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Corporate governance expert's views of corporate defense expert's views


Andrew Clearfield, a member of the International Corporate Governance Network ("ICGN") Committee for Board Governance, has provided the comments below for distribution to Forum participants in response to the previous day's distribution of the following commentary:

Note: Mr. Clearfield, like Mr. Nathan, had been an active participant in the Forum's "Fair Investor Access" public program conducted 2012-2015 in conjunction with The Conference Board, addressing the issues that were summarized in a January 5, 2015 Forum Report: Conclusions of Program for Fair Investor Access, Responding to Activism.


Source: Andrew Clearfield, Investment Initiatives LLC, July 24, 2018 commentary

Comments of
Andrew M. Clearfield
July 24, 2018


Re:  Charles M. Nathan, Institutional Investor Engagement:  One Size Does Not Fit All


The errors in logic in the attached piece are, unfortunately, manifest.

Mr. Nathan is purporting to develop a logical argument, but his argument is based upon several non-sequiturs:

1. It does not follow that having a “relatively small group” (does the author mean five?  twenty?) charged with governance engagements should have any particular relationship to the "huge number of worldwide company [proxy] votes they [i.e., the same fund manager] cast in a year.” It does not follow that if this number is less than some large number that all of a fund manager's votes—or even merely those involving a company subject to a governance engagement—would be miscast.

2. A focus upon “the big picture environmental social, and governance issues” does not necessarily mean that the investor will have a list of fixed criteria to be applied to all proxy votes.

3.  Nor does it mean that a dedicated governance team can or will dictate that all (or any) votes are cast solely in accordance with fixed global standards.

4. And further, the existence of governance teams does not necessarily mean that they become involved with “company specific issues of strategy design and implementation, capital allocation, M&A opportunities, and operational and financial performance.” 

 —In actuality, my experience has been that governance teams do not pass judgment on most or any of these matters, but solely upon those issues falling more specifically under the headings of corporate governance, and/or social and environmental impact.

In short, the author is creating a straw man, in order to criticize the use of dedicated teams specializing in governance. Large investors do reserve both evaluation of and final judgments upon ‘company strategy, capital allocation, proposed mergers or acquisitions, and financial performance’ to securities analysts and fund managers. Governance teams are expected to make recommendations or give advice regarding the sorts of things quantitatively-oriented portfolio managers usually ignore.

Mr. Nathan’s proposed, and supposedly new, engagement paradigm is the one which has been used for decades: leave everything up to the numbers people. These are unfortunately least likely (especially when the numbers are particularly mouth-watering) to pay attention to even the most obvious problems with: the ownership structure, lack of a succession plan if the indispensable CEO gets run over by a truck, the ability of a board to dilute any hostile bidder to death (a feature sometimes found in the most widely followed ‘bidding target stories’!), lack of board independence, risk of enormous fines for egregious social or environmental malfeasances, perverse pay incentives, and so forth. That’s why dedicated governance professionals were created in the first place—to pay attention to risk factors that most investors were likely to overlook by focusing upon financial statements and listening to sales pitches.

Moreover, he mixes up two kinds of investors:  indexers, who cannot, and will not, pay attention to company-specific issues (therefore meaning there are no portfolio managers to follow the aforementioned company-specific issues), and active managers, who (a) almost certainly do not give their governance teams carte blanche to overrule portfolio managers’ decisions, and (b) are only likely to be involved in governance engagements with a relatively few key companies—either major holdings or companies that are otherwise in their radar.

I would, however, agree most strongly with his conclusion that governance should be closely integrated with portfolio management, although the two should not be integrated such that one is totally subordinate to the other. Fund management is always ultimately about investing to earn returns for clients (within whatever designated parameters), but governance, to provide useful input, must be capable of independent judgment. Nonetheless, these two functions should always be on the same page, and know what the other is saying and doing. The mistake here is in assuming both that most fund managers are likely, capable, or willing to pay close attention to non-quantitative matters, and that fund management firms would otherwise be foolish enough to view good corporate governance as an end in itself. In actuality, the problem usually comes, not when there are trivial box-checking reasons for ruling out the investment in a company, but when analysts and managers get so carried away by the potential returns promised by an exciting story that they ignore sizeable risks posed by its fundamental flaws in governance. Whether the risks are economic or reputational, fund managers should at least always be going in with their eyes open.

Andrew Clearfield

Investment Initiatives LLC




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