Identifying and Mobilizing WinWin Opportunities for Collaboration: A Rotman ICPM Sponsored Study

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Identifying and Mobilizing Win-Win Opportunities
for Collaboration A Rotman ICPM Sponsored Study

• Rotman ICPM Workshop, 5 June 2007
• Danyelle Guyatt
• d.guyatt_at_bath.ac.uk

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Aim of Study

• To identify areas where collaboration amongst
  pension funds and their agents might be
  beneficial for all parties involved
• To review existing collaborative initiatives to
  assess what works and what doesnt
• To develop and apply a theoretical framework to
  evaluate collaborative opportunities for
  improving the pension fund management process

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Definition of collaboration

• Collaboration prevails when a mutually beneficial
  relationship exists between two or more
  participating agents, recognizing that this
  relationship can be informal (cooperationweak
  form), task specific (coordinationsemi-strong
  form) or representative of a long-term
  partnership with shared goals and objectives
  (collaborationstrong form)

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Definition of win-win

• Game theory In situations of conflict,
  strategies adopted by interacting agents can
  produce winning or losing outcomes, depending on
  an individuals decision and the decision of
  others playing the game (Schelling, 1960)
• Management conflict literature Win-win defined
  as a positive-sum game where all parties can
  potentially gain through exploration of the
  sources of conflict (Walton and McKersie, 1965
  Thomas, 1976)
• Cooperation theory In conflict and cooperative
  situations, individuals have the ability to
  coordinate their behavior in such a way that will
  potentially produce benefits for all parties
  (Axelrod, 1984)

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The challenge

• Under what conditions will cooperation emerge in
  a world of egoists without central authority?
  This question has intrigued people for a long
  time. And for good reason. We all know that
  people are not angels, and that they tend to look
  after themselves and their own first. Yet we also
  know that cooperation does occur and that our
  civilization is based upon it. But, in situations
  where each individual has an incentive to be
  selfish, how can cooperation ever develop?
  Axelrod (19843)

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Self-interest is key

• The key component of any collaborative initiative
  is the pursuit of self-interest and that, whilst
  this might be a fixed goal, the inputs that
  determine self-interest are time varying and will
  differ by agent type
• Neo-classical definition of self-interest is
  narrow and static
• Profit/wealth maximization does not capture the
  social, economic and psychological influences on
  behavior that evolve over time, e.g. the use of
  heuristics (Kahneman and Tversky, 1979),
  short-term fads (Shleifer, 2000), speculative
  bubbles (Shiller, 2000), herding behavior (Sias,
  2004) and altruism (Margolis, 1982 Elster, 1986)

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Outline of study

• Step 1 Study existing collaborative initiatives
• Step 2 Theory generation
• Step 3 Development of framework
• Step 4 Application of framework
• Step 5 Questionnaire
• Step 6 Recommendations and feedback

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Existing collaborative initiatives

• First observation there are many!
• Lack of theoretical framework
• Practitioners ahead of academic research
• A lot of good projects out there BUT not all
  collaboration is worth the cost and effort
• Sustained, successful collaboration requires
  consideration and development of a theoretical
  framework AND evaluation!

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Case study methodology

• Overview of over 30 initiatives, divided into 6
  categories based on function
• Case studies CDP, EAI and CII
• Data source publicly available information
  including websites, presentations, reports, and
  published research papers
• Data analysis textual analysis of over 500 pages
• Coded and analyzed under the categories of
• Factual information (objectives and
  characteristics)
• Evaluation (positive and negative features)

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10 key insights from case studies

• Have a well-defined goal and objective
• Be clear about the change being sought target
  agents
• Members believe that it is in their self-interest
  to participate
• Recognize the heterogeneous profile of members
• Focus on the power relations between agents
• Keep costs to a minimum in terms of fees, time
  and effort
• Measure and review the success of the initiative
  over time
• Follow through and co-ordinate the activities of
  members
• Trust and perception of legitimacy are key to
  long term success
• Global, cross-collaborative initiatives increase
  power but need to be thoughtfully designed so as
  not to lose focus

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Theoretical framework

• Evolutionary game theory adaptive efficiency and
  the recognition that agents need not be locked
  into a Pareto-inferior mode of behaviour
  indefinitely (Samuelson, 2002)
• Theory of cooperation importance of reciprocity,
  trust and to enlarge the shadow of the future
  of any cooperative arrangement (Axelrod, 1984)
• Theory of conventions collective agreement is
  one way in which new conventions can emerge when
  a group recognises the superiority of alternative
  conventions and deliberately sets about
  encouraging a change in behaviour (Boyer and
  Orlean, 1992)

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Motives for collaboration
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The collaborative framework
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Specify the problems

• Short-term investment horizon
• Limits the focus on management of long-term
  liabilities
• High turnover and transaction costs
• Narrow investment criteria
• Absence of shareholder activism
• Trading versus capital allocation
• Bogle (2005), Monks and Sykes (2006) and Davis et
  al (2006)
• Poor pension fund governance practices
• Agency issues/conflict of interest
• Ambachtsheer (2007) Davis et al (2006)

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The conventions (I)

• Short-termism
• Narrow valuation framework
• Excessive focus on earnings
• Excessive focus on relative returns to
  asset-based index (rather than liability-based
  benchmarks)
• Short-term performance appraisal
• Short-term investment mandates

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The conventions (II)

• Absence of shareholder activism
• Ill-specified board-level shareholder activism
  policy
• Lack of training and expertise re activism
• Weak participation in, and disclosure of, voting
  and engagement practices
• Low importance in fund manager selection/retention
  
• Low importance in criteria for performance review

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The conventions (III)

• Poor pension fund governance practices
• Poor accountability and transparency of board
  appointments
• Over-reliance on for-profit external agent advice
• Lack of investment knowledge, skill and
  experience of board of trustees
• Poor balance sheet risk management

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Target agents and power relations

• Identify the problems
• Specify the conventions associated with each
  problem (Figure 7)
• Specify the target agents for change (Figure 8)
• Consider the role of the power agents (Figures
  9, 10 and 11)

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Motives

• Assess the priorities of the Rotman ICPM Partners
  for improving the pension fund management process
• Questionnaire spanning target agents and power
  agents for change
• What are the highest and lowest priorities?
• Important to clarify before considering the
  design of any new collaborative initiative

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Questionnaire results (I)

• 144 responses to a 15 question survey, with the
  following profile
• Small pension funds 0 - 1 bn 7 of
  respondents
• Medium-sized funds gt1 - 20 bn 23
• Large funds gt20 - 100 bn 47
• Super large funds gt100 bn 2
• Consultants 8
• Academics 7
• NGOs/regulators/intl.organizations 6

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Questionnaire results (II)
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Questionnaire results (III)

• The 5 highest priority areas
• 1. Review the performance of fund managers over a
  longer horizon than the typical quarterly review
  cycle (73 of respondents rated this as very
  important)
• 2. The accountability and transparency of board
  appointments be improved (70)
• 3. Policy of voting and engagement policy adopted
  by a pension fund board of trustees (64)
• 4. Trustee boards to have better investment
  knowledge and experience (64)
• 5. Improve the balance sheet risk management
  practices of pension funds (61)

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Questionnaire results (IV)

• The greatest divergence by type of respondent
• 1. Only super large funds fully support
  collaboration, whilst 20 of small funds were
  unsure. This is surprising as smaller funds
  potentially have more to gain from pooling
  resources
• 2. On measuring and reviewing performance against
  a market (asset) based index, 80 of small funds
  believed this was very important, compared to
  only 19 of medium sized funds
• 3. All the small and super large funds rated
  extending the review period of fund managers
  beyond the quarterly horizon as very important,
  whilst investment consultants were more divided
  (55 rated very important and 45 somewhat
  important)

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Questionnaire results (V)

• Key priorities identified by respondents as
  additional comments
• 1. Liability management 8 comments referred to
  the need for better management and consideration
  of pension fund liabilities
• 2. Agency risks 7 comments referred to the need
  to be aware of, and better manage, agency risks
  inherent in the pension fund management process
• 3. Trustee board skill 6 responses made mention
  of the need to improve the skill of trustees and
  the pension fund board
• 4. Corporate governance and engagement 4
  responses emphasized the benefits of pooling
  resources for corporate governance and engagement
  activities

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Where to from here?

• Some options to discuss
• Pension fund governance initiative
• Liability-led investing initiative
• Change mandates to review fund manager
  performance over longer periods
• International shareholder activism and engagement
  efforts

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Dissemination and development

• Disseminate results of survey on priorities for
  collaboration
• Follow up report incorporating discussion and
  outcomes during the Rotman ICPM June 2007
  Workshop
• Disseminate literature for Rotman ICPM library
• Conference paper drafted for presentation at
  EABIS Colloquium, 20-21 Sep 2007, Spain
• Future publication of framework and results.
  Target journals include Journal of Evolutionary
  Economics, Journal of Institutional and
  Theoretical Economics, Evolution and Human
  Behavior, Organizational Science