Sir Paul Stephenson resigns as Metropolitan Police Commissioner

What does this have to do with corporate governance? My answer is that it has plenty of lessons for us.

Newspapers have reported that Sir Paul Stephenson employed Neil Wallis, formerly deputy editor the News of the World, as a PR consultant. Unfortunately this man has subsequently been arrested in connection with the News of the World phone hacking scandal. The implication is that there was an improper relationship that could have affected judgements in relation to the investigation or that it was a reward for past favours. Just an hour ago I wrote, "It seems unlikely that either of these is true. After all, the most skilled advisers on dealing with the press are likely to be former senior members of the press." However, I have since read the New York Times article that says that Wallis was hired specifically to advise on phone hacking matters. If that is true then it changes everything and provides evidence for an improper relationship between police and the press.

A second report revealed that Sir Paul had stayed free of charge at an expensive 'health farm' following surgery last year and that this same Wallis was PR adviser to that business. However, it is also said that Stephenson was a personal friend of the owner. The Wallis connection is therefore a red herring. The more significant question is whether a senior police officer should be accepting large gifts from anyone, even a close friend? I think the answer is a clear negative and I was surprised to read that there is a register for police officers to report such gifts - gifts that should not be accepted in the first place.

It must be good practice for directors and senior executives also to report gifts and for their companies to publish a clear policy on what is acceptable and what is not. This is particularly important since the UK's Bribery Act came into force this month. Gifts, including hospitality, are generally given to business acquaintances in order to influence their decisions: why else would they be given? Since an invitation to a night out at the opera and dinner - or to a major sporting occasion - is likely to cost more than £1,000 the sums involved are not trivial. It is a difficult argument but I can accept that some level of hospitality oils the cogs of business without creating an improper influence. The recipient of 'low level' hospitality still feels able to cancel a contract or negotiate hard for lower prices. But it is wise practice for companies to maintain a register of all hospitality and gifts received and given.

But it can never be appropriate for a police commissioner who earns £276,000 per annum to accept a favour worth some £12,000 from anyone, even a close friend. On the one hand he could afford to pay for himself whilst on the other hand it is significant favour.

It is important to remember that we are not the judge in our own case; and for Sir Paul to claim his integrity is untarnished is mistaken because that judgement is for others to make.

Corporate governance at News International

The news media and blogosphere is full of the goings on at the News of the World, where there is evidence of journalists writing stories based on unlawful hacking into the telephone messages of private individuals. Subsequently there has been evidence emerging of money being paid to police officers for information that subsequently has formed the basis of articles.

I will focus on just a very small area of this wide ranging scandal, an area that has clear corporate governance lessons. That is the response of News International to developments. In January 2007 the royal reporter of News of the World, Clive Goodman, was sentenced to four months in prison for procuring phone hacking by a private investigator, who was also jailed. The Sunday Times (also part of the News International empire) reported last Sunday that "The case triggered a thorough review at News International" But what follows is interesting, the article reports that "Colin Myler, who replaced Coulson as editor at News of the World was tasked with the enquiry".

The board, in such circumstances, will want to make sure that they incur no personal legal liabilities through inaction: for example, The Regulation of Investigatory Powers Act 2000 covers the interception of mail or telephone conversations and provides for directors of offending companies to be, themselves, liable to criminal prosecution in the event of consent, connivance or neglect. The board will also want to protect the value of their company from reputational damage or the consequences of further prosecution. However, if you are a director, you may face a dilemma; suppose you know or suspect that such practices are widespread industry practice? In such circumstances you can be pretty confident that a proper investigation will damage the business by its revelations but if you do not investigate properly then you face possible personal liability and the risk that the damage will be worse if it is revealed by someone else or by legal processes. If you suspect that all outcomes will be bad, how do you determine which is least bad?

Now, as a director of News of the World, if you were serious about investigating this matter, would you appoint your new editor as the man in charge of the enquiry? Colin Myler is a very experienced newspaper editor. Of all people he would know about industry practice in the tabloid press.

At this point we can jump to the outcomes, of which there are two;

• Firstly, in 2009, Myler and Crone (head of legal affairs at NoW) assured the culture, media and sport parliamentary sub committee that the investigation had not revealed any wrongdoing by other reporters.
• Secondly there is the report itself, which has apparently now been handed to police.

The Sunday Times quotes a source about this report

"It is a reasonably decent investigation and either they were idiots for not having acted on it or they deliberately didn't"..."They got very strong indications of all sorts of dodgy behaviour. It revealed [possible] police payments and indicated enough about phone hacking to be of serious concern."

Myler and Crone now claim they had not read the final report they had commissioned and, apparently, overseen or the data attached but relied upon an audit carried out by external lawyers. That beggars belief. There is this really serious matter you have been tasked with looking into and you don't want to know the detailed findings? You have no conversations with the people you had delegated to carry out the work and nor would you stay up all night poring over the pages?

But over and above that, what about the board and their governance responsibilities: was this report an agenda item at board meetings; did the board rely upon a brief audit letter from outside lawyers that reported on the report and if so, why? What about individual directors, did none of them want to see the report itself? If these matters of board responsibility are ever pursued in court I find it hard to imagine that a court would conclude the board had been other than negligent if they really did not see the original report of their internal investigation into this serious matter.

The regulator's role in the ENRC Fiasco

Back from holiday and catching up. One of the first things I saw was an excellent article in the FT by John Plender. Unfortunately, it is behind their paywall, but the FT allows you to sign up at no cost to access a limited number of articles.

To recap, ENRC, a Kazakhstan mining company  listed just over 18% of its shares in 2007 and promptly joined the FTSE 100 index. This means that UK index funds have to hold its shares.  Plender points out that when it was allowed derogation from normal listing rules demanding 25% of shares be floated this was

"Far from being unique this was symptomatic of the pre-crisis “light touch” regulatory approach that was designed to enhance London’s position as an international financial centre." 

A number of similar mining companies listed at that time, all with a small number of wealthy controlling shareholders and with a history of related party transactions. How did the London Stock Exchange and the Financial Services Authority deal with these additional risks? Plender writes...

"To address these risks the LSE and the FSA, which acts as the listing authority in the UK, have put their faith in relationship agreements with controlling shareholders and in independent non-executives. These directors have often been highly experienced business people, but most have had little knowledge of mining. Their fees tend to be well above average, which does little to reinforce their independence. Against that background the ENRC fiasco demonstrates, among other things, that the UK approach to governance is not designed for a system in which controlling shareholders call the shots. It is structured to address the problems of dispersed ownership."

Whilst well expressed, this is too kind. The LSE was desperate for the business and bent its rules while the FSA was just asleep on the job, unless they were a lapdog for the LSE, which is scarcely less demeaning.

One of the key points of good corporate governance is that the rules and regulations need to be policed by regulators. I would go further and say that the regulators need also to apply judgement. The FSA surely has a duty to protect investors and that should have included wondering about the level of governance risk attached to these mining companies. Old City practices were opaque and decisions were often made by unaccountable individuals in smoke filled rooms. Nonetheless, I think that in the past these companies would not have been allowed to list in London without stronger safeguards for investors.

Plender finishes by saying

"The low standard of governance among foreign owned mining companies is not just a potential threat to investors. If valuations in the wider stock market become tainted by a governance discount as a result, the cost of capital to UK companies will rise. ENRC should never have been allowed in and nor, in my view, should the others. But since they are here, pension fund trustees who run indexed portfolios should consider asking their managers to exclude these companies from the index."

 Which is true but insufficient. The government really needs to get a grip on the FSA.

Tokyo Electric Power (TEPCO) and the nuclear plant at Fukushima Daiichi

There was a very interesting post by Bob Tricker back in April that addresses corporate governance issues behind the nuclear release at Fukushima. It is too long to reproduce but here is the link. The issues are, on the one hand, culturally specific to a Japan which is deferential to authority, avoids confrontation and manages by consensus. However it holds some broader lessons for all of us.

It appears that TEPCO has some record of safety violations and delaying the release of information, which may be putting it kindly, to shareholders, regulators and the public. It also has a large board of directors with only two non-executive directors - one of whom is a connected party. It is therefore a very large, complex company which has no real mechanism for constructively challenging the management team. You would imagine that a country such as Japan, which displays the cultural characteristics in business referred to above, has an even greater need than Western countries for some external, constructive challenges to groupthink. TEPCO and the 2009 crisis at Toyota demonstrate that companies that do not seek out challenges to their thinking deliver poor responses to crisis. Whether they are more likely to encounter a crisis in the first place is a more complex issue.

You could argue that I am being unfair and could point to BP's Deepwater oil spill as a counter-example. It seems that BP did not manage safety as well as it might, despite having genuinely non-executive directors. Well, I would not argue that the mechanism works infallibly to counter all business problems. I would argue that it is a mechanism that ought to respond well to crisis as the non-executives seek to understand what has happened. It also has a better chance of creating a climate of enquiry before disaster strikes.

Some complexities of Corporate Social Responsibility

I can be a bit of a sceptic about 'green' and CSR issues because, although these are important and are undoubtedly part of the corporate governance discourse, they are often just a bandwagon of muddled thinking.

An article in the Times on 10 June illustrates this.

"Electric cars could produce higher emissions over their lifetimes than petrol equivalents because of the energy consumed in making their batteries, a study has found."

Unfortunately, the article is behind a paywall but here's the reference anyway. Quoting from a report commissioned by the government funded Low Carbon Vehicle Partnership, it says that electric cars actually give rise to more CO2 emission than petrol and diesel cars if you take into account their production - and particularly production of batteries - and disposal. What this illustrates is not that nothing should be done about global warming but that CSR issues can be fiendishly complex. Just jumping on any old passing bandwagon can be a mistake, so political and business leaders should take a cautious view and should try to avoid being steamrollered into knee-jerk responses to environmental and 'sustainability' lobby groups. In particular, calls for corporate reporting on environmental issues - an issue promoted by accountancy firms which see large fee opportunities - should be approached with caution. You can easily spend time and money reporting on your firm's CO2 use only to find it is hugely misleading. Of course you may not care about that if it was only a public relations exercise in the first place; but if you were genuinely trying to be open then it may be a  bit disappointing.

The main thrust of the press release that launched the report was to encourage people to take a 'whole life' view of vehicles rather than just focusing on basic petrol/diesel consumption. Interestingly, the Times seems to have had access to the report itself (which I can't find posted on the web), which seems to make electric cars seem even less environmentally friendly than the press release itself revealed.

Eurasian Natural Resources Corporation ejects independent directors

It is not really such a surprise that the controlling shareholders of this FTSE 100 mining company have just exercised their control and ejected two of the non-executive directors. What is a surprise is that the London Stock Exchange decided to admit the company to its lists in the first place. It is also a surprise that the shares were then included in the FTSE 100, automatically obliging tracker funds to invest in them.

The governance of this company was always questionable. Consider that the business only has some 18% of its shares floated, the rest being mainly controlled by three Kazakh oligarchs, the government of Kazakhstan and another Kazakh company. Kazakhstan, it may be noted, is a dictatorship under president Nazarbayev. To add colour to this, it is the sort of country where a Uighur journalist, having fled to it across the border from China, seeking refuge after the ethnic troubles there, and having been designated a refugee by the UNHCR, but has just been shipped back to China by the Kazakhstan government although other countries had offered him refuge.

Anyway, City grandees were appointed as independent directors to ENRC, when it was floated in London, to demonstrate good governance. They included Sir Richard Sykes, former head of GlaxoSmithKline and Sir Paul Judge, former head of Premier Foods.

To be fair, those who bought shares in the company would have known what sort of business they were investing in. They knew they were a minority in a company dominated by a very small group of shareholders and the chairman, Johannes Sittard, was known to be a long standing business associate of theirs. They knew that Kazakhstan is a dictatorship and a reasonable person might have guessed that the key decisions would, in reality, be made amongst this small group of people despite the fact that they do not directly have seats on the board.

Surely those City grandees would also have spotted all this. Apparently that other investor in African natural resources, from a bygone age, Tiny Rowland, described non-executive directors as ' a bauble on a Christmas tree' - maybe the world has not changed so much. But why did these heavyweight directors lend their names to this company when their function was clearly just pr? Their careers have been impressive; they have often said impressive and sensible things in the past; they are already wealthy men, they didn't need the money, why prostitute themselves? (Though Sykes remuneration, at £250,000 seems extraordinarily high for a non-exec). I have remarked in a previous post that the essence of good governance often comes down to integrity.

A few months ago ENRC was involved in a much debated transaction, buying a mine in the Congo that had been expropriated by the government. This appeared to smell of receiving stolen goods and is now subject to litigation from the previous owners. In that instance Sykes was a vociferous defender of the company he now recommends shareholders to disinvest from. He is also now quoted as using the phrase 'mad oligarchs' whilst the other ousted director, Ken Olisa, is reported to have used the phrase 'more soviet than City'. I suppose a late conversion is better than no conversion.

This whole sorry affair raises questions about integrity, about the judgement of people running the London Stock Exchange and about the regulatory regime under which this could occur. In the 'bad old days' of chummy, clubbable merchant banking types before Big Bang a handful of grandees would have had a chat and decided that there was a fishy smell about an outfit such as ENRC and it would have been blackballed, regardless of the potential for earning nice fees.

By the way, the shares have done quite nicely - up to over 800p from a flotation price of 540p in 2007 - though 29% down this year.

Directors personal responsibility

In the wake of the Berkshire Hathaway affair, where David Sokol, a senior executive, recommended a bid for Lubrizol, a company in which he had recently bought shares, I have been thinking more about personal responsibility. I strongly believe that rules and regulations matter. After all, I have a vested interest, with a forthcoming book on UK corporate governance (Financial Times Briefings: Corporate Governance). But rules can only provide a framework and a minimum standard of behaviour - they can never cover every situation. And only an ethical approach can fill in the gaps that are not covered by this framework.

Driving from the airport this morning I heard two juxtaposed items on the radio that illustrate this. The first piece reported on a football match in Chechnya to celebrate the opening of a new football stadium in the capital, Grozny. The local side, bizzarely, included Ramzan Kadyrov, the country's president, as striker and he scored a hattrick in his side's victory over an international all-star's side. But it was this team of former international players that interested me. It included two former England internationals, Robbie Fowler and Steve McManaman, who were interviewed. Both insisted they were not interested in politics, just in playing football. Yet this was not just an ordinary football game. All its unusual features proclaimed this fact. The presence on one team of the country's dictator, a man accused of personal involvement in murder and torture, whose opponents, as well as local  journalists and human rights activists, have a habit of being killed, proclaims that this was not just a football match. This was clearly not an instance where politics relates to polite political debate but an instance where the event was an integral part of a plan to confer legitimacy on a much harsher political reality.

The other item was a report on UK banks misselling of Payment Protection Insurance that was meant to protect people who were unable to repay loans. It seems clear that at some level of the hierarchy within not one but a numberof banks a decision was taken to encourage and incentivise staff to sell of these instruments in reckless disregard of whether they were suitable to the customer. I am sure that staff were not actually told to sell this insurance to everyone, whether appropriate or not. However, some people within the organisations must have realised there was an absence of the controls that would ensure the insurance was only sold where it was appropriate. They were either reckless or dishonest or were unable to make themselves heard within the management system: which would probably point to someone else having suppressed their concerns.

Both of these stories point to the need for individuals to take responsibility for their actions. Whether it is footballing whores or banking executive whores it is always important to accept personal responsibility. It is easy to recognise the thirty pieces of silver you are being paid but, usually, it is also easy to recognise the reality of what you are being asked to do in return. The biblical story of Cain and Abel reports Cain saying "Am I my brother's keeper?" and it carries two lessons. The obvious one is that Cain was involved in a cover up: the more difficult one is that, yes, you do have responsibilities for your brother.

At the heart of corporate governance we find integrity and ethical behaviour and it is actually not that hard to spot the right thing to do. What is sometimes hard is to turn away the thirty pieces of silver but it is down to each of us to behave properly and to speak up when others do not.