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Thursday, May 24, 2012

Corporate Governance & Independent Directors

Warren Buffet in his Letter to Shareholders in the 2006 Berkshire Annual Report


In selecting a new director, we were guided by our long-standing criteria, which are that board 
members be owner-oriented, business-savvy, interested and truly independent.  I say “truly” because many directors who are now deemed independent by various authorities and observers are far from that, relying heavily as they do on directors’ fees to maintain their standard of living.  These payments, which come in many forms, often range between $150,000 and $250,000 annually, compensation that may approach or even exceed all other income of the “independent” director.  And – surprise, surprise – director compensation has soared in recent years, pushed  up by recommendations from corporate America’s favorite consultant, Ratchet, Ratchet and Bingo.  (The name may be phony, but the action it conveys is not.) Charlie and I believe our four criteria are essential if directors are to do their job – which, by law, is to faithfully represent  owners.  Yet these criteria are usually ignored.  Instead, consultants and CEOs seeking board candidates will often say, “We’re looking for a woman,” or “a Hispanic,” or “someone from abroad,” or what have you.  It sometimes sounds as if the mission is to stock Noah’s ark.  Over the years I’ve been queried many times about potential directors and have yet to hear anyone ask, “Does he think like an intelligent owner?”  

 The questions I instead get would sound ridiculous to someone seeking candidates for, say, a 
football team, or an arbitration panel or a military command.  In those cases, the selectors would look for 
people who had the specific talents and attitudes that were required for a specialized job.  At Berkshire, we are in the specialized activity of running a business well, and therefore we seek business judgment. 


When I criticized the Board of Kenya Airways for not looking out for Shareholder Interests, I had in mind what Warren Buffett has said over the years.

1) Directors should have a significant stake in the business. The best Non-Executive directors, who watch over the CEO & Senior Management have have to have skin in the game, hence open to losses/downside, not pandering to the CEO or Senior Management to receive hefty perks, with all upside & no downside.

KQ's Board [excludes the corporate directors representing KLM & GoK] have less than 25,000 shares worth less than 400,000/- whereas the perks/compensation (as reported) were about KES 6mn. I doubt we even know the full value of the free non-work related flights they (& their families) received thanks to KQ.

2) Directors have to have business judgement not political appointees or because they are 'nice' people.

So many examples of directors who should not be on many boards. Look at the appointees/nominees on GoK controlled (or influenced) firms like Kenya Airways, EA Portland Cement, National Bank of Kenya, etc. Compare the performance of these firms vs their peers or even the NSE in general.

  • KQ has destroyed shareholder value. The recent Rights Offer (16:5) was at 67% discount to NAV.
  • EAPCC vs Bamburi vs Athi River Mining. ARM (the CEO has a significant stake) has created significant shareholder wealth.
  • NBK vs Equity vs NIC vs Diamond vs I&M Bank. NBK has stagnated (I remain an admirer of the CEO) while the others grew tremendously. Equity and I&M Bank's CEOs have significant stakes in the bank. The directors of Diamond Trust & NIC represent the majority/key shareholders.

3) Directors should be compensated by having 'locked-in' shares or options not just cash compensation.

KenolKobil's CEO has options (amounting to at least 4% of the outstanding shares) which has translated into superb growth in earnings as well as an on-going Takeover Bid. Kestrel Capital expects a (at least) 20/- buyout offer which is 60% above the last traded price & significantly higher than the NAV/share. Compare to what the Board of Directors of KQ did to its existing shareholders.

3 comments:

Kauka said...

CT,
Hilarious stuff but well pointed out. I imagine applying warren's screen on GoK dominated boards may amount to a 'randiko sanjaray' of all these boards.

Pity in very many organizations, including those on the NSE the core role of the director - represent owners is not well understood.

coldtusker said...

Kauka - The CEOs (or other directors) do NOT want owner-directors who would be aghast at the perks & compensation being bandied around!

Kyle Alston said...

Kauka - The CEOs (or other directors) do NOT want owner-directors who would be aghast at the perks & compensation being bandied around!