Air
date: January 14, 2005
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Big-hearted companies
GEOFF COLVIN: Do you think of American corporations these days as generous, big-hearted, and socially responsible? Or as amoral outsourcers obsessed with the stock price? Well, here's a fact about tsunami relief you probably didn't know: American companies have contributed more than all the other companies in the world combined. Is it just P.R.? Should they be giving away the shareholders' money so generously? Or, at a moment of such desperate need, is it outrageous even to ask such a question?
Surprising new research and new attitudes are changing the way executives and investors think about corporate social responsibility, and in the long-running war between the suits and the Birkenstock brigade, there's seemingly less to fight about.
Marc Gunther is a senior writer at FORTUNE and author of Faith and Fortune: The Quiet Revolution to Reform American Business. Matthew Kiernan runs Innovest Strategic Value Advisers and says the ecologically and socially friendliest companies actually perform best for investors.
Marc, in your book you say a growing number of big corporations now believe that doing good is good business, and they are acting accordingly. Now after all that has happened with Enron and Tyco and WorldCom, Adelphia, the Fannie Mae mess we're going to talk about later in this program, why in the world should we believe that's true?
MARC GUNTHER: Well, actually, Geoff, I would say that the scandals that we're all so familiar with have been an additional driver of a kind of movement towards responsibility that's been going on I would say for 10 or 15 years, and the reason for that is pretty obvious. No company wants to be thought of as greedy, cynical, uncaring. And the aftermath of the scandals, the cynicism that they have bred about business has encouraged more companies to think more about their image, their reputation and their values.
COLVIN: Well, and to be more precise about why they care, I mean this is all about money if we talk about why they care. Is it because the customers care? The investors care? The employees care?
GUNTHER: I would say employees are by far the number one driver of this, and that's because none of us want to get up in the morning every day and go to work and enhance shareholder value. What we want to do is go to work, make a difference, work for a company we believe in, ideally work for a company that's making the world a better place and that treats us with respect. So to me employees are the number one driver, but as we'll see as we talk about this, investors are becoming increasingly concerned with these issues, and to a limited degree so are consumers. I mean we've seen them avoid the bad actors or the so-called bad actors in the past, if you go back to Nike in the '90s or Kathy Lee Gifford. So there's a price you pay when you're irresponsible. That's clear.
COLVIN: Let's talk about investors for a minute. Matthew, you have made one of the most surprising claims of any that I've heard in the investing world lately, which is that investors will earn higher returns if they invest in the most ecologically and socially responsible companies they can find. Have I got that right?
MATTHEW KIERNAN: All things else being considered equal, yes. And you're right. It is counterintuitive, at least from a Wall Street perspective. But the evidence is now overwhelming, and it's not for us so much a question of ethics as simply a proxy for management quality. And we know from all our Wall Street friends that management quality is the number one driver of financial performance by companies, and for us a company's ability to manage that swirling constellation of environmental and social issues better than their competitors is simply a proxy for superior strategic management. And show me a better managed company, I'll probably show you a financial out-performer as well.
COLVIN: And do you think the real connection there is that if a company is really well managed, that it has the financial wherewithal, the financial luxury, if you will, to invest in some of these things? Or is it somehow deeper than that?
KIERNAN: I think it is deeper than that. It's really to me more about competing for the future. If you look at different companies in the same industry sector, whether it's ExxonMobil versus BP or Florida Power & Light versus Allegheny, same companies, same rough cap levels and so on, two of them are oriented very much towards capturing the opportunities of the future and the other two less so.
So I think it's more about competing for the future than it is about housekeeping. If you compare what we consider a leader, Florida Power & Light, FPL, to what we consider a laggard, Allegheny Energy, FPL has literally 10 percent of the risk exposure of the others, and more importantly, they've made a significant bet and an investment in a variety of renewable energy sources, wind and solar most conspicuously. And we think that positions, A, that hedges their risk, and it positions them very, very well for the next 10, 15 years.
COLVIN: Well, since we're talking about companies, let's talk about another one, General Electric, famous as one tough customer. This is not a warm and fuzzy outfit, right? GE is all about performance, and yet it is investing millions of dollars to bring better health care to a remote town in Ghana. Bob Corcoran is GE's Vice President for Corporate Citizenship.
(Video package begins)
BOB CORCORAN: Here in Asesewa is a community of over 100,000 people in the upper Krobo district in Ghana, and they had no hospital. They had a small clinic, they had a nurse, a maternity ward and extremely high maternal mortality rate where mothers in this country routinely die during childbirth. And so we felt that this was a great place to start.
The motto for this program from the start has been to undercommit to the town and to the people and overdeliver, and I've never been prouder to see the results in the eyes of these children, in the hearts and minds of the tribal leaders and the chiefs. We committed to health care equipment, which is the greatest need here. Things like ultrasound, x-ray, patient monitors, infant warmers, critical care monitors in the operating theater as well as surgical assistance for anesthesia delivery and ventilators. The people of Asesewa in Ghana own this hospital. They have put sweat equity into it, they've put their dreams into it.
I couldn't be prouder to be a GE person. What the company has done the resources and the work of hundreds of people to bring the products to bear here is phenomenal.
COLVIN: It's a wonderful story but GE does virtually no business in Ghana. So why would it spend all that money there? Jeffrey Immelt is GE's chief executive
JEFFREY IMMELT: As a company we just don't know much about Africa.
You can't create commerce, but you can create citizenship. In other words, I can't go create a customer, put them right down in the middle of Ghana -- someday I can -- but I do know how to be a good citizen and I do think we can learn from this experience so that we can decide how to approach Africa over time. And there's going to be oil and gas projects and other projects that are in Sub-Saharan Africa and we're going to be in a better position to understand how to do business in those economies.
If you wanted to be the most admired company of the 21st century, you had to not just perform, hit your numbers, be great, but you had to have a real connection with the world -- be good at the same time. So I think it became more of a business strategy. There has been a convergence today between things that solve the world's toughest problems and making money at the same time.
(Video package ends)
COLVIN: Now Marc, you went to Ghana. You saw that hospital. You talked to Bob Corcoran and Jeff Immelt. What feeling do you get about why they're doing this?
GUNTHER: Well, $20 million for GE is not a lot of money. It's a huge amount of money in Ghana, by the way. It does a lot of work there. And I think the reasons they're doing it are because the energizing of the employees that they're getting out of it. I mean the people I saw working there were teaching the Ghanaians how to run a health service. They were so excited by this project. And if you go back to the origins of it, it came out of meetings that Jeff Immelt had with African-American employees at GE who said, "Jeff, what are you doing for Africa? How come we don't have a plant there?" He said, "We can't put a plant there, but we can put a stake down in the ground, and when we're ready to put a plant there, we're going to know a lot more about it."
COLVIN: Matthew, you have an index that rates or ranks the most ecologically and socially responsible companies in the country, and the top five companies on the list are: United Technologies, number one; UPS; Bank of America; PepsiCo; and Pitney Bowes. Now that's a grab bag of companies that most people wouldn't think of, I dare say, when they think of those criteria. What is it about those companies that puts them at the very top of this list?
KIERNAN: Well, Geoff, there's really two things that all five have in common. One, they've demonstrated a superior ability to manage whatever downside financial and competitive risks are associated with their ability to manage environmental and social challenges, number one. But far more important for us is that all five of them have understood that we're really on the cusp of I think a global industrial restructuring, where a company's ability to handle these issues is becoming increasingly critical to their competitive advantage, profitability, share price performance. And all five of those companies have recognized that, that it's not just a matter of downside risk, but upside opportunity as well, and each of them, obviously in very different ways, has positioned itself to compete for the future.
COLVIN: Are we talking in large part about global warming, climate change, that kind of thing and the way companies respond to it?
KIERNAN: It's a huge issue. The World Economic Forum in Switzerland has called it the business issue of the decade or beyond. It's clearly something, and I have to say that we in America have been five years anyway lagging behind the Europeans on this, but it's something that now institutional investors are increasingly focused on.
COLVIN: Marc, you have argued in their book that there's something else going on, there is a spiritual element. And people sometimes are shocked to think about business in these terms, but that at a number of companies, and I think you argue a growing number of companies, there is among top executives, in some of them anyway, a more spiritual approach to what they are doing at work. Is that right?
GUNTHER: Well, I think it has to do partly with energizing people again. So many American workers are not really engaged in what they're doing. If you can get them to bring their whole self to work, to feel they're part of a job that has a purpose and a mission that's greater than the bottom line, you're going to be a better competitor. What I really would talk about is values, and UPS is an interesting company in that way. You don't think of them as a Birkenstock company at all.
COLVIN: That's for sure.
GUNTHER: Everyone there wears white shirts. You're not even allowed to put a cup of coffee on your desk there. There's so many rules and hierarchies and procedures. But the respect they have for everyone at that company, from the entry level driver, the people sorting the packages, right on up, is tremendous. And the esprit décor when you go to any UPS office in America, you can feel it, and you have everyone pulling in the same direction. It's a very impressive operation.
COLVIN: I get the sense that we're talking about a very large trend here that we're going to be talking about again and again. So Matthew Kiernan and Marc, thanks so very much.
GUNTHER: Thank you, Geoff.
KIERNAN: Thank you.
Fannie Mae
KAREN GIBBS: Fannie Mae is a company that was created to foster values such as home ownership. But now the markets and Washington big wigs are roiling from the mortgage giant meltdown. But despite tales of hundred-million-dollar-bonuses and accounting cover-ups, many are still questioning whether this whole thing was an example of politics at it worst - or Enron-style fraud. FORTUNE's Bethany McLean broke the Enron story four years ago and is now hot on the trail of Fannie Mae.
Bethany, first, what is Fannie Mae?
BETHANY McLEAN: Fannie Mae is what's known as a government-sponsored enterprise, meaning it's a strange hybrid of a company that's partly sponsored by the government and partly a private company with shareholders that are every bit as demanding as any company's shareholders. And what Fannie Mae does is it helps the mortgage market by buying mortgages and helping liquidity in the mortgage market.
And Fannie, some people would tell you, is the nation's most politically powerful company. They spent decades and unbelievable sums of money building just an incredible, incredibly powerful lobbying presence in Washington. And so you add that to the mixture, and as much as Fannie Mae has just avid supporters, they've also earned along the way a lot of real enemies for their really hardball tactics in how they play the game.
GIBBS: So what brought Fannie Mae to the brink of disaster? Is this a political witch hunt, or is it really another sign of corporate accounting scandal?
McLEAN: I don't think it's a political witch hunt. But when you look at Fannie Mae's problems, these are serious accounting problems. This is not just a technical nature of an accounting misstatement. Short sellers and skeptics have been all over Fannie Mae for a couple of years based on their belief that the company wasn't representing economic reality correctly. And if you have a company with even a hint of those kinds of questions about it of the size that Fannie Mae is with its almost $1 trillion in debt, you have to take a closer look at this company and ask shouldn't we have new regulations? Shouldn't something be done?
GIBBS: Is there a way that we can mention Fannie Mae and Enron in the same sentence? Do you think that they're on the same level in terms of accounting fraud?
McLEAN: I think we still don't know the answer to that yet. I'd say at this point, no. Enron went bankrupt, after all. Fannie Mae is still a viable company. But there's a sense among people who are close to the ongoing investigation that there may be much more to come at Fannie Mae and that perhaps what we've seen so far might be, if not the tip of the iceberg, maybe only the first chunk of the iceberg. In other words, I think it's premature to declare that one way or the other.
GIBBS: What happened to Frank Raines? He was President Clinton's budget director, he's an immense public servant, and people really had faith in him.
McLEAN: I think you can't separate Franklin Raines from Fannie Mae in this particular instance. And I think when you look closely at Fannie Mae, the company had this real sense that it was both right and righteous, that what it did, its mission of providing affordable housing justified any kind of behavior, that they can steamroller over anybody in their path. And I think even if that mindset stemmed from a sense of righteousness initially, it hardened into arrogance over time.
The company also had a fear that all of their critics were always out to destroy it and take it down, and hence their really sort of scorched-earth tactics toward anybody who opposed them. And when Frank Raines took over as CEO, the criticism was really swelling. And perhaps Frank Raines had a natural tendency toward arrogance or a tendency not to listen to his critics enough, as many CEOs indeed do. When you've come that far in life and accomplished so much and accomplished so much in the face of people telling you that you can't accomplish anything, how do you suddenly one day open your eyes and say, "Hmm, maybe the critics are right this time?"
So I think you combine this sort of sense of idealism or mission justifying anything at Fannie Mae with perhaps some traits that Franklin Raines himself had and I think you had a particularly dangerous combination, one that was, one that seems almost inevitable that it would harden into a kind of dangerous arrogance.
GIBBS: Do those accomplishments that Franklin Raines generated over his career justify a $90-million, 6-year compensation package? Even when you do the math, it's a little bit more than minimum wage.
McLEAN: I would say very clearly no, and I would say no based on a couple of things. I think one thing is that Fannie Mae as this government-sponsored enterprise is supposed to have a dual role, and you can argue whether this dual role is even feasible, a company that's both supposed to satisfy its shareholders and help with affordable housing goals. There are numerous critics who charge that the company has not done what it should have for affordable housing, and if it hasn't done what it should have for affordable housing, then the fact that it's had these advantages conferred on it by the government is just a waste. And the fact that Frank Raines' compensation was based mostly on meeting earnings per share goals and not on doing what the company was supposed to do for affordable housing, I think means you have to look somewhat askance at it.
There's the matter of the accounting. If the company has overstated its earnings to the tune of $9 billion, and this $9 billion is a real economic figure, doesn't that make a mockery of management getting paid for meeting earnings per share goals? Last but not least, the company's stock has been almost flat over Frank Raines' tenure, so he's gotten paid just an inordinate sum of money while shareholders haven't really gotten anything. So I find it hard on any level to justify his compensation.
GIBBS: Do you think this is it for Fannie Mae and as well for Franklin Raines?
McLEAN: Well, this is definitely the close of a chapter for Frank Raines, who was forced to resign as the company's CEO in mid-December. If you talk to most of his supporters, it will just be the end of a chapter in his life and he'll go on to something equally glorious.
I think a lot of that depends on the outcome of ongoing investigations by the SEC, the Justice Department, and Fannie Mae's regulator. For Fannie Mae itself, I think it's the end of an era. The company has for a long time been able to say that it's part of a virtuous circle, that what it does benefits both homeowners and shareholders and that it can have all these things at once. And I think both Fannie and Freddie are a size now where they can't offer these outsize returns to shareholders and also say that they're meeting their mission of affordable housing goals.
So I think we're really going to turn a corner into a new chapter of what the GSEs are going forward. It doesn't mean Fannie and Freddie won't exist or don't have reason to exist. I just think that the next decade is going to be a very different chapter in their history than the previous one was.
GIBBS: Bethany McLean, thanks for your insights.
Exchange-traded funds
KAREN GIBBS: With even a casual glance at the financial pages, it's hard to miss the outsized performance of Exchange Traded Funds, the wildly popular investment products sweeping Wall Street. The Energy Selects Spider was up a whopping 34 percent last year. But Cohen and Steer Realty I-Share Fund returned 33 percent. Investors are pouring billions into these Index funds, so the question for money manager and contributor Michael Farr is, how do you know if ETFs should be in your portfolio? Well, how do you know?
MICHAEL FARR: How do you know? It's a complicated question.
FARR: An ETF, Exchange Traded Fund is kind of a hybrid mutual fund, Karen. They mimic an Index, most of the time, and they trade at their net asset value. You can buy them on an exchange, American Exchange or New York Stock Exchange. You can buy them on shares at the Exchange, you pay a regular commission, and they are there to mimic an Index, and you sort of just get that same net asset value. So it's a great way to diversify.
GIBBS: How does it differ from an Index fund?
FARR: Sometimes they don't differ from an Index fund. There are I-Shares that actually mimic Index funds. The first I-Shares were formed in I think 1993 for the S & P 500. And they're known as spiders. You've heard of them, and you can buy the S & P 500 Index. And the difference is, instead of buying a no load fund and just putting your money in and having it go into the fund and accrue and get credited to your account, you're going to pay a commission for these I-Shares. You're going to pay a commission for these ETF spiders as you buy them on the Exchange. So, your cost to play might vary between the no load fund and an ETF, but basically they can perform almost identically.
GIBBS: So, it trades like a stock?
FARR: It does trade like a stock, and you will see those intraday adjustments as opposed to the no-load fund.
GIBBS: Suppose I'm a solid investor that has limited funds, but I want to regularly invest, dollar cost averaging yourself, are ETFs for me?
FARR: No, they aren't. If you're going to dollar cost average, probably the good old standard no-load mutual fund is the way to go. And you can still buy and Index fund, of course, the old no-load way. But if you dollar cost average because there's going to be a commission every time you purchase some of these ETFs, Exchange Traded Funds, then it's probably going to eat away at your regular investment.
GIBBS: Suppose I have a large lump sum to invest, does it pay then to invest in an ETF versus a mutual fund?
FARR: It may or it may not. If you're looking at an S & P 500 fund or a no load as an ETF, or a no load mutual fund, I'd probably go with the no load mutual fund for the S & P 500. Otherwise, if I'm looking at an international fund, it's really going to depend on what I want. The China fund, for instance, was the last ETF, the latest ETF in October of 2004 that was brought to market. If you want to own exposure to China, that's a very inexpensive way to get diversified exposure.
GIBBS: But there is a risk now in owning a fund that is either sector driven or say single-country driven, isn't there?
FARR: Oh, of course. You're concentrating your portfolio, and you're making a decision. You're making the asset allocation decision saying, I think that this mix of ingredients is going to bake the best cake over time for my investment portfolio. So there is risk there. There's risk for over concentrating and getting the mix wrong. There's also, Karen, I think a risk of chasing that hot sector.
GIBBS: What are some attractive sectors where ETFs are popular and make sense for an investor to look at?
FARR: I think the international sector, for one, Karen, is probably a good area to buy an ETF, because you can't do the research on all of the individual shares, and it will give you a well diversified exposure, at a very low cost. Remember, these are very low cost vehicles typically.
The fees involved are very, very low. Another area would be the REIT funds if you want to have real estate exposure. It will give you broad exposure. There's an Emerging Market ETF. There's an Emerging Market's Exchange Traded Fund, the EEM is the ticker. It's done very well. Emerging markets are very difficult to judge. They're very speculative. But if you said, I'm building my portfolio, I'd like to have a small, speculative slice of money in there in emerging markets, markets that are really going to soar. This would be a good diversified way to sort of spread the risk around, but limit your investment, and the emerging markets Exchange Traded Fund pays 1.25 percent dividend right now.
GIBBS: Great information. Always a pleasure. Michael Farr, thank you.
FARR: Thank you, Karen.
NEXT WEEK: Social inSecurity
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