DISCUSSION Reflections on the Mansion House Trust debate

by Mark Goyder _______8th June 2018
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We need to change the rules as well as promoting individual codes of behaviour

‘It’s about character as well as competence’. These words of Caroline Silver, chair of PZ Cussons, and an experienced investment banker, summed up for me the debate we had this week in the Mansion House at the invitation of Charles Bowman, Lord Mayor of the City of London.

Douglas Flint, former FD and chair of HSBC, and before that an auditor with Peat Marwick, told an instructive story. As a young auditor he was in front of a senior colleague discussing one of his first audits.

The experienced older colleague asked two questions. First ‘tell me about the company’. Douglas spent 15 minutes explaining. Secondly, looking at the back of the large audit file he asked why stationery expenditure had gone up by £500.

‘I have no idea’ said the young Douglas.

The senior colleague was satisfied. The first question probed his understanding of the business he was auditing. The second question tested his trustworthiness.

Reminder to us all. To be trustworthy we need to admit ignorance, and imperfection. Too many company communications lack this authenticity.

In the debate the Lord Mayor explained the CIVIC principles for trustworthy business which had been welcomed in 30 countries around the world. Charles Tilley on behalf of the CGMA Research Foundation described the Trust ‘Trust Profit and Loss’ framework.

The debate moved from the personal, through the organisational and professional to the role of regulators. In my view clear codes of behaviour are necessary but not sufficient. We need co-ordinated change to the system.

I quoted the experience of Tom Brown, author of a book (Tragedy and Challenge) describing a lifetime leading and then chairing engineering businesses:

The UK obsession with M&A can be traced to the 1980s following Big Bang….It signalled a very important change in philosophy, indeed in morality. Businesses ceased to be ongoing entities, with their own heritage and culture, but became purely a legal entity. A source of profit for shareholders that could be terminated at any time it was expedient to do so.

Fiduciary duty was now taken to mean that shareholders were all that mattered. Even decent directors became afraid that they would be outcast and maybe even sued if they considered the interest of other stakeholders. Success fees are common in M&A, meaning an advisor receives an enhanced fee if the deal ‘succeeds’. Of course, this means the advisors have absolutely no incentive to give impartial advice and such success fees are payable when the transaction completes not three years later when it might be judged if it was actually a success’.

Were we really happy, I asked the panel, to accept a world in which the advisors took the fees but accepted no accountability for the outcome, in terms where an acquired or merged business was in a few years’ time? Was that the right basis for trust?

Speaking as the investment banker on the panel Caroline Silver was open and said the motivation of many advisors left much to be desired. She balanced this by talking about her own experience where on many occasions she had advised a client against a deal that they were keen on. This earned the long-term loyalty of that client.

Douglas Flint was of the view that this is a market process. Andrew Harding said that boards should not hide behind advisors and should accept responsibility for the deals done and the way advisors were paid.

I am closer to the view expressed by Standard Life Investments a few years ago in their evidence to the Kay Review of UK equity markets.

On page 8 SLI argued ‘we should like to see investment bankers and other professional advisers receiving a significant proportion of their remuneration on a deferred basis and which is linked to the success of their clients’ business or the transaction that was the subject of the advice‘.

Claire Ighodaroo was eloquent on the question of board openness to the voices of society and the next generation. She described how at one company they had embraced reverse mentoring. It had made a difference in her ability to articulate to board and leadership colleagues how decisions they were contemplating would be received by the next generation.

And so, to regulation. Sir Win Bischoff is chairman of the Financial Reporting Council (FRC), the regulator responsible for the UK Governance Code and the investor Stewardship Code. He talked about the importance of culture and stressed the FRC’s intention to hold companies accountable for how they had fulfilled their duties under section 172 of the Companies Act, which made it clear that directors owed their duty to the company and not to shareholders. Their duty is to promote the success of the company for the benefit of members, having regard to wider stakeholder and societal interests.

Slowly but surely I can see the vision developed by Tomorrow’s Company from 1995 becoming the mainstream in terms of how everyone talks about the issues.

Talk is one thing. How about their actions? In the discussion I cited the case of the board and senior management of Lloyds ignoring the report on the HBOS Reading scandal. And how RBS had acted with the Global Restructuring Group. In both cases a division or section of a major bank deliberately set about asset stripping vulnerable clients for the sake of profits or personal gain. It’s all very well talking about the importance of trust but the action or inaction of these boards cannot be ducked. I would have been happier if this had been more widely acknowledged by the panel, rather than treated as ‘exceptional events’. Yes, I know that overall businesses can and must act as a huge force for good, but trust will never increase if these ‘exceptions’ are not acknowledged and condemned.

There is no doubt that business leaders feel trust is a problem. PWC survey CEOs globally every year. They started asking whether trust was an issue in 2002 just after Enron, and only 12% of CEOs thought that it was. By 2013, 37% worried that lack of trust in business would harm their company’s growth. By the end of 2016 the number had jumped to 58%.

Technology is a complicating factor, as Barry Melancon of AICPA pointed out in the debate. According to PWC, 69% of CEOs think that, in an increasingly digitalised world, it’s harder for businesses to gain – and retain – people’s trust. 87% of CEOs believe social media could have a negative impact on the level of trust in their industry over the next five years.

Yet business, however defined, is not alone in being mistrusted. The annual Edelman Trust monitor for 2017 pointed to a general erosion of trust globally that stretched across business, media, government and NGOs. Edelman then added:

53 percent of (UK)respondents believe the current overall system has failed them—it is unfair and offers little hope for the future—while only 15 percent believe it is working, and approximately one-third are uncertain.’

And globally it reported that:

‘With the fall of trust, the majority of respondents now lack full belief that the overall system is working for them. In this climate, people’s societal and economic concerns, including globalization, the pace of innovation and eroding social values, turn into fears, spurring the rise of populist actions now playing out in several Western-style democracies.

‘To rebuild trust and restore faith in the system, institutions must step outside of their traditional roles and work toward a new, more integrated operating model that puts people — and the addressing of their fears — at the centre of everything they do.’

So, while we see a picture of mistrust and loss of faith in the system, and while support for protectionism and nationalism appears to be on the rise, there is also support for something else – for business to be a force for good. Edelman also reports that 75% of respondents globally agree with the statement that:

‘A company can take specific actions that both increase profits and improve the economic and social conditions in the community where it operates’.

Action to embed the right individual behaviours is important. Action to strengthen the focus of boards on these behaviours is important. But for the City of London, there is a bigger challenge: to change the rules, the incentives, and the patterns of ownership such that making money out of transactions stops being seen as an end in itself and starts being designed as a service to the economy and society. A stronger Stewardship Code; a Hippocratic Oath for bankers with offenders being disciplined or expelled from the profession. A proper alignment of the regulation of asset managers between FCA and FRC so that long term stewardship is rewarded and the rampant M&A and private equity opportunism is exposed and loses traction. Requiring asset managers to explain what they are paid and for what performance criteria A strengthening of the law on fiduciary duty so that asset owners only buy the services of short-termist asset managers when asked to do so by their clients. A transaction tax or other tax changes to favour holding over trading of shares.

These, and other ideas for promoting long term wealth creation, are the preconditions for restored trust in business.

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