The big guys get guidance on governance from the Malaysian Code for Institutional Investors (II Code); 10 things to know about new code for institutional investors

Updated: Saturday February 22, 2014 MYT 12:36:18 PM

The big guys get guidance on governance


The big guys get guidance on governance

10 things to know about new code for institutional investors

THE public consultation on the Malaysian Code for Institutional Investors (II Code) ends this Friday . It would be a shame if few people actually went through the consultation paper, let alone took the trouble to submit feedback.

The Code is a potential game changer. If wholeheartedly embraced and dutifully implemented, it will elevate corporate governance in Malaysia, in the same way that the Malaysian Code on Corporate Governance (CG Code) has done since its introduction in 2000.

In addition, the II Code is expected to have a positive impact on how such investors are run.

The II Code is a product of the Securities Commission’s (SC) Corporate Governance Blueprint 2011 (CG Blueprint), which devotes a chapter to the role of institutional investors.

The CG Blueprint calls on these large investors to take the lead in improving governance because their significant stakes in companies and their deeper expertise and resources allow them to do things that individual investors can’t.

The SC points out that institutional investors can demand meetings with the senior management of companies, challenge them on issues of concern, discuss strategies for achieving the companies’ goals and objectives, and be the leading voice of shareholders in demanding corrective action when wrongdoing occurs.

As such, the CG Blueprint recommends the creation of the II Code and that the institutional investors publish their commitment to it.

“The formulation of a new industry-driven code can strengthen the accountability of institutional investors to their own members and investors. The new code will require institutional investors to explain how corporate governance has been adopted as an investment criteria and the measures they have taken to influence, guide and monitor investee companies,” says the SC.

“It is also important for institutional investors to include governance analysis in their investment appraisal to help identify better governed-companies.”

The Minority Shareholder Watchdog Group (MSWG) spearheaded the development of the II Code. The others involved include the leading government-linked investment companies (namely, the Employees Provident Fund, Permodalan Nasional Bhd, Retirement Fund (Inc), Armed Forces Fund Board, Lembaga Tabung Haji and Social Security Organisation), Private Pension Administrator, Malaysian Association of AssetManagers and Malaysian Takaful Association.

The SC and MSWG released the consultation paper on Jan 15. It’s available on the MSWG website ( Here are 10 key points about the II Code:

1. The basics

Forming the backbone of the Code are eight broad principles of effective stewardship by institutional investors. The document also offers guidance to help these investors understand and implement the principles. The effective date for reporting on the application of the Code is Jan 1 next year.

2. It’s the whole chain

The Code isn’t just for the institutional investors; it’s also meant to apply to their service providers in the investment chain. In this context, institutional investors are defined as asset owners (such as pension funds, private retirement scheme providers, insurance companies and investment trusts) and asset managers with equity holdings in Malaysian listed companies. The service providers include custodians, proxy advisors, investment consultants and actuaries.

3. Focus on the focus lists

Under Principle 2 (“Institutional investors should monitor their investee companies.”), institutional investors are urged to target underperforming companies by coming up with so-called focus lists, which comprise underperforming companies with good potential. The Code explains that by targeting such companies and analysing their corporate governance practices, the investors can push for improvements that can unlock hidden value.

4. Escalating the engagement

Principle 3 encourages engagement, which the Code describes as “purposeful dialogue with investee companies with the aim of preserving or enhancing value on behalf of beneficiaries or clients”. Part of this is to engage when there are concerns about the investee companies’ financial and operational performance, governance or risk management. The Code sets out various forms of engagement for the investors to make their concerns known. These begin with discussions on a confidential basis but can escalate to airing the issues through public platforms if the companies refuse to make improvements. The worst-case scenario, as envisioned by the Code, is to seek legal remedies or arbitration.

5. When interests clash

Conflicts of interest involving institutional investors are seldom openly discussed in Malaysia. But that doesn’t mean they are rare. It’s good then that the Code advocates the adoption of a robust policy on managing conflicts of interest, which should be made public. Says the Code: “Institutional investors should seek to avoid conflicts of interest situations. Nevertheless, as conflicts of interest may inevitably arise from time to time, they need to understand, minimise and manage such conflicts in a transparent manner.”

6. The lasting effects of ESG

ESG refers to environmental, social and governance. With Principle 5, the Code extends beyond corporate governance matters. It argues that institutional investors are expected to deliver sustainable returns in the long-term interest of their beneficiaries or clients. As such, these investors should take into account both corporate governance and sustainability considerations in their investment decision-making process. These include ESG factors.

7. No secret votes

The Code expects institutional investors to publish their voting policies. “The exercise of voting rights is a key indicator that an institutional investor is effectively implementing its engagement policy,” it says. “Publishing a voting policy will give both beneficiaries and investee companies a better understanding of the criteria used to reach those decisions.”

8. Band of investors

The CG Blueprint recommends that institutional investors work together to set up an umbrella body so that there is a collective voice and a platform to address governance issues, address impediments and seek solutions. The II Code says the umbrella body is expected to be a platform to discuss stewardship matters and will later take over from the MSWG in monitoring the take-up and application of the Code.

9. Committing to the Code

Each of the eight principles starts with “Institutional investors should…”. The mildness of the language is because compliance with the Code is voluntary. It explains: “Institutional investors are encouraged to be signatories of the Code. Institutional investors should explain how they have complied with the principles in this Code, taking into account guidance provided under each principle. Institutional investors are allowed to determine the best approach to adopting the principles, as there is no ‘one size fits all’ approach to stewardship.”

Is there any good reasons for an institutional investor to refuse to sign up? And if there are holdouts, hopefully they will eventually be pressured into doing the right thing.

10. Look inwards as well

The principles of the Code talk about effective stewardship, but this can’t be solely about the way the investee companies are governed. What about the institutional investors themselves?

The preamble in the Code has this to say: “Institutional investors should be committed to effective corporate governance in running their own businesses and put in place policies and practices which embody good corporate governance principles and best practices as part of discharging their duties and responsibilities to advance the interest of their beneficiaries or clients.

“Institutional investors should be led by capable board and management with the appropriate capacity and experience to effectively discharge their stewardship duties.”

Executive editor Errol Oh is looking forward to the institutional investors wielding their power with more structure, responsibility and transparency.


Updated: Saturday February 22, 2014 MYT 12:36:34 PM

Are independent directors the answer?


I USED to think independent non-executive directors (INEDs) were essential for good corporate governance.

Now I am not so sure. The presumption is independence allows INEDs to bring diverse perspectives to boardroom discussions, allowing them to challenge the CEO and the top management constructively, leading to better decisions. That’s the theory.

My previous article argued that boards destroy shareholder value by making wrong strategic choices (60%), failing to prevent poor strategy implementation (27%) and allowing failures of compliance (13%). Making better decisions ought therefore to reflect these percentages in terms of focus and time taken to review their key ingredients.

Three problems

INEDs face three problems in fulfilling the roles expected of them.

First, INEDs may not understand the business well enough to challenge management regarding strategy. Choosing the right strategy requires a granular understanding of the firm’s current and future business model – why it selects the customers it chooses to serve and not others and why it offers the goods and services to those customers and not others. It also requires an understanding of both current and future threats to the business model. So INEDs must appreciate how changes in the political, economic, social, technological, legal and environmental context can affect the long-term viability of their business model.

In addition, they must understand the speed at which such changes could take place. However, they may not have the time or appropriate background to really understand what is happening and why management’s assumptions are outdated, inadequate or plain wrong. Information asymmetry in board discussions makes it harder for INEDs to know when they are being bamboozled by management.

Second, they may not be able to spend enough time in the business to know how effectively agreed strategies and policies are being implemented. One of the lessons of the Global Financial Crisis was that INEDs did not know what was happening in vital areas.

For example, Lehman Brothers’ INEDs did not know that its VAR, or value at risk, limit was raised three times, causing it to fail. Merrill Lynch’s INEDs had no idea how big or how risky their CDO (collateralised debt obligation) portfolio had become. Barclays’ INEDs had no inkling of the Libor scandal. One common thread bound these boards: they did not follow President Reagan’s famous dictum: “Trust, but verify”. They failed to verify, either because they did not think it was their responsibility (Barclayschairman’s defence when testifying to parliament), or they did not spend the time in the business – seeing for themselves on the ground what was actually happening. Management bamboozled them with ease.

Third, they may be vulnerable to groupthink as a result of board dynamics, undermining the very independence of thought, their independence is supposed to bring. Few people like to be the one who disagrees with everybody else in the board. Even fewer like to ask the so-called “dumb questions” that challenge the basis of what is being proposed. Loss of face or being regarded as the odd man out; these are feelings most INEDs prefer to avoid. Thus the pressure to conform in the name of harmony may be overwhelming. It may be made even harder to resist by a dominant CEO or chairman who has forgotten that the chair serves and guides the board rather than bullying it. In a “high power distance” culture where deference is expected, it may be impossible to resist.

I am not sure that focusing on director independence is the answer. What is needed is greater technical expertise and passion for the business if INEDs are to have the emotional commitment to be willing to challenge constructively. They need to give much more time to critical decisions, if they are to overcome the information asymmetry between them and executive directors. They must not merely take management’s word that what has been agreed at board meetings is actually being implemented, but also to verify that it is being done.

Rather than focusing on defining independence, and in particular on the time directors have been on the board, perhaps a better approach might be to adopt Alfred Sloan’s approach to board decisions, where he is reported by Peter Drucker to have said: “If we are all in agreement on the decision – then I propose we postpone further discussion of this matter until our next meeting to give ourselves time to develop disagreement and perhaps gain some understanding of what the decision is all about.” The merits of this approach are that it forces directors to think of reasons why not; to do pre-mortems; to explore what could go wrong and have a “plan B”.

Another way of achieving the same result, is to use formal “Devil’s Advocacy”, where before decisions are taken (unlike Alfred Sloan’s solution), directors are expected, as a matter of due process, to advance all the reasons why the proposal should be rejected. This forces management and the board to think through alternative options, scenarios and what could go wrong. Taken one step further, it forces the proposers of a course of action to think carefully about the risks it creates – not just financially, but, more important, to reputation and the firm’s long-term licence to operate.

I would like to suggest rotating “Devil’s Advocacy”, so no single director gets the reputation of being the boardroom naysayer, as a result of the inevitable halo effect that occurs, when always the same person acts as Devil’s Advocate. Role rotation ensures disagreement is never seen as personal, but procedural. Directors can bring diverse perspectives to bear, without fear of causing offence or being regarded as disloyal.

That was what independence was supposed to foster, but has often failed to do in practice. Venture capitalists and private equity focus on competence rather than independence in their directors. Should public listed companies do the same?

Datuk John Zinkin is managing director of Zinkin Ettinger Sdn Bhd.


About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (, the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: