OHIO PUBLIC EMPLOYEES RETIREMENT SYSTEM 277 EAST TOWN STREET, COLUMBUS, OH PERS (7377)

Transcription

1 OHIO PUBLIC EMPLOYEES RETIREMENT SYSTEM 277 EAST TOWN STREET, COLUMBUS, OH PERS (7377) MEMORANDUM DATE: February 5, 2004 TO: FROM: OPERS Retirement Board Members Cynthia Richson, Corporate Governance Officer RE: V. Discussion Items: C. Corporate Governance Purpose This memo is intended to keep you informed of developments that have taken place since the prior board meeting and to obtain feedback from you on the following eight (8) issues as follows: Background & Issues (i) Glass Lewis/Investor Responsibility Research Center (IRRC) At the December 2003 Board meeting, the board authorized proceeding with a Request for Proposal (RFP) process, if required, for the purpose of evaluating and selecting certain proxy voting and related services that exceed the $50,000 threshold as established by the OPERS Purchasing Policy. As previously indicated, at the present time there is only one large vendor that offers an entire suite of bundled services and several smaller vendors that offer such services on a product-byproduct basis. Preliminary research indicated that a bundled suite of services from the large vendor may be more cost effective than purchasing these services separately from different vendors. However, upon further research and discussion with several smaller vendors, it was determined that it there may not be the cost advantage that was initially perceived. Another critical factor in our internal discussions were that the vendor be free from any actual or perceived conflicts-of-interest in its product analysis and recommendations. After subsequent internal meetings and discussions at OPERS, it was concluded that the IRRC SmartVoter computer based proxy voting product has been working well and is a cost effective product when compared to the other large vendor competitor. It was also concluded that due to proxy season timing considerations, any large-scale

2 changes could not be implemented until the 2005 proxy season. As a result, the staff consensus was that we would like to try Glass Lewis, an independent proxy advisory service, as an addition to the IRRC SmartVoter product. It was also determined that an RFP would not be required to add the Glass Lewis service as the product cost did not reach the RFP threshold as established by the OPERS Purchasing Policy. As a result, the Glass Lewis product was added by OPERS in late January and I have been working closely with Pat Edgington, Teresa Black, Lori Thiel, Glass Lewis, and IRRC as we integrate the advisory services with the SmartVoter system. The Glass Lewis proxy advisory service gives OPERS the ability to access sophisticated analysis on various proxy issues that goes beyond the depth of the IRRC research product, particularly on the issues of executive compensation, accounting matters, and mergers and acquisitions. As a result of the addition of the Glass Lewis service, we have recently made a few additional changes to the IRRC SmartVoter Guidelines to further refine our vote instructions to ensure that OPERS votes are cast appropriately on proxy issues to benefit shareholders by strengthening such areas as auditor independence. For example, one such change was the creation of a customized SmartVoter guideline that permits OPERS to support audit firm rotation on a five year basis, which is strongly supported by Lynn Turner, former Chief Accountant to the Securities and Exchange Commission and Director of Research at Glass Lewis. In addition, in the case of a reverse stock split management proposal, we have now elected to further refine our vote so that we will support such management proposals only when the reverse stock split does not disproportionally dilute the ownership interest of OPERS. (ii) (iii) Summary of Key OPERS Corporate Governance Policies Attached is a summary I prepared, based on our existing Proxy Policy, that outlines our key Corporate Governance Policies in plain English. Absent any additional edits, I would like to post this document on the OPERS website to enhance our transparency to our participants on these important corporate governance issues. Please let me know if you have any comments. Governance Metrics International (GMI) I have been working with the investment staff and I am pleased to announce that they will soon have access to the GMI corporate governance ratings product, which rates individual companies on their corporate governance practices. The GMI product will enable OPERS investment staff to incorporate corporate governance criteria into the investment decision making process. In a recent study, GMI looked at returns at 1,600 major U.S. and foreign companies. GMI found that companies with poor

3 corporate governance returned 5.4% for the 12 months ended August 12, 2003, compared with 11% for all stocks rated that followed more effective corporate governance practices. (iv) Board of Trustee Corporate Governance Education We have continued to internally discuss the Board s previous request to put on a ½ day Corporate Governance Education program. Due to conflicting schedules, we are having some difficulty finding a date that works for everyone. I would appreciate having board feedback on whether or not Thursday, March 18, 2004 is an acceptable date. If March 18 th is an acceptable date, I will then proceed with trying to schedule Ralph Whitworth, Principal, Relational Investors, as a speaker as previously requested by Trustee Cinthia Sledz. Other potential speakers include Greg Taxin, CEO of Glass Lewis and Howard Sherman, Chief Operating Officer for Governance Metrics International. Greg could provide an overview of proxy issues and how the Glass Lewis analysis adds value in areas such as executive compensation, accounting issues, and mergers and acquisitions. Howard could discuss how good governance practices at companies enhance long-term financial performance and what criteria they use in their governance scoring process. I would appreciate having your feedback on these two other potential speakers. (v) (vi) Pharma Futures Project - Dates have been set for the two project workshops (Workshop 1: May in the U.K.; Workshop 2: September 23 & 24 in New York). Although we offered to host one of the workshops at OPERS, due to the request from international participants for easy access locations, the U.S. workshop will be held in New York rather than Columbus. The Pharma Futures Project is a cutting edge collaborative effort with several other large pension funds, both in the U.S. and abroad, to initiate a dialog between big pharma and public pension funds to encourage the adoption of sustainable long-term business strategies. One of the overall goals of the project is to try to create win/win business solutions that will ultimately result in lower prescription drug prices for consumers. Global Security Risk Monitor - On January 25, 2004, the television show 60 minutes ran a story that disclosed that investors may have their pension money invested in terrorist countries even though they may not know it. This is because U.S. law that prohibits investments in terrorist countries does not apply to U.S. companies that have foreign or offshore subsidiaries run by non-americans, such as Halliburton, Conoco-Phillips or General Electric. It is estimated that some 400 U.S. companies exploit this loophole in U.S. law with sham offshore

4 business locations that allow them to continue to do business with terrorist countries such as Iran, Iraq, Syria, Libya, and North Korea. The New York City Comptroller and the Connecticut state pension plans were featured in the 60 Minutes story as being strongly opposed to pension funds investing in U.S. companies that engage in this practice, but pointed out the difficulty of getting this information disclosed. New York and Connecticut oppose this practice on the grounds that it is financially unsound and bad for business. In fact, the New York fund filed a shareholder s resolution asking Halliburton to review and justify its operations in Iran, which Halliburton fought. However, the Securities and Exchange Commission allowed the resolution, which will be put to shareholder vote at Halliburton s annual shareholder meeting scheduled for April. Based on the research I have done, there appears to be only one way at the present time to obtain this information on U.S. companies. Global Security Risk Monitor (GSRM) is a joint venture between Investor Responsibility Research Center (IRRC) and Conflict Securities Advisory Group, a Washington, D.C. research firm. GSRM is global security risk profile and assessment product that is available for an annual fee of $12,500. However, rather than subscribe to the product, we could instead ask our external managers to report on this issue to assist us with monitoring our investments. I believe this issue will continue to receive media attention and I would appreciate receiving board feedback on this issue. (vii) Request for OPERS Support of the investor led Extractive Industries Transparency Initiative (EITI) - I have been contacted by the Director for ISIS Asset Management in London who has requested that OPERS give its support, no later than February 25, 2004, to this investor led initiative to enhance financial transparency in the mining and gas exploration industry. I am also forwarding this information to the other Ohio pension funds to encourage their support of this initiative. TIAA- Cref, CalPERS, New York State, Merrill Lynch, State Street, Fidelity, 18 companies and several industry associations, among others, have already publicly endorsed this initiative. EITI was initially launched in September 2002 by Prime Minister Tony Blair and was backed by 38 investors representing $3 trillion in assets and the G8 member governments. Support from additional investors is critical to ensure that the initiative will succeed to the benefit of all shareholders. Presently, there is no common global standard for disclosure of royalty payments made by companies to governments to secure exploration rights. Often times, due to the existence of poor governance practices coupled with corrupt officials in developing countries, the payments are

5 diverted and the revenue streams never reach the intended government entity so the payments can be used for the benefit of its citizenry. I recommend that we put OPERS support behind this important initiative and would appreciate receiving your approval to do so. I look forward to receiving your feedback. (viii) Background Paper for State Treasurers and Legislators Attached is a copy of the recently released Corporate Governance, Social Responsibility, and Obligations of Ownership Background Paper for State Treasurers and Legislators. I have included this handbook as a reference material for your review and use. In addition, I thought you would like to have a copy of this new paper in the event that any of the Ohio legislators or the Ohio Treasurer contacts you to discuss its contents.

6 Summary of OPERS Key Corporate Governance Policies Prepared by Cynthia L. Richson OPERS Corporate Governance Officer February 5, 2004 OVERALL OBJECTIVE OF OPERS CORPORATE GOVERNANCE PROGRAM To exercise OPERS fiduciary duty to its participants to advocate for better corporate governance for the purpose of enhancing long-term financial performance at OPERS through active ownership and encouragement of effective corporate governance practices at the companies in which OPERS invests. The Board of Directors Independence: Boards should have a substantial majority of outside, independent directors on the board. Key Committees: Companies should have three key committees (audit, compensation, and corporate governance/nominating) comprised solely of independent, outside directors that effectively carry out their oversight responsibilities. Split of CEO/Chair Roles: Companies should separate the positions of CEO and Chair or in the alternative, appoint an independent Lead Director that has well-defined responsibilities. Equity Alignment with Shareholders: Directors should have a direct, personal and material investment in the common shares (stock or restricted stock rather than stock options) of the company to better align their interests with those of shareholders. Board Evaluation: Boards of directors should conduct regular evaluations of its performance and that of its key committees. Such evaluations are intended to improve the board s effectiveness and should include a review of skills, experience and contributions represented in the boardroom. Board Service: Directors with full-time jobs should generally not sit on more than two other boards and currently serving CEOs should generally serve as a director of one other company. Director Education: Directors should participate in continuing director education on an annual basis to enhance their qualifications and effectiveness in exercising the board s fiduciary responsibility to act in the best interests of the corporation and its shareholders.

7 Diversity: Companies should strive to have diverse representation on their boards of directors to better reflect their customer base as a strategic advantage in the marketplace. Security Holder Director Nominations: Shareholders, the owners of corporations, should have the limited right to nominate short slates of director candidates, particularly when a company has been non-responsive to a shareholder proposal that receives a majority vote. Executive Compensation Pay-for-Performance Compensation: Compensation plans should be fair, linked to performance, tied to long-term value and fully and clearly disclosed. Stock option plans should not exceed a 20% dilution threshold. Holding Periods: Compensation committees should impose holding periods on stock acquired via options and consider restricting executives ability to exercise options or sell stock in less than a year and/or require executives to hold stock for at least six months after leaving the company. Stock Option Expensing: All stock options have value and therefore should be expensed with their value being reported on company income statements. Stock Option Repricing: Underwater stock options should not be repriced or replaced and no discount options should be awarded unless submitted to shareholders for approval. SERPs: Supplemental executive retirement plans (SERPs) should be fully disclosed and not be used to enhance retirement benefits beyond what is reasonable as it relates to retirement income formulas used for other employees throughout the company. Auditor Independence Auditor Ratification: Shareholders should have the right to vote on the company s external auditor. Auditor Consulting Services: Non-audit consulting services performed by the external company auditor should be de minimis and in no event should consulting fees exceed audit fees. Audit Firm Rotation: To preserve auditor independence, audit firms should be rotated every five years unless the Public Company Accounting Oversight Board gives the audit firm a clean inspection report, which should then give the audit firm an automatic five-year extension on that audit. Reincorporation Offshore and Other Reincorporation: Companies should not reincorporate in another jurisdiction when it will adversely affect shareholder rights.