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For last year's views of several Forum participants about whether the "Fifth Analyst Call" addressed in the article below meets standards of fair conduct, particularly in relation to its restricted access and control by a group of issue advocates, see


Corporate Board Member, First Quarter 2012 cover story



1Q12_maghome Communicating with Shareholders

First Quarter 2012
Corporate Board Member
by John R. Engen


can phoneLast April, less than two weeks before its annual meeting, Occidental Petroleum Corp. hosted an event that many institutional investors hope will mark the beginning of a new best practice for corporate America.

For 90 minutes, two board members—assisted by the company’s investor relations head and an assistant general counsel, among others—fielded a series of tough, proxy-related questions on a conference call with roughly 50 global investment firms.

The discussion covered such hot-button subjects as management succession, board structure, executive pay—in recent years, a particularly thorny issue for the Los Angeles-based oil company—and a shareholder proposal that the board include at least one director with “environmental expertise.”

The investors who participated in the call won’t get into specifics, but say they were happy with the results. “It was a very candid call—no holds barred, but very cordial and respectful,” says Tim Smith, a senior vice president for Walden Asset Management in Boston.

Occidental got something out of the call, too. Its pay plan, which was opposed by most shareholders in 2010, won majority backing this time around. “Based on this call, and some other things the company had done over the previous year, I shifted some of my voting from opposing the board and its practices to a more pro-Occidental vote,” says Elizabeth McGeveran, senior vice president of governance and sustainable investment for F&C Management Ltd., a big Boston money manager.

“Being able to listen to the directors confirmed for me that their governance momentum is going in the right direction,” she adds.

If you’re on a board that hasn’t been approached yet about adding a so-called “fifth analyst call” to its roster of events, get ready. A group of global investors representing more than $2 trillion in assets has begun lobbying companies to initiate a separate call that includes directors talking about governance issues.

Modeled after similar efforts in the United Kingdom and Europe, the idea is to give shareholders additional insight into the board’s thought process—and perhaps a voice in that thinking—before they vote. Think of it as an additional earnings call, only instead of being about earnings, the subject matter would be limited to governance.

The call would be hosted jointly by a large investor and the company and—here’s the real kicker—include at least one outside board member, most likely a lead director and/or the chairman of the compensation committee.

“The one thing that really makes a fifth analyst call from our perspective is having directors on the call,” says Deborah Gilshan, corporate governance counsel for Railpen Investments, a London-based pension fund. “The point here is about board accountability. You get a better understanding of the board’s oversight approach when the message isn’t filtered by management.”

For many, the concept has merit. A fifth analyst call, or something like it, might serve a board exceedingly well for providing some context around its decision making on the kinds of thorny issues that often arise in proxy statements.

The most obvious example might be a more nuanced discussion of pay than what appears in the Compensation Discussion and Analysis (CD&A) portion of the filing. But it could also include an overview of succession planning, an audit committee report, or directors’ opposition to the latest shareholder proposal on campaign contributions or climate change.

“I think it’s an excellent idea,” says Charles Elson, director of the John L. Weinberg Center for Corporate Governance at the University of Delaware, and a member of the board at Birmingham, Alabama-based HealthSouth Corp. “It’s very helpful for directors to listen to what large investors have to say, and for those investors to hear directly from board members on governance matters.”

Several recent studies, including one by the National Association of Corporate Directors, have endorsed the need for better lines of communication between boards and shareholders.

Securities and Exchange Commission Chairman Mary Schapiro appears to be on board, as well. In an October 2010 speech at the NACD’s Annual Corporate Governance Conference, she said it was “vital that shareholders and board members move beyond the minimum required communications and become truly engaged in the shared pursuit of high-quality governance.

“For boards and their companies, engagement means more than just disclosure,” Schapiro added. “It means clear conversations with investors about how the company is governed—and why and how decisions are made.”

Even with a certain amount of momentum, there’s no guarantee that the fifth call will become a widely accepted practice. Many lawyers and investor relations professionals are leery of the concept, and so, judging by the initial response, are many boards. Occidental was the only one of 15 companies targeted by the global investor group to actually hold a fifth call in 2011.

The hesitation is understandable. There are risks— of inadvertent disclosures, giving away parts of corporate strategy, or fumbling on an answer—that could come back to bite the company. The entire concept is enough to make many directors queasy.

While the idea of a fifth call has been around for several years, the recent backlash against excessive executive compensation and new Securities and Exchange Commission rules requiring nonbinding say-on-pay shareholder votes has investors wanting more direct communication with directors.

“You might not be able to have a meaningful conversation about executive pay with the CEO” because it’s his compensation that’s under the microscope, says Keith Gottfried, a partner with the Washington, D.C., law firm Blank Rome LLC. “So you have to go over his head to the board.”

McGeveran says a fifth call can give the board an opportunity to make the argument more strongly to shareholders about why a particular [pay] metric is appropriate to the company’s strategic purposes at a given time. “If you’re not doing things in a cookie-cutter way, it’s an opportunity to build some additional nuance and dialogue around governance,” she adds.

to call or not to call
Some boards in this proxy season might benefit from having that discussion, especially those that failed to garner majority support in say-on-pay votes last year. In fact, proxy adviser Institutional Shareholder Services plans to issue “no” vote recommendations for directors if a majority of shareholders oppose pay plans two years in a row.

“Say on pay necessitates engagement,” says Patrick McGurn, special counsel for ISS. “It’s a yes or no vote, and boards need to communicate directly with investors to win their support.”

Even so, cynics worry that offering the kind of detail McGeveran suggests about pay package metrics, for instance, could reveal important tidbits about the company’s strategy to competitors, or leave key employees more vulnerable to poaching. One director privately calls it “extremely dangerous,” because the call could stray into strategy or other areas that are better left to full-time management.

“I would worry, ‘Did I make a mistake and say something I shouldn’t have said in an open forum?’ I’m not sure it would be comfortable or that it would really enhance communications,” says Susie VanHuss, chairman of the compensation committee at SCBT Financial Corp., a mid-sized banking company in Columbia, South Carolina.

Another director frets that the call is another step down the road toward shareholder micromanagement. Board members are thinking about governance and executive pay all the time, while the information in the proxy statement represents more of a snapshot. “Especially in today’s world, there is a need to make adjustments over a course of time,” says this director, who serves on three large-company boards, none of which communicates directly with shareholders.

Worse, a board member could misspeak or not know the answer to something, causing the company embarrassment. Even the innocuous “I’m not sure; let me get back to you” response could come back to bite.

“The next day’s headline would be, ‘Director not sure how compensation arrived at,’” says Gene Marbach, group vice president of Makovsky & Co., a New York investment relations consulting firm. “You could wind up spending a lot of time repairing the damage from something like that.”

Perhaps the biggest concern, however, centers on violating the SEC’s Regulation FD, which requires “material” information, such as earnings or revenue numbers or projections, be disclosed to all investors, not a select few.

While a company might issue an 8-K and disclose any obviously material information that slipped out in a call with big investors, even simple “clarifications” offered in the course of the call, while not necessarily material, could give participants insights that those not on the call would miss.

“The spirit of the law is at risk of infringement,” warns Martin Lipton, partner at the New York law firm Wachtell, Lipton, Rosen & Katz. “Companies should be wary of giving a preferred position to any group of stockholders,” which could expose the company and board members to “additional risk of legal liability.”

making the call
Occidental’s share price closed 2.5% higher the day of its fifth call, while the S&P 500 closed up just 0.9%. While no one is saying anything material was discussed, the large investor participants claim to have gained valuable insights from the call.

Smaller shareholders, on the other hand, never heard it. The call wasn’t webcast or made available later for nonparticipants to listen to. No transcripts were released, and no 8-K disclosures were filed with the SEC.

Repeated requests to Occidental–and to lead director Aziz Syriani and compensation committee chairman Spencer Abraham–seeking comment for this story went unanswered.

At the least, preparing for the fifth call would be labor-intensive. “You’d want to make sure you read every word in that proxy statement and have a very, very good understanding of your compensation practices,” Marbach says. “If you have a compensation consultant, you’d want [that person] in the room [for the call]. … I’d want every board member and anyone who helps shape corporate policy there.”

He also suggests a pre-call rehearsal, with people “firing every conceivable question at you” to ensure the answers are at hand. “If you’re going to open yourself to this kind of questioning from sophisticated people, then you’d better go in there knowing your stuff.”

Lipton has a simpler solution: Hold the call if you must, but don’t include any directors. Board members usually don’t participate in the drafting of the proxy statement, he says. And even the lead director “cannot speak on behalf of board committees, nor should he or she be pressured to give greater detail regarding board deliberations or discussions than is contained in the disclosures.”

The typical company’s proxy statement, annual meeting, and four regular earnings calls, he adds, should provide more than enough opportunity for dialogue.

“My basic question is, why do we need it? What’s it going to accomplish?” Lipton asks. “It’s sort of one of those make-work things that investors are trying to foist on companies.”

This is just the kind of response that drives shareholder advocates nuts. “There are elements of the corporate community that want to kill this concept—not just the idea of a fifth call, but the whole idea that there should be engagement between investors and boards of directors,” McGurn complains. “It’s almost bizarre.”

Setting rules for the call in advance and having a general counsel in the room to flag dicey questions can mollify Reg FD concerns, supporters say. “You have to make it very plain from the outset that some topics are off limits,” says Paul Hodgson, managing director of GovernanceMetrics International in Portland, Maine.

To trump Reg FD concerns, Elson suggests making the call open to everyone, via a webcast. Most people interviewed for this story wondered why Occidental’s call wasn’t public. “You can solve the problem with an open call, so any investor has the right to listen,” he says.

The group behind the fifth call idea originally promoted it only for larger investors, but has since modified its stance. “The call could be open to any investor, or to the marketplace as a whole,” McGeveran says. “The important thing is that a director is on the call.”

changing perceptions
To hear investors tell it, the reticence illustrates just how far behind the United States is when it comes to board/shareholder communications. In the U.K., Deborah Gilshan says, “shareholders like myself routinely speak to the chairman of the remuneration committee to discuss issues of concern. It’s part of the culture here, and gives a much better understanding of the companies we’re investing in.”

The fifth call borrows from a practice followed by some British and European boards to host face-to-face meetings with large shareholders in advance of proxy votes. In London, most big investors are within walking distance of each other. The U.S. market is too geographically diverse for that, making a call more practical.

“The fifth analyst call isn’t meant to be the one all, be all,” McGeveran says. “It’s a tool in the toolbox for U.S. boards, to help them move from a culture of silence to a culture of engagement with shareholders.”

That might be a little strong. In recent years, it’s become more common for board members to join management on investor road shows. Investor days have been popping up more often and including more directors, allowing institutions and the analyst community a chance to ask questions and offer thoughts.

“Traditionally, the view was that the board knew more than the shareholders,” Elson says. “Today, the view is that shareholders know as much as the board.”

At SCBT, a prominent investor is usually invited to join strategic retreats. “They will come in and speak to management and the whole board,” explains VanHuss, former executive director of the University of South Carolina Foundations.

“We get ideas about what investors are looking for—what they think is important—and they’re welcome to ask directors and management any questions they want,” she explains. “Sometimes they stay for the social things, as well, just to get to know people on the board better.”

It’s true that boards often use surrogates from inside the company to gather information on governance matters. While it might not be as satisfying to investors as having a director present, such interactions are valuable nonetheless, and are happening more frequently.

Walden’s Smith tells of a recent discussion with executives from Staples, the office supply retailer. Officials had begun work on this year’s proxy statement and “came by the office because they wanted to talk about governance issues,” he says.

Dell Inc. holds several calls a year with shareholders who are concerned about environmental, social, and governance issues. “They would bring in their top people dealing with the particular issue, and we’d talk for a couple of hours,” Smith explains. “We never asked for a director to sit in on the call, but we know some issues were reported back to the board, because they answered our questions.”

International Business Machines Corp. also has been known to set up calls with investors to discuss corporate responsibility concerns, recently devoting a good chunk of time to talk with roughly two dozen shareholders about a new code of conduct it is instituting for suppliers. And it’s also become more common for companies to send representatives to gatherings of trade groups, such as the Council of Institutional Investors, to discuss governance issues.

“The fact of the matter is, there are literally thousands of engagements between institutional investors and companies nowadays,” Smith says. “Companies are more willing to reach out to investors whose views they wish to solicit.”

Even the fifth call idea has been done here before, albeit on a limited basis. In 2007, Pfizer Inc., the pharmaceutical giant, announced with great fanfare that it was initiating a call with institutional investors “to provide comments and perspective on the company’s governance policies and practices.”

Similarly, General Electric Co. and Walt Disney Co. have both held investor calls to discuss compensation after ISS recommendations pushed them to the table. “It was the same theory,” Smith explains. “They reached out to a number of investors, got their feedback, and changed their policies in the middle of the proxy season.”

Subsequently, he adds, “ISS changed its opinions, and the votes went very much in favor of the companies.”

Fifth analyst calls may very well become commonplace, as investors hope. But it’s also quite possible that a board’s decision to send one of its own to meet with shareholders will come down to—as it did with GE, Disney, and Occidental—whether it’s deemed necessary to successfully achieve their strategic objectives, or in some cases, to keep their jobs.





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