Stewardship Report - Spring 2016
Engaging with clients
As major shareholders in certain companies we believe we have a duty to exercise our rights of stewardship on behalf of clients. We also view it as an opportunity to assist in the creation of value by companies for our clients. In this respect we work with our sister company, Quilter Cheviot within the Old Mutual Wealth division and related companies in the Old Mutual Group generally. The examples set out in this document illustrate how we engage directly with companies in the interests of our stakeholders.
Working with other shareholders
We have a long track-record of working with other shareholders. We are members of the recently established Investor Forum (www.investorforum.org.uk/), the Investment Association (www.theinvestmentassociation.org/) and the UK Corporate Governance Forum. Contact with these bodies might be, very simply, in the form of an email or telephone call over some aspect of governance at a company. In other cases, it might (rarely) extend to filing a resolution at a company’s annual general meeting. Of the examples of corporate engagement noted below, at least half involved discussions and/or working with other shareholders at some point.
These contacts between shareholders will not be permitted to compromise the interests or privacy of our clients. The nature of diversified shareholdings, however, requires groups of shareholders to act together in the common interests of all our clients.
Home Retail and Argos - ‘Transformation plan’ support
Concentrated engagement with Home Retail, listed in 2006 and comprising Argos and Homebase, began in 2010/11. The group Chief Executive Officer (CEO) oversaw both divisions. We viewed this as troublesome given the time commitment required in running both Homebase and Argos, the difficulties Argos encountered adapting to the internet and an impression that Homebase, while not loss-making, was underperforming. We actively encouraged the non-executive directors on the board, as opposed to the CEO, to head-up the search for a new head of Argos.
John Walden, subsequently appointed the new head of Argos, promptly introduced a ‘transformation plan’. The plan required investment, which we were happy to support, given the compelling vision and planning for the new method of operation.
Key proposals of the plan were:
- The creation of a hub-and-spoke delivery model to provide same day availability for many of the products available at Argos
- A move towards internet ordering and away from the traditional paper catalogues
- The inclusion of higher value products, thereby extending the Argos customer base to include, for the first time, higher end customers
Concurrent with discussions over the company strategy and plan, there was ongoing engagement with the board including:
- Discussing the succession of the chair and appointment of John Coombe, then senior independent director, as chair of Home Retail
- Succession planning at Homebase
- Membership of the board and executive team
We also challenged a small investment the company made in China, given the majority of operations were UK focused. Would the company not make better use of its capital by buying back shares and providing a near instant, substantial return on capital compared with the risks and uncertainties of investing in China? While the question of share buybacks was deemed inappropriate, due to the extent of pension fund liabilities, the company agreed to exit China.
We remained supportive of the strategic vision of the transformation plan throughout. The company had, in our view, introduced a new method of operation for the UK high street, and while it would struggle to compete with Amazon on price, the convenience would provide a viable retail business for the future.
In January 2016, the company received a takeover approach from Sainsbury’s. The company also sold Homebase for what we, and the market, considered a good price, thereby allowing it to concentrate on Argos. Sainsbury’s subsequently confirmed an intention to bid and indicated a price. Given delays to the transformation plan, the sale of Homebase, the possibilities for Argos within Sainsbury’s and the continuing transformation of the retail environment, we viewed a sale of Home Retail as being in the interests of shareholders.
Ladbrokes - Company strategy discussions
Having had a long history of engagement with Ladbrokes and an active role in discussions on the proposed merger with Gala Coral, we recently met the new chair of Ladbrokes to discuss the business.
One of the items discussed was the need to ensure that the business is well-placed in case the merger does not proceed. The merger is subject to evaluation by the competition authorities. The assumption amongst executives is that the merger will go ahead but the risk is that it won’t. The board is aware of the consequences.
We also discussed the public perception of the gambling industry and the steps the company has taken, and needs to take, regarding responsible gambling. We emphasised the need for an ongoing proactive and responsible playing field, an area the company needs to continue working on irrespective of a merger.
GlaxoSmithKline (GSK) - Responsible investing
We recently met Sir Philip Hampton, chair of GlaxoSmithKline, to discuss the opportunities for the business, the strategy and the continuing impact of the 2014 transaction with Novartis.In particular, we discussed the effect on the GSK balance sheet should GSK be required to purchase, at then market value, the interests of Novartis in their consumer healthcare joint venture. We also discussed management progression: the current CEO, who has been in the role since 2008, is involved in planning for his succession and we do not see that the decision needs to be, or will be, rushed.
Greater female representation
On a separate issue we also met with Sir Philip Hampton in his capacity as chair of a newly formed independent review body on increasing the representation of women in executive positions. This was set up following the apparent lack of progress in the UK. We agree this is a problem, partly because it ignores the pool of available talent, but it also needs to be addressed as a matter of fairness. We communicated our support for the review and will participate in any consultation that may be carried out.
Merlin Entertainment - Safety issues
The circumstances of the tragic accident in June 2015 at Alton Towers, which resulted in severe injury to a number of visitors on a roller coaster ride, were discussed at length with the company’s chair. We were particularly interested in the steps that the company is taking to avoid a repeat of the accident.
It has subsequently been announced that the company will face prosecution regarding the June 2015 accident. The company has admitted liability for the accident: an employee made a mistake and the company did not have adequate systems in place to avoid it, or to avoid the subsequent consequences.
On a different note, we observed the degree of female representation on the board, where the company is comfortably ahead of UK practice.
Drax - Company strategy issues
Discussions with executives and the company’s chair centred on the company’s relationship with the government, and the uncertain regime for pricing UK electricity. Drax is converting its boilers from coal to biomass. In 2015, the government unexpectedly withdrew subsidies for investing in biomass, undermining the company’s valuation.
We continue to believe that biomass burning should be a part of the UK’s generation capacity. It is a form of generation which significantly reduces greenhouse gas emissions relative to other power generation methods based on fossil fuels. Over the longer term, the avoidance of the need to use electricity and/or use other forms of renewable power for generation will be important but, until such infrastructure and behavioural changes are in place, Drax is an important part of both the UK’s generating capacity and part of the transition towards a lower carbon economy.
Anglo American - Climate change
Our attention was drawn to a campaign to collect support from holders of 5% of the company’s shares with the aim of including a resolution to promote greater carbon emission disclosure.
The company’s shareholder base is widely dispersed so it proved a challenge for the organisers to reach the 5% threshold.
We do not hold Anglo American, but our sister company in South Africa does. Initially, we contacted a non-executive director at the company, with whom we had previously engaged, to argue that it would be in the interests of Anglo American to voluntarily support the resolution. Our sister company processed an instruction to the company which, together with the votes already accrued, allowed those proposing the resolution to reach the 5% threshold. OMGI management also communicated via a written letter that it would be an easy win for Anglo American to support the resolution. At a time of calls for greater transparency from companies we suggested a positive step towards emissions disclosure would be well received on a number of levels.
We received a reply from the director a few days later, stating he would make enquiries with Anglo American. The next day, we learnt that the company had agreed to add the resolution on carbon disclosure to the agenda for its next annual general meeting.
We were pleased to have played a role in that outcome and expect that the resolutions will be heavily supported by shareholders.
For reasons of confidentiality, some company names in the section below have been withheld.
Company A - Succession issues
We started to engage with a UK retailer in 2013, following an unexpected profit warning.
Our focus initially was on the immediate issues surrounding the warning, part of which was related to the company’s slow response to the opportunities and threats posed by the internet.
A series of meetings were held with the executives of the company, the chair and the senior independent director to assess, and potentially challenge, the existing strategy. The meetings provided a greater understanding of the business, but also gave us the opportunity to assess and challenge strategy implementation. This included the role of the executives at the company.
The company stuck rigidly to its agreed two-year turnaround plan which resulted in a positive recent trading statement and improved online offering covering the Christmas 2015 period.
A succession plan covering the tenures of both the chair and the CEO was also implemented. Subsequent to constructive discussions both individuals announced their retirements.
Company B - Examining use of cash
We have engaged with this company over the last 18 months on the use of the significant amount of cash it generates.
The company has performed well, both operationally and in terms of share price, and is continuing to reinvest in its business. While we regard the reinvestment as a positive step we believe i) the threshold for investing must be maintained at suitable levels and ii) the company has excess cash it can return to shareholders, preferably in the form of dividends.
Recently, the company announced the appointment of a new chair but has also increased the distribution of cash to shareholders. We will continue to engage with the company on cash allocation and the need for further business expansion to generate sustainable returns.
Company C - Progress and compromise
The company conducted a pay review, including an increase of the pay available to executives which, due to the work of the non-executives over the last two years, has considerably improved governance. The pay arrangements are not perfect – the increases appear large but remain consistent with UK companies of equivalent size. However, given the company’s industry sector, the mid-Atlantic nature of the company, as well as the considerable and ongoing improvements in governance, we should support the proposals.
Company D - Sustainable investing
We met the sustainability and social responsibility team of a building company where discussions included workforce health and safety, the company’s engagement with stakeholders; and sustainability across the product life cycle of the buildings built by the company. On product life cycles, the company is keen to do more but since it is not often involved in the design of buildings, it is reliant on customers being more willing to incorporate ideas into new and refurbished buildings and potentially being willing to accept higher up-front costs.
Company E - Ongoing governance
We have been engaging with a company on strategy, performance, succession and workforce safety, amongst other things, for several years.
More recently, ongoing questions regarding the strategy and performance of the company led to the recently established Investor Forum engaging with the company, a process in which we were also involved. The case was not one which merited a confrontational engagement (such as forcing changes of executives) and the company continued to engage with ourselves and other shareholders.
Other companies where we engaged with the board included:
- A company in which the founders continue to play a significant role and where there will be a continuing transition to a more conventional management operation over time
- A fast growing retailer.Discussions focused on company strategy and management
- A company where we oversaw the recent appointment of a director. The individual is intended, by the board, to become senior independent director. The meeting provided an opportunity to discuss the strategy of the company and its succession planning process
- A company which has undergone a transformation in recent years, as product ranges have been changed to adapt more with modern lifestyles
We have met several chairs and/or senior independent directors of a number of other companies, where subjects discussed have included board succession planning and processes, strategy, and in some instances, the company’s role within the economy and its relationship with the government. We also met a company which was failing to plan for its lack of capital efficiency nor, we felt, was it properly addressing its failure in a core business function.
Marks & Spencer - Compensation issues
While we do not hold Marks & Spencer in the funds, following Marc Bolland’s retirement as chief executive on 1 April 2016, we noted that he would continue to be paid for up to a year from 7 January 2016.
We wonder how many other roles in the economy, particularly for those whose annual earnings are a little closer to the UK average of, approximately £26,000, also receive the benefit of up to a year’s additional earnings following retirement.
One of the key roles for any board is succession planning. In this case, Mr Bolland’s successor is an internal appointment from within M&S. Therefore, the need for a predecessor to remain places doubt either on the board’s process to select a new CEO, or that Mr Bolland’s retirement isn’t quite as voluntary as indicated.
If Mr Bolland is receiving compensation for his removal as CEO, it again highlights an awkward aspect of senior executive pay: that the sums available for both success and failure vastly outweigh that of the majority of the population. If Mr Bolland has been removed from his role, it will be because a better successor is available. In that case, is a year’s salary from the commencement of the notice period – the sum of approximately £975,000 – justified?
The proof of the pudding
Over the course of five months, in addition to our regular, post results one-to-one meetings, we have engaged with directors of 23 companies. As noted above, we believe we have helped the companies achieve objectives and policies that are in the long-term interests of our clients.
A brief word on discretion
Old Mutual Global Investors manages money on behalf of its clients with the aim of generating returns to meet their financial aspirations. As part of that process, we regard using our powers as shareholders, particularly the ability to engage with companies on a range of issues, as a key tool for relevant equity funds. We are stewards of our clients’ interests and it is appropriate we report on that role. Our report is also consistent with fulfilling our obligations under the UK Stewardship Code 2012.
In these reports, it is generally our practice to remove identification of the companies with which we are engaging. Experience has taught us that undertaking discussions which may be sensitive, or delicate, in the glare of publicity is damaging. Publicity can cause a defensive reaction and entrenches views. We prefer to conduct a sensible dialogue with companies where, in the event of a change of policy, this can be adopted and not seen as a management climb down. It is part of the need to build an element of trust, permitting clear and occasionally frank communication and challenge.
We control a wide range of equity interests. These range from short-term holdings, in which case it is not appropriate to vote, to derivatives (which cannot be voted on) to funds where the focus is on trading. Where our stewardship can be most effective, and where the bulk of our stewardship work will occur, is in long-only funds where the emphasis is on understanding and building a long-term investment and relationship with the company.
Our new voting policy, amongst other things, addresses new areas of social responsibility.
The current policy is at http://www.omglobalinvestors.com/corporate/about-omgi/governance/
Our statement of compliance with the UK Stewardship Code is at https://www.omglobalinvestors.com/Global/Policies/UK-Stewardship-Code-Statement.pdf.
Our voting records are available at http://www.omglobalinvestors.com/
Head of UK Stewardship and Governance
Old Mutual Global Investors