August 18, 2016
This is the third of a three-part series on board engagement. This post is written from the investor’s perspective.
Glenn Booraem is a Principal of the Vanguard Group, Inc. and the Treasurer of each of the Vanguard Funds. He has worked for Vanguard since 1989 and currently oversees the firm’s corporate governance program, covering more than $2 trillion in equity market value. He is a frequent speaker on governance to industry groups and has served on the New York Stock Exchange’s Proxy Working Group and Commission on Corporate Governance.
Calls for better communication between companies and their increasingly institutional owners are nothing new. Corporate governance veterans Kayla Gillan and Rich Koppes (then at the California Public Employees Retirement System) wrote more than 25 years ago, “It is the wise corporate official who seeks to understand, rather than ignore, this new [institutional] shareholder.” In 2014, a cross-constituency group representing investors, boards and advisers proposed the SDX Protocol (www.sdxprotocol.com) as a framework for productive engagement between directors and substantial shareowners. And most recently, a “bipartisan” group of asset managers and leading public companies articulated a series of corporate governance practices which include “robust communication of a board’s thinking … on governance and other key shareholder issues … to the company’s shareholders.” (See www.governanceprinciples.org for the full document.)
So while the idea of engagement has been percolating for some time, its broad practice – particularly between boards and shareholders – is a somewhat newer phenomenon. As more and more boards consider wading into these waters, many of them are still asking, “Why bother?” and, “What good does it really do for boards and companies?”
In truth, there’s no simple answer. The benefits of engagement are nuanced, and particularly favor companies and investors – like Vanguard – who focus on the long term. Vanguard’s significant index fund business makes us practically permanent holders of the stocks in our portfolios, so we are, in many respects, the embodiment of patient capital. Given this long-term orientation, we view engagement as a process, not an event. We see significant value in building relationships over time – before issues or other matters requiring shareholder intervention arise.
To this end, we’ve had thousands of interactions with companies around the world, and we’ve seen a number of interesting themes emerge.
Great communication embraces a variety of channels. As investors, we want to share our point of view on issues we believe are important for long-term shareholder value, and to understand the company’s and board’s point of view on these same matters. In addition to one-to-one interaction between the company and the investor, other communications such as the proxy statement, annual report and corporate website constitute critical channels through which the company and board can articulate their thinking about corporate governance and long-term strategy. The better a company tells its story through these channels, the better they’re able to leverage their valuable one-on-one engagement time to share views, understand priorities and build relationships. This, in turn, can help improve the quality of communications and disclosures in future cycles.
Articulating a consistent and compelling story promotes shared understanding. Ongoing engagement sets the stage for shareholders to be supportive of the board through the inevitable ups and downs in the business over time. Otherwise, an information vacuum may develop that activists and agitators will exploit. (This isn’t to say that activists don’t play a role in market efficiency; there are certainly companies that have “earned” the activism that they’ve experienced. But if an otherwise solid strategy gets derailed because shareowners don’t understand it, that’s a self-inflicted wound on the company’s part.)
All interactions are not created equal. At one end of the spectrum, exchanges focus on a narrow set of issues, typically those on the ballot at an upcoming shareholder meeting, and are geared toward soliciting investor support for management’s position. At the other – and more productive – end of the spectrum is proactive, strategic engagement on “big-picture” issues. This presents a crucial opportunity to deepen investors’ understanding of how the company and board are addressing issues related to corporate governance, board composition and refreshment, executive compensation, environmental and social risks, etc., in the context of their long-term vision and strategy.
There’s a place for tactics, and a place for strategy. The best way to determine what’s needed is for boards to ask themselves, “What can we gain from engagement now?” And, importantly, “What more could we gain from engagement in the future?” This assessment, in itself, will help to frame the appropriate scope and approach to your engagement needs today, and perhaps those for the long term. When companies ground their governance discussions in the context of strategy – and invest effort to build common understanding across the most significant and unique topics for that firm – it is easier to cover tactical issues when they do arise.
Engaging on a “clear day” instead of during a “storm” is likely to yield better long-term results. The chair of a company we met with recently observed, “You can’t wait to build a relationship when you need it.” And we couldn’t agree more. Rather than engaging for the first time in the midst of a “situation,” building relationships over time (even over years) allows for sharing of ideas as they evolve and gives boards an opportunity to hear and process inputs to produce real change if and when needed.
It’s a marathon, not a sprint. We’ve observed some companies jump headlong into engagement, anxious to get out of the starting blocks. They’ve obviously invested some upfront time in the “training program” (developing the story and materials) and selecting the “athletes” (particular directors and/or management team members), and then they’re off to the races (quick-fire execution, often squeezed into a period of a few short weeks). Often, these concentrated campaigns are responsive to an issue such as an activist intervention, failed say-on-pay vote, etc. Where a company’s first foray into shareholder engagement is driven by such an issue, it’s critical that it stick with the program afterward. Those who treat these interactions as one-off, emergency campaigns often lose steam, and we never hear from them again … until the next issue arises.
Active and ongoing engagement with shareholders helps companies and boards in three ways: it focuses communication on the issues of long-term importance to shareholders; it illuminates and propagates best practices for boards; and it helps boards prepare for and respond to eventual controversy – whether in the form of activism or other unexpected events. Having an existing relationship to tap into under stress is far more effective than trying to build one on the fly.
And for long-term investors, engagement is certainly worth the effort if the result is high-performing boards that drive the creation of superior value for all shareholders.
To read parts one and two in this three-part series on board engagement, click here.