Governance Roadshows: Added Firepower in the Face of Activism

A growing trend in investor relations is the "governance roadshow", in which companies engage directly with governance experts within their institutional investors.
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A growing trend in investor relations is the "governance roadshow", in which companies engage directly with governance experts within their institutional investors. Public companies have traditionally focused strictly on portfolio managers and their analysts - the people who pick the stocks and make buy or sell decisions. However, companies that have faced contentious proxy votes over governance issues or board elections quickly realize there is a different set of professionals within institutional investors that are devoted to evaluating and making proxy voting decisions, and these individuals take center stage in the face of proxy battles.

As a result, investor relations officers ("IROs") and their management teams have increasingly dedicated time and resources to speaking with the governance side of their investors, well before actual proxy voting season begins. The objective is to improve communication and mutual understanding around governance topics and increase the chances of a favorable vote if and when a contentious issue arises. Some companies are also stepping up these activities during and after a difficult governance issue, such as an unfavorable "Say-on-Pay" advisory vote, in order to bridge relationships and improve voting outcomes the following year.

An underlying trend driving this new focus is the fact that institutional investors are less and less reliant on recommendations from proxy advisory firms (i.e. ISS or Glass Lewis) to guide their own voting. Institutional investors more often have their own proxy voting policies and large investors especially have their own governance teams who take the lead on making voting decisions based on their policies and other relevant information.

There are many perceived benefits of governance-side shareholder engagement:
•Seeking direct input from governance experts will help the board make informed decisions on governance matters and emerging issues (like board tenure, board diversity, and proxy access), and can also limit the surprise of a future vote.
•Creating a forum for companies to explain their rationale and philosophy on governance matters may in turn help influence the way investors vote.
•Direct engagement will allow companies to establish a personal relationship with proxy voters, theoretically facilitating future discussions and mutual understanding.
•There is an expectation that activist investors are themselves communicating directly with the governance folks within a company's investor base, in order to further their own proxy-voting objectives. As a result, company engagement is viewed as a preemptive measure.

However there are downside considerations, risks and obstacles to governance-side engagement:
•Many companies do not dedicate enough time to their core investor relations ("IR") programs, so adding new responsibilities and yet more meetings to the annual schedule is difficult.
•The governance department within investment firms is usually small (if not comprising a single person), and they historically were not staffed to accommodate meetings with executives from all of their portfolio companies. As a result, big companies are getting an audience but smaller companies - those that may also have serious governance issues to be discussed - can be boxed out.
•Governance-side meetings are viewed by some as a waste of time, because proxy votes often follow a formulaic policy if not the exact recommendations of the proxy advisors.
•Of most importance, opening up a dialog about controversial governance topics may have unintended negative consequences. If a governance expert takes a meeting and makes a suggestion around a specific bylaw or issue, the company will be expected to respond or make changes. If they don't, it could worsen the relationship rather than improve it.
•Finally, there is the possibility that starting a dialog may raise issues to the attention of busy governance experts that were previously under the radar or unconsidered.

If your company decides to proceed with governance engagement, there are several recommendations to increase the chances of success.

Know your facts:
The first step is to understand, in detail, what ISS and Glass Lewis have recommended either to your company or your peers. Companies and their IROs must start off as educated on their specific governance issues as the advisory firms are themselves as well as your target investors. This is not a trivial task since IROs typically only need to deal with this issue once a year, whereas their investors may live these issues daily.

Line up your team:
An IRO's job is to be the key communicator of your company's story to the financial community. The IRO should know their story better just about anyone, and certainly better than their audience. This may not be the case with governance issues. IROs will likely need support from their general counsel/corporate secretary, human resources leader, CFO or a lead independent director. Having a strategy and tactical implementation plan involving the right people is critical.

Know who you are talking to:
A company must have a detailed understanding of its ownership profile as well as the specific voting decision makers within its shareholders, which is easier said than done given the limitations of ownership disclosures. A good stock watch and proxy solicitation firm are usually helpful on this front, if not essential. You also need to decide up front how deep into your shareholder list you will go for engagement - a good rule of thumb is that your top 20 holders is the right amount of outreach. A shorter, more manageable target list is usually achievable once you omit investors that purely follow ISS or Glass Lewis for voting recommendations.

Clarify your objectives:
Are you trying to solicit input? Does your board want to hear investor opinions? Are you trying to respond to prior criticism of your governance, build "just in case" relationships or head off a future potential problem? Each situation will require a different approach. No management team should embark on governance outreach without educating their board beforehand on the process and obtaining their full buy-in on the objectives and potential outcomes.

Understand their bias:
It's important to understand the extent to which each institution follows proxy advisor recommendations. It's important to understand their in-house policies, and whether they take a formulaic approach to voting or are open to receiving further information and input as a part of their decision-making process. Some investors are quite clear that they take a formula-driven approach, so even the most compelling and well substantiated explanation from companies will not sway their views.

Research how each institution voted in the past:
Companies must evaluate their investors' past track record of voting on key issues, which will be a strong indicator of their likely position on the same issues in the future. This analysis will also guide which investors to target for engagement depending on which issues the company believes are important for discussion.

Follow an agenda:
Governance discussions are not open-ended nice-to-meet-you conversations. It's essential to come with an agenda to guide the discussion and to ensure proper focus on the most relevant topics and details, in order for the meeting to be valuable for both sides. In addition to discussing voting criteria and gathering input, it's worth discussing views on emerging governance issues to help anticipate shifting voting patterns. Importantly, be prepared to answer questions. An IRO needs to make sure that he/she knows which issues will be hot buttons for each investor; and having the right answers or the right colleague can make or break the conversation.

Consider the timing:
Proxy voters are buried during proxy season, so there is essentially no chance of engagement from February through June. Companies should target off-season (the fall and early winter) and recognize that they may still have difficulty securing a meeting given limited availability.

Governance engagement is a hot topic but it's important to understand the pro's and con's before moving forward. It's still an emerging practice and the cost/benefit is not clear for some companies, however there seems to be consensus around the benefits of seeking more education, mutual understanding and deeper relationships within investors. If your goal is to become a better governance company, then engagement is probably worthwhile as your investors will push you in that direction. However, if you have aspects of your governance that are not viewed as shareholder friendly, and you are unlikely to budge on these issues, then engagement is fraught with risk. So make sure your company especially the board is open to hearing the input before you go get it.

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