When it comes to protecting shareholders' interests, mainstream and socially responsible investing (SRI) mutual fund managers agree: supporting corporate reforms is key; but when it comes to voting their proxies on other SRI issues, the two types of funds drift further apart, according to a recent study of mutual fund voting records published by The Corporate Library, an independent investment ratings company based in Portland, Maine.
Some experts say that the similarities point to the core ethics about which their underlying shareholders care most: corporate accountability, transparency, responsibility to shareholders and an independent board.
"All of these things are apparently missing in certain parts of corporate America," said Mark Rowe, senior research associate at the Center for Business Ethics at Bentley College in Waltham, Mass. "Investors show they expect these things," Rowe said, but recent market drops suggest that they don't feel they're getting them. "We need a resurgence of values to bring back the confidence and trust," he said.
Indeed, in comparing the 2004 and 2005 voting records of mainstream and SRI funds among 45 different mutual fund families, Corporate Library researchers found that while the two types of fund families differ vastly in their stances on SRI issues from environmental issues to workplace equality, when it comes to corporate governance, the message was the same: Mutual fund managers demand more democratic boardrooms and less exorbitant executive pay.
That SRI and mainstream funds agree on corporate governance issues is no surprise, said Lloyd Kurtz, the portfolio manager for socially responsible investing at Nelson Capital Management in Palo Alto, Calif. "It's not just that corporate governance is perceived as fundamental to the functioning of a business," Kurtz said. "There's good evidence that funds with good corporate governance outperform," he added.
Investors have learned the hard way, through companies such as WorldComm and Enron, that with enigmatic prospectuses, hard-to-follow financial statements, and too-good-to-be true returns probably signify bad bets. "Somewhere down the line, corporate management began running their companies for themselves, not for the shareholders, and certainly not for the employees," said Carl Birkelbach, a financial planner with Birkelbach Management, a Chicago company with an SRI focus. Mutual fund companies, reeling from questions about their own credibility after the scandals of 2003, have responded not only by shoring up their own practices, but by proving that they are looking out for their shareholders.
Resolutions calling for majority vote standards to be applied to director elections, for example, represent one area where both socially responsible and mainstream funds show strong support. In 2004, mutual funds had the opportunity to vote on 12 resolutions related to this issue, but not one fund family, SRI or mainstream, supported any.
But in 2005, funds faced 57 such resolutions. One hundred percent of the SRI funds and 60% of mainstream funds supported it. "The increase," according to the Corporate Library report, "is tied to a renewed wave of shareholder dissatisfaction with the way in which board elections are run and the lack of opportunities for input by shareholders on the slate of nominees put forward by the board."
Another corporate governance issue about which mainstream and SRI funds seem to somewhat agree is that companies should expense stock options against their earnings. In 2004, mutual funds faced 66 resolutions dealing with this issue. SRI funds supported the proposals 98% of the time, while mainstream funds supported 80% of such resolutions. In 2005, there were fewer proposals dealing with stock options, perhaps due to pending Securities and Exchange Commission regulations pertaining to executive compensation and Financial Accounting Standards Board guidelines requiring such expensing starting June 15. Of the 23 resolutions, 94% of SRI funds and 79% of mainstream funds supported them.
Again, the issue is related to investor confidence, not conscience. "As we move forward and as companies are exposed for bad practices or misstated earnings, I think we find companies that are less transparent are going to lose credibility in the marketplace," Rowe said. And mutual fund companies do not want to suffer with them.
When it comes to other SRI issues, however, what shareholders want and how their fund managers invest don't always match.
Ceres, an environmentally minded network of investment funds based in Boston, recently released a report calling mainstream mutual funds "completely at odds" with their investors. Ceres asked 845 mutual fund investors whether they would like their fund managers, acting as their fiduciary proxies, to support shareholder resolutions "requesting that company management pay closer attention to global warming concerns and problems." More than 70% said yes.
Yet none of the 100 largest mutual funds analyzed supported any of 33 different shareholder resolutions pertaining to global warming.
Ceres called for shareholders to take a stand and demand their fund managers - especially mainstream companies like Vanguard, Fidelity Investments and American Funds - vote in line with shareholders' morals. But the problem is, many of those mainstream fund companies' guidelines either lack direction or prohibit voting for shareholder resolutions pertaining to environmental and other SRI issues, according to the Corporate Library report.
Vanguard's proxy guidelines offer explicit directions about how to vote when faced with questions about the structure of a company board but scant clues about SRI issues. As a result, between 2004 and 2005, Vanguard abstained from 95% of resolutions pertaining to corporate social responsibility, compared to 2% of resolutions related to corporate governance. Oppenheimer abstained from 80% of SRI-related resolutions, but only 5% related to corporate governance. Dodge & Cox voted against 100% of the social responsibility issues its funds faced. But anyone who invests in these funds should not be surprised. After all, as the prospectus says, "Dodge & Cox is focused on maximizing long-term shareholder value and will typically vote against shareholder proposals regarding social/human rights, economic and health/environmental issues, unless there is a demonstrable positive economic impact on the corporation," the prospectus states.
"Wall Street has always operated on an ethic that profit comes first," Kurtz said. "I don't think you're going to get an apology." And it's not clear investors are looking for one yet, despite Ceres' statement. SRI funds still represent less than 10% of the mutual fund industry's assets under management.
"People invest in the expectation of gain," Rowe said. And mainstream companies deliver. "The question is how far are you willing to go to uphold certain principles?" he said.
Global warming, specifically, has captured the public's attention, but, according to the Corporate Library report, 26 of the 40 climate change resolutions were actually withdrawn in 2005 when management and activist groups began negotiating directly. Such negotiations, which remove decisions about especially sensitive or popular issues from shareholder's hands, may become a trend, and contribute to the low support of shareholder-sponsored resolutions, wrote Jackie Cook, the senior researcher responsible for the report.
Even among SRI funds, standards differ. In fact, in 2005, SRI funds examined by the Corporate Library voted to support shareholder resolutions dealing with corporate social responsibility issues less than 60% of the time, representing a 3% overall drop from 2004.
That gets to the issue of how one defines corporate responsibility. "The reason I am socially responsible is that not only do I satisfy my heart, but I also satisfy my brain," Birkelbach said. He defines socially responsible investing as that which does not support funds with holdings that include alcohol, tobacco, weapons or gambling interests. Besides representing a certain moral position, he also avoids the risk associated with the highly regulated gambling, alcohol and tobacco industries, and defense companies, which often rely on government contracting laws, which can be fickle.
But ExxonMobil, a company that has been the subject of several shareholder resolutions brought by institutional investors such as the $31.5 billion New York City Employee Retirement System, is fair game. The majority of those resolutions pertain to issues surrounding human resource management and diversity. ExxonMobil also reported record-breaking profits for the fourth quarter of 2005, rewarding its shareholders richly, and after all, this is business.
"Everyone has to decide individually where they draw the line," Birkelbach said.
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