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Tomorrow money: ensuring corporate shares are worthy of investment

Here are some challenging questions for fund managers ­ and FDs:
• Why is the FTSE-100 index over 40% lower than it was a decade ago, even though
the British economy has grown by 45% in that time?
• Why are most UK pension funds holding shares in banks, at a cost of almost
£250bn since February 2007?
•l Why have the boards of the world’s largest banks been so ineffective at
protecting their shareholders’ interests?
• Where were the shareholders, auditors and professional advisers to our four
state-owned banks when they were following strategies now seen to be
unsustainable?

Posing the questions
The questions come from Sir John Banham, currently chairman of Johnson Matthey
and senior independent director of Invesco, in a personal submission to the
Tomorrow’s Investor project (see ‘Tomorrow’s investors’ below). He adds that “it
would be unwise to rely on the institutions that have presided over this mess ­
even if they have not caused it ­ to now take effective corrective action.”

But Banham’s comments are less concerned with the financial crisis as such
and more concerned about the “dismal” performance of the UK fund management
industry which, he says, is one of the main reasons why we are all being told to
spend less, save more and work longer. The underlying problem, he suggests, is
“a typically British insistence on seeking to avoid risk rather than a
determination to manage it effectively”.

Banham says shares in UK companies have tended to underperform their overseas
rivals, so companies either get taken over or bought out by private equity
groups.

Corporate managements have tended to shrink their equity base, buying back
shares rather than investing in the future.

Reckless caution
Now, someone saving £200 a month in a with-profits pension plan for 20 years
will retire on £4,000 a year, compared with £20,500 a decade ago. He cites
former London Stock Exchange chief executive Clara Furse’s comment that pension
funds opting for low-risk bonds rather than equities are adopting a policy of
“reckless caution”. Meanwhile, companies are faced with ever growing demands
from their pension scheme trustees to plug the deficit.

But what’s the solution? World class asset management. Banham suggests that
trustees should avoid the pitfalls of indexation by using instruments such as
exchange-traded funds; they should appoint managers who behave like owners
rather than speculators, bridging the “ownership gap”; and fund managers should
be rewarded for creating wealth and not simply running an investment account.

Finally, Banham suggests eight tests that any company must pass for its
shares to be considered worthy of investment. These tests relate to the
performance of the business, the outlook, and the quality of the management. The
bad news? Banham suggests that probably fewer than one-in-five FTSE-100
companies would pass the tests.

Tomorrow’s investors
Almost 15 years ago, the Tomorrow’s Company initiative published a report on the
key drivers for sustainable business and the role of business in society. It was
launched by the
RSA, the
Royal Society for the encouragement of Arts, Manufactures and Commerce, and has
been an influential project that helped shape businesses’ relationship with all
their stakeholders.

Last year, the RSA launched the Tomorrow’s Investor programme, an inquiry
into what kind of investors and owners are needed if capital markets are to
deliver what we need. As part of this programme, Sir John Banham, a businessman
with a long career as a company chairman and as director-general of the CBI,
submitted a personal report on what he thinks is required for the pension
industry to deliver better returns.

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