Money Matters: Why corporate governance is important for investors

By Brett D. Gardner The Daily Record Newswire Strong corporate governance can prove highly valuable and ultimately lead to a higher valuation of a company. Conversely, weak corporate governance can lead to exactly the opposite -- which can eventually pose risks to asset utilization and strategic corporate planning. Overall, shareholders who understand their basic rights and their overall role as an owner are less susceptible to systemic risks that might otherwise be avoidable. Generally, corporate governance can be looked at as the system of checks and balances set forth within a corporation to ensure the company has the proper rules in place to grow and maximize long-term shareholder value. It is the way that the board oversees the running of a company by the company's management and, in turn, how a board is held accountable to the owners. Due to the distinct characteristic in U.S. corporations where ownership is separate from control, the significance of proper safeguards are even more important. Agency theory is embedded within the system, where managers can run a company in their own interest -- rather than shareholders' interests. Theoretically, as an agent of the shareholders, the board is afforded the task of monitoring the activities of a company's officers and/or managers and the overall performance of a company. When company performance lags and the officers' and/or managers' fulfillment of their responsibilities becomes contentious, shareholders naturally begin to question such actions, as well as the responsibility of the board to effectively address the performance inefficiencies of the officers and managers they are entrusted to "monitor." When such situations occur, shareholders must assess the true independence of their board representatives and how accountable they are to those they are entrusted to "represent." In a company, a great deal of power should therefore logically reside with the shareholders, because they elect the board and have a very powerful right as an owner -- their vote. In fact, the spirit and intent of the securities laws of the 1930s and 1940s was to do exactly this -- protect investors and provide for ample disclosure. The truth of the matter though is that shareholders have limited power to intervene and much more should be done to ensure that the investor protectionist intent of the securities and investment company/advisers acts of the 1930s and 1940s are achieved. What cannot be forgotten is that the same very basic and positive tenets of corporate governance were codified in the securities and investment acts of the 1930s and 1940s. Despite being watered down since their adoption, the basic principles of the legislation point investors in the right direction toward asking the types of questions that they need to examine in order to determine whether the board and management of their investment are doing their best to maximize shareholder value. What, then, should an investor ask in reviewing the corporate governance of a fund or company in which they are seeking to invest (or in which they are already a shareholder)? The following are some simple yet revealing questions: * Is the chairman of the board also the CEO? * On how many board seats does each member sit? * How much of the board is comprised of independent members? More than 75 percent? * How much ownership does each board member hold in the company? * Are there any interpersonal relationships between management and any of the board members? * Does a set of published governance principles exist for the board? * How does the board set the pay for top level management? Is it incentive based on strict performance goals, set by a compensation committee and fully disclosed? Did the board approve overly generous stock options as compensation that will ultimately dilute shareholder value when exercised? * How much is the board member compensated for their services? * Is there an audit committee composed only of independent directors (not affiliated at all with the company)? Have any recent restatements been issued or have there been any challenges to the accuracy of the company's financial statements? While these questions are by no means exhaustive, they are a simple start to getting your homework done on your investments and getting a "gut" feel for what is right or wrong in the board and management structure of a given company. Simply put, the next time that you receive proxy materials or an annual statement from your investments, do not throw it out. Read it and ask questions. Remember that as a shareholder you have a democratic right that significantly affects the value of your investment. If you do not understand something contained in those materials or you want to find out further information, call, find out the answers and become active in understanding who and what you have invested in in order to increase the value of your hard-earned money. ---------- Brett Gardner is a portfolio manager/analyst for Karpus Investment Management. He can be reached at (585) 586-4680. Published: Tue, May 10, 2011