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The Directors Letter
Corporate Governance News Since 2006
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Written by Executives, Read by Executives
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June 17, 2017
In This Issue
Creative Competition
Revenue Recognition and Tax Equalization
Uber, Dropping the Ball
Add Physical Security to Cyber and IP
Our
Executive Insights video next week will feature Ellen Zane. She is a former teaching hospital CEO. Now a senior board member, she will discuss healthcare challenges at the senior level.
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Walmart and Creativity?
No matter what business you're in there is going to be something to be learned from watching two behemoths battle it out. Domestically, Amazon is trying to sell everything to everyone from its website. They are investigating Delivery by Drone, and gently tiptoeing into brick-and-mortar for perishable food delivery. Walmart, despite its 4700 US stores feels threatened and knows it is late to the online game. In response, it purchased discount retailer Jet.com last fall for $3.3 billion. On the internal creative side, it is using its stores as pickup site for online purchases as well as using Uber and Lyft for deliveries. It recently announced that it was testing the use of Walmart employees (Associates) to deliver purchased products as they commute home. There are some considerations in terms of liability for the use of personal vehicles and overtime pay etc. Meanwhile, Amazon targets a core component of Walmart customers, lower income consumers, with a new, discounted Prime membership program.
Ed Note:
The lesson learned here is the need for creativity across the business spectrum when it comes to being competitive in 2017. While your current business plan may be working just fine, it should be reviewed at least annually relative to "what if"? Ask Ford and General Motors, if they are worried about Tesla, Google, Uber and Amazon. Reference, Harvard Business School Professor Ted Levitt discussing the age old question of what business are the railroads in? "Marketing Myopia".
The Balance Sheet and Operating Leases
We have discussed in previous Letters and in our Executive Insights videos, the upcoming changes in accounting guidelines. Many of these will take effect in fiscal years which begin after December 15, 2018. Our friends at KPMG have emphasized that one significant area of change is bringing operating leases onto the balance sheet. Previously, these liabilities and other financial obligations had an off-balance-sheet status. No Longer. While these accounting requirements will impact companies in a variety of ways, retailing, with his extensive use of store real estate leases, could see a significant change in balance sheet presentation.
Ed Note:
While retailers are struggling with a variety of operating issues such as online sales versus brick-and-mortar as well as determining what are the millennials buying or not buying is one more challenge. Add in potential changes coming from Washington in the tax and trade area and you have a demanding environment for senior management and the board. At the same time, if your company's revenue model is indirectly dependent on retail, as a client, you have to do the same analysis and monitor the same risks.
You Should Know
According to ISM, The Institute for Supply Management, US manufacturing activity continues to show signs of healthy growth. The index was 54.9. Anything above 50 indicates expansion. The index readings for each month of this year have been higher than any month in 2015 or 2016. Related considerations: finding qualified employees as well as trade and tariff policies out of Washington.
Lloyd C. Blankfein, the chief executive of Goldman Sachs
, who has never used Twitter before, sent his first tweet stating that Mr. Trump's climate decision was a "setback for the environment and the US's leadership position in the world."
The economic debacle and legacy of Pres. Hugo Chavez,
and now his successor Nicolás Maduro continues in Venezuela. The International Monetary Fund estimates that GDP contracted by 18% last year and will shrink an additional 7% this year. Inflation is expected to average 720% a month in the coming year. No solution or bailout is in sight, what is your South America policy?
In the mid-1970s less than 1% of taxi drivers were college graduates. In 2010 it was more than 15%. No more current data was available. Source: WSJ. Time for employees and employers to review that catastrophic portfolio of ($1.4 trillion) of student debt.
Non-GAAP vs. GAAP Accounting
We continue our discussion of regulations and guidelines impacting the audit committee. Rick Charron, a Boston partner at KPMG, comments on a corporation's use of Non-GAAP versus GAAP accounting standards.
Please wait for video to load.
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Washington's Need to Tell All Does the supposedly Top Secret CIA need to inform the world that Michael D'Andrea, who previously oversaw the hunt for Osama bin Laden as well as the American drone strike campaign, is now running the Agency's Iran operations?
Ed Note:
Transparency is often a good thing. In the areas of national security and intelligence, "the need to know" is probably a better guideline. I doubt Tesla, Google, Ford and GM feel the need to give detailed updates on their progress relative to the self-driving automobile. Positive PR is not the same as disclosing proprietary information. Ask Google why they are suing Uber regarding their recruiting the executive who ran Google's self-driving program.
Finance Committees and OECD
The Organization for Economic Cooperation and Development (OECD) is not an international regulatory body. It is a group that, for several years has been discussing fairness in global tax policy. Major participants are the 28 EU members, China, India, Australia as well as other nations. The US is not a signatory. Recently, 70 of the countries and jurisdictions signed an agreement limiting the ability of multinationals to exploit divergences between tax treaties. This practice was most basically known as "treaty shopping." Previously companies had shifted profits to low tax locations in a practice known as base erosion and profit shifting. The practice of inversion, buying a company in a low tax area and moving the headquarters and related revenue there has been significantly curtailed by the US government, but will most likely be further impacted by this agreement.
The effort to reduce
"treaty shopping."
was launched by the
OECD in
2012 with the goal of harmonizing a web of more than 3000 bilateral treaties. The driving force behind this effort has been the EU. The agreement is set to take effect in January 2020.
Ed Note:
The agreement must be ratified not only by participating countries, but in some cases regional legislative bodies within those countries. The process will most likely take several years. While the agreement will take away uncertainty from a tax planning standpoint, it will also remove flexibility and in certain cases increase corporate tax liability. From a treasury and fin comm. standpoint, this is not a totally surprising turn of events. However, the vote is definitely a reality check in terms of future global tax planning.
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Uber Investor Versus Independent Directors The case reference would be Uber. A seven-year-old company that now has a $68 billion valuation and 12,000 employees. The charismatic founder CEO Travis Kalanick has raised $15 billion of private investment and built a ride hailing company that is a paradigm shift in how people and potentially things move about in primarily urban areas.
Mr. Kalanick controls the majority of the stock, either directly or indirectly. The board has nine members. Most of whom are founders or significant investors. There is one independent director Arianna Huffington. She has recently been joined by a second independent director Wan Ling Martello.
That is basically the end of the good news part of the story. The company has been wrought by a series of scandals involving either sexual harassment or just plain sexism. Recent turnover at the executive level has been significant in the operations, marketing, finance, communication and self-driving areas. Now the CEO has stated that he will be taking an indefinite leave. A formal investigative report by former US attorney Eric Holder describes a fraternity type culture at Uber encompassing booze, sex and drugs. At a recent all employees meeting, a major investor and chairman of private equity firm TPG made a remark that with two female directors there would be a lot more talking going on. The next day he apologized and resigned from the board.
Ed Note:
The style of the CEO was full speed ahead, take no prisoners, and to publicly fight any decision that he didn't like. It may very well be that without this style of management Uber's meteoric growth could not have been achieved. Human nature says if you're an early investor and sit on the board, you have to feel that it was a pretty good decision when you wrote that check.
However, with corporate growth comes change. If you don't understand that and can't respond to it then you probably shouldn't be a director. In our opinion, the company has been damaged because there was no oversight of the leadership by the board. Either they did not have the authority to intervene or chose not to do so. This is the problem, when the corporate structure has a majority of the control with the founders rather than the investors. Reference- Theranos where the board and investors basically had no idea what the company was doing.
Enter the independent director. These individuals are not distracted by their brilliance in making the initial investment in the company. If they are not distracted by the prestige of their board position, they can be extremely valuable rendering an independent opinion. This can take place even when they don't have the voting leverage to necessarily backup that opinion. An independent director can often bring a critical level of operational experience rather than just investor experience. The independent director may have a viewpoint that is not clouded by the growth of the company but rather focuses on the company's current needs and obligations. Anyone who has been involved in rapid growth companies understands that quite often the company outgrows the skill set of the founder. That same criteria can be applied to members of the board. Now, you have Uber, which will be run by a committee of 14 executives (hopefully short run). You remember that story about the rhinoceros that was actually a giraffe designed by a committee. All of these events combined with global competition, the challenges of autonomous driving vehicles, regulatory review and a potential IPO could in the short run be a costly and time-consuming distraction for Uber, putting it at risk.
Security Plans
It is a sad story indeed. The reality of today is that your company may be well advised to do a quick overview of your physical security plan. This is not the direct purview of the board, but certainly risk management is. A 30 minute off-line update by the appropriate managers may be time well spent. It should be clearly understood by all involved, that in this instance, we are not talking about cyber security or IP security but physical security of employees and facilities. If new managers are in place, this review may be on their list of things to do. Make it a priority, ask the tough questions, get the right answers. "We're in good shape.", is probably not the right answer.
CEO Gender and Compensation
A recent survey by the Wall Street Journal of S&P 500 CEOs found that 21 female CEOs received a medium compensation package of $13.8 million compared with a median compensation package of $11.6 million for 382 male CEOs. TSR at the female run firms reflected a median of 18.4% in 2016 compared with 15.7% for 2016 at male run companies.
Ed Note:
Pay for Performance, works for us.
Double Check That Data
A while ago we saw an article in the WSJ referencing the size of certain consumer markets in Africa. The African Development Bank in 2011 released data that quantified the middle-class in Africa at 350 million people. That resulted in a major investment in the future distribution of consumer products by both US brands and African companies. Four years later, a count by Credit Suisse, which eliminated workers paid only several dollars a day, dropped the middle-class population count to just 20 million people.
Ed Note:
Misleading data such as that can really do a number on your capital allocation plans. We are reminded of that data description phrase from the 1970s, "garbage in, garbage out."
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| The Directors Letter by Daly & Company Inc. 184 High Street, Boston, MA 02110
Dan Daly, Publisher For more information, visit:
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