fiduciary duty | Pension360

Shareholder Engagement Produces Few Results, Says Activist Investor

Shelley Alpern, Director of Social Research & Advocacy at Clean Yield Asset Management, penned a piece on Monday weighing in on fossil fuel advocacy among institutional investors.

Most institutional investors have declined calls to divest from fossil fuel assets, citing their fiduciary duties as a major reason.

Instead, many have opted to use their clout as major shareholders to actively engage with companies.

But Alpern is skeptical of this tactic.

Alpern writes:

Institutional investors and asset owners owe it to themselves to understand when engagement works and when it doesn’t.

On the whole, shareholder engagement has an admirable track record. Its practitioners can take credit for many achievements: increased disclosure of corporate political spending; reduced waste, pollution and water usage; greening supply chains; broad adoption of inclusive nondiscrimination policies; and greater diversity on corporate boards. Not to mention the anti-apartheid campaigns of the 1980s.

Engagement succeeds when we can make a persuasive case that change will enhance shareholder value, reduce business or reputation risk, or both. Ethical imperatives rarely carry the day on their own.

Engagement will fail when a company with flawed policies or practices perceives them to be unalterable. As engagement with tobacco companies demonstrated, it also will not work when the goal is to change the core business model of a company.

She then looks at the track record of shareholder engagement with fossil fuel companies:

It’s been 23 years since the first climate change proposal was filed at a fossil fuel company. Using conservative estimates based on records kept by the Interfaith Center on Corporate Responsibility, at least 150 such proposals have been filed at fossil fuel companies since, and at least 650 climate proposals and dialogues on climate change have taken place at non-fossil fuel companies.

Space limitations preclude a detailed inquiry into these engagements, so let’s take a snapshot look at the most recent efforts and where things stand as of right now.

In late 2013, 77 institutional investors with more than $3 trillion in assets called on 45 companies to assess the potential for operational assets to lose value if carbon regulations become stricter and if competition from renewables takes market share.

Most coal and electric power companies didn’t provide the written responses requested. Most oil and gas companies did respond, but none acknowledged the existential threat to their activities or the need to scale them back. As former SEC Commissioner Bevis Longstreth observed, ExxonMobil not only denied that any of its reserves could become stranded, but also stated that it is “confident that future reserves, which it intends to discover and develop in quantities at least equal to current proved reserves, will also be unrestricted by government action.” With this report, Longstreth concluded, “ExxonMobil has thrown down the gauntlet after slapping it hard across the collective face of humanity.”

Two successive waves of “carbon asset risk” shareholder proposals followed this initiative, but have done nothing to budge the denialist positions held by their targets.

Read the entire piece here.

Photo by penagate via Flickr CC

Sustainable Investing Experts Weigh In On Fossil Fuel Divestment; Is Engagement A Better Strategy?

Different pension funds have different opinions on how climate change should affect investment strategy.

Some, like Norway’s largest pension, are willing to divest from certain fossil fuels entirely.

Others, like CalPERS, prefer to use their leverage as major shareholders to engage with companies rather than divest. Many others cite their fiduciary duties to pensioners as a reason they can’t divest from fossil fuels.

What do sustainable investing experts have to say? The Financial Times talked to them:

“The idea that shaming an industry will somehow reduce greenhouse gas emissions is not correct,” says Jonathan Naimon, managing director of Light Green Advisors, a New York asset management firm that specialises in environmental sustainability investing. “It isn’t like divestors are bringing any solutions to the table.”

“It’s actually projects and technologies that reduce emissions and the people developing them are in energy supply companies as well as energy-using companies,” he adds.

[…]

But Bill McKibben, the US environmental activist and writer who co-founded the 350.org climate campaign group spearheading the divestment push, says engagement strategies only suited some companies.

“If we have a problem with Apple paying Chinese workers bad wages you don’t need to throw away your iPhone and boycott Apple stock. You need to put pressure on them so they pay people better and the price of an iPhone goes up a dollar and everyone’s happy,” he says.

But he argues fossil fuel extraction companies are a very different case because their value is so dependent on their reserves of oil, gas and coal. “There’s no way that engagement can persuade them to get out of this business as long as it remains a profitable business,” he says

“The idea that anyone else is going to merrily persuade Chevron or BP that they want to be in the renewables business or something is nuts,” he says. He argues this would only happen with government pressure and that in turn would require the dilution of energy companies’ political power by efforts such as the divestment movement.

[…]

Carbon Tracker itself does not recommend a pure divestment strategy.

“We’re not advocating blanket divestment,” said Anthony Hobley, the group’s chief executive. “We think both engagement and divestment together will achieve more. The sum is greater than the parts because either alone isn’t going to achieve the ultimate objective of a climate-secure energy system.”

What does an oil executive think about fossil fuel divestment? Click here to read his take.

Photo by Paul Falardeau via Flickr CC License

Chicago Treasurer Considers Using Pension Money To Make Direct Investments in Local Black Communities

Newly appointed Chicago Treasurer Kurt Summers last month announced his plans to invest portions of the city’s pension money locally.

Last week, he met with some local business owners and residents and talked further about his ideas, which include making direct investments in Chicago’s predominately black neighborhoods.

Heard by Progress Illinois:

Summers told the crowd that his office manages a combined $50 billion in investments as well as employee pension funds and retirement plans. He said he would like to see some of that money invested in neighborhoods like Bronzeville.

“I don’t view a neighborhood investment strategy as a risky strategy,” said Summers, a product of Bronzeville. “I don’t view that as any more risky than investing in Korea’s debt, which we do, or investing in a cement company in Mexico. I don’t believe investing in Bronzeville is any riskier than that.”

In fact, investing in neighborhoods makes good business sense, he said. It would boost the local economy, create jobs and a stronger tax base from new businesses and the entrepreneurs those investments would generate, Summers pointed out.

To invest in neighborhoods, changes need to be made to the city’s investment policies. Currently, Summers said, there is no mandate to invest pension fund money back into the city, even though cities in other states like New York, California and Florida already do so.

“City Council gives me an investment policy and parameters that I can invest with,” he said. “I likely will be proposing a new one to allow me to do some of the other things I want to do like invest in this community, which it doesn’t have a mandate for today.”

The plan doesn’t come without controversy. As a pension trustee, Summers has a fiduciary duty to make the city’s pension funds as healthy as possible. That means maximizing investment returns – a concept that may or may not square with local economic development.

Pension Advisory Board: Divesting From Fossil Fuels Will Harm Future Returns

There have been calls from many corners in recent months and years for pension funds and other institutional investors to begin divesting from fossil fuel-based investments.

But not many institutional investors have heeded that call, choosing instead to use their sway as major shareholders to work with companies.

One of the largest asset holders in the world is taking a similar approach. The board of the $857.1 billion Norway Pension Fund Global has told the fund that divesting from fossil fuels would be an unwise financial decision that would reduce returns.

Will Pension Funds Have to Foot Bill For PE Firms in Collusion Settlement?

In September, seven investment firms ended a years-long lawsuit by agreeing to a $590 million settlement with corporate shareholders who were accusing the firms of colluding to keep prices down during the “buyout boom”.

But for pension funds, the ramifications of the settlement are just beginning as they wonder how the costs of the settlement will be divided among the investment firms and their limited partners.

From the Wall Street Journal:

The California State Teachers’ Retirement System is in ongoing discussions with private equity firms involved in a collusion case about how the costs of the settlements will be shared with limited partners, said Christopher J. Ailman, the pension system’s chief investment officer.

At the center of these discussions is where the responsibility for making the settlement payments lies–in the funds from which the firms made the investments or the firms themselves–and if both are responsible, how the payments and related legal fees should be split.

“That’s still being discussed,” said Mr. Ailman. “Different firms are taking different tacks.”

[…]

Mr. Ailman called the suit “frustrating” and blamed the case on the practice of frivolous lawsuits being made against corporate acquirers.

“It’s disappointing that there are still lawyers chasing after these funds,” said Mr. Ailman, adding that the collusion suit, “in particular, is frustrating because we think it’s without merit.”

Mr. Ailman said that in general, fund documents stipulate clearly that any legal expenses related to fund investments should be covered by the fund. But that shouldn’t entirely absolve the private equity firm that manages the fund because as the general partner, the firm has a fiduciary duty toward its investors.

“I always say to my GPs that ‘What’s written there is the bottom-line agreement,’” said Mr. Ailman. “‘We [also] shook hands and have an intellectual agreement. You are my agent. You are the fiduciary to us. We invest together.’”

More background on the settlement, from the WSJ:

The lawsuit, filed by certain shareholders of companies that were acquired during last decade’s buyout boom, alleged that the firms-Blackstone Group, Kohlberg Kravis Roberts & Co., TPG Capital, Carlyle Group, Bain Capital, Goldman Sachs Group Inc. and Silver Lake-colluded to keep prices down while bidding for companies during that time frame.

By early September, all seven firms had settled with the plaintiffs, ending a seven-year litigation process and making the firms liable for a total of $590.5 million in settlement payments.

All the firms in the lawsuit denied wrongdoing and said they decided to settle the case to avoid further distraction and litigation expenses.

CalPERS Board Asks Private Equity Consultants: Are “Investors Having Their Pockets Picked” By Evergreen Fees?

http://youtu.be/gn7XSqZZanU

Over at Naked Capitalism, Yves Smith has posted an extensive analysis of the October 13^th meeting of CalPERS’ investment committee.

At the meeting, the committee heard presentations from three consultants: Albourne America, Meketa Investment Group, Pension Consulting Alliance.

The meeting gets interesting when one committee member asks the consultants about “evergreen fees”.

[The exchange begins at the 34:30 mark in the above video].

From Naked Capitalism:

The board is presented with three candidates screened by CalPERS staff. Two, Meketa Investment Group and Pension Consulting Alliance, are established CalPERS advisors. There’s one newbie candidate, Albourne America. Each contender makes a presentation and then the board gets a grand total of 20 minutes for questions and answers for each of them. This isn’t a format for getting serious.

To make a bad situation worse, most of the questions were at best softballs. For instance, Dana Hollinger asked what the consultants thought about the level of risk CalPERS was taking in private equity program. Priya Mathur asked if the advisors could do an adequate job evaluating foreign managers with no foreign offices. Michael Bilbrey asked how the consultants kept from overreacting to positive or negative market conditions.

One board member, however, did manage to put the consultants on the spot. The answers were revealing, and not in a good way. The question came from J.J. Jelincic, where he asks about a particular type of abusive fee, an evergreen fee.

Evergreen fees occur when the general partner makes its portfolio companies, who are in no position to say no, sign consulting agreements that require the companies to pay fees to the general partners. It’s bad enough that those consulting fees, which in industry parlance are called monitoring fees, seldom bear any resemblance to services actually rendered. Over the years, limited partners have wised up a bit and now require a big portion of those fees, typically 80%, to be rebated against the management fees charged by the general partners.

So where do these evergreen fees come in? Gretchen Morgenson flagged an example of this practice in a May article. The general partner makes the hapless portfolio company sign a consulting agreement, say for ten or twelve years. The company is sold out of the fund before that. But the fees continue to be paid to the general partner after the exit. Clearly, the purchase price, and hence the proceeds to the fund, will have been reduced by the amount of those ongoing fees, to the detriment of the fund’s investors. And with the company no longer in the fund, it is almost certain to be no longer subject to the fee rebates to the limited partners.

[…]

Jelincic describes the how the response said that the fees are shared only if the fund has not fully exited its investment in the portfolio company. Jelincic asks if that’s an example of an evergreen fee, and if so, what CalPERS should do about it.

Naked Capitalism on the consultants’ responses:

The response from Albourne is superficially the best, but substantively is actually the most troubling. The first consultant responds enthusiastically, stating that CalPERS is in position to stop this sort of practice by virtue of having a “big stick” as the SEC does. He says that other funds aren’t able to contest these practices.

The disturbing part is where he claims his firm was aware of these practices years ago by virtue of doing what they call back office audits. That sounds implausible, since the rights of the limited partners to examine books and records extends only to the fund itself not to the general partner or the portfolio companies (mind you, some smaller or newer funds might consent). But the flow of the fees and expenses that the limited partners don’t know about go directly from the portfolio company to the general partner and do not pass through the fund. How does Albourne have any right to see that?

But if they somehow really did have that information, the implication is even worse. It means they were complicit in the general partners’ abuses. If they really did know this sort of thing and remained silent, whose interest were they serving? It looks as if they violated their fiduciary duty to their clients.

The younger Albourne staffer claimed a lot of the fees were disclosed in footnotes and that most limited partners have been too thinly staffed or inattentive to catch them. That amounts to a defense of the general partners and if Albourne really did know about these fees, Albourne’s inaction.

However, The SEC doesn’t agree with that view and they have the right to do much deeper probes than Albourne does. From SEC exam chief Drew Bowden’s May speech:

[A]dvisers bill their funds separately for various back-office functions that have traditionally been included as a service provided in exchange for the management fee, including compliance, legal, and accounting — without proper disclosure that these costs are being shifted to investors.

For these fees to be properly disclosed, they had to have been set forth in the limited partnership agreement or the subscription docs for the limited partners, meaning before the investment was made, to have gotten proper notice. Go look at any of the dozen limited partnership agreements we have published. You don’t see footnotes, much the less other nitty gritty disclosure of exactly who pays for what. Not very clear disclosures after the limited partners are committed to the funds, to the extent some general partners provide them, do not constitute proper notice and consent.

Meketa was clearly not prepared to field Jelincic’s question and waffled. They effectively said they thought the fees were generally permissible but more transparency was needed. They threw it back on CalPERS to be more aggressive, particularly on customized accounts, and urged them work with other large limited partners.

Pension Consulting Alliance was a tad less deer-in-the-headlights than Meketa but in terms of substance, like Albourne, made some damning remarks. The consultant acted if evergreen fees might be offset, which simply suggests he is ignorant of the nature of this ruse. He said general partners are looking to do something about it, implying they were intending to get rid of them, but said compliance was inconsistent. Huh? If the funds intend to stop the practice, why is compliance an issue? This is simply incoherent, unless you recognize that what he is actually describing is unresolved wrangling, not any sort of agreement between limited and general partners that charge these fees on this matter. He also said he would recommend against being in funds that have evergreen fees. But there was no evidence he had planned to be inquisitive about them before the question was asked.

You’ll notice that all of the answers treat the only outcome as having CalPERS, perhaps in concert with other investors, be more bloody-minded about evergreen and other dubious fees. You’ll notice no one said, “Yes, you should tell the SEC this stinks. You were duped. You should encourage the SEC to fine general partners who engaged in this practice and encourage the SEC to have those fees disgorged. That would to put an end to this. Better yet, tell the general partners you’ll do that if they don’t stop charging those fees and make restitution to you. That’s the fastest way to put a stop to this and get the most for your beneficiaries.” Two of the three respondents said CalPERS is in a position to play hardball, so why not take that point of view to its logical conclusion?

But this is what passes for best-of-breed due diligence and supervision in public pension land. Imagine what goes on at, say, a municipal pension fund.

Read the entire Naked Capitalism post, which features more analysis, here.