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Should directors own big chunks of company stock?

An article this week in The Age advocating that directors own significant amounts of company stock to better align themselves with shareholders immediately set off alarm bells in my head.

Any company in any industry that I have observed that sets up reward remuneration structures (based on commissions, bonuses, lavish end-of-year holidays overseas) risks ending up with employees exhibiting distorted and unethical behaviours. The blame here should be placed squarely at the feet of the employer, as the employees are forced to play the game if they want to progress.

Suncorp (ASX: SUN) last month announced that directors would need to own more than $200,000 of the company stock.  Directors are guardians of shareholder interests and consequently have oversight of overall strategy, the use of capital, appointing the chief executive and signing off the financial accounts. Let’s hope that Suncorp did not rely upon a new report entitled ‘Board Matters’ by Macquarie Group (ASX: MQG) owned broking arm Macquarie Equities for its decision. The report concluded that directors holding stock had better returns and returns on equity.

That may be true, but it may be shareholders who really suffer. Consider the 2011 review of financial advice industry practice by the Australian Securities and Investments Commission (ASIC). The entries under the heading of “Conflicts of Interest” are too numerous to relate here. Suffice to say the report identified a number of conflicts of interest around licensee revenue and adviser remuneration. The major banks Westpac (ASX: WBC), Commonwealth Bank (ASX: CBA), ANZ (ASX: ANZ) and NAB (ASX: NAB) are termed licencees.

The corporate regulator is now investigating a stock purchase by two David Jones (ASX: DJS) directors just three days before the company told the market its first quarter sales results were better than expected. Skin in the game again may have led to distorted behaviors. The fear is that if all directors have such incentives, they may be focusing on short-term share price returns, even subconsciously, at the expense of long-term strategic thinking.

Foolish takeaway

I would strongly recommend that shareholders vote against what may be a new trend in enforcing directors to own significant parcels of the company stock. Should this be unsuccessful, I would be investing in one my favoured stocks IMF (ASX: IMF) as it much more effective than the corporate regulator in reigning in wayward directors by funding class actions.

 

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Motley Fool contributor Mark Woodruff does not own shares in any of the companies mentioned in this article.

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