Open letter to Piet Viljoen: Why King can keep feral firms in check

Listed companies appear to have gone feral. And this is precisely why we need the tediously long arm of the King Code; it enforces a sort of faux discipline on the directors of public firms who might otherwise wander directionless across the corporate landscape.

One of the obvious signs that all is not well can be gleaned from the trajectory of executive pay. This is increased every year without restraint – regardless of what happens to the company and its share price.

In the corporate context a feral company is essentially one that no longer has an entity exerting control over its behaviour, which is pretty much the status of most JSE-listed companies currently.

The situation has evolved over several decades, as the founders who floated once-thriving companies died and full ownership gradually passed on to fund managers. These became increasingly important as retail investors were steadily squeezed out of the market.

Even during the era of defined pension benefits, a modicum of control was exerted by corporate employers who had an interest in ensuring the companies in which their employees’ pensions were invested performed well. But those days are long gone.

Now the exertion of any form of control relies on the whimsy of fund managers who frequently do not have the resources or inclination to oversee the governance of their investee companies. Arguably, they have little commitment to ownership as they hunt for the best short-term returns.

Last of the great protesters

It is for this reason that fund managers are inevitably the last to show up at a corporate disaster. That’s if they haven’t promptly dumped their shares on the first whiff of crisis.

As we now know only too well, just a few astute investors were aware of what was happening at Steinhoff; fund managers regularly dished out awards to Tongaat CEO Peter Staude; at Spar, fund managers thought nothing of voting to appoint former CEO Graham O’Connor as chair.

So: in this era of short-termism, the only shelter from chaos is the King Code.

And indeed, far from lambasting the code for not managing to prevent the high-profile corporate and governance failures we have seen over the years, could it be that the existence of the code has helped to keep the numbers relatively low?

That, of course, is impossible to know.

In a recent issue of his “Regarding …” newsletter, Piet Viljoen, the founder and chair of asset management group RECM and an astute observer of markets, argues the crux of today’s governance problem is the King Code. (Viljoen was responding to an earlier article I had written on the recently implemented King V.)

One of his major beefs is the code’s requirement that an independent director have no ownership interest in the business. “King defines independence as being independent from the company … How can one who is seemingly detached from the wellbeing of the business govern it well?”

Independent of management

Viljoen makes the excellent point that directors should not be detached from the company; rather, they should be independent of management and able to “offer decent oversight on behalf of shareholders”, he says. “After all, the management team are generally agents appointed by the directors to run the firm for the benefit of the shareholders.”

He refers to the runaway remuneration at underperforming Truworths as an example of precisely what happens when the board is not independent of management.

Of course, regardless of whether a director owns shares, they are obliged to act in the best interests of the company, so a director with a hefty stake will be watched closely to ensure he or she does not appear to promote his or her own interests at the expense of other shareholders.

For Tracey Davies, executive director of non-profit shareholder activism organisation Just Share, the problem that directors are too friendly with management, to the detriment of owners, is precisely the problem the King Code seeks to address.

She argues Viljoen’s view of director independence in this case is misguided. If director independence was adhered to, Davies reckons, we might see far fewer cosy director/management relationships and a little bit more of management being held to account.

“The absence of this accountability is most obvious in the utter failure of remuneration committees to rein in the stratospheric pay packages of JSE CEOs,” Davies tells Currency.

Shareholders MIA

Viljoen’s view is that the market would better sort the wheat from the chaff if only we could jettison the King Code.

Yet the reality is, no matter who’s appointed to the board, effective governance relies on shareholders playing a role. And, as is evident from voting patterns at most AGMs, this is not happening. Instead, what we generally have are fund manager-shareholders transferring their voting rights to the chair.

So, it’s difficult to believe there is an effective market at work here.

Rod Bulman, executive voting agent at Active Shareholders, a not-for-profit company that helps socially responsible investors exercise their company rights, struggles with the concept of “the market as an efficient regulator” in this context.

“Right now, the market does not seem to be driven by informed decision-making so much as by algorithms,” Bulman tells Currency. A situation not conducive to sound governance.

Where Bulman does agree with Viljoen is in criticising the unwieldy way annual reports have sprouted from modest, readable, 100-page affairs to dense, unreadable, 250-page-plus tomes.

“The transition to integrated reporting mandated by the King Code led to broader and deeper disclosures, with sustainability, governance, risk management and remuneration sections added to traditional financial reporting,” says Viljoen, which sounds like good news. But then he adds: “They’re almost unreadable.”

And he’s absolutely right. Most integrated annual reports are horrific affairs that, because of the dense language, manage to reveal little about the company despite being so long. They appear to have copied and pasted the code in an attempt to reassure readers of their compliance.

Bulman is irked by their length but is delighted about the framework the code provides, which he argues can be used to hold companies to account.

Promises, promises

“The integrated annual report has become something of a marketing document in which the company makes all manner of promises,” says Bulman. “Our work is to interrogate it and determine the extent to which the company is actually delivering on the issues we think are important.”

All this compliance comes at a hefty cost, says Viljoen, making a claim that Just Share’s Davies promptly challenges, stating that it’s a claim regularly made but never substantiated with evidence.

“Until someone puts up a corporate balance sheet which separates out these costs and allows independent analysis of whether they really are burdensome, it is not a claim that should be taken seriously,” she says.

Indeed, some say the King Code is actually a useful and cost-effective guide.

“We use the code as a benchmark,” the chair of a mid-sized listed company tells Currency.

“It makes clear to us what is accepted practice on most governance fronts and, because neither I nor the company secretary want to risk being called out on something we will follow it,” he says, before adding, “though not always to the T”. He reckons, for them, there’s no added cost. The code guides them to do what they’d have to do anyway.

As for the various corporate scandals that King failed to prevent, “it’s like all laws, if someone wants to cheat they will cheat, but most directors aren’t that crooked,” says the chair.

Ravaging corporate returns?

Finally, there’s Viljoen’s assault on the code’s pursuit of “stakeholder capitalism”, which he contends “has ravaged the returns of complying corporations”.

(It should be pointed out that the code is merely adhering to the Companies Act’s greater emphasis on the role of the company in society.)

For Bulman, the code has been useful in creating awareness and encouraging goal-setting on a wider front, but actual delivery has been muted so far.

Anyone who doubts how muted should interrogate Sasol’s Emission Reduction Roadmaps.

Davies goes further and says Viljoen’s claims of “ravaged returns” are pure fantasy.

“His is the old, long-discredited argument that the only thing that matters is profitability, and that the higher the returns to shareholders, the better off the economy will be.”

In Davies’ view, “neo-liberal trickle-down” economics is a “sham” that destroys the environment, increases inequality, fails to improve productivity, and has led to the rise of populist, anti-democracy movements across the world.

Clearly, while their views differ radically, Viljoen and Davies are outspoken participants in the South African market who both want to see better outcomes for shareholders, ultimately.

So, could it be that the King Code is the best we can do while the fund managers who ostensibly control all these listed companies are missing in action?

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_{Top image: Rawpixel/Currency collage.}