Corporate Governance Best Strategies

Public Pension Financial ForumOctober 19, 2009

Aeisha MastagniInvestment Officer

Introduction

CalSTRS mission

“Securing the financial future and sustaining the trust of California’s

educators”

• Second largest public pension fund in the United States

• Established over 96 years ago for the benefit of California’s public school teachers

• Serves the investment and retirement needs of over 833,000 plan participants

• Assets under management of approximately $130 billion

• Invest in public equity, fixed income, real estate, and private equity

• Global investor across all asset classes

Investment Office

Corporate Governance Unit

CalSTRSCorporate

GovernancePrograms

ActivistFund

Managers

PortfolioCompany

Engagement

ProxyVoting

Legal,Regulatory

andLegislative

Support

CG Engagement

ClimateRisk

Management

CorporateBoard

Diversity

ExecutiveCompensation

TraditionalGovernance

Issues

Activist Fund Managers

• CalSTRS has ~ $3 billion committed to this equity investment style

• Funds in the United States and Europe

• Strategies include small- , mid- , and large-cap stocks

What is an Activist Manager to CalSTRS?

• Managers hold concentrated portfolios (8 to 12 securities)

• Take large stakes in companies (up to 10% in some cases)

• Look for underperforming companies with sound fundamentals

• Manager acts as a catalyst to improve the company by engaging management and the board

Portfolio Company Engagement

• CalSTRS is an active long-term asset owner

• The majority of CalSTRS holdings are passively indexed

• CalSTRS engagements are intended to be proactive

What do we engage companies on?

• Climate Risk Awareness & Management• Diversity• Executive Compensation• Corporate Governance

– Classified Board– Majority Vote for Directors– Auditor Ratification– Poison Pills

Climate Risk Management

• Goal is to be proactive in mitigating climate risk by engaging companies to disclose their efforts on managing this risk

• CalSTRS focuses on high-risk industries– Electric Utilities– Oil & Gas– Automobile– Insurance

• Variety of sources used for risk disclosure analysis

Climate Risk Engagement

• Active member of several coalitions focused on improving environmental disclosure– Global Warming Shareholder Campaign– Carbon Disclosure Project

• Participate in forums organized to address the issue– UN Leadership Forum on Climate Change– International Investor Forum on Climate Change– Governors’ Global Climate Summit

• File shareholder proposals in collaboration with other investors

Diversity

Increased Recognition of the Need for Diversity

Why Diversity?• Women Board Directors (WBD) align with

strong performance at Fortune 500 Companies

• Companies with top quartile WBD rankings, outperformed companies with bottom quartile WBD rankings by:– 53% in ROE– 42% in ROS– 66% in ROIC

• Link between WBD and corporate performance holds across industriesSource: Catalyst

Corporate Board Diversity

10%

2%

84%

4%

Black Asian

White Hispanic

14%

5%

66%

15%

Black Asian

White Hispanic

Board Seats by Ethnicity US Population by Ethnicity

Female Representation

No Female Directors, 41.63%

1 Director, 34.12%

2 Directors, 17.49%

3 Directors, 5.16%

> 4 Directors, 1.28%

Female representation in the Russell 3000

Diversity Engagement

• Filed eight shareholder proposals• Six withdrawn after successful negotiations

with the companies

– Digital River– Hansen Natural– Waddell and Reed– Kirby Corp.– Eagle Materials– Helix Energy

• Proposals at Liberty Global and NutriSystems went to vote

Executive Compensation

• Very active in monitoring and engaging companies on their executive compensation practices

• In May 2009, CalSTRS published Principles for Executive Compensation and Model Policy Guidelines– Sent Principles and Guidelines to our largest 300

companies– Follow-up communications with the companies

has been positive and constructive

• Strong supporter of advisory votes on executive compensation

What do we look for?

• Performance-based pay with metrics that are indicative of value creation– Look for metrics with a capital charge (Return on

Invested Capital)– Not just share price appreciation or revenue growth

• Multi-year performance periods and vesting periods of equity awards

• Evaluate the “peer group” used by companies to analyze performance

Executive Compensation

Proxy Voting

Proxy Voting Program

• Authority to vote proxies is delegated to CalSTRS staff by the board

• Staff votes proxies based on guidelines approved by the CalSTRS board

• Votes all domestic proxies in-house along with U.K., Australia, and Canada proxies

• Europe, Asia, and Far East proxies are voted by fund managers who follow CalSTRS guidelines

Summary of Proposals

• Election of Directors – Voted For 49% and Against 51%

• Ratification of the Auditor– Voted For 89% and Against 11%

• Compensation Plans– Voted For 39% and Against 61%

• Shareholder Proposals– Voted For 82% and Against 18%

Legal, Regulatory, and Legislative Support

Legal Support

• Corporate Governance assists the CalSTRS Legal Dept. with securities class actions

• Often try to seek lead plaintiff status

• Corporate Governance files Proofs of Claims

Regulatory and Legislative Support

• Comment on proposed legislative bills that are likely to effect CalSTRS

• Comment to regulatory bodies, such as the SEC, NYSE, and PCAOB on actions or rule change proposals

• 2009 Comment letters to the SEC:– Short Sale Rule– Proxy Access– Proxy Disclosure and Director Qualifications– Pay-to-Play

Divestment/Engagement

• CA Legislature passed AB 221 and AB 2491 calling for CalSTRS to divest from companies doing business in Sudan or Iran

• CalSTRS sent letters to identified companies requesting an update on their activities in the two countries

• Staff is evaluating the responses and arranging face-to-face meetings with several companies

Conclusion

• CalSTRS uses Corporate Governance as a tool to mitigate portfolio risk

• We are fiduciaries to the public school teachers and taxpayers of California

• As long-term investors, we at CalSTRS believe it is our fiduciary duty to be active owners and work to reduce portfolio risk where we can