Shareholder Activists Set Standards for the ‘90s

As Paramount Communications’ directors meet today to judge two competing takeover offers, there’s a sound they should find hard to ignore: The echo of recent saber rattling by some of the nation’s biggest institutional investors.

The unmistakable message from these investing giants is that they expect the highest returns possible from their stocks in the 1990s. If they don’t get what they want, they’re prepared to make trouble and to use their voting rights as shareholders to censure corporate managers--or even get them fired.

Last Wednesday, the world’s largest pension fund--the $125-billion TIAA-CREF system--unveiled a set of “corporate governance” guidelines that it expects to be followed by all 1,500 of the companies in which it owns stock.

And on Thursday, the Council of Institutional Investors, a group of public pension funds, published a list of 50 major companies that the council says have badly lagged in providing shareholders with a decent return in recent years.

The battle for Paramount didn’t figure specifically in either of those announcements. But some experts see Paramount as a landmark test of management’s wishes versus the best interests of increasingly activist large shareholders.

“All institutional shareholders are really going to be looking at how the directors go in the Paramount case,” said John Nash, president of the Washington-based Corporate Directors Assn.

Paramount management favors the bid by Viacom Inc. But because the rival bid by QVC Network Inc. is worth 31% more to Paramount holders than the Viacom bid--and includes three times as much cash--Nash and other observers believe Paramount directors are duty-bound to OK the QVC offer.

“My opinion is that, if they go any other way than to maximize shareholder returns, the institutional shareholders are going to come down on them with all four feet,” Nash said.

If the buzz-phrase “maximize shareholder returns” sounds familiar, you probably remember it from the heyday of the corporate raiders in the late 1980s. In that era, financial gunslingers attempted to gain control of companies by convincing shareholders that management was inept and had failed to produce the highest possible returns on the stock.

Today, most of the raiders are long gone. But the pressure they applied to individual corporate managements has been replaced by a force that is much broader and in some ways more intense: the pressure by institutional shareholders who want their stock portfolios to soar in the ‘90s.

Until fairly recently, most institutional shareholders, such as pension funds, rarely made public efforts to goad managers of companies whose shares they owned. Only a few, such as the California Public Employees Retirement System, regularly raised their voices about poorly performing stocks.

Now, the ranks of activist institutional shareholders are swelling. Many funds are motivated simply by the knowledge that the broad stock market’s tremendous returns in the 1980s (17.5% annually, compounded) are unlikely to be repeated in the ‘90s. Thus, for pension funds, the only way to ensure that enough money is there for future pensioners is to wring the maximum return from every stock in the portfolio.

The activist-shareholder movement got a huge boost last week from TIAA-CREF, the primary pension fund for the nation’s teachers. (It stands for Teachers Insurance Annuity Assn.-College Retirement Equities Fund.)

TIAA-CREF has historically shunned organized efforts to prod corporate managements. But its new corporate governance guidelines spell out management ideals that the fund believes will lead to better-run businesses--and, it hopes, to higher stock prices.

The guidelines take up 11 pages and enunciate TIAA-CREF’s position on such issues as board composition (the fund wants a majority of independent or non-management directors on every board), shareholder voting rights and executive compensation.

The TIAA-CREF announcement is “tremendously positive because it indicates that these issues have become mainstream,” said Ralph Whitworth, head of the 65,000-member United Shareholders Assn. in Washington. “I think you’re going to have a cascading effect” on other shareholders and on companies nationwide, he said.

That is important, Whitworth said, because organized shareholder-monitoring efforts so far have been able to focus only on the largest and most badly managed companies. Indeed, a legitimate criticism of institutional shareholder pressure is that it has been “a mile wide and an inch deep,” Whitworth said.

His United Shareholders group targeted 42 well-known companies this year, requesting action on such “anti-shareholder” practices as excessive executive pay and proxy voting rules that don’t allow shareholders to vote in secret.

“But there are a tremendous number of public companies in the vast expanse of corporate America, and thousands of them have been relatively unaffected” by shareholder activism, Whitworth said.

Even so, some observers say it makes the most sense for institutional investors to target the biggest corporate laggards, because the potential benefits of turning around a $10-billion company are much greater than what can be achieved in turning around a $100-million company.

Joseph Grundfest, associate professor of law at Stanford University and a former Securities and Exchange Commission member, noted that high-profile shareholder campaigns to pressure such floundering companies as Sears, IBM, Westinghouse and Eastman Kodak over the past year have in many cases produced measurable results--a change of management, a higher stock price or both.

What remains a matter of great debate, however, is whether shareholder activism can meaningfully boost stock returns in the long run. TIAA-CREF admits as much in the preface to its guidelines. “We acknowledge that even an ideal system of corporate governance does not guarantee superior performance,” the fund says.

TIAA-CREF and other activist funds insist they aren’t trying to micro-manage corporations but are trying to make sure that management remembers that shareholders own the company--and that shareholders’ rights come first.

If the activist movement helps to keep companies focused, efficient and shareholder-oriented, of course, it will benefit more than just the pension funds: Individual investors will be enriched as well.

Whether society as a whole benefits is another matter. After all, the corporate drive to “maximize profits” has already cost millions of workers their jobs in recent years in the name of efficiency.

But those who support shareholder activism are unapologetic.

“Let’s be honest,” said Nash of the Corporate Directors Assn. “If shareholders didn’t invest, there wouldn’t be companies, and there wouldn’t be any jobs, period.”

Activists’ Goal: Independent Boards Both the United Shareholders Assn. and pension giant TIAA-CREF agree that one key to a well-run company is an independent board of directors. In theory, at least, an independent board is more likely to look out for shareholders’ interests than a management-dominated board.

What constitutes an independent board? According to new guidelines set down by TIAA-CREF:

* A majority of directors should be “outsiders”--that is, they are not current or former executives of the company or individuals who have personal ties to management.

* The audit, compensation and nominating committees of the board should be composed entirely of outside directors (no management members, period).

If TIAA-CREF were to try to enforce those guidelines, it would have its hands full: Last year, a United Shareholders Assn. survey of the 1,000 largest U.S. companies by stock market capitalization found that only 23% had a majority-outsider board and fully independent compensation and nominating committees.