Nestor Advisors Ltd. 1 4th Asian Roundtable on Corporate Governance After the corporate governance crisis: An opportunity for Asian corporations? Stilpon Nestor Principal, Nestor Advisors Ltd. Mumbai, November 2002

Nestor Advisors Ltd. 2 The post- crisis macro trends Institutional investors around the world are now putting governance at the top of their agenda. Institutional investors around the world are now putting governance at the top of their agenda. Boards and independent directors are assuming increasing responsibilities in the way companies are governed. Boards and independent directors are assuming increasing responsibilities in the way companies are governed. Markets and regulators are increasingly focusing on the integrity of corporate advisors and their conflicts of interest Markets and regulators are increasingly focusing on the integrity of corporate advisors and their conflicts of interest

Nestor Advisors Ltd. 3 Business plan Executive leadershipCorporate governance Corporate Value The corporate value dharma Strategic planning Risk management Social responsibility concerns Lower risk to outside investors Alignment of interests Management quality Stakeholder issues Executive/board liability Less scope for politics

Nestor Advisors Ltd. 4 The non-contestable governance model of pubic companies Contestable: Dispersed ownership Dispersed ownership Highly paid professional executives with short time horizons Highly paid professional executives with short time horizons Large asymmetry between cash flow/control rights Large asymmetry between cash flow/control rights Highly developed market, regulatory and judicial mechanisms for contestability of control Highly developed market, regulatory and judicial mechanisms for contestability of control Change = change in control (real or threatened) Non-contestable Concentrated ownership Concentrated ownership Long-term “ driver” management control Long-term “ driver” management control Private benefits of drivers higher but exec. compensation lower. Private benefits of drivers higher but exec. compensation lower. Minimal reliance on outside financial or judicial control contests Minimal reliance on outside financial or judicial control contests Change= change in the terms of finance and the driver’s perception of value

Nestor Advisors Ltd. 5 Can good governance exist in non- contestable markets? Yes, if: Legal framework allows driver abuse to be checkedLegal framework allows driver abuse to be checked Drivers are willing to take action to improve governanceDrivers are willing to take action to improve governance

Nestor Advisors Ltd. 6 Why should owner-driven firms be willing to improve governance? Corresponds to strategic objectives Corresponds to strategic objectives product market strategyproduct market strategy corporate strategycorporate strategy human resources strategyhuman resources strategy

Nestor Advisors Ltd. 7 The story of South Telco: background Dominant fixed line state monopoly in a market that is becoming competitive/no. two in mobile telephony against large local competitors in rapidly maturing market Dominant fixed line state monopoly in a market that is becoming competitive/no. two in mobile telephony against large local competitors in rapidly maturing market 70% privatized in South market: 3 tranches since % privatized in South market: 3 tranches since 1994 ADRs in NYSE ADRs in NYSE Low level of debt and ROE,ROCE,E/client above average among peer group but valuations below average Low level of debt and ROE,ROCE,E/client above average among peer group but valuations below average

Nestor Advisors Ltd. 8 The story of South Telco: strategy and governance Product market strategy: Growth through regional expansion Growth through regional expansion New markets/new risksNew markets/new risks High investment needs/low retained earnings, difficult access to bank finance,High investment needs/low retained earnings, difficult access to bank finance, no implicit state guarantee to bond/bank creditorsno implicit state guarantee to bond/bank creditors Governance New competences on the board (board decisions driven by politics) New competences on the board (board decisions driven by politics) An active audit committee with appropriate systems (scandals= increasing vulnerability of top management) An active audit committee with appropriate systems (scandals= increasing vulnerability of top management) Trust by institutions: independence/nomination/ remuneration Trust by institutions: independence/nomination/ remuneration Better investor communication Better investor communication

Nestor Advisors Ltd. 9 The story of South Telco: strategy and governance Corporate Strategy: Minority state participation in the medium term Minority state participation in the medium term Regional acquisitions into state controlled, often listed companies Regional acquisitions into state controlled, often listed companies People strategy: Changing from civil servant to service culture Changing from civil servant to service culture Employee shareholders following privatization Employee shareholders following privatization Governance: Clarify relationship of government (s) as owner (focus on boards not CEO) Clarify relationship of government (s) as owner (focus on boards not CEO) Minimize interference and political vulnerability of executive through rigorous accountability procedures Minimize interference and political vulnerability of executive through rigorous accountability procedures More performance-related pay More performance-related pay More management awareness of shareholder value More management awareness of shareholder value

Nestor Advisors Ltd. 10 Why should owner- driven firms be willing to improve governance? Corresponds to owner/driver strategic objectives: Corresponds to owner/driver strategic objectives: family= working with the upper tier as well as the companyfamily= working with the upper tier as well as the company “When Ayala Corporation went public in 1976, we made a very conscious decision that we didn’t want to find ourselves in any conflict of interest. All matters that relate to the family are elevated one level to a single family holding structure. Although it is not a public holding company, its ownership in Ayala corporation is direct and free of the opacity and layering that one might find in other structures. Through that family structure, we choose who will represent us in the governance of the public holding company and act with one voice. … All family members are free to do with (the income from their ownership) as they please so long as they do not invest in ventures that compete with Ayala Corporation’s business. This… ensures that if a partner invests with us, it will not be competing with another entity in which a family member has an interest….The CEOs of all our subsidiaries...are people of the highest calibre who are not from our family and are promoted and rewarded strictly on professional merit...” Jaime Zobel de Ayala,CEO

Nestor Advisors Ltd. 11 Do firm strategies to improve corporate governance pay? Yes, they do (Clapper and Love 2001): One standard deviation firm-level improvement in an less emerging market results in a 33% improvement in Tobin’s q (a measure of market valuation of a firm’s assets ) One standard deviation firm-level improvement in an less emerging market results in a 33% improvement in Tobin’s q (a measure of market valuation of a firm’s assets ) One standard deviation improvement in a developed (i.e. OECD) market results in an 18% increase in Tobin’s q.One standard deviation improvement in a developed (i.e. OECD) market results in an 18% increase in Tobin’s q.

Nestor Advisors Ltd. 12 How to facilitate firm action for better governance? By making virtue evident and investable: Bovespa CG Segment Bovespa CG Segment Companies accounting for 20% of total market capitalization and 19% of all trading activity have listed in the CG segmentCompanies accounting for 20% of total market capitalization and 19% of all trading activity have listed in the CG segment The Corporate Governance segment index fell by -1,58% versus a -23,3% fall for the general BOVESPA index.The Corporate Governance segment index fell by -1,58% versus a -23,3% fall for the general BOVESPA index.

Nestor Advisors Ltd. 13 Conclusions Good governance is matching: Driver aspiration/firm strategies with global investor expectationsDriver aspiration/firm strategies with global investor expectations Local/regional corporate and enforcement cultures with global best practiceLocal/regional corporate and enforcement cultures with global best practice Creating trust while preserving competitive advantages Creating trust while preserving competitive advantages

Nestor Advisors Ltd. 14 Conclusions “Keep things as simple as possible but not a bit more” Albert Einstein Thank you