ETHICAL INVESTING: CORPORATE GOVERNANCE
It is important for ethical investors to determine how companies manage themselves and their relations with investors and stakeholders.
These are the major corporate governance issues concerning ethical investors:
- Accounting - No investor wants to invest in a company that commits accounting fraud or with inconsistent accounting practices. Shareholders are concerned if an auditor gives an adverse opinion, urges the firm to restate its financials, or subjects the entity to an enforcement action. Aside from an auditor’s remarks, investors should look out for the financial expertise of the audit committee and weaknesses in internal controls.
- Conflicts of Interest - It is a big deal for investors to know the people sitting on the board of directors, their responsibilities, and other associations they have. Board members should attend at least 75% of meetings. They can sit on more than one board, provided these positions won’t create any conflict of interest. A CEO acting as board chair also creates a conflict of interest.
- Executive Compensation - Investors want to find out if executive pay is connected to stock performance. Top officials earn more if the stock performs well. Otherwise, they earn less. However, in the event of a takeover, an underperforming CEO can be ousted even if executive pay is not formally tied to stock performance. The Dodd-Frank Act states corporations must allow investors a nonbinding vote on executive compensation packages, as well as publish regulatory filings.
- Governance - This is not simply a feel-good issue, but a vital factor in figuring out the company’s nitty-gritty and its viability in the long run.
- Illegal Behavior - An entity that partakes in any illegal act puts all its investors and stakeholders at risk. Illegitimate activities include bribery, insider trading, and kickbacks. Yes, such activities are prohibited, but these may be vital to operating business in other nations.
- Investors Relations - Shareholders are part-owners and hold a financial stake in the firm’s performance. So, they put much emphasis on how corporations treat their co-owners. Some companies release different classes of stocks with various voting rights. Other firms implement one share equals one vote. In general, investors look after policies that favor them. For instance, having the capacity to vote on a proposed stock incentive plan.
- Political Contributions - In some instances, companies contribute to political candidates, expecting that candidate will give them special treatment from the government once elected. Corporations make contributions in order to deter politicians from passing new regulations that would place their businesses at risk. Investors hate crony capitalism.
And to dig deeper into the company’s governance, investors look at the following metrics:
- Glass, Lewis & Co. - Analyzes the risk of investing in a firm relative to its accounting, business, governance, legal, and political issues. It also provides proxy research and voting recommendations.
- Governance Metrics International - Examines all the corporations in the DJ STOXX 600, the MSCI world index, and the S&P 1500 monthly, in terms of its accounting, environmental, governance, and social practices.
- Institutional Shareholder Services - Using its Governance Risk Indicators, it gauges corporations’ governance performance based on the following issues: audit, board, compensation, and shareholder rights issues.
- Investor Responsibility Research Center Institute - The nonprofit research organization finances researches relative to firms’ environmental, governance, and social norms, as well as on the capital market context affecting the decision-making of companies and investors.
- Standard & Poor’s GAMMA (Governance, Accountability, Management, Metrics, and Analysis) - Measures corporate governance in emerging markets according to board effectiveness, shareholder influence and rights, and transparency.
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