of the outreach technology can have in the governance community. Thirty-seven conferees used Twitter at the forum this year. This may not seem like a lot. However, here is a different figure - 73,833 people worldwide received tweets about the forum from these 37 conferees. The result is that investors are inundated with conflicting information, which management and boards must help investors to distill.

Editor: What governance lessons were learned from the financial crisis? What works? What doesn't?

Millstein: This was an interesting session, with several thought-provoking questions being raised. We heard comments about whether Dodd-Frank had gone far enough or whether it had gone too far. The conferees seemed in agreement that a major lesson learned from the crisis was that everyone was at fault. Everybody had a hand in the bubble - either by actively participating in events that led to the financial crisis or just by going along with the status quo.

The question now is whether we can prevent it from recurring. "Is that possible? Who knows?"

Editor: Will say-on-pay lead to value creation? What lessons does Occidental teach?

Davis: In brief, Occidental had become a poster child for shareholder rejection of a poorly aligned compensation system when investors turned down the company's pay plan. But unlike some companies that might have circled the wagons, Occidental's board took charge to change the company's compensation practices and to change the CEO.

We profiled this case as a positive example of what happens when a company has lost the say-on-pay vote and then focused on how it can turn things around. The implicit lesson is that companies can avoid having a problem if they spend time talking with their shareowners and carefully examining their pay practices.

Millstein: Say-on-pay is not a definitive way of clamping down on excess compensation. Rather, it is a door opener for management and boards to effectively communicate with shareholders regarding their concerns. Companies that received a significant number of votes against their proposed compensation packages will likely be more willing to listen to shareholders for future say-on-pay votes. Editor: How can corporate boards internalize energy risk?

Millstein: T. Boone Pickens and I led a discussion at the forum regarding the Pickens Plan, a proposed solution for ending the United States' growing dependence on foreign oil by expanding the use of domestic renewable resources and natural gas. The Millstein Center and Mr. Pickens are collaborating in a new initiative to work with corporate boards to explore how the private sector can shift to domestic energy sources. A planning phase of the Millstein Center's board energy risk program will be a roundtable of corporate chairs and CEOs, investor executives, and experts. The roundtable will aim to identify research and data gaps as well as effective boardroom practices and relevant investor stances.

Editor: What can be done to break the hold of rating agencies?

Millstein: We had a remarkably good discussion on this topic because Jules Kroll, chairman and co-founder of K2 Global Consulting LLC and chairman and CEO of Kroll Bond Ratings, Inc., spoke about his creation of a new rating agency. He noted that the issue of conflicts still exists with respect to existing agencies. Mr. Kroll noted that he tried an investor pay concept and found that the concept may not be easy to implement because investors are often not willing to pay for ratings. Mr. Kroll differentiates his agency by the reputation for care and due diligence that characterizes his reputation as an investigator and hopes that investors will pay for more due diligence. If it works, he believes other rating agencies will follow.

Davis: It's worth mentioning that there may be a public policy push that could help Jules. In Europe right now there is a lot of anger at the government level directed at the agencies because of how they have downgraded sovereign debt. The Internal Market unit of the European Commission is thinking of proposing additional curbs on credit rating agencies and maybe even requiring investors to pay for the information themselves.

Editor: What is corporate governance for?

Davis: The paneldealing with this issue included a representative of the European Commission, the UK government and General Motors. What probably most people came away with was that in Europe and the UK corporate governance is given very high-level priority by political authorities. This is the case because good governance is much more embedded in their concept of social fairness, economic growth for the society and the market as a whole, and environmental and social responsibility. So, it's now very high on the political agenda there.

Having said that, one thing that I took away was that GM by virtue of its own situation is much more attentive to all GM's stakeholders, not just the shareholders, and is taking steps to do more outreach to these other stakeholders.

Editor: Can independent board leadership work for the long term?

Davis: This session focused on one company, Thomson Reuters. On the panel were its CEO, Tom Glocer, and Geoffrey Beattie. Although Geoff's title is deputy chair, he actually runs the board. In effect he is the chair of the board.

This case study was designed to demonstrate how in one case a split between the chair and the CEO can be effective. They discussed how they divide their roles and how they work together to enhance the role and effectiveness of the board. However, it was not meant to be a demonstration that a split is always the best approach. In fact, Geoff has explicitly made the argument that he doesn't believe it's the right model for every company.

Millstein: The point we were trying to get across, and which I believe we did get across, was that the effectiveness of the split roles depends on the relationship between the two people involved. What Geoff and Tom emphasized was that they worked well together because they had clearly defined each position. What they were trying to present to the group was not that one approach was better, but how important the human relationships and definition of roles were.

Editor: What are the next frontiers in board effectiveness?

Davis: This panel challenged the old assumptions about how boards work. A number of panel members made the case that boards need to be more proactive, and to do that they need more information - not simply whatever is presented to them by management. There were some who felt that there needed to be different leadership structures. There was a view that we're only at the beginning of figuring out how boards should act in an age with powerful shareholders and greater reliance on directors to play a more effective role.

Editor: What was the bottom line at the end of the session? Did the 200 conferees come away with a feeling that the forum was a useful event?

Millstein: Conferees feel that they have the opportunity to explore key issues in the corporate governance world and participate in thought-provoking debates with their peers. The feedback we receive is superb. Participants appreciate being with a peer group in a let-your-hair-down, no-holds-barred session, with plenty of opportunity for everybody in the room to participate and learn. They overwhelmingly comment on what a rewarding experience the forum has been year after year. That is demonstrated by the fact that they keep coming back each year. Because corporate governance keeps marching forward, each annual session is always different.

Davis: It's also the case that it's one of the only conferences, if not the only one, where you get a good mix of investors, directors, auditors, intermediaries and academics, and where there is participation from many other countries - so it's not just folks coming from within one category of experience or from just one country.