Proceedings of the Standing Senate Committee on
Banking, Trade and
Commerce
Issue 17 - Evidence - May 6, 1998
OTTAWA, Wednesday, May 6, 1998
The Standing Senate Committee on Banking, Trade and Commerce met this day at 6:10 p.m. to examine the state of the financial system in Canada (The Role of Institutional Investors).
Senator Michael Kirby (Chairman) in the Chair.
[English]
The Chairman: Senators, our first witness, Mr. William Dimma, has testified before us once or twice before. Many of you know Mr. Dimma's background as an academic and CEO of various companies. It would be fair to say that he is now a professional director. He is the director of a number of major Canadian corporations.
Thank you for agreeing to appear tonight, Mr. Dimma. Please proceed.
Mr. William Dimma, Director of Several Companies: Mr. Chairman, with your permission, I should like to speak for 10 to 15 minutes about the growing importance and, I might add, muscle-flexing of institutional investors with regard to companies in which they hold shares.
My interest in this topic arises out of 32 years of experience sitting on boards of directors. I currently sit on 14 boards, which is far too many for a person at my stage of life. I chair five of those and a further four not-for-profit boards.
Over my career of nearly 50 years and to a lesser degree as an educator, I have sat on a total of 46 corporate boards and a further 26 not-for-profit boards. Of those 46, 16 related to my employment, that is, they went with the territory; and the other 30 involved simply a directorship relationship.
Finally, I do write on corporate governance, on various facets of the role of a director, and on quite a wide range of related topics of contemporary interest, such as CEO succession, director compensation, senior executive compensation, the role of stock options, and so on. One tongue-in-cheek article of which I am rather fond is entitled, "The Director from Hell," but that is a topic for another day.
Before this body, I know I do not need to go into detail but I would like to distinguish briefly among various classes of investors so as better to assess this matter of growing influence on boards and management. My comments will cover more of a bird's eye view, rather than going into the minutiae, but I do have some views and I am grateful for the opportunity to express them.
It is hardly a secret that the ownership of North American corporations is increasingly concentrated through institutional investors. Over three-quarters of S&P 500 companies are now held by institutions, and that is a massive trend which has been building over the past couple of decades. This is happening in Canada as well, but it is complicated by another phenomenon which is the controlling shareholder, often a foreign parent. This is far less common on the NYSE or the S&P 500 than it is on the TSE 300, since about one-third of the ownership of the TSE 300 is held by control blocks; and the Canadian percentage of public companies held by institutional investors is probably three-quarters of two-thirds, or closer to 50 per cent.
The two largest categories by far of institutional investment are pension funds and mutual funds. The former, while overseen by trustees, are managed by professionals, sometimes in-house but more commonly externally.
Investors of the large public pension funds, which constitute collective huge pools of capital, tend largely to be managed internally. That would include funds like the Caisse, OMERS, the Ontario Teachers plan, the Ontario Hospital plan.
Most corporate pension funds are managed externally. The exception is usually a firm with pensions in the financial services industry or one part of that industry -- which is getting to be one industry as opposed to several. For obvious reasons, people and companies in that industry tend to manage internally. You do not want to go to your competitor, to someone who is in the same business as you, for management services.
A few of the very largest corporate pension funds are also managed internally, in whole or in part, but only the very largest.
The external investment managers of corporate pension funds tend to defer to their clients on governance issues affecting the companies in which they invest. Clients also tend to be passive, with some exceptions, and support generally the position put forward by the company in which the pension fund is a shareholder. I guess that is a commercial variant of the golden rule: Do unto others as you would have them do unto you or, in modern parlance, you might be next.
With public pension funds, and especially with the larger ones, the level of proactivity is both high and rising. The Ontario Teachers plan takes a lively interest in and often a strong position on a wide range of contemporary governance and other corporate issues. On compensation matters alone -- and I just pick that out because compensation is a very current topic -- OTP management advocates quite strongly that corporate executives buy with their own money shares in their company; that the balance of their compensation be tilted away from fixed salary and towards variable compensation and, within variable, more toward stock grants and options.
They take a similar position with directors who are admonished to buy and hold shares with their own money and to invest in shares valued at several times the amount of their annual retainer. That number can be as high as seven. There are some companies and some public advocates of the position that a director should hold as much as seven times the value of his or her annual retainer.
Similarly, they advocate that directors should be paid more in shares than in cash, and even to the extent -- and there are some examples of this; they are not yet frequent but they are there -- of foregoing cash compensation altogether and taking director compensation entirely in shares.
I should like to say a word or two about mutual funds in which, as we all know, prodigious amounts of money have been invested in the past 10 years. Pension funds themselves often invest in mutual funds, usually in segregated form. On the whole, and I know I am generalizing, mutual fund managers are more passive than public pension fund managers and tend to vote with the management of corporations in which they own stock.
There are, however, some notable exceptions, more in the U.S. than in this country, but even here there are one or two examples where a few high-profile mutual fund managers speak out forcefully. It does not take a lot of genius to predict that this trend will intensify.
The old approach -- namely, that if you disagreed with some governance issue, you would simply sell the shares -- is no longer valid.
To sum up, I think it is clear that the most aggressive and outspoken protagonists for shareholder rights are the internal managers of public pension plans and the managers of mutual funds, but a few financial advisors and brokers and even individual investors sometimes take to the barricades to promote their views. Of course, this is illustrated in the well-publicized case of Mr. Yves Michaud who, after buying a few shares in various of Canada's chartered banks, has been successful in getting several controversial governance issues on to shareholder ballots in each of the past two years. Although all of his resolutions have to date been defeated, Mr. Michaud and his supporters have attracted a respectable level of support and a lot of media attention for some important governance questions. They include things like separating the role of the board chairman and the CEO which, aside from the chartered banks' views, seems to be acknowledged as a step in the right direction; limiting CEO compensation to some multiple of the pay of people at the bottom of the corporate totem pole; and keeping related parties off boards.
The pivotal question I want to raise, having tried in a few moments to set the background, is this: Assuming there is a trend to greater shareholder influence over a wider range of corporate governance issues -- and the trend is unmistakable -- is this a good thing or not? That is obviously one of the concerns of this committee.
From the perspective of society as a whole, as well as that of good corporate governance, my answer is an unambiguous yes, it is a good thing. However, there are, as usual, a couple of caveats. First, we should never lose sight of the fact that the institutional investor is an agent of the shareholder, a surrogate for the shareholder, but not the shareholder per se. The manager of a pension fund, of a mutual fund or of the wealth of a high-net-worth individual will almost always have the best interests of the shareholder in mind, but from time to time these interests will diverge. For example, there is obviously potential for conflict on the level of fees which shareholders pay to have their money managed. Marketing fees, distribution fees, management fees, transaction fees, all are paid by shareholders.
I have had some personal experience with this next issue twice in the past three years. Are we always certain that investment managers have done their homework and have reached the right conclusions in honestly representing shareholder interests on every issue? Let me give you an example. I have twice seen quite reasonable and benign shareholder rights plans attacked and, in one of the two cases, defeated, on the basis of what, at least in my view, was little more than whim or some generalized bias unsupported by fact.
I am talking here about what might be called vanilla plans, that is to say plans which sought not to entrench management. I am against those. I think any reasonable person except perhaps management is against those. These were merely plans which provided management with additional time beyond what is mandated by government regulations to find another buyer at a higher price.
Aside from these cavils, my only general concern about the growing power of shareholders when exercised through their agents is this: While the public good is for the most part served by these groups who set themselves up watchdogs over potential or actual abuses of corporate power, it does beg the question of who will watch the watchdogs? In other words, who will ensure that one side of potential abuse is not replaced by another?
Some will argue that a second line of defence is best provided at some level of government. I say to that perhaps. However, that runs counter to current trends to self-government, other things being equal, and certainly self-government in this area is something which many of us support on principle.
A more approach which does not go far enough is that of improved selection, orientation and ongoing training of the directors or trustees of pension plans and especially of public sector pension plans.
You might ask me why I make that distinction between a private pension plan and a public pension plan. Sometimes there is no distinction but sometimes there is some. In the private sector it is common for a committee of the board of directors to provide a comprehensive, ongoing overview of the companies' pension plans.
At present and in the recent past, the process for appointing directors to corporations with listed shares is generally thorough, some would say exhaustive. The outcome is experienced, savvied, well-trained individuals joining boards. There are exceptions; however, that is the norm.
This means that the overseeing of the pension plan is usually carried out satisfactorily. That may not have been as true a decade or two ago when the oft-cited cliché of the "old boys' network" and the "cozy club" approach flourished. However, there has been a sea change in the past two decades.
It is almost universally true today, when rigorous and demanding standards of governance are the norm, that you have a pretty good -- maybe better than pretty good -- overviewing of private sector pension plans. These corporations are motivated by dissatisfied shareholders, regulators, stock exchanges and informed observers.
Some public sector pension plans have not yet completed this transition from what might be called amateurism to professionalism. While many such plans are managed professionally, their boards are sometimes stocked with persons whose principal merit is that they are members and therefore beneficiaries of the company's pension plan and that they have been elected by their fellow employees. While this is laudably democratic, it does not always produce the quality of direction and oversight which is necessary in today's bewilderingly complex world.
Part of the answer may consist of better selected, better oriented and, on a continuing basis, better trained pension fund trustees. Certainly it is crucial and obvious that criticism of corporate performance by shareholders, their advisors and surrogates be informed, even-handed and far-sighted. This is far more likely if those overseeing pension plans are better selected and better trained.
How to get from here to there is not entirely clear, at least not to me. As usual, the devil is in the details. Certainly, more open scrutiny of the director selection and training process will help, as will more public attention paid to who sits on the boards of large public sector pension funds.
If you will pardon me for about one and a half minutes of philosophy, I often wonder if the licensing of pension funds and public companies in general has any merit. After all, accountants, lawyers, actuaries, even real estate agents are licensed. The question is whether there is yet, today, a sufficiently complete and well documented body of knowledge that would support and justify director licensing.
Twenty years ago, the answer would almost certainly have been in the negative. However, in recent years, much progress has been made. Courses to provide directors with an appropriate level of knowledge are commonplace. Tests to measure whether threshold standards are met could easily be developed out of those courses. In fact, courses for new or aspiring directors are being readied for use even as I speak, although not for licensing purposes.
I am familiar with a couple of individuals of very high competence who are readying correspondence courses that might take up to 18 months before the person would be qualified. That does not relate to licensing; it would just help the person to be a better director.
More specialized courses for more experienced directors are already offered in various formats by business schools, accounting and consulting firms and by the Institute of Corporate Directors of which I happen to be currently a director.
Licensing for directors is an idea whose time has probably not yet come in the Canadian setting. However, it may not be too far off, as the demands placed on directors increase in terms of both responsibilities and liabilities. Should that happen some day, I hasten to add my personal conviction that, once again, self-regulation is the preferable route to follow.
I conclude with an observation: The shareholder is the ultimate beneficiary of the careful overview and, where appropriate, criticism of the actions of corporations. Therefore, any informed individual or group who wishes to take on this role and whose objectives align closely though not perfectly with those of shareholders, is performing a useful service. I know that places a burr under a saddle or two, but, in my view, it should nevertheless be encouraged and welcomed.
The Chairman: Thank you, Mr. Dimma. As usual, you were your non-provocative self.
During the hearings of this committee to investigate corporate governance, Sir Graham Day appeared before us. His background is similar to yours in that he had been an academic and served on many boards, including chairing several. He, too, focused his entire presentation on the need to educate directors. He did not go as far as licensing, but he supported that view.
I understand your concerns about the directors of pension funds being concerned with essentially lay boards as opposed to professional boards. Representatives of OMERS appeared before us. Theirs is a vintage, classic lay board model. Other than the democratic and participation arguments, they also argued that their pension fund had performed extremely well relative to some others. I have not looked at the data, but let us take that as a fact for a moment.
How do we mount a counter-argument against the lay board, other than the fact that this is a professional job which obviously ought to be done by professionals? My question is this: Is there any evidence -- other than intuition and many of us share your intuition in this -- which says that lay boards do not perform as well as professional boards?
Mr. Dimma: I have not seen any systematic evidence on this point. OMERS, as we all know, is one of the largest public pension funds in the country, certainly in the top four or five and perhaps in the top two. It is better managed than many of them. They do have a lay board and results do matter and that does weaken the argument. However, there are some public pension funds that have not had that kind of performance. I am familiar with more than a couple. The old line about a rising tide lifting all boats also has some relevance here. It would be difficult not to have reasonable performance over the last six or seven years. I know there are people who think we are in a new era and that the market will never turn, but when it inevitably does turn, then the question of professionalism verse amateurism will become more relevant.
The Chairman: In other words, in good times, everything is okay?
Senator Tkachuk: I was interested in your comments about the influence of pension funds on the operations of a company. How does a large pension fund make its views known to the company itself?
Mr. Dimma: There is a better way and a "not so better" way. However, there is a danger to the better way. The better way is for a senior officer of the pension fund to come privately and quietly to the CEO, and perhaps to two or three of the senior people in the company, and express those views. The risk is that there is a liability question if management discloses information that is not available to the shareholders generally.
The "not so better" way -- this is found particularly south of the border, but not so much in this country -- is to go public and blast a certain practice, often in the context of a particular company but sometimes more generically. I am not sure that is a particularly effective way of dealing with the issue.
I prefer the first way. As long as the CEO and his people are very careful about not disclosing anything that would not be privy to informed shareholders more generally, that is the better way to go.
Senator Tkachuk: Do you think there is some danger in agents of shareholders -- a mutual fund or a pension fund that represents thousands of potential shareholders -- investing in a company and then actually becoming part of the management team?
Mr. Dimma: Are you talking about being co-opted?
Senator Tkachuk: Shareholders can make their views known at public shareholder meetings. If the manager of a pension fund is interested in his bonus at the end of the year, he might be interested in short-term gains rather than the interests of the shareholders at large. He may be a 30 per cent, a 10 per cent or a 5 per cent shareholder in Company X. This pension fund is putting pressure on the company to generate profits of an immediate nature that may not be for the good of the company in the long term, but it makes the pension fund manager look good when he sells out at the end of the year. As well, if his asset base looks a lot better, he may receive a bonus cheque. He is actually acting at cross-purposes for his own self-interest.
Mr. Dimma: That is an interesting and legitimate point. I am not so sure that the criticism in that situation rests so much with the pension fund managers as it does with the corporation. The pension corporation itself is pushing for short-term profits. The pension fund manager is measured by quartiles as well as by absolute measures, and absolute measures do count. If he is measured by quartiles, it is on too short a basis, and there are pressures in that direction.
At times, there is an informal, tacit understanding between large pension funds and management where a short-term perspective is taken. It happens that all the pressures are in that direction. I deplore that; yet in the world in which we live, I am not sure there is an alternative. It seems that everyone wants the next quarter to be both the first quartile and to be better than the quartile before.
Senator Tkachuk: This is an issue that the committee must examine.
If a person buys into a company, including a mutual fund or a pension fund, they have likely done their research. In other words, they are satisfied with the management. They like the strength of the company and their future plans. They like their strategic position in the market-place. If they do not like the company or its stock options and if they think the salary is out of line, they do not have to be there. They can be somewhere else. I am not sure that their influence would be of benefit to the other shareholders. In other words, I think everything should be public. If they are having a private lunch with the manager or the president and the CEO, and they are talking about things that may cause a problem for other shareholders -- in other words, if they are not happy with what management is saying -- this may cause them to dump all their stock. That would not be of beneficial interest to me as an individual shareholder.
Mr. Dimma: In responding, I am afraid I might confuse the issue.
One of the problems is it that shareholders, as a class, break down into many categories and many different time horizons with their investment objectives. They range all the way from those with an average time frame of about 48 hours, to someone who is 35 years old, looking to a successful career, and is in it for the long run, in other words, a theoretical apostle of Warren Buffett. In practice, such an investor would do a little short-term stuff as well, but a good deal of his strategy involves buying the company and holding it forever or as long as it continues to perform.
A diversity of shareholders gives the company and the pension plan quite a bit of leeway to operate in a shorter time perspective than perhaps would be preferred by a retiree.
Senator Kenny: You commented on compensation in shares for directors. We have all seen examples of this. Why do you think this form of compensation is not more popular? Would it be an inconvenience for you, sitting on 14 boards, if you were only compensated in shares? Would you prefer to have it that way?
Mr. Dimma: Speaking personally, I am on some boards where I take my compensation principally in shares. No, it would not bother me personally, but there are some arguments on both sides of the fence.
If we are talking options, the conventional argument against using options too generously with both directors and executives, but particularly with directors, is that you are not putting yourself in the same position as the shareholder. The shareholder has an upside if the price of the share goes up, and he has a downside if the price of the share goes down. An option has only an upside and no downside.
There is a counter-argument. If the option is an integral part of the compensation and the total compensation is competitive with the market-place, then if the option does not pay off, there is an opportunity cost and a benefit is missed. However, there is a very strong view in the private sector that options for directors should not be a central part of compensation.
Let us talk about stock grants where the company provides stock as part of the compensation package. I think that practice is growing. It is fairly common, but not as common in this country as in the U.S. There the argument is clear. You are in the same position as the shareholder, so the criticism that applies to options does not apply there.
Outright stock ownership, where the director goes out and buys stock with his own money because he is putting his money where his mouth is, is the best of all worlds. The downside is this: How homogenous do you want your board of directors to be? If you want it to be composed of well-off, retired or active corporate executives, then the use of generous stock options, grants and ownership is fine. However, if you want a more diverse director base, such as educators and even younger people -- which I do not see happening very much, but it ought to be happening -- the only risk is ending up with a lock-step type of director and a board where everyone thinks alike because they all come from the same background and do the same thing.
Senator Kenny: The more fundamental question is how much do you think compensation drives the performance of directors?
Mr. Dimma: With the possible exception of companies that have gone in for very generous option plans -- and this is one of the reasons why it is somewhat risky -- compensation does not drive it very much at all.
I am familiar with a company that gave every one of its directors $1 million worth of options at the time they joined the board. I would say that was some incentive.
Senator Kenny: It caught their attention.
The second area related to the point that managers of public pension plans were the best advocates of shareholder rights. We have tested this question before. I came away with the conclusion that they took care of small investors very well. We were wondering who takes care of the small players in the system. I agree with you that the managers of public pension plans take care of big investors well. I have no reservations about that at all, but I have yet to have the case made to me that they take care of the small investor well.
Mr. Dimma: Their own pensioners, or about-to-be pensioners, are themselves small investors, or perhaps not investors at all, and to that extent there is a correlation. However, I assume you are really talking about the pension fund buying huge blocks of stock versus some individual in a small town who has 100 shares and whether they are being treated differently.
You would need to make the case stronger than I am able to make it that there is a distinction, that you would act differently if you really did have the small shareholder in mind, beyond the point the other senator made regarding time frame. There is no question about time frame; there is too much urgency for profits next week. Beyond that, I am not quite convinced that there is much of a difference.
Senator Kenny: They have better access to information. They are better able to move in and out of the market in ways that the small shareholder cannot. By the time the small shareholder catches on, the institution has been there and gone.
Mr. Dimma: Those are very legitimate points. The only offset -- and it is perhaps not an entirely satisfactory response -- is to say that the people in the mutual funds and pension plans are themselves small investors, but that does not encompass those who are in neither but are buying directly. It is a point worth making.
Senator Kenny: Mr. Dimma, you have really focused on the training and selection of directors. You did not mention evaluation and the fact that it is likely to be a self-evaluation of directors. Would you care to comment?
Mr. Dimma: It is something in which I am personally interested. It starts with self-evaluation and, as the concept of evaluating directors becomes more popular and more common, the first approach is the board questionnaire. Everyone fills out a questionnaire. The corporate secretary, or possibly the board chairman, collates these, and then we sit around for an hour or so, usually not much more than an hour, and talk about it and see how we can do better.
First of all, it tends to be collective evaluation and not an individual evaluation. I do not see much stomach in this country at this point in time for individual director evaluation, although I feel it is something that we will be seeing more often over the next decade.
There is a bit of a tendency today towards using a third party to do the evaluation, but that is the old question of who will bell the cat. Who will you hire to come in and evaluate the board who would not ultimately be answering to the board? Your accounting firm? The board recommends to the shareholders which accounting firm you will use. I am not sure they will be in a strong position to say anything terribly critical about the board. An academic or a consultant, an individual? Maybe. Does he have the in-depth knowledge to do a proper job of evaluation? Would it be shallow and superficial? I believe it is true that self-valuation is a second-best solution, but I am not sure yet what is the best one.
Senator Austin: What about the market?
Mr. Dimma: By that do you mean that if the directors do a bad job, the stock goes down and vice versa? As you well know, it is a convoluted relationship and it is difficult to put cause and effect together, but there are boards that have been seen as very much at fault in a company's problems.
Senator Kelleher: The problem with that, if I might suggest, and I am not suggesting the Inco board has done a great job, but it is hard to blame them for the huge drop in the commodity price of nickel. They will lose money as a result of this, as will other producers. It is difficult to blame them for something out of their control, is it not?
Mr. Dimma: It also depends on the relationship between the board and the management. I am saying the obvious now. There are some boards where the management is quite clearly in charge and the board is more than an ornament. The board ultimately has all kinds of responsibilities in law; there is no question. With a very strong CEO and a not so strong board, you cannot blame the directors for what that CEO may do. That sort of board must disappear over time and is disappearing, but I am afraid there are still some of those types of boards out there.
Senator Meighen: I believe you said, with the exception of the banks, everyone agrees that there should be a distinction between the two. What about the small company, perhaps a public company? As I recall, when we had our hearings on the CBCA amendments, there was a point made to us by representatives of smaller companies asking that they not be loaded down with too heavy an infrastructure. It may be a company built by one person who is also the president and CEO. The company, in due course, will move to that.
The Chairman: I think that argument was made particularly in the case of the smaller company where there was a controlling shareholder who felt that he ought to have the right to chair the board as well as cast the votes.
Mr. Dimma: You will recall when you evaluated this issue last year, or in 1996, most of your witnesses, and certainly I would be included, were against compulsory separation of the roles. If there is a good reason to keep it separate, then so be it.
Senator Meighen: That is what I wished to know.
Mr. Dimma: There ought to be more separation. I do not believe we have moved quite far enough. I personally think the banks ought to keep the roles separate, and maybe with the mergers they will be moving in that direction, but I would never wish to make that compulsory.
Senator Meighen: Some of the witnesses who appeared before us -- representatives of some of the large funds, if memory serves me well -- have indicated that they would like to see better disclosure. Does that strike you as a reasonable request on the part of investing companies? What are your thoughts on disclosure?
Mr. Dimma: Disclosure in the general sense of affairs of the company?
Senator Meighen: Yes.
Mr. Dimma: Yes. I feel, for example, that there ought to be a division of financial results into segments, which at the moment is still voluntary and many companies fail to break it down into adequate categories to allow an investor to make a better decision.
Yes, I believe there is still room for better disclosure than we have. The accounting profession tends to be pretty conservative. Where will the pressure come from? It will not come from within the corporation generally. It will not come from the accounting profession. Public pressure, to some degree, but I believe it is slow in coming.
Senator Meighen: You were talking earlier on about your preference, and it would certainly be mine, and I suppose it is the Canadian way, to do things quietly rather than grandstanding right off the bat. To take your example, though, the senior officer of the fund goes over to see the CFO or the CEO of the company and says they are not happy about this and asks for an explanation. Let us suppose that action does not achieve the desired effect. Now, presumably, we must move to the next stage.
In moving to the next stage, my first question would about our present legal requirements. I think of dissident proxy circulars. I think of Mr. Wilson of BCE who told us he does not know who his shareholders are. Presumably anybody wishing to rally his shareholders would also not know who they are, within our present system. Is that an obstacle to rallying other shareholders and an obstacle to continuing to exercise pressure on the corporation to improve?
Mr. Dimma: Yes, I believe it is. A number of changes can modify that and improve it to some degree.
For example, individual voting for directors seems to be on the increase now. It is kind of hard on directors whether you are all elected together or not.
Senator Meighen: I have never won an election in my life.
Mr. Dimma: It is sort of embarrassing. I think exposure can be improved in this country. Frankly, the NYSE still does a better job than the TSE, and the federal level does a better job than the OSE. However, having said that, everyone is doing a better job than they were 10 years ago. Looking south of the border, when it comes to regulation, they make their companies jump a little bit from time to time.
Senator Meighen: If we had a national stock exchange, would it be helpful to improving our performance?
Mr. Dimma: Yes. In 1984 I chaired a task force, during the last of the Trudeau governments. It was a little like the one Jim Bailey was chairing and like the one Mr. McKay is now chairing. That task force suffered from a major disadvantage. It was appointed by a Liberal government, and then there was an election and it reported to a Conservative government. I am not sure we got a good hearing, so many of our proposals did not happen. At that time, most us felt a national stock exchange would have made sense.
Senator Meighen: It should probably have been initiated by the Conservative government, because usually the Liberal governments adopt those things.
On the professional directors issue, do you not run the danger of creating a cadre, particularly with this country being as small as it is, of inbred professionals who rush around patting each other on the back? Where is the room for the union president to be on pension fund board? Should we not rather think of a mix of better trained directors and some people who perhaps do not go in with the training but get it on the job with good programs set up?
Mr. Dimma: I am not opposed to diverse boards. I tried to say briefly that boards are perhaps too homogenous. Having said that, whether it is a union president or a former CEO or an active CEO of another company, that orientation and training on an ongoing basis does make sense. I do not like to use the words "amateur" and "professional" because it implies two different levels of skill, although I think there might be some truth in that. It comes down to whether you are throwing people into a lion's den without adequate preparation. It is getting to be a tough job being a director. I do not mean to sound self-serving, and I enjoy it so I am not whining about it, but this job is getting to be tougher. Most directors do not have adequate training. They may get orientation.
I will tell you a story. I joined the board of a large insurance company. I am giving it away because that insurance company no longer exists.
The Chairman: We know something about that.
Mr. Dimma: I thought you might. We had three days of orientation, one day a week, every second week, and we would go to head office in London, Ontario. I found that to be very useful. I have sat on other boards, and I will not mention them, where you attend your first meeting and that is it. There is no training and you learn what you can. It is catch as catch can. I do not think that is good enough, whether it is corporate executives, union presidents, or someone else.
Senator Oliver: My questions are about shareholder activism of pension funds and mutual funds. Would you tell us some of your personal experiences from being the chairman of companies or a senior officer of companies of the way in which pension funds or mutual funds have exercised their influence on your company, and what is the right way you think they should be doing it and what are some of the wrong things they are doing in exercising their influence?
The witnesses yesterday said that one of the things that institutional investors do to exercise their influence is to suggest to management or to the board that they are not very impressed that certain board members do not have good attendance records because they are not really doing their best for the shareholders by not showing up.
I then asked them about management. How active are you if you do not like the way a division of a large corporation is being run? How do you express your views? What is a good way and what is a bad way of doing that?
The Chairman: Should institutions express their influence by accepting a seat on the board of the major companies in which they have influence? It is part of that question.
Mr. Dimma: The last question leads from the more specific to the general. I do not really think it is a good idea. I have not thought this through in depth. I will try an answer here which needs more thought than I have been able to give it. I do not think it is a good idea to have mutual fund managers or pension fund managers sitting on the boards of companies in which they may have significant investments. For one, stocks come, stocks go, and portfolios change. For another, that is kind of a form of shareholder democracy, and it is hard to be against shareholder democracy, but it strikes me as a little too blatant a way of influencing the board.
I am not aware in this country that there is very much if any of that going on. Does anyone have any examples? There may be some. If it is, it is rare. That does not make it wrong; it just makes it rare.
I need to think about it further. It is true that if you have a large shareholder, if an individual owns 5 per cent or 2 per cent, a lot of absolute dollars, of a company, you might be asked to sit on a board. In that case, why not a pension fund or a mutual fund? Somehow, it is the lack of permanence. I think most large institutional investors come and go, and I am just not sure it would be a good idea. At that point, when he is not a shareholder, why is he on your board when he might be holding shares in your competitor? He may hold shares in your competitor anyway. He may like the chemical industry and hold shares in three chemical companies. I think I can see some problems.
On the broader question, Senator Oliver, while I am repeating myself, I personally think it should only be a last resort when the pension fund manager or the head of the fund -- perhaps he has the title of president -- has to go to the street. There are times when it is quite justified to go to the street or go to the media and give a speech which makes some highly controversial and critical remarks about a company, but I think that should be a last resort. That is not the Canadian way. That is not the way to get things done. However, if you are frustrated long enough by stonewalling on the part of a company with respect to some legitimate point, I suppose that is the last resort, and it is quite a legitimate one.
I am not sure I have entirely answered your question.
Senator Oliver: Have you had any personal experience as chairman in companies where large investors, pension funds, have come to you and made a suggestion about the way a division of the company is being operated?
Mr. Dimma: No. I have had the situation where they have come and been terribly interested in your plans, and there you must be very careful that you are not disclosing anything that is not available to the shareholders at large. However, I have not personally experienced that situation. The last time I was a CEO was nine years ago. In the last nine years, the level of investor/shareholder activism has accelerated and moved up several notches. I suspect it is happening a bit, yes.
I will give you one example. I am familiar with the case of one U.S. company headquartered in Houston. I am on the board. I am familiar with the case where a large pension fund came to the CEO of that company and expressed grave concern about one of the three product markets of this company. He had done his research and had learned chapter and verse why this company ought to consider doing something different. The CEO listened very carefully and brought it to the board. That is how I learned about it.
Senator Oliver: What is your opinion on institutional investors voting their proxies? How should that be done?
Mr. Dimma: As I said in my introductory remarks, that is a complicated question because everything is interconnected. The courteous way is to ensure that you understand the issue and perhaps talk to the management of the company before you vote your proxy. The business about "what goes around comes around," or "if you take a harsh position today, it may come back to haunt you tomorrow," suggests to me that many people will vote generally with the company.
The biggest exception tends to be on issues like shareholder rights plans. Everyone in this room knows that there are shareholder rights plans. I have seen some that exist, frankly, to entrench management. A plan like that deserves to be torpedoed. Some institutional investors have taken a very strong view on shareholder rights plans. They may have gone a little too far and are against them even when they are quite innocent.
Senator Austin: I have a different illustration of Senator Oliver's question. Quite often there is pressure on companies from fund managers and others with fiduciary roles in managing funds for beneficiaries to carve out divisions and IPO them in order to gain value, whether or not those issues are in the interests of the company or not. Sometimes the IPO is not what they have in mind; they want a division sold. A Canadian brewing company was pressured to sell a chemical division over a certain period of time. That is on the record. There was tremendous pressure from the professional community.
I suggest that this is just the normal operation of the market.
Mr. Dimma: A current example of that would be the merger of Nova and TCPL. Nova has been undervalued in the market partly because its pipeline business and its chemical business are quite different. If this merger takes place, which is fairly likely, it seems quite clear that they will sell off their shares in the methanex and perhaps their chemical business. That is on the record as well.
Senator Kelleher: We seem to be belabouring this point. We have gathered from people to whom we have spoken that public pension fund managers are increasingly speaking to the chairmen or presidents of companies about their concerns. As Senator Meighen says, it is the Canadian way not to go public. Frankly, I agree with that. I think this is a good way to handle these problems. When you ask these fund managers about doing this, they justify it by saying -- and I have a tendency to agree with them -- that they are in the best situation, with the necessary knowledge and people working for them, to spot these problems a little faster than the average shareholder and that what they learn will be of benefit to all shareholders.
This a recent phenomenon that we are entering into in Canada. Both the managers who do this and the companies which give them the information can be infringing the law. This practice is becoming more prevalent and is probably beneficial. In light of that, should someone in government or some of our regulators be looking at this area to see whether there should be new guidelines set up? When someone is doing something in the best interests of shareholders, it is too bad that they have to be concerned about infringing the law and getting themselves in trouble. Is there some need for some re-examination in this area for guidelines?
Mr. Dimma: Yes, there is, senator. I will make a couple of parallel observations. First, I do not think you can blame the pension fund for attempting to get as much information as possible from every company in which it is a significant investor. The onus for staying within the current law rests largely with the corporation providing the information.
An old friend of mine used to say that there is no such thing as indiscreet questions, only indiscreet answers. Clearly, the pension fund should push as hard as it can to get information that it can process more effectively, on the whole, than can the small investor. They look at these things regularly and a very professional approach to evaluation comes into play. It is then up to the company to be cautious.
The broader question of whether the company should be permitted to give information to the large investor that did not find its way into the hands of the small investor is fraught with rue. As I am sure you would, I would like to have it very carefully done.
Senator Kelleher: I am also concerned that, as the fund managers probe, they will not get the information to which the shareholders are probably entitled. You will certainly not get it at an annual meeting. Is this not something that should be examined? I know that it is fraught with problems, but it seems to me that there are some benefits for shareholders. The companies must be concerned about giving up the information. I agree with you that it is the "questionee" and not the "questioner" who runs the risk.
Mr. Dimma: That would seem like a legitimate area to be studied, but I can see many problems with it. However, until you look at it carefully, who knows?
Senator Callbeck: You mentioned the increase in institutional activism. Do funds in which investments are purchased by a manager according to an index, such as the TSE 300, tend to be less active in corporate governance issues than funds in which a money manager chooses the investments?
Mr. Dimma: That is a good question. There are overt indexers and there are closet indexers. The overt indexers would clearly not go into the same level of inquiry as someone who is more activist in his management.
There are closet indexers who charge higher fees by leaving the impression that they are not indexers. Perhaps I am being overly critical, but there are some people who index when all the chips are down and the game has been played.
That is what they have done, but they disguise it by appearing not to be, and they get the higher fee for doing so. As I am sure you know, indexed funds get about a third of the commission of actively managed funds.
Senator Angus: I have been fascinated not only by what you have told us tonight but by all that I have read about what you have said and what you told us the last time you came. I am curious. This present study deals with the governance of the so-called institutional investor. The discussion tonight has again largely been about governance of public companies. I read with interest the article that you wrote in the December issue of the newsletter of the Institute of Corporate Directors, which I think was great, where you talked about the perfect board and best practices. It is almost a Bible. Is it still current? Would it, by and large, apply to the governance of institutional investors, or are there significant differences?
Mr. Dimma: I wish to ensure that I have the gist of your question, senator. Are you asking whether my comments about corporate boards would be equally applicable to pension fund boards?
Senator Angus: Yes, because the study we are doing presently involves mutual funds and pensions, and many of them do not seem to feel they are bound by the Day report or the TSE guidelines or by your list of best practices. They do not have corporate governance committees. They are fast and loose, and we have heard many complaints. They are two different animals, it seems to me, but maybe they are not. What provoked my question is that almost everything being said tonight has to do with corporate boards generally.
Senator Oliver: The shareholder activism questions were designed to get to the issue.
Mr. Dimma: Most of what I said in that article was process oriented, and I would have to go back and look at it point by point, but I do believe most of those comments apply to boards generically. In fact, many of them apply to not-for-profit boards as well as to for-profit boards, but yes, I do not think that pension fund boards, from a process point of view, should operate any differently, without due process being observed just as carefully, even exhaustively. Corporate boards today -- as everybody around this table knows -- go to extraordinary lengths to ensure good corporate governance. If I compare a typical board today with one 20 years ago, the difference is amazing.
Senator Angus: Or even five years ago, it is incredible.
Mr. Dimma: It started about 10 years ago and there has been a steady improvement. There is an order-of-magnitude difference. I speak here with full knowledge of the whole spectrum of pension fund boards, but those I know are not run as carefully in governance terms, and they need to be. They should not be exempt or different.
Senator Angus: I am fascinated by the concept of licensing directors. The word "licensing" may be the wrong word, but I know what you are saying. Senator Kenny asked about how we measure the performance of the directors. What I am observing in practice is that the corporate governance committee, which is comprised of only a few of the overall board, is in a position to do a peer review or a measuring of the performance of the other board, and then, perhaps, in terms of who measures them, the chairman or some other designated individual is able to measure their performance. Is that a reasonable solution, in your opinion?
Mr. Dimma: Yes, it is. As a matter of fact, when the earlier question was asked about board evaluation, I neglected to say that a very good way of doing that is for the chairman to do it on a one-on-one basis, if we are talking individual evaluation. He may take advice from the CEO, he may even take advice from some other board members he trusts, but if there is someone, or more than one, not cutting the mustard, the chairman's role is crucial. It does beg the question of who evaluates the chairman, but at least it means, on an 11-person board, that you have a good process for evaluating 10.
Senator Angus: Would that apply by analogy to an institutional investor?
Mr. Dimma: I see no reason to make a distinction. I would need to be convinced, much more than I am now, to say there is a difference. I do not think there is one in governance terms.
The Chairman: In regard to mutual funds as compared with pension funds, the mutual fund industry has contrasted itself to pension funds, saying that an individual investing in a pension fund cannot pull his money out and has argued that, therefore, there clearly ought to be tough accountability rules for pension funds because, in a sense, they have a control over an individual's money about which the individual can do nothing. They also argue that because people can pull their money out of mutual funds immediately and just transfer it to another fund if they do not like the performance of the fund they are in, we therefore should not be at all concerned about the governance and accountability structures of mutual funds on the grounds that they are simply an investment that people can take or not take.
We have been using the term "institutional investors" tonight and most of our illustrative examples have dealt with pension funds, although in your opening comments you made the observation that while most mutual funds are passive, some are more active. Do you agree that, generally, whatever the structure is related to governance of pension funds, we ought to treat the mutual fund industry, the other half of the institutional investor, differently?
Mr. Dimma: I am not persuaded there ought to be any difference. We are talking in both cases about huge pools of capital. We are talking about investing people's personal wealth and savings. In the case of mutual funds, often, as we all know, there are very large numbers of relatively small investors. Very big investors, wealthy investors, tend not to use mutual funds, except perhaps as a piece of their portfolio, whereas there are people earning modest incomes and doing modest jobs who may put their life savings into mutual funds. While I see the point about the greater level of permanence with a fund, I do not think that excuses a mutual fund from being subjected to the same scrutiny and evaluation in the public interest as a pension fund.
The Chairman: Therefore, subject to whatever governance rules ultimately come into effect -- either through this committee or whatever the process -- the same accountability rules ought to prevail?
Mr. Dimma: Yes, considering the number of dollars invested in North American mutual funds. There are so many zeros now, it is almost irrelevant to count them. They have an enormous responsibility to be governed according to some set of rules which probably apply to all the categories of institutional investors. I am pretty sure they do.
The Chairman: Thank you for coming.
Our second panel of witnesses is from the Association of Canadian Pension Management. Welcome.
Mr. Jeffrey Graham, President Elect, ACPM, Counsel, Borden & Elliot Barristers and Solicitors: Mr. Chairman, it is a great privilege and a great pleasure to appear before this committee. The current president of the association is Mr. Beswick, and he will be making our opening comments.
Mr. Michael Beswick, President, ACPM; Senior Vice-President, Pension Division, Ontario Municipal Employee's Retirement System (OMERS): Thank you for the opportunity to appear before the committee tonight so we may talk about this important issue of pension plan governance.
ACPM is an association of some 400 organizations representing an estimated $226 billion in assets. We are Canada's national voice for pension plan sponsors. Our membership may be diverse, but a significant number of our members are corporate managers responsible for the administration of pension plans. Our mission is to advocate on behalf of pension plan sponsors for policies and regulations to ensure the growth and health of pension plans in Canada. Through committees, task forces and regional councils, the association represents members on regulatory and legislative issues in discussions with governments at all levels.
At the federal level, for example, the ACPM has been very active in promoting the reform of the retirement income system. In this regard, the association is very pleased with the leadership shown by this committee in advocating, for example, the relaxation and eventual elimination of the 20-per-cent foreign property rule.
This evening, we wish to discuss with you some of the work we have been doing as an association on pension plan governance issues. In particular, we would like to highlight our report on effective governance of pension plans and our recent survey of the governance practices of our members.
Last year, a special committee of ACPM members was struck to produce a paper on pension plan governance. This committee was composed of representatives of pension plans and professional advisors, and it had a mandate to produce a practical and flexible view of pension plan governance which could be used by all manner of pension plans, large and small -- in short, all of our members. Last fall, the committee completed its work and delivered a report entitled "Governance of Pension Plans," which was circulated to all members with a positive reaction. A copy of this report is in your package.
Governance is about stewardship and accountability, with emphasis on the latter. Over the past few years, there has been an increasing interest in attention paid to both corporate and pension plan governance. This interest and discussion is good.
There is a long way to go before one can say that all pension plans are well governed. The regulators should encourage this interest and also encourage good practices. They must resist, however, prescriptive solutions. We will emphasize that many times tonight.
Pension plan governance is very complex and flexibility is needed. One must not forget, also, that the private pension plan system is a voluntary system. Too much regulation will stifle growth, not foster it.
Pension plan governance has three aspects -- assets, funding and service to beneficiaries. All these must fit together effectively to ensure good governance.
The ACPM governance report attempts to set out principles and guidelines for effective pension plan governance. It does so in a way which is practical and of use to plans of all types and sizes. Large plans are key players, but good advice and good practices are just as vital for small-to-midsize plans.
An effective system of pension plan governance is necessary to help fiduciaries exercise independent governance. To accomplish this, responsibilities and accountabilities must be clearly set out. Governance must be separated from and must monitor operations. Effective governance provides reasonable oversight but is not so onerous as to discourage the establishment of pension plans or the devoting of time to oversee them.
In governance, one size does not fit all, a fact emphasized by the survey. Administrators must have flexibility to accommodate different and changing circumstances. They must be free to develop their own approaches within a broad set of principles. Each plan is unique. Pension plan governance should not be mandated or legislated, an assertion overwhelming endorsed by our members.
Our governance report establishes principles for effective plan governance that are practical and can be used by all plans. Each governance activity is assessed according to four principles -- risk and power sharing, core competencies, information flows and performance evaluation.
We have not attempted to prescribe a best practices model, nor do we believe that legislators should attempt to do so. Rather, we have identified principles that we hope will act as sign posts on the road to good governance. A summary of these is found on page 5 of the governance paper.
As noted earlier, the ACPM has recently surveyed its members on their governance practices, including the issue of influencing investee companies. Senator Kirby, at one of association conferences last summer, advised that one of this committee's objectives would be to collect data on what actually occurs. That is what prompted this survey. A copy of the survey results are also in the materials we have provided to the members of the committee.
Much of the feedback from the survey confirms what might be expected -- practices vary with plan size. Large plans are more sophisticated than small plans, for example. The survey shows smaller-to-midsize companies do need to pay more attention to their pension plans if effective governance is to be assured.
The survey also provides other interesting insights. For example, there are significant differences in the governance of plans. A large proportion of sponsors delegate responsibilities to multiple entities, and this makes accountability more challenging.
A large proportion of pension committees have important governance elements in place -- a clear mandate; differentiation between governance and operational responsibilities; conflict of interest guidelines and regular reporting to their boards. Except for the very large plans, training for pension fiduciaries appears to be an area in need of attention. However, a large proportion of mid-to-large size plans do choose pension committee members on the basis of relevant skills.
A large proportion of pension plans do not have a strategic plan for the pension plan. A relatively high proportion of plans have a structured approach for choosing and assessing investment managers. This is not the case, however, for plan actuaries, auditors or administrators. This may not be surprising, but it does identify an area for future improvement. There is a high level of satisfaction with current laws governing pension plan fiduciaries.
As may be expected, the issue of proxy voting and influencing investee companies is basically an issue for large plans. This is not surprising, as smaller plans likely invest in pooled funds or delegate voting to their external managers.
The survey shows that a number of the large investment funds are active in proxy voting matters, although a surprising proportion -- 40 per cent of the largest funds -- do not have stated criteria for proxy voting. In the same group, 40 per cent of the largest funds have tried to influence companies in which they invest, for a variety of reasons, and the results were mixed. Virtually all the funds stated they have never felt constrained for any reason from voting a proxy, although most plans do not vote proxies.
In conclusion, we would like to thank the committee for this opportunity to appear before you. You are dealing with a very important and interesting matter, a very complex matter, and one in a state of evolution at the moment. We hope the committee understands this and approaches its task in the spirit of constructive dialogue with the industry, which will itself lead to change, rather than searching for prescriptive, one-size-fits-all answers.
We look forward to your comments and answers.
The Chairman: At the risk of being modestly argumentative, perhaps I can paraphrase page 3 of your brief. It says that it is a good idea for people to have an interest in governance and that it is a good idea for there to be many proposals for good governance, but above all, do not legislate or regulate anything, do not tell us what to do, and trust us. That is perhaps a modest exaggeration of what you said.
Let me also remind you that that was the exact reaction of the business community when the Day report first came out. What made the guidelines of the Day report work was the obligation that boards report to the TSE in their annual information circular exactly what they were doing about the guidelines. In the end, therefore, the fear of embarrassment that your colleagues and competitors would be doing things "better" than you according to the guidelines worked wonders. You did not have to legislate anything; it could be accomplished by embarrassment.
Senator Angus: The shareholders wondered.
The Chairman: My question would be if one were to not regulate anything, what is the embarrassment form we use vis-à-vis pension funds to get the same effect?
Mr. Beswick: In answer to your mildly exaggerated premise, what we are saying is that there is quite a bit of law on the books already. We would not argue for tweaking, changing or improving existing laws, for example, in the area of disclosure. We do not believe that it is obvious that there is a need for a new set of laws, a new set of regulations or new sets of conditions, because we believe that there is much good governance going on. You may not agree, but that is our position. Our position is not to be totally unregulated, but we are a very highly regulated industry already.
The Chairman: Your regulations are not with respect to governance.
Mr. Beswick: There is a good deal of governance on the books already.
The Chairman: The rules, as I understand them, with respect to pensions -- and at one time in the past I was on the CN pension investment board -- include all kinds of rules about where you can invest and how you can invest, but they are not what I would call in the current interpretation "governance rules." In particular, they do not deal with anything in relation to how you vote proxies and why you vote proxies and so on. None of the existing rules regarding how pension funds operate deal with any of that.
Mr. Beswick: I believe we are bound by prudent persons. There are prudence rules in Ontario, for example, not only in the investment but in the way you operate. There are issues that boards have not identified and publicized accountability measures, but there are many rules there to begin with.
Senator Angus: On your point there, the CN man on the investing side, Tulio Cedrashi, comes here and gives us his 18 rules of how corporate boards should be governed and the points they look out for to ensure they are doing the job. However, he has free rein. How are the beneficiaries of the CN Pension Plan protected?
Senator Meighen: Mr. Dimma said they should all be treated the same way.
The Chairman: You were here when Mr. Dimma answered questions. He not only answered that question with respect to boards, he subsequently answered it with respect to mutual funds.
The question is: If you look at the evolution of accountability rules and society in general, in a whole variety of ideas over the last 20 years, the accountability rules have been formalized and not necessarily set down in a hard and fast manner. There is flexibility in them, but there are clear guidelines for accountability of all kinds of institutions. Twenty years ago hospital and school boards were all appointed. You can go through the list of things in which the accountability process to the shareholders, whoever they may be in a particular context, has clearly opened up.
I am not arguing that your guidelines are not good, I am saying that the guidelines, short of having some element of teeth -- and the reason I use the Day report as an example, if Day's teeth turn out to be embarrassment rather than force <#0107> they are pretty effective for many people. Surely one cannot leave a group of people handling something as important as pension funds with the same set of rules that they have had for 30 or 50 years when all other institutions are changing. That is my question.
Mr. Beswick: I would agree. I do not disagree with you, Mr. Chairman. There are many changes occurring within our business. I was looking at the Alberta teachers' annual pension fund report a couple of days ago. Two pages in their annual report are devoted to governance. I look at our own institution. There is much greater sensitivity to governance. The report measures much more. If you look at the Ontario teachers' plan annual report, two or three pages are devoted to governance. I do not know if it is embarrassment that is causing it, but certainly there is a much greater sensitivity and a much greater accountability in that area of governance evolving.
The Chairman: The question is whether or not evolution could be accelerated.
[Translation]
Senator Hervieux-Payette: Thank you for giving me a copy in French. In your report, you say that a large part of the pension plans are devoid of any strategic plan. If people haven't developed a pension plan strategy, that doesn't strike me as being very positive. Is it properly translated? I don't get the gist of this sentence. How can people manage a pension plan without a strategy? It seems to me that the opposite would be to improvise. I'd like someone to explain to me what this sentence means about there not being a strategic plan.
[English]
Mr. Beswick: From the management of a pension plan on the whole, many employers or plan sponsors do not step back and look at how to fit the strategy of funding the plan in the context of the corporate business needs. Your HR people negotiate a benefit and you pay for it. You do not step back and say how can I invest this money, you do not have a surplus management strategy. All of these things do not exist. The corporate sponsors, except in the very big plans, rarely step back and look in a big picture way at what they are trying to accomplish with their pension plan and its funding.
Senator Austin: You have a funding strategy?
Mr. Beswick: For example, yes.
Senator Austin: Every plan must have a funding strategy.
Mr. Beswick: It does not necessarily have a funding strategy, it reacts to the funding needs of the plan.
Senator Austin: It would have a marketing strategy.
Mr. Beswick: I do not understand.
[Translation]
Senator Hervieux-Payette: I still don't understand. Can you give me a clearer explanation of this allegation and how it can apply in reality? It's abstract. From reading this sentence, I understand that a large part of pension plans are improvised. When you write that they are devoid of a strategic plan, that means they're improvised. How can you have an improvised pension plan? I don't know what that means. That's why I'm asking you the question.
[English]
Mr. Beswick: For example, I am involved in pension plans where there is an investment committee and it does the best it can, and then there is a pension committee which sort of sets the benefits, talks to the actuary, sets the funding strategy. They do not talk to each other. We at OMERS, for example, have a very clearly defined investment strategy, a surplus management strategy, objectives for funding. We sit back and we talk about it. Many plans just react and do not clearly look at their pension plan and assess its needs and objectives.
[Translation]
Senator Hervieux-Payette: That's a bit clearer. In other words, they don't do a very good job. You mention in Point 8, in the last sentence, that in this same group, 40 per cent of the biggest funds have tried to influence the companies in which they were investing for all sorts of reasons and the results were mixed. Our previous witness told us how few people there were who made decisions and who were involved. It was very concentrated. A large share of the decisions are made by a very small group. How come these people, who are so few, can't at least have an influence? I'm thinking about the disasters of some businesses. They could require accounts to be given when a business has revenue losses in order to postpone salary increases to the following year or give instructions to businesses that don't serve the shareholders' interests.
You belong to a company like OMERS. Some people have told us they often gave advice to the business to help it get through its difficulties or get out of a tight spot. I see it much more as prevention than reaction, particularly in an economy that is evolving in a society in which more and more investment is going to take place in knowledge companies. There is less and less investment in concrete and hardware, and more and more in individuals. It is much more difficult to assess the risk. You'll need more expertise; so you'll have to monitor businesses better and advise them.
As for the future development of our economy, do you think there will be a correction or are we going to maintain the status quo? In future will more people help businesses grow and provide them with sound advice when they sit on a board of directors?
[English]
Mr. Beswick: Forgive me. I find that question difficult to answer and perhaps it is somewhat rhetorical. I cannot answer that question. In our survey, we asked our members to indicate if they were involved in trying to influence companies. We did not go too deeply into the question.
The 40 per cent here is 40 per cent of 15 funds. In our survey, there were 15 funds, so it is not a great number. Whether that will increase, whether that will be more positive and more helpful to corporations, I am afraid I cannot answer that question.
Senator Austin: You state in your presentation at page 4 that a large proportion of pension funds do not have a strategic plan. In your document "Governance of Pension Plans" at page 5 you have a section called "Governance Structure" where you essentially lay out what I thought would be your answer to Senator Hervieux-Payette's question.
At bullet 4, you refer to the establishment by the pension committee of an overall strategic plan for the operation of the pension plan, taking into account the liabilities and commitments inherent in the pension plan and the earning potential of the plan assets. This would include establishing investment policies and objectives.
That point, along with the next two points, would form quite a coherent answer. You also set out the need of the pension committee to identify responsibilities, assign accountabilities for their fulfilment and establish monitoring and feedback procedures to ensure accountabilities are being fulfilled. The pension committee also needs to establish a means to measure its own effectiveness and report this back regularly to the board. This is what governance is all about. As you say, it is not happening. Then you say what should happen.
Can we help make it happen? Is there an intervention which would assist you in reaching the goals which you have prescribed?
Mr. Graham: First, the exercise in which you are engaged is a helpful exercise for all of the institutional investment community. It highlights issues which go to the core of their existence and their management. Exercises of this nature certainly help.
Undoubtedly you are familiar with the recent OSFI processes and their efforts to help regulated entities, including pension plans, to understand principles of good governance. Over time, that process will become part of the inspection and evaluation process. It is not a formal part of the process today. These are outside of the legislative environment of regulations and statutes. However, all federally regulated plans and, for that matter, all major plans are sensitive to the importance of bringing their practices into step.
You have heard from PIAC. They have been at the leading edge as an association in helping their members understand the importance of governance and to build processes and to document those processes. This association is doing the same thing. You are right, senator. What we are doing is being perfectly honest with you. We have gone out and surveyed, as is always the case, a fraction of members. It is actually a pretty good fraction, relatively speaking. We have told you the good and bad news.
The good news is that things are getting better. If we had done this survey, as your last witness suggested a few years ago, my guess is the answers would not be as encouraging as they are today. There is good information in there. If you did this at the conclusion of your study a year or two from now, you would find the answers are even better.
The Chairman: The study was done indirectly through a request of this committee. We appreciate that. We all seem to be grappling with the apparent gap between the ideal state described in your report and the reality as stated in your survey. What can we do to help accelerate the closing of that gap, rather than simply allow it to occur at the relatively leisurely pace at which change normally takes place. That is really our question.
Senator Austin: This document "Governance of Pension Plans" is a good document. The work that you have submitted in the folio is good work. At the same time, you say you only got 40 per cent of your members to answer. Is that standard good enough? Does there need to be something done objectively to compel a larger degree self-regulation?
I am not against self-regulation, but self-regulation does not mean no regulation. It does not mean ignoring regulation. It means regulating.
Mr. Graham: Honourable senators, pension plans like other forms of financial entities, are highly regulated entities, unlike many of the other institutional bodies that you are discussing, be they public companies with securities compliance responsibilities or mutual funds.
Senator Austin: They are regulated in terms of their financial functions but not in the governance area.
Mr. Graham: That is right. Pension plans, like other forms of financial institutions, are regulated both with respect to corporate governance and solvency issues. It is part of the mandate of the financial regulator, OSFI. Much of what OSFI has done over the past number of years in enhancing governance with respect to banks and trust and insurance companies also involves thinking through the extent to which those same standards or principles are applicable across the board to pension plans and pension funds.
The Chairman referred to the issue of compulsion and whether it is bringing sunlight to the issues and the reporting obligations in the context of the TSE. Here we really have a regulatory structure where the regulator goes out and inspects these plans. Whether that inspection is as regular as it might be, they are out there. I know that. I have clients who are telling me that they are coming out. One of their concerns, obviously, is whether the necessary policies and practices that should be part of the written portfolio are in place.
Our disclosure that there typically is not a huge strategic plan is not necessarily an indication that the underlying investment issues and the various administrative issues are not adequately documented.
The process tends to be somewhat spread or shared. Investment functions are done by one group of professionals, and management and administration are done by others. Perhaps it would be wise for more plans to embrace the concept of an overall vision. Perhaps that is where we should be going.
The Chairman: I do not think anyone around this table has ever suggested compulsion. We would be closer to "make them an offer they can't refuse" or heavy persuasion rather than compulsion.
Mr. Beswick: Your term "acceleration" is good. You have accelerated the process. Without your previous hearings on corporate governance and these hearings, documents like this would not have been generated. The PIAC document is another example. You are accelerating the process by public hearings. We are encouraging you not to go one step further and ossify the process by regulation, as it were.
Senator Meighen: Off topic, but as a matter of interest, we had in the last session, although it died, Bill S-9 from OSFI about federally regulated pension plans and the question of surplus and what to do with the surplus. There was an elaborate scheme about how to deal with surplus. Markets being what they are, I guess that is the topic of the day.
Do you do anything with respect to your members to encourage them to get in front of this issue and enter into an agreement?
Mr. Beswick: Regarding surplus?
Senator Meighen: Yes.
Mr. Beswick: It is not an item on which we have polled our members, but it comes up in conferences from time to time. It has been a hot topic for ten years. There has been much confusion over the rules of ownership of surplus. It is not something we have addressed recently.
Senator Meighen: Do you happen to know whether many of your members would have agreement?
Mr. Beswick: CN recently made an agreement with their unions on the ownership of surplus. The plan with which I am an executive, OMERS, is in the process of distributing excess surplus with our membership. These are boom times for pension plans. The Income Tax Act has a rule which says that if your surplus reaches a certain limit, you must stop contributing. In our case, we are reducing the contribution rates.
Senator Angus: Are you on the board of OMERS?
Mr. Beswick: No, there is no staff on the board of OMERS.
Senator Angus: Two of your people recently made a good presentation. I and some of my colleagues were shocked at how underpaid the board members are.
The Chairman: The observation was made about the board, not the staff.
Senator Angus: We do not know what the staff is paid. I suspect the staff is paid more competitively than the board.
We did probe somewhat at the end. Using the range that is given for compensation of boards of this type, and as you say one size does not fit all, there are general mid-points, and you folks seem to be way below it. The answer seemed to be that it was very nice and public spirited, almost pro bono in some way, that it is public service.
Mr. Beswick: There is somewhat more complexity to that. It is reflective of the fact that it is a lay board. For example, with the hospitals of Ontario Pension Plan, their board members are paid nothing.
Senator Angus: That is pro bono.
Mr. Beswick: In our case, our ability to pay our board members is regulated by the rules of the Ontario government, so we could not pay them more if we wanted to.
Senator Angus: Unless there was an amendment to the law.
Mr. Beswick: Or if we got autonomy.
Senator Angus: If it was $20,000 instead of $10,000 per year, in your view would that improve the quality, or is that something typical with a lay board of that nature?
Mr. Beswick: I do not think so. In my personal opinion, if it were $50,000 or something, it would be comparable to what some of them make. In that range, it would not affect the board. It is a lay board, and it has inherent strengths and weaknesses because of that. Whether we pay them $10,000 or $20,000 a year, that would not affect them.
Senator Tkachuk: I wish to return to the question I asked the previous witness. How activist are your funds in the operations or in influencing management in the corporation? That witness told us that he notices an increasing amount of this kind of presence on corporate management by pension funds. Do you leave that to your membership? Do you have guidelines? Is that a point of contention and discussion amongst your membership at your meetings? Do you question whether what you are doing is right or wrong, or do you just do it to increase shareholder value?
Mr. Beswick: In terms of our membership, in our survey we asked some simple questions about it. I was surprised. I thought there would be more. The success rate was not very good in those attempted influences that they reported.
We do not have guidelines amongst the membership. Most of our members are not big plans. It is mentioned from time to time at conferences, but not in a way of setting guidelines or rules.
Senator Tkachuk: Do you think that there is a real increase, or is it just more noticeable now because there was so little of it five years ago and if you have two or three it seems like a large increase? Would there be a large number of funds involved in this, or is it a few funds involved in many different companies?
Mr. Beswick: It is difficult to say. I do not have enough experience to testify for other funds. In the case of the fund with which I am familiar, it has been a matter of maturing and growing large. That might be true for other funds. I cannot say that there is more or less than there was five years ago or whether it has just become an issue on which people are focusing but has always existed. Certainly it began in the United States with CalPERS and some of the New York State funds. The public berating of companies and so on has drawn people's attention to it. However, big investors have always talked to the companies in which they invested.
The Chairman: My question is in regard to the 40 per cent response rate to which Senator Austin referred, the good set of guidelines you have on pages 5 and 6 of your report, and your comment that OSFI is attempting to do a little bit on overseeing governance, obviously in a fairly informal way in the sense that they do not have any hard and fast guidelines. It is not a regulated function the way the rest of the OSFI operation is.
You may wish to think about this before you respond. I go back to whether there is a model analogous to the TSE model whereby companies give the TSE information and say, "We abide by the guidelines, or we do not," but they must give them the information, and that information is generally available to all shareholders and generally publicly available. What would be your reaction to OSFI having guidelines in whatever form we ultimately decide, but where a similar process would be followed? One obligation or regulation would be to say each of the pension funds that OSFI regulates must file with OSFI an annual statement to determine how they fit within the guidelines and that that statement would be made available to all pension holders. Some people in this room would find them quite intriguing, no doubt.
Senator Austin: And if they did not do it, they would have to note it in their report to their members.
The Chairman: The regulation would require that they file a report.
Senator Austin: Or say, "We do not file this year."
The Chairman: I am looking for a mechanism short of brute force which would, nevertheless, have an element of strong encouragement to it. That is one, obviously. There may well be a dozen others that we have not yet explored.
If you can think of ways we might accomplish the moral suasion objective, that would be helpful.
Mr. Beswick: Perhaps, rather than filing with OSFI, it could be filed with the members of the plan, for example.
The Chairman: You understand the area we are looking at.
Mr. Beswick: We have a meeting of our advocacy and government relations committee soon. We will put that question on the table for discussion and get back to you.
The Chairman: I should like to have a dialogue on this that would achieve our mutual objectives.
Mr. Beswick: We would be pleased to get back to you.
The Chairman: Thank you for appearing tonight and thank you for doing the survey. It has given us the first data that we have had on this question.
The committee adjourned.