SEC Commissioner Urges Pension Funds to Examine Corporate Governance


Citing the advantages offered by the size of their investments and long-term horizon, an SEC commissioner said pension funds can play an important role in promoting effective corporate governance practices.

Commissioner Luis A. Aguilar, speaking Friday at the Latinos on Fast Track (LOFT) Investors Forum in Washington, DC, called on pension funds to evaluate corporate governance through the lens of shareholder engagement, compensation, financial reporting and diversity.

"Focusing on the quality of a company’s corporate governance infrastructure often provides answers to the most common questions for investors, such as management effectiveness, corporate transparency, executive accountability, and the ability of shareholders to participate in company decisions," Aguilar said.

According to Aguilar, investors should evaluate corporate governance because a commitment to governance can help a company better understand potential and emerging risks, while also promoting effective performance by senior management. In contrast, he said, a weak governance structure can create incentives for managerial misbehavior at the expense of shareholders and other stakeholders.

Management Engagement

Saying pension funds and shareholders have an obligation to interact with company management, Aguilar said fund managers should evaluate the willingness of senior management to engage with shareholders, as well as the effectiveness of those discussions.

He said shareholder engagement can take several forms, including informal conversations with managers or directors, voting shares, submitting proposals to annual meetings, and participating in online forums some companies have established to promote shareholder communication.

"I believe good corporate governance starts with communication and transparency, and I encourage you to explore these kinds of forums with your portfolio companies," Aguilar said.

Aligning Executive Compensation

Another key consideration Aguilar said pension fund investors should evaluate is the alignment between executive compensation and corporate performance.

Citing "unprecedented growth" in executive pay and a widening gap between the C-suite and rank-and-file employees, Aguilar said large investors should monitor compensation practices and trends, and make sure corporate performance reflects the organization's compensation spending.

As with ineffective governance, he said, excessive compensation can alter management priorities and encourage the pursuit of short-term goals that may not be in the longer-term interests of the company or its shareholders.

Aguilar suggested the early results of non-binding shareholder advisory votes to approve executive compensation mandated under the Dodd-Frank Act are encouraging companies to align pay and performance more closely.

"Experience demonstrates corporate boards pay close attention to the voting results, and that they will seek to avoid “no” votes greater than 25-30 percent," Aguilar said. "Early signs suggest that some companies have reacted positively to the say-on-pay regime, and they have begun to re-evaluate compensation packages when pay outstrips performance."

Financial Reporting

Aguilar said the importance of accurate and reliable financial information in evaluating a company’s business outlook and management performance means investors need to pay attention to companies' financial reporting and internal control frameworks. He said pension funds and managers should evaluate the role of corporate directors in companies’ financial reporting, as well as whether the internal controls framework includes engaged audit committees, strong company policies, and verification from independent outside auditors.

"When all is said and done, in order for shareholders to have confidence in a company’s financial information, however, shareholders first need to have confidence in the board’s corporate governance oversight of the company’s financial reporting process," Aguilar said.

Boardroom Diversity

Pointing to studies indicating a correlation between diverse viewpoints in the boardroom and favorable shareholder value, Aguilar said investors should consider the makeup of boards.

He cited a 2012 study by the Alliance for Board Diversity that said women and minorities held 30 percent of board seats among Fortune 100 companies, and white men accounted for nearly three quarters of Fortune 500 board seats.

"As you exercise your fiduciary duties and obligations as pension fund trustees and asset managers, you should pay close attention to the importance of diversity in the boardroom and how it could impact the company’s bottom line," Aguilar said. "Your voices can make a difference -- and you should not hesitate in making them heard."