05 September 2023
Quilter Cheviot has produced a number of recommendations for the investment trust sector following an in-depth engagement programme designed to improve the corporate governance practices and responsible investment disclosure within the sector.
During this first phase of the long-term engagement, Quilter Cheviot met with the chairs and other non-executive directors (NEDs) of 41 equity investment trusts.
The key findings include:
- Board succession planning should be managed on an ongoing basis and an inability to do so is a governance failure.
- Talking about cognitive diversity being important without reaching diversity targets is becoming very tired. Boards need to rethink recruitment.
- To aid transparency the names of executive search firms and external evaluators should be disclosed in the annual report.
- Having a points system to evaluate whether a NED is over-boarded is a helpful starting point to judge over-boarding and a foundation to build upon, however qualitative assessments should be used too.
- While we expect the majority of NEDs to own shares in the trust, personal wealth should not be a barrier for appointment.
- Boards should reconsider which stakeholders should engaged with through the external evaluation process.
- If you manage a UK listed company, then you need to do so in line with local expectations and future regulatory standards.
- Responsible investment disclosure should be focused on the trust – it shouldn’t be about the firm’s approach.
The objective of the engagement was to improve the corporate governance practices and responsible investment disclosure in the investment trust sectors, primarily focusing on three factors:
- Board composition – board should be independent, diverse and have the right skillset.
- Board effectiveness - boards should have the ability and willingness to challenge the investment adviser when necessary and be accessible to meet with shareholders and open to considering their feedback.
- Disclosures - responsible investment disclosures that are pertinent to the investment trust and provide real-life examples of how the trust approaches stewardship and the integration of environmental, social and governance factors within its investment process
While most boards were open to constructive challenge and discussion, not all were, with one chair describing engagement as ‘fatuous’ when asked about providing more disclosure regarding the manager’s approach to engagement.
Quilter Cheviot provided each investment trust with a red, amber or green rating on the three criteria. Only three investment trusts qualified for a green rating in each of the categories, while two received a red rating across the board.
The category with the highest percentage of green rating was board effectiveness, at 70%, while nearly two-thirds (63%) of the boards achieved a green rating for composition and effectiveness.
Board composition was the category that had the greatest number of red ratings, with seven trusts representing 17% of the trusts within this universe. The most common reason for the red rating for board composition was failure to meet the UK diversity targets, the presence of non-independent directors, or one or more directors serving over the recommended tenure of nine years with no plans to resolve this, indicating a lack of succession planning.
Quilter Cheviot will monitor progress of this engagement while also embarking on the next phase with a focus on investment trusts in the private equity space, before moving on to those involved in infrastructure and real estate.
Gemma Woodward, Head of Responsible Investment at Quilter Cheviot, said: “The investment trust sector is far from homogenous, but there is in our view some common themes where there is room for improvement. While we are mindful that the regulatory landscape and shareholder expectations are constantly changing and what looked good a couple of years ago has now perhaps lost some of its shine, it is important these improvements are not ignored.
“We have seen some signs of improvement already, but clearly, as some comments from those chairs we questioned suggests, there is a way to go in some cases. Ultimately, we want to work in partnership with the trusts where we are shareholders on behalf of our clients, to ensure that the sector keeps pace with expectations and regulations and ultimately produces good investment outcomes.”
Nick Wood, Head of Investment Fund Research at Quilter Cheviot, added: “Investment trusts have grown in popularity over the years and for good reason, with a wider range of asset classes available and the increased liquidity benefits.
“However, when we invest in an investment trust, we become the shareholders of the company and, as such, our governance expectations are much higher than they would be for an open-ended fund. As such, engagement exercises such as this are crucial to ensure we understand how investments are being managed on behalf of our clients, and crucially provide constructive feedback so we can see improvements over time.”
Richard Stone, Chief Executive of the Association of Investment Companies (AIC), said: “Investment trusts’ independent boards of directors are important guardians of shareholders’ interests. Boards have been particularly proactive this year in their pursuit of shareholder value, proposing mergers, reducing fees and even proposing the winding-up of companies.
“Shareholder engagement is a critical component of good governance. We welcome Quilter Cheviot’s thorough engagement programme which explains their views, the rationale behind them and their recommendations. This is a valuable contribution from a leading wealth manager that is clearly committed to the investment trust sector.”
To view the full report, please click here.