In last week’s J D Wetherspoon Preliminary Results report, Tim Martin, Chairman took time and space to express some forthright opinions on Corporate Governance and the UK Corporate Governance Code (2012).
Here, we re-produce in full what he had to say, and encourage readers to take the time to consider the message: not everyone in the pub sector or the wider hospitality industry will agree, but these views will assist some organisations in focussing on the priorities of running a successful, long-term business – their customers and staff.
“Last year, I expressed scepticism about aspects of corporate governance ‘best practice’, based on the observation that, in recent years, compliant pub companies had often fared disastrously in comparison with non-compliant ones. In particular, pub companies in which the CEO became chairman and which had a majority of executives and ‘non-independent’ non-executives, usually with previous experience in the pub trade, avoided making the catastrophic errors to which compliant companies seemed prone.
“Compliant companies, with a so-called independent non-executive chairman and dominated by non-executive directors, often with a very small number of executive directors, tended to be excessively influenced by City fashions, creating instability and poor performance as a result.
“In addition, I expressed the view that performance-based pay was, in effect, a double-edged sword, since setting targets for achievement often resulted in, for example, excessive debt as a means of enhancing earnings, as well as other distortions in behaviour. It was noted that banks in the credit crunch were also compliant, but this had not prevented disaster.
“These views, clearly set out in last year’s chairman’s statement, have not been contradicted by any party in the interim. No questions have been raised about this aspect of the chairman’s statement in meetings between the company and our shareholders. Indeed, corporate governance issues have almost never been raised by shareholders in all of our meetings with them in the 22 years since our flotation on the stock market. This year, several Wetherspoon executives and I have considered the UK Corporate Governance Code (2012), to try to throw light on this divergence in performance, bearing in mind the problems in recent times at companies like Marks and Spencer, Tesco and Morrisons, with ever-changing compliant boards struggling to run what were previously successful and stable companies.
“The general view of our management team is that the UK Corporate Governance Code does not, as it purports to do, ‘facilitate effective, entrepreneurial and prudent management that can deliver the long-term success’ of companies. The main fault we see is that the code is much too ‘City centric’ and ‘board centric’, emphasising the importance of meetings between shareholders and the chairman and between various permutations of board members.
“These meetings may be desirable or necessary, from time to time, but are much less important than directors of a pub company, for example, visiting its pubs and making a note of the comments of staff and customers (as is the practice at Wetherspoon), for the purpose of board and other discussions. The road to hell in pub companies lies in emphasising the views of shareholders over those of employees on the ‘front line’.
“This point was best summed up by the legendary Sam Walton of Walmart in ‘Made in America’:
‘As companies get larger … it becomes … tempting to … go to New York and speak to the … people that own your stock … I feel our time is best spent with our own people in the stores … Not that we don’t go out of our way to keep Wall Street up to date on what’s going on with the company.’
“He further stated:
‘What’s really worried me over the years is not our stock price, but that we might someday fail to take care of our customers or that our managers might fail to motivate and take care of our (employees)…. Those challenges are more real than somebody’s theory that we’re heading down the wrong path…. As business leaders, we absolutely cannot afford to get all caught up in trying to meet the goals that some … institution … sets for us. If we do that, we take our eye off the ball…. If we fail to live up to somebody’s hypothetical projection for what we should be doing, I don’t care. We couldn’t care less about what is forecast or what the market says we ought to do.’
“As Sam Walton indicated, it is clearly a vital priority for pub and retail company directors, for example, to keep in touch with employees and customers’ views, yet the code does not mention these aspects at all. In this respect, the theoretical separation of the running of a board and a company, as advanced by the code, is a highly dangerous concept. In order to run a business well, the directors need to appear regularly on the ‘front line’. This excessive emphasis on City/shareholders’ views is likely to stem from the nature of the FRC board itself, whose membership is dominated by individuals, no doubt well intentioned, with finance and City backgrounds, with few or no representatives from other spheres.
“Recent reports have stated that the average institutional fund manager turns over his share portfolio about twice a year. Inevitably, in these circumstances, advice from an average fund manager may tend to be based on short-term considerations and of no, or limited, use to directors. Sensible institutional shareholders recognise these parameters and will offer an opinion, if asked, and mostly restrict themselves to asking questions, enabling them to form an investment view.
“Anyone who has read the works of Benjamin Graham or Warren Buffett will be aware of their views that markets often suffer from deep and serious mental instability, so the idea of consulting ‘Mr Market’ as a regular source of wisdom is unrealistic and potentially dangerous. On the other hand, by concentrating on listening to the views of employees who understand best the challenges facing the business, directors will make a positive contribution to their companies.
“As an illustration of this imbalance, a word search indicates 65 references in the code to shareholders, three to employees and none to customers – a reversal of this ratio would indicate a better sense of priorities.
“Emphasising the pitfalls, the only serious approach from a shareholder, regarding Wetherspoon’s corporate strategy since our 1992 flotation, concerned the desire of one large shareholder, Hermes, in 2005, which urged Wetherspoon to start converting its pubs to tenancies, in order to take advantage of the higher share valuation which applied to Punch Taverns and Enterprise Inns at that time. This was not helpful advice then and appeared to us to be focused on short-term share performance at the expense of any other considerations and was advice which the board chose not to follow.
“The current advice that non-executives should remain on boards for a maximum of nine years, combined with the normal short tenure of chief executive officers of four to five years, has created boardrooms in which inexperience and short-term City considerations dominate and in which there is a demoralising instability for employees. As one sage has stated, ‘when experience is not retained, infancy is perpetual’.
“The code should also, we believe, be franker in admitting to the shortcomings of current and previous guidance. Remuneration committees, for example, which were introduced to control pay which was perceived to be excessive, have overseen an explosion in the levels of remuneration. The ‘pay for performance’ mantra has meant, in effect, the setting of complex targets for bonuses which have greatly lengthened and complicated reports and accounts, but have exacerbated, not alleviated, the basic problem. As a general observation, far too much financial reporting is couched in financial jargon and ‘business speak’, making corporate documents difficult to understand and being contrary to the stated approach of making reporting more transparent.
“In conclusion, it is our view that corporate governance, as reflected in the code and in common practice is, in many respects, deeply flawed as regards pub companies and probably many other types of company as well. The boards of many PLCs are often highly unstable owing to their domination by non-executive directors on relatively short-term contracts. A greater percentage of executive representation on the board, greater emphasis on all directors liaising with staff on the front line, rather than shareholders, and less emphasis on pay for performance are the key elements which need to be modified.”