Responding to dismal stock performance and poor governance practices, the California Public Employees’ Retirement System (CalPERS), the nation's largest public pension fund with assets totaling more than $230 billion, released its annual Focus List yesterday – naming 11 underperforming companies that in such sectors as retail, electronics, pharmaceuticals, and media.
The CalPERS Focus List Process begins by screening underperforming companies in the pension fund's largest equity portfolio – the CalPERS 2500 Index Fund.
Its objective is to engage publicly traded companies to improve their business models and governance practices to gain positive investment returns. The Focus List is used to call attention to companies that ignore CalPERS' suggestions for change.
"The long term performance of all 11 companies is at least 20 percent behind their peers, and they have resisted appeals to change corporate practices that make their boards unresponsive to shareowner interests," said Rob Feckner, CalPERS Board President. "In several cases, their entrenched boards refuse to discuss our grievances.”
• Shares in Corinthian Colleges, Inc. (NASDAQ:COCO) have underperformed relative to the S&P 500 Index and its industry peer index over the three period by (85.23)% and (77.23)%, respectively, and five year time period by (21.64)% and (13.89)%, respectively.
Despite 60% and 18% increases in 3Q:04 sales and earnings (Y-oY), respectively, investors focused their worries on revelations that operating margins at the for-profit operator of post-secondary educational programs tumbled 5.8% to 16.4%, hurt by higher overhead costs at 71 campuses acquired in August 2003. Prescient investors dumped their shares: the share price peaked on April 22, 2004 at $35.81 per share (adjusted for a 2:1 Stock Split on March 24, 2004). In August 2004, management guided share-net lower, blaming increases in marketing and advertising expenses needed to mitigate student lawsuits at the company's Florida Metropolitan University system.
An SEC options investigation (now closed) and ongoing student enrollment problems continue to hamper earnings—and investor enthusiasm for Corinthian.
CalPERS is seeking shareowner approval to remove the Company’s classified or ‘staggered’ board structure, too.
• Hurt by erratic earnings performance, the shares in Dollar Tree Stores, Inc. (NASDAQ:DLTR) have underperformed relative to the S&P 500 Index and its industry peer index over the three period by (21.23)% and (42.85)%, respectively, and five year time period by (36.96)% and (75.18)%, respectively.
Among other board accountability issues, CalPERS contends that the operator of discount variety stores refuses to seek shareowner approval to remove the Company’s classified or ‘staggered’ board structure; would not agree to seek stockholder approval to remove the supermajority requirements that pertain to the articles of incorporation; and, ignored a petition to implement “double-triggers” on equity payouts so that during a change in control, unvested equity would convert to the new company.
• Shares in Eli Lilly & Company (NYSE:LLY) have underperformed relative to the S&P 500 Index and its industry peer index over the three period by (52.63)% and (23.10)%, respectively, and five year time period by (60.48)% and (10.78)%, respectively.
In fiscal 2002, the drugmaker reported share-net of $2.50—in fiscal 2006, the company reported earnings of $2.45 per share. Prior uncertainties over pricing power and generic intrusions, coupled with recent press disclosures that Lilly deliberately withheld risk information from the medical community about its schizophrenia drug Zyprexa’s links to elevated blood sugar levels and obesity have offset recent positives, including limited patent expiration exposure, increased market penetration of franchise drugs, and an exciting pipeline (e.g. Prasrugel, an oral anti-platelet inhibitor and Ruboxistaurin, for diabetic retinopathy).
Among other lack of board accountability issues, CalPERS cited the drugmaker for not allowing shareholders the opportunity to amend bylaws—by employing restrictions used by only 4 percent of S&P 500 companies.
Lilly also would not agree to grant shareowners the right to call special meetings or act by written consent; and, ignored a petition that stockholder approval be sought for existing or future poison pills.
• Shares in EMC Corporation (NYSE:EMC) have underperformed relative to the S&P 500 Index and its industry peer index over the three period by (32.34)% and (25.10)%, respectively, and five year time period by (11.21)% and (7.67)%, respectively, due to concerns that EMC's growth is being fueled more from acquisitions than from its core data hardware business (a highly competitive market—think IBM or HP—prone to short maturity cycles and related declines in average selling prices).
Another CalPER grievance is that the data storage device maker refuses to seek shareowner approval when the present value of an officer’s severance exceeds 2.99 times base plus bonus.
• Shares in International Paper Corporation (NYSE:IP) have underperformed relative to its industry peer index over the three and five year time period by (35.00)% and (43.84)%, respectively.
Weak demand for—and substitution of cheaper grades of—paper, coupled with rising energy costs have hurt sales volume and net income in the last five years. During this time period—adjusted for dividends, the stock of the forest products company has lost $3.49 per share.
Characteristic of an entrenched board, directors at the world's largest pulp and paper producer are allegedly unresponsive to shareholders: (i) ignored a request that stockholder approval be sought for any future poison pills; (ii) refused to remove the staggered or “classified” board structure; and, would not agree to remove supermajority voting requirements that pertain to the articles of incorporation.
Last week, in a Fortune funded survey of more than 3,000 executives, directors and securities analysts queried about the 10 largest companies by revenue in 63 industries, IP was ironically named the most admired paper company in the magazine’s annual report of "America's Most Admired Companies."
• Shares in Kellwood Corporation (KWD) have underperformed relative to its industry peer index over the three and five year time period by (51.59)% and (82.12)%, respectively, due to continuing decreases in orders for certain legacy brands.
CalPERS cites its concern over shareholder rights, for the apparel marketer requires a supermajority vote for issues that pertain to the articles of incorporation and bylaws.
• Shares in Sara Lee Corp. (SLE) have underperformed relative to its industry peer index over the three and five year time period by (33.55)% and (44.26)%, respectively.
Earnings results in the last two years have been adversely affected by higher commodity costs (coffee, fuel, packaging) and distractions caused too diverse product lines, from apparel to Kiwi shoe polish to baked goods.
In the past two years, the food and beverage purveyor has been exiting non-core businesses, including the spin-off of Hanesbrands and the sale of sale of its European meats business to Smithfield Foods, Inc., the world’s largest pork processor and hog producer.
Nonetheless, CalPERS believes the board is too insulated and lacks accountability during this restructuring: (i) Shareholders may not amend the bylaws and (ii) the board refuses to seek shareholder approval to remove the supermajority voting requirements that pertain to business combinations, director removal, and shareowner’s ability to act by written consent.
Other Companies called out this year for lackluster efforts media giant Tribune Company (TRB), the Marsh & McLennan insurance firm (NYSE:MMC), integrated electronics manufacturer Sanmina-SCI (NASDAQ:SANM), and hospital operator Tenet Healthcare (NYSE:THC).
The fund warned it would start or step up existing efforts to push for changes if the companies do not act quickly themselves. Calpers is already pursuing shareholder proposals at four of the 11 companies.
CalPERS 2007 Shareowner Proposals:
1. Dollar Tree Stores: “seeks to remove the company’s supermajority voting (usually 80%) requirements that pertain to the articles and bylaws.”
2. Eli Lilly & Company: “seeks to allow a simple majority of shareowners (51%) the right to amend the bylaws.”
3. Kellwood Corporation: Believing that annual elections for directions provide greater accountability to shareowners, in 2007, activist stockholder, CalPERS, is “seeking to remove the apparel marketer’s classified or “staggered” board structure.”
4. Marsh & McLennan Companies: “seeks shareowner ratification of any severance agreement that provides severance benefits with a total present value exceeding 2.99 times the sum of the officer’s base salary plus target bonus.”
The success of the program is measured on the basis of excess shareowner returns to the internal portfolio and improved governance practices market-wide.
Research indicates that naming the companies helps change practices and improves performance over the longer term. One study of The "CalPERS' Effect" found that the stocks of companies named to the list went on to outperform the S&P 500 Index by 3.1% on an annualized basis over five years.
Editor David J Phillips does not hold financial interests in any of the companies mentioned in this posting.