The largest asset managers, led by BlackRock, are elbowing activists out of the spotlight on the topic of corporate governance. This blog has tracked tracked how mutual funds are putting distance between their priorities and the activist agenda (see here, here, here, here and here). The rift widened earlier this month when BlackRock, Fidelity, Vanguard and T. Rowe Price met with Warren Buffet and JPMorgan to create guidelines for best practice on corporate governance. Discussions have focused on issues such as the role of board directors, executive compensation, board tenure and shareholder rights, all of which have been flashpoints at US annual meetings.
This effort appears to be in direct response to the prominence of activist hedge funds (now managing in excess of $100 billion) and the success they have had in forcing share buybacks and other financial moves by corporations to increase returns to shareholders.
On the heels of the meeting, BlackRock CEO Larry Fink sent another letter to chief executives of S&P 500 companies urging “resistance to the powerful forces of short-termism afflicting corporate behavior” and advocating they invest in long-term growth. Make no mistake, “short-termism” is code for activist hedge funds and paragraph two of the letter takes aim at common goals of activists:
Dividends paid out by S&P 500 companies in 2015 amounted to the highest proportion of their earnings since 2009. As of the end of the third quarter of 2015, buybacks were up 27% over 12 months. We certainly support returning excess cash to shareholders, but not at the expense of value-creating investment. We continue to urge companies to adopt balanced capital plans, appropriate for their respective industries, that support strategies for long-term growth.
The letter asks CEOs to develop and articulate long term growth plans and move away from quarterly earnings guidance. “Today’s culture of quarterly earnings hysteria is totally contrary to the long-term approach we need,” writes Fink. Without a long term plan and engagement with investors about the plan, “companies also expose themselves to the pressures of investors focused on maximizing near-term profit at the expense of long-term value. Indeed, some short-term investors (and analysts) offer more compelling visions for companies than the companies themselves, allowing these perspectives to fill the void and build support for potentially destabilizing actions.”
With respect to “potentially destabilizing actions,” Fink acknowledged that BlackRock voted with activists in 39% of the 18 largest U.S. proxy contests last year, but says “companies are usually better served when ideas for value creation are part of an overall framework developed and driven by the company, rather than forced upon them in a proxy fight.”
With this letter and the group of large investors that is in formation, traditional fund managers are giving corporate America a buffer against activists. If a company were to explain to the largest asset managers “how the company is navigating the competitive landscape, how it is innovating, how it is adapting to technological disruption or geopolitical events, where it is investing and how it is developing its talent,” and had their support, it would be more straightforward to resist an activist campaign, particularly one based on a financial strategy like buybacks. “Companies with their own clearly articulated plans for the future might take away the opportunity for activists to define it for them,” writes Matt Levine in Bloomberg View.
If the pendulum is to shift from activists to traditional fund managers, are they ready to be proactive on governance matters? The AFL-CIO’s key vote survey which tracks institutional voting on proposals to split the roles of chairman and CEO, curb executive compensation, give shareholders more say in board appointments and improve disclosures about lobbying, found many of the largest mutual/index fund companies to be in the bottom tier of firms in their support for these governance-related votes.
The FT suggests that the size of these institutions may limit their involvement, “any governance principles that emerge from a consensus of the large managers are likely to fall short of those typically supported by the powerful proxy advisory services ISS and Glass Lewis, which offer voting recommendations to pension funds and other investors.”
However, a research paper entitled Passive Investors, Not Passive Owners finds that ownership by passively managed mutual funds is associated with significant governance changes such as more independent directors on corporate boards, removal of takeover defenses and more equal voting rights.
Investing for the long term is an issue in the Presidential campaign and is becoming more relevant in corporate America as the US adjusts to globalization, technology that is disrupting many sectors and the continuing shift from manufacturing to service and knowledge-based industries. The practice of quarterly reporting limits disclosure and discourse about long term objectives. As Matt Levine notes, “If you are an investor, you might want to know your company’s plans, no? It is odd that corporate disclosure is so backward-looking; like so much in corporate life, it is probably due mostly to the fear of litigation…Also, notice that Fink’s list of “what investors and all stakeholders truly need” is exactly what isn’t (for the most part) in companies’ public disclosures.”
In the UK, quarterly earnings reports are optional and more companies are giving them up. “I am surprised that more people haven’t stopped,” Mr Lis [of Aviva Investors] says. “For long-term investors it really wouldn’t matter whether there are quarterly reports or not in any sector.”
The investor group and the BlackRock letter are more examples of fund managers pursuing a governance agenda independent of activists. It remains to be seen how wide the rift between index/mutual fund managers and activist hedge funds will become, but it is clear that some major asset managers have seen limitations in today’s forms of activist investing, been put off by regular overreach by activists and maybe concluded that activists have jumped the shark.
Glencore’s pending IPO has generated much speculation about how the firm will stand up to the scrutiny of life as a public company. However, two more common names are also making headlines for their IR/PR and they demonstrate different approaches to managing reputation under the glare of the spotlight. First up, Google. Investors and analysts were miffed after CEO Larry Page spent only three minutes on the company’s recent earnings call and did not participate in Q&A. Unconventional, but remember that Google is the same company that did its IPO via dutch auction and deprived Wall Street banks of millions in guaranteed fees. Google has never given earnings guidance and its “Owner’s Manual for Google Shareholders” states that Google is “not a conventional company [and doesn’t] intend to become one.” The challenge of IR is getting Wall Street to buy into the long-term vision, especially in times, like now for GOOG, when the short-term expectations of investors are not being met. GOOG trades around $525, so most are trusting Page’s vision thing. But, Therese Poletti at MarketWatch wonders if the “company still merits its unconventional stance toward Wall Street.”
While Google seemingly thumbs its nose at the conventional way of doing things, Goldman Sachs is sitting on its thumbs and other fingers as it tries to convince the world that it is the kindler, gentler vampire squid. Andrew Sorkin of the New York Times is bewildered by Goldman’s continuing spin about their mortgage market investments and hedges during the housing meltdown. “Goldman Sachs did not take a large directional ‘bet’ against the U.S. housing market,” said Goldman last year. For some, that doesn’t square with the fact that it was $3.8 billion short the housing market and $3.3 billion long housing market in 2007. Sorkin says Goldman should stop tap dancing and “be proud of its prescient call about housing. It was better for its shareholders, and frankly better for the taxpayers, that the firm was smart enough to short the mortgage market.”
Goldman also downplays trading in its latest earnings news release. In fact the word “trading” does not appear in the news release and related materials for Goldman’s Q1 earnings announced on April 19. I repeat, no mention of trading. CNBC points out that last year, the announcement mentioned “trading” nine times and in 2006, “trading” popped up 11 times in one quarter. Truth is in Q1, Goldman’s equities and fixed income traders hauled in more than $2 billion in revenue. Not bad for the business no one wants to talk about.
As it deals with media and investors and uncomfortable truths, will Glencore emulate Goldman and play by the rules but try to keep the truth obscured by sleight of hand? Or will it follow Google and give a more decipherable, perhaps Swiss, hand gesture to those who want transparency about their business? Hang loose, we’ll find out soon enough.