IRA M. MILLSTEIN
Senior Partner, Weil, Gotshal & Manages

Background

I thank Jules Muis for his generous introduction.  Jules has guided our governance reform efforts on behalf of the World Bank.  He is the premier international public servant because, aside from obvious talent and dedication, he came to public service with great knowledge of the international private sector.  Jules, I came to speak at the Executive Policy Seminar to say, “Thank you.”  You have given me a wonderful platform, and have eased my way into the workings of the Bank.

Of course, I also came here to discuss corporate governance, particularly the important initiatives being undertaken by the OECD and World Bank to improve corporate governance practices around the world.  But first some background.

A few years ago, I was asked to chair a Business Sector Advisory Group on Corporate Governance that the OECD established to analyze and review international governance issues.  Our group was very small -- a Japanese, a German, a Frenchman, an Englishman (Sir Adrian Cadbury, who is one of the fathers of corporate governance), and two Americans, including me.  The group recognized early on that in discussing corporate governance, we needed first to agree on a common definition that would enable us to move forward and create what would ultimately become the foundation of corporate governance analysis around the world.

What was the common bond that pulled us all together?  We agreed that we shared a common desire for the private sector in our respective countries to have access to global as well as local capital.  The consensus that we quickly developed was that corporate governance depends on the private sector for implementation B and that common principles can be articulated given the common goals of capital attraction.  This allowed our group to put aside for the moment our different views of the corporation’s role in society B views that are heavily influenced by societal values.  We ultimately wrote a unanimous Report containing our beliefs as to what was necessary to attract capital.

Our Report did not adopt the US/UK model, and we did not adopt the German or French model.  We did not adopt any country's model; but instead focused on basic principles which, if followed, would enable private sector corporations in our respective countries to be sufficiently attractive to the global investment community.  In short, we recognized that access to capital is a firm basis for improved corporate governance and, importantly, a basis we could all agree upon.

Our Report became the basis for the adoption last year of the OECD Principles of Corporate Governance by all 29 OECD-member nations.  And, it has become the foundation of a message that is now spreading around the world very quickly B that if nations want their companies to compete for capital in the global economy, and compete for it at a reasonable cost, they will face market pressure to improve their corporate governance practices, and, of course, their governmental approach as well.

Corporate Governance on the Global Agenda

Corporate governance in these terms brings together many concerns.  Certainly it involves issues pertaining to board structure and process.  But in recent years, corporate governance has broadened to include, for example, dealing with corruption.  Corruption is obviously an evil that must be eliminated in the interest of good corporate governance.  It warps the system when present.

I serve on the board of an organization called Transparency International, which is working to ensure that eliminating corruption is an integral part of the entire corporate governance movement.  Transparency International has convinced the International Chamber of Commerce that corporate governance ought to be on its business agenda.  And it should, since long-term patient capital B crucial to economic development and stability -- will flow only to where it is protected and can earn fair returns B and will not flow into corrupt corporations or countries where there are no shareholder rights; where capital flows into private pockets and bank accounts.

Since the beginning of time, the concept of lending money has been governed by some universal principles.  When you lend, you want to know that you will be repaid and that there is some place to seek assistance if you are not repaid.  When default and other risks are high, the cost of that loan to the borrower will be high as well.

The standards for lending money are the same in New York City, Botswana, or Bombay: lenders are not going to lend to corrupt people or to people who they do think aren't going to repay.  People use the same standards to lend, whether it is billions of dollars or hundreds of dollars.  Corporate governance is no more complex.  It should come as no surprise that people apply similar standards to their equity investments by investing at reasonable rates, where they are protected, and not investing, or demanding much greater equity, where they are not.

Aside from corruption, there is considerable attention being placed internationally on improving transparency and disclosure.  We were urged by the accountants to include the improvement of international accounting standards as part of the corporate governance agenda.  As a result, later this month I will speak at the International Federation of Accountants' (IFAC) annual meeting in Scotland.  As many of you know, IFAC is actively involved in attempts to harmonize accounting standards around the world.  The problem is that while capital is now truly global, accounting and auditing standards are developed and enforced locally.  Global capital will increasingly require harmonized accounting standards that are understood by everyone.

Harmonization, however, will take time.  Until then, the accounting and auditing industries B particularly the Big Five firms -- can use their influence to exert pressure on individual countries to bring local accounting rules up to at least minimally acceptable international standards.

Today's corporate governance agenda, therefore, encompasses not just the “traditional” governance issues B e.g., boards of directors, how to manage a corporation, shareholder rights B but also important issues relating to corruption and accounting and disclosure.  As to each of these issues, the need for global capital is causing a convergence in governance practices.  I believe that, ultimately, there will be an agreement on a range of acceptable standards.  For example, although we are never going to eliminate corruption, it will be within a smaller range; although we probably will never have totally consistent world-wide accounting standards, systems will become more consistent; and although we will never have complete shareholder rights world-wide, we will have a convergence on a range of rights.

Convergence should not be feared but should be anticipated.  Capital is capital wherever it comes from, and will seek similar assurances wherever it goes.  At the end of the day, what good governance is intended to do is enhance a nation’s prospects for long term economic growth B growth that is a key factor in political stability and poverty reduction.  And that is not going to happen without capital.  Good corporate governance helps attract low cost capital, which will improve stability around the world, create jobs, and make local economies better.  Governments and private sectors everywhere will come to recognize this, and seek to join the global market.  When they do, there’ll be governance guidelines to follow.

The World Bank-OECD Project on Corporate Governance

That's the message of the Private Sector Advisory Group on Corporate Governance (PSAG), formed last year as part of the joint World Bank B OECD initiative on corporate governance.  The Advisory Group was established to work with the private sectors in developing and emerging nations to support local governance reform efforts, using the OECD Principles of Corporate Governance as a reference point.  I chair, as Jules pointed out, the PSAG.

One of the first tasks the Advisory Group undertook was to set up an Investor Task Force comprised of individuals from some of the most recognized names in the investment community, all of whom live in the international capital markets.  Collectively, the Task Force represents over $3 trillion in capital.  The Task Force was created to provide emerging and developing economies with an understanding from the investor community -- local and global -- that long-term capital is more likely to flow to those economies and companies that demonstrate a responsiveness to governance reform.  And it won't flow to those countries that don't.  And if outside help is sought to improve local governance practices, the Private Sector Advisory Group is positioned to provide it.

For example, our group helped organized a Latin American conference held last month in Brazil, which addressed governance reform in Brazil, Chile and Argentina.  For a year we worked with policy makers, executives, investors and stock exchange officials from each of these countries to provide a foundation for the conference.  We went to Brazil as representatives of the private sector B investors who have a fundamental understanding of investment risk and return, and who wanted only to explain.  Our discussions were open and candid; we were not a government attempting to condition aid or loans on specific reforms B we were there just to explain.

We were able to speak directly because we had research and documentation describing what investor perceptions were about their economies.  The Russell 20-20, a non-profit group made up of 20 major pension funds and 20 major money management organizations, representing more than $1.5 trillion in capital, had conducted investor surveys and analyses of how investors perceive the investment climate in Brazil and other Latin American economies.

What were their perceptions?  Investors perceived a need for improvement in such areas as political stability, taxes, legislation and the rule of law, capital allocation, management of debt, external liquidity, inflation, money supply and foreign exchange rules, and, of course, corporate governance.  The survey used colors to show where improvement was most needed:  red for unacceptable, green for acceptable, and yellow for somewhere in between.

There was a lot of red on the document:  rule of law (big red), capital markets (red), corporate governance (very red), government involvement in the marketplace (red and too much), government’s effective administration (very red), illegal practices (very, very red), and so on.  In color, the red really hit you.

Consequently, I was able to begin the conference and say, “Look at this.  How do you feel about being a country like that?  Is anybody going to invest in Brazil other than at a high cost of capital at this stage of the proceedings?  Even your local capital market has been essentially wiped out.”  At the stock exchange where we were meeting, there were fewer than 250 companies then being traded.

Importantly, I was not speaking for the World Bank and the OECD, but for a private sector group representing $3 trillion worth of potential capital.  This amount dwarfs the ability of the World Bank and the OECD to invest.  There are trillions of dollars of capital ready to flow, but which won’t flow at reasonable rates unless investor concerns are addressed.  At the conference, we simply told the participants to pay attention, because what was being discussed had a lot to do with why they are not attracting capital.  Once the program began, one session followed logically after another with the message that investors require shareholder rights, a judicial system, and adequate regulation, and then describing some parameters for what was needed.

The Latin Americans participating in the conference seemed to agree on the principles we were discussing.  During our visit, we spoke to regulators who could not regulate because they were not permitted.  We saw stock exchanges that could not function because there was insufficient capital.  We were equals talking to equals, talking about problems we both understood.  There was little lecturing or posturing.  Policy makers were already talking about changing the laws, and regulators about changing regulations.  I hope we invigorated the process.  I think it went well.  By the end of the conference, it was agreed that we needed to continue the dialogue through a series of further meetings.  The best result was that we were invited back to Brazil for more concrete discussions, and we are going in September.  Next year we will also meet in Argentina.

This process is not going to be completed, however, this week, or this year, or even in my lifetime, but it has begun. And the important point is that it has been welcomed by the individual countries involved.  The Private Sector Advisory Group cannot implement the necessary reform.  Countries have do it themselves, or it will not get done.

For me, these conferences represent what the World Bank and the OECD joint initiative can do -- identifying the issues, raising them openly and candidly, and explaining to the local private sector the need to take action, both with respect to itself as well as its governmental regulations.  In my view, it’s working; the message is coming through, and will be responded to because it is private sector oriented with no chauvinism or governmental fist behind it.  OECD/World Bank sponsorship lends credibility to these private sector initiatives, but does not command the result.

Looking Towards  the Future

I think countries and companies in Latin America are beginning to understand the importance of the type of corporate governance I’m describing.  I'm not sure whether countries and companies in other parts of the world understand its value as well.  For example, it's too early to tell whether things are really changing in Asia.  Governance reform requires a cultural change, and there has been a national resistance to change.

I’m not sure, either, that the Russian government or Russian companies understand yet the importance of corporate governance.  The good news is that there are an increasing number of individuals in Russia who would like to see things change, who are concerned about corporate governance. Indeed, our group is going back to Russia to participate in another conference there.  But you all are well aware that the issues are so complex in Russia that change will be difficult, and will take a long time.

Aside from Russia, our Advisory Group is planning a Conference in the Ukraine, as well as another in Hong Kong.  Now that our Brazil conference has established a format, we have the model to use elsewhere.  We will travel to each country and talk openly and honestly about access to capital and relate our message to eliminating corruption, improving transparency and disclosure, and developing corporate governance.  The key is whether a country actually wants assistance; we have no capacity, other than bringing reality, to compel a result.  If they want assistance, our advisory group is there to help.

So what’s the secret formula for the PSAG?  Get yourself invited -- go there --explain -- go home -- come back if asked.