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Wednesday, 3 June 2015
We are delighted to reprint Anthony's recent column in the London Evening Standard with permission.
Britain has a severe productivity problem.
Output per employee and value added per hour of work are directly linked to the quality of the kit the employee has to hand to help do the job — be it machinery, software or market information.
Our companies do not invest enough in any of these things.
We lead the world in corporate governance and have a fully-developed overarching code supported by subsidiary codes for different sectors — like shareholder engagement, private-equity reporting or how auditors should behave.
Nowhere else in the world are companies so actively supervised, managements so closely monitored and boards so concerned about what shareholders think.
Perhaps the two are connected — some FTSE 100 chairmen of my acquaintance think so. In their view, corporate governance has made company boards excessively risk averse because no one wants to make a mistake and directors are, with obvious good reason given what has happened in recent years, fearful of the consequences to their reputation if they do.
If nothing else, this should provide food for thought for the International Corporate Governance Network meeting in London tomorrow.
Investment is often risky in that, however well-prepared the case, it requires a leap into the unknown. Corporate governance responsibilities that weigh heavily on their shoulders stop boards from taking that leap.
So Britain falls further and further behind its international competitors.
It is a point of view that is not aired as much as it should be, if only because whatever they may say in private, few company directors will come out publicly about the way governance distorts boardroom decision-making.
They do not think it would be career enhancing. In fact, it would be the kiss of death to their hopes for any further board appointments.
Unconstrained by that problem, Professor John Kay tried four years ago in his report for the then Industry Secretary Vince Cable on the functioning of the equity markets.
He suggested that we look more closely at whether existing systems of governance facilitated “effective entrepreneurial and prudent management that can deliver the long-term success of the company”.
One organisation, the Institute of Chartered Accountants in England and Wales, has also tried. In the past two years, it has published a series of papers as part of what it calls a thought leadership initiative. The aim is to promote a debate about corporate governance.
What the papers outline is an alternative approach to the one currently promoted by the Financial Reporting Council, the body responsible for supervising the operation of the current code.
Relations with the FRC have apparently become somewhat strained as a result.
Yet the Institute makes a powerful case that, however well-intentioned it may be, the current code does not address the world in which we now live. It is, for example, primarily focused on relations between companies and their shareholders, and is driven by the paramount principle of shareholder value — that the responsibility of boards is to deliver the best possible return to investors.
This narrowness may explain why shareholders and non-executives, far from holding bank executives to account in the run-up to the financial crash, appeared instead to be egging them on to greater excess.
In today’s world, companies are no longer financed by shareholders alone — most employ a range of financial instruments some of which have the characteristics of both debt and equity.
All sorts of different groups have the ability to influence a company and a voice that demands to be heard. Bondholders can be every bit as demanding as shareholders, particularly for a company in difficulty.
Financial market regulators tell companies who they can and cannot have on their board, whether they can pay a dividend and whether their business plan is acceptable.
Pensions regulators can seek to block a takeover or disposal or lay down financial terms that will make it acceptable.
There is vagueness in the way these codes apply in practice as opposed to theory in the boardrooms of some of the overseas companies that have a London stock market quotation. And that is before we get to taxpayer involvement via state aid and bailouts and the complications they cause.
Shareholders are different too. Foreign and domestic investors have different priorities, hedge fund and long-only investors are different and there is nothing in common between a passive investment house that replicates indices and promotes exchange-traded funds and an algorithmic trader buying, holding and selling shares for just a few seconds at a time.
This implies that one of the main legs of the British approach to governance, that shareholders take an interest, is as honoured in the breach as in the observance.
Nor does society think that shareholder value should be paramount or that companies have to live in, and be part of, society. In society’s eyes, corporate governance has clearly failed in curbing pubic company executive pay, which most people think of as excessive, unnecessary and undeserved.
It has failed too in curbing aggressive tax avoidance. It is poor in making boards aware of society’s norms about fairness — witness the Thomas Cook row.
Thomas Cook has been criticised over its handling of compensation over the deaths of two children who were holidaying with the firm.
Basically the Institute’s case is that these controversies and other factors are not one-offs which are here for a moment but will vanish like the winter snow.
Rather, the accountants believe there is a fundamental misalignment between today’s markets and the corporate governance frameworks.
What these rows underline is that there is no longer a shared belief about what constitutes good governance, and the structures within the market reflect this confusion and do not, therefore, give the code the backing it needs to work properly.
They believe that the current code does not reflect how companies have to operate in today’s world if they are to survive and prosper in the long term. The original idea of the code was as a high-level set of principles that applied equally to companies and investors.
We need to reinvent this ideal, the accountants say, and produce an over-arching code based on an understanding of what companies are for in today's world, what values they are expected to have, and how they should behave.