COVER STORY : Protection, Palliative or Placebo

Ask competitors why Provincial Finance, second-tier finance company with solid ABA ranking, failed this year and they put it down to collapse in the car market. Two other finance companies, National Finance 2000 and Western Bay Finance, failed around the same time under similar circumstances.
But management “experts”, most of whom have never worked in finance, have been quick to cite these failures and other corporate shortcomings as evidence of deficient governance.
But is poor governance really responsible for so many debenture holders being left high and dry, or do companies fail anyway when market conditions work against them?
New Zealand Business Roundtable executive director Roger Kerr believes the latter. He says people tend to blame governance when businesses fail rather than accepting failure as part of the swings and roundabouts of the corporate cycle.
Kerr says efficient, “best-practice” boards are important but the way they are run often bears little relation to the marketplace.
“Most of what happens in particular industry is outside the control of management and directors,” he says.
“Capitalism is system of profits and losses and that will always be the case. There is nothing dishonourable about bankruptcy if company has not committed anything dishonest.”
Kerr says he is tired of New Zealand directors and managers being portrayed as inferior.
“How was it that New Zealand became one of the highest-income countries if our companies were run by poor managers and poor boards? lot of nonsense has been talked about old boys’ clubs and interlocking directorships but the calibre of management and governance in New Zealand is high.”
The real danger, he says, is when managers and directors become so focused with governance that they become risk averse. He claims the Government’s and regulators’ obsession with governance, far from protecting the interests of stakeholders, actually imposes unacceptably high costs on companies.
“Business innovators take risk and make mistakes – that is part of the price of an open economy. I don’t know any serious director or board that has not made bad decision. To jump on anybody who has made bad call is just ridiculous.”
Kerr says the growth of the private equity market, and the decisions of businessmen like Stephen Tindall (The Warehouse) and Graeme Hart (Burns Philp & Co) to take their companies private, reflect the folly of over-regulating listed companies.
He cautions the Government not to overreact to the recent finance company failures by imposing even more regulations.
“I don’t see anything special about finance companies. They are just like any other businesses. They are just part of the market.”
He says the real challenge for New Zealand is to create an environment that encourages risk-taking and capital-raising.
“In the United States the No 1 hero is the entrepreneur who succeeded and the No 2 hero is the entrepreneur who failed.”
Kerr accepts that good governance can result in better company decisions and even better outcomes, but it cannot make insolvent companies solvent.
This view runs counter to the politically correct line in official circles that good governance is the be-all, end-all of corporate best practice and vital protection against things going wrong.
But talk of governance means little to the 70-year-old couple who might get only $0.60 in the dollar back on their debenture investment in failed finance company. Critics like Kerr say good governance might feel good and even look good but will not necessarily pay the bills when business turns sour.
What can be said is that the debate over whether good governance results in good outcomes for investors and other stakeholders is anything but clear cut.
NZSX adopted corporate governance code in 2003 with an updated legal and regulatory framework to “minimise uncertainty and risk for all market participants”.
The changes were well intentioned, providing for differences in corporate size, culture and performance goals. They resulted in new listing rules providing for:
•a minimum two independent directors on board or one-third of the board;
•a ban on director simultaneously being chief executive and chairman;
•a requirement that directors complete an appropriate director certification course;
•a requirement that listed companies establish an audit committee with minimum of three directors, majority of independent directors, and at least one with an accounting or financial background; and
•a change of the external auditor or lead partner every five years.
Chief executive Mark Weldon said then that corporate governance was widely recognised as an important tool for improving accountability, transparency and certainty.
“If we are to be successful in attracting foreign investment back into the New Zealand market, we must be seen to uphold the appropriate standards,” he said in statement.
But there has been scant evidence since that the changes have encouraged greater foreign participation in the New Zealand sharemarket, increased capital-raising or stopped directors from making mistakes.
Shareholders’ advocate Bruce Sheppard argued recently that governance failures had led to bad decisions by directors, pointing to carpetmaker Feltex as prime example.
He said the board should have disclosed its increase in borrowings to meet the concerns of nervous suppliers.
“[The increase in debt] represents fundamental change, it affects how much shareholders will get,” he told the New Zealand Herald on September 6, barely two weeks before the ANZ Bank called in the receivers to Feltex.
Sheppard, president of the New Zealand Shareholders’ Association, campaigned for the dismissal of four Feltex directors, though not former Deloitte chairman John Hagen. But his move was overtaken by the swiftness of the receivership and Feltex’s virtual fire sale to Australian carpetmaker Godfrey Hirst.
The association hopes to have more success in persuading the company to sue Credit Suisse First Boston Asian Merchant Partners, which sold Feltex in the float in 2004. But Feltex shareholders, who were the big losers from the corporate failure, should not hold their breath.
The Securities Commission’s secret investigation into Feltex revealed no wrongdoing though New Zealand Herald columnist Brian Gaynor, former sharebroker, expressed concern at the company’s failure to distinguish clearly between projected and forecast earnings.
“The Securities Commission would be lucky to score one out of 10 for its investigation of the Feltex prospectus. Its low rating is mainly due to the process, rather than the outcome, of the review,” he wrote in the Herald on September 2 this year.
“In an environment where public issuers have demanding disclosure and transparency requirements, the commission remains incredibly secretive and uncommunicative. It didn’t reveal it was undertaking an investigation nor did it give frustrated shareholders an opportunity to present their point of view.”
This might be so but Gaynor was unable to draw the long bow between Feltex’s apparent break down in governance and the ultimate fate of the company. Prospectuses are one thing; getting prospective shareholders to read them, and to distinguish between the finer points of forecast and projected earnings, is quite another.
The Securities Commission’s statement on Feltex was terse one-pager, rejecting any breach of prospectus disclosure obligations or banking covenants requiring disclosure in the prospectus. But the commission noted that it had not considered Feltex’s compliance with the 1993 Companies Act or directors’ duties more generally “as these matters [were] beyond the commission’s jurisdiction”. The commission did continue to investigate continuous disclosure and financial reporting issues after Feltex’s earnings downgrade announcement on April 1 last year but took no action against the company.
Brian Gaynor was not pleased and told Herald readers as much: “Felt

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