Royal Bank of Canada has vaulted to a tie for the top spot in the Report on Business ranking of corporate governance in Canada, but chairman Guy Saint-Pierre says the company has not finished its reforms.
"We try to raise the bar," Mr. Saint-Pierre said in an interview. "We don't want to raise the bar to an impossible level, and we don't want to do new things just for the sake of doing new things. But we will have a board meeting shortly, and we're looking at ways we can improve corporate governance."
RBC and Calgary-based TransAlta Corp. have tied for first place in ROB's second annual Board Games ranking of corporate governance practices. It's TransAlta's second consecutive year in the top spot, while RBC leaped from 85 points in 2002 to 94 points in 2003 because of a host of changes it unveiled late last year.
(ROB changed some details of its marking system this year, including adding new categories for assessment. As a result, the 2003 marks are not directly comparable to 2002.)
Both RBC and TransAlta have demonstrated a commitment to continually make improvements. And both have demonstrated that good corporate governance requires much more than good board structure, adopting procedures to encourage better operations, discussions and decision making.
"Ensuring you have a good structure in place for governance is terrific," says TransAlta chairman John Ferguson. "But what you've got to be focused on is the results, getting the results for shareholders. But you can be focused on results if you know you have a good process in place."
Both RBC and TransAlta scored high marks in board composition, with majority independent boards. Both also had full independence on their key audit, compensation and nominating committees of the board. Both companies also separate the roles of chairman and CEO, with RBC appointing Mr. Saint-Pierre as an independent chairman in 2001, making it the first major Canadian bank to separate the roles.
Separation has the support of many investors and governance experts, because it helps ensure the board is independent in its supervision of management.
"Once you have two people who get along well and understand their respective roles, I think it's a much more effective way to run a board," Mr. Saint-Pierre said.
Indeed, he says he worked with an independent chairman when he was CEO of engineering firm SNC-Lavalin Group Inc., and found it beneficial to have someone to handle board meetings, steer the agenda and require management to be accountable. Combining the jobs, he says, is "an awful lot of power that's given to one man."
Both RBC and TransAlta also have directors who sit on fewer than eight public company boards, helping ensure directors have enough time to devote to their board responsibilities.
But three directors of RBC are also directors of Alcan Inc.., creating a small group with cross-directorships. ROB deducts marks on its survey for this practice, because of concerns it can create a cozy situation for directors who know each other well from another corporate connection.
At RBC, the dangers were clearly demonstrated last year, when three of the bank's directors were also on the board of BCE Inc. including Mr. Saint-Pierre. Another RBC executive, Anthony Fell, was also on the BCE board.
At that time, RBC was protesting a decision by BCE to cut off funding for subsidiary Teleglobe Inc., which was a major RBC borrower. The cross-directorships meant that a third of BCE's board had to excuse itself from discussions about Teleglobe because of the potential conflicts of interest. In the end, two directors resigned from the BCE board last year, including Mr. Saint-Pierre, eliminating some of the ties between the two boards.
Mr. Saint-Pierre said one of the additional improvements RBC plans to introduce this year is to prohibit directors from joining another board when two of its directors already sit on that board.
"Maybe three years ago it was not an issue. But because of the BCE thing last year, where we had a lot of common directorships between BCE and Royal Bank, it became a bit of an issue," Mr. Saint-Pierre said.
Beyond structure, however, both RBC and TransAlta have put processes in place to improve board functions.
For example, both companies hold board sessions without management present at each board meeting, to ensure directors air all their concerns without feeling any social pressure to pull their punches in the presence of the CEO. Both companies also do detailed annual reviews of board operations and the contributions of individual directors, using the feedback to constantly improve board practices.
Mr. Ferguson said TransAlta started doing evaluations long before they had become popular, ensuring directors got feedback on their work and the chairman got input on his. Every year, Mr. Ferguson holds one-on-one sessions with each director.
"I learn a lot by having a one-on-one with them, and then we finish the session with me giving them my frank assessment of their performance," Mr. Ferguson said.
"I think because of the trust between myself and board members, that works well. There have been some cases where we've seen significant improvements in their contribution just from being very honest with them. It's amazing how people love people being honest with them."
Both companies also have implemented compensation practices that encourage good corporate governance.
For example, RBC and TransAlta require directors and senior executives to own shares, and both companies have made changes to mitigate some of the potential dangers of using stock options for compensation. Indeed, at RBC, compensation was one of the areas of greatest reform in 2002.
The bank raised its director share-ownership requirement to $300,000 per director, or a level equal to 10 times the annual retainer paid to directors. The bank also increased the share ownership requirement for CEO Gordon Nixon to six times his average base salary in the previous three years, which is about $600,000 currently. That means he must own more than $3.6-million worth of stock.
As well, the bank announced late last year that it was eliminating the use of stock options to compensate directors, and will cut in half the number of options it grants to executives. The bank also requires executives to hold shares for a year after options are exercised.
Mr. Saint-Pierre said the holding period eliminates any possibility that an executive can take advantage of special inside information, because the profit from exercising a stock option must be delayed.
Mr. Ferguson said TransAlta grants no options to directors, instead favouring share ownership. TransAlta has also used a stock repurchase plan to buy common shares in the open market to combat the dilution of granting shares to executives who exercise options.
"Ownership of stock more directly aligns the board with shareholders," Mr. Ferguson said. "Options are close, and they are a good way to do it. But the most direct way is having exactly the same kind of security, having the stock itself. There is a distinction."
In a move that differs from most other companies, all employees get stock options at TransAlta, except for those in top management. Although the reach of the option plan is large, the numbers granted are modest and the potential stock dilution from TransAlta's option plan is below 5 per cent. Instead of options, senior managers receive share units.
"It works very well for us, and it's never been a deterrent for finding quality people," Mr. Ferguson says. "We haven't had any trouble, although in some industries it does become a big factor."
Mr. Saint-Pierre said improving corporate governance practices, changing compensation policies and finding ways to make the board work better is an evolving process.
"Perceptions have changed. What was acceptable seven years ago to most investors, in terms of perception, now is more frowned upon. So constantly we see that we have to make improvements."