Responsible Investment in Practice
Hermes believes that companies with active and informed shareowners achieve superior returns over the long term and has been a leader in promoting better stewardship at the companies in which its clients invest since 1990, when its first corporate governance policy was developed. Over time the policy has been revised and updated to reflect changes in best practice and, in March 1997, was published as a statement on voting and corporate governance. Since then, the policy has been republished three times, most recently in March 2006 as the Hermes Corporate Governance Principles.

Hermes Equity Ownership Service (EOS), which advises clients on responsible investment and corporate governance, was established in July 2004 from the Hermes Corporate Governance Department. It is headed by Colin Melvin, who is Hermes’ Director of Corporate Governance. EOS assists clients with voting at general meetings at around 4000 companies world-wide and represents their interests in engagements with the companies in which they invest on strategic, environmental, social and governance matters. EOS also contributes to the development of policy on corporate governance and related matters on its clients’ behalf, in order to protect and enhance the value of their shareholdings over the longer term. A team of seventeen people work within EOS and are dedicated full-time to its activities.

Hermes’ pragmatic and value-oriented approach to responsible investment and corporate governance involves thorough analysis and regular communication and engagement with companies. Whenever Hermes or its clients vote against the recommendations of a company’s management, EOS will contact the company by telephone or letter to explain the voting decision and encourage improvements. Furthermore, all discussions with companies, whether about strategic, governance, social or environmental issues, are focussed on their long term financial performance. As a result of this approach, we have built over the last ten years a detailed database of voting history, correspondence and engagements with companies.

Active Shareholder Programmes
The first corporate governance issue on which Hermes took a public stance was that of three-year rolling contracts for directors of UK companies, which were commonplace at that time. Hermes’ then Chief Executive Alastair Ross Goobey headed a highly successful initiative to have the notice period in executives’ contracts reduced to two years; the issue was subsequent picked up by the Greenbury committee which recommended contracts be reduced over time to one year.

Following the publication of the Myners report and the Institutional Shareholders Committee’s statement on shareholder responsibilities all UK institutional investors are expected to take an active role in voting, monitoring company performance and where appropriate, engaging with companies to improve performance. Hermes’ responded to this by developing its Equity Ownership Service which can undertake this activity on behalf of institutional investors, such as pension funds, whether or not Hermes is the fund manager. Hermes has led or been involved in a considerable number of successful shareholder engagements at individual companies. We differentiate our programmes from those of the “raider activist” by adopting a relational approach on behalf of all shareholders and we are particularly critical of activist programmes involving greenmail or micro-management of companies. Hermes’ programmes are generally conducted in private and have not therefore been widely publicised.

Other issues that Hermes promotes actively, both publicly and in private with companies, are the maintenance of pre-emption rights, remuneration policies that align directors’ and shareholders’ interests and the universal introduction of electronic voting. Hermes places great emphasis on the calibre of non-executive or outside directors and on the importance of having a clear balance of independence in the boardroom. As a result, we have supported the development of education programmes for non-executive directors and participate in seminars and workshops offered by such organisations as Cranfield School of Management, Henley Management College and the UK Institute of Directors. We host regular lunches for non-executive directors to hear their views and share perspectives. We also hold an annual Stewardship and Performance seminar for clients and speak on corporate governance, responsible investment and shareholder engagement issues at conferences worldwide.

The experience of running active shareholder programmes at companies prompted Hermes to establish the Hermes Focus Funds. These invest in companies which are part of our indexed portfolios, which have underperformed their peers and where we believe shareholder involvement will help to release the higher intrinsic value of the company. The shareholder programmes run at these companies bear long-term benefits for the index portfolios, as well as medium-term returns for the Focus Funds’ clients. Hermes, which is 100 per cent owned by the BT (British Telecom) Pension Scheme, the UK’s largest pension fund, was the first major investing institution to manage funds of this type.

Public policy submissions
As part of its involvement in promoting continuing improvement in corporate governance practice Hermes makes submissions to committees and government agencies around the world undertaking public consultations. Several of our policies were incorporated into the Greenbury and Hampel Committees’ reports, and the subsequent UK Combined Code. Hermes has also been actively involved in consultations with the US Securities and Exchange Commission, European Parliament and the UK Government amongst many others.

Examples include our submissions to the International Accounting Standards Board on the issue of accounting for share-based payment and our evidence to the enquiry into vote execution conducted by the National Association of Pension Funds (NAPF). We were involved in the recent revision of the takeover panel rules on when investors will be deemed to be acting in concert and the FSA’s review of the UK Listing Rules. Internationally, we have made submissions to the New York Stock Exchange as part of their consultation on directors’ share option plans and to the European Commission on the Prospectus Directive. We also participated in a process to establish corporate governance guidelines for companies in emerging markets run by the UN Committee on Trade and Development.

Involvement in Corporate Governance Organisations
In addition to its in-house commitment to responsible investment and corporate governance, Hermes has established and participates actively in a number of national and international organisations dedicated to improvements in this area. These have proved to be a source of potential allies on company engagements and consultations. Examples include the Shareholder Affairs Sub-Committee of the NAPF, the UK Social Investment Forum, the Quoted Company Alliance, the Association of Investment Trust Companies, UK Corporate Governance Forum (CGF), the Global Institutional Governance Network , the International Corporate Governance Network (ICGN), the Enhanced Analytics Initiative and the United Nations Principles for Responsible Investment initiative.