Duking it out: The pitfalls of corporate political activityMarch 4, 2011: 1:22 PM ET
As Duke Energy takes heat over private meetings it had with its regulator, corporate boards should expect tough questions from shareholders on political activities this proxy season.
By Eleanor Bloxham, contributor
Political activity and agitation are in the spotlight on multiple fronts across the globe, and despite advance warnings from investors, the issue remains off the radar for U.S. corporate boards.
Last week, for the first time in four years, TIAA-CREF, a financial services organization with over $450 billion in assets under management, updated its policy statement on corporate governance. The statement includes a section on political influence in which TIAA-CREF argues that political spending may pose "risks to shareholders, including the risk that corporate political spending may benefit political insiders at the expense [of] shareholder interests."
This statement is reflective of growing concern by many investors in the wake of the Citizen's United Supreme Court decision, in which the Court ruled that the government cannot prohibit companies from spending on political elections.
But political spending is just the tip of the iceberg when it comes to the many issues surrounding the relationship between politics and business today. For one, political risks are limiting the ability of companies to do business in the Middle East. And, closer to home, companies that engage in political activity are taking on serious risks to their reputation, as these actions shape consumer, shareholder and other corporation's views about a company and its ethics and responsibility.
Last week, the Indianapolis Star added another item in their series of stories on email exchanges and meetings between executives at Duke Energy (DUK) and the then head of the Indiana Utility Regulatory Commission (IURC), the company's regulator. The meetings were noteworthy, in part, because of the restrictions placed on private meetings between companies and their regulators.
At one meeting, in February 2010, Duke's CEO James Rogers and vice president at the time James Turner had breakfast with the then-Chairman of the IURC, David Hardy. The meeting related to cost overruns at Duke Energy's plant in Edwardsport, Indiana. After that meeting, the company formally petitioned the Utilities Commission to have its corporate and residential customers pick up the tab for these costs.
The first inkling of the cost overruns discussed in the private meeting came at the end of November 2009, when Duke Energy filed a disclosure with the SEC, which said the cost of its Edwardsport plant would likely "exceed the approved $2.35 billion" by approximately $150 million and "an additional amount … necessary for contingency."
At the same time, Duke Energy issued a press release explaining that both customers and taxpayers would have to serve as the primary funders of the new plant, which was slated to replace an existing coal and oil plant that was built over 60 years ago.
"Duke Energy Indiana is asking the commission to schedule a separate proceeding by next March, when most of the project's engineering will be complete, so that the company can provide a more detailed, revised cost estimate," the release said.
Duke Energy had its private breakfast with the IURC in February, one month before it had said it would release its updated cost estimate.
"The law permits advising commissioners of procedural issues, such as the fact that we were going to make a filing. It is my understanding the meetings were not intended to persuade or advocate a position," Angeline Protogere, a Duke Energy spokesperson, explained to Fortune by email.
Of course, the fact that Duke was going to request a proceeding had already been announced in November. According to the company spokesperson, though, the Duke Energy board had learned in an earlier February briefing that cost overruns for the Edwardsport project were going to be around $530 million – the higher side of a range -- more than three times the original $150 million estimate.
"When we arrived at a new cost estimate, [IURC] chairman Hardy was informed of the cost increase to $2.88 billion," wrote Duke Energy's spokesperson.
Although the board and the regulator knew in February about the new estimate, customers, taxpayers and shareholders did not learn of the significant jump until April, when Duke Energy made the issues public, according to Duke's spokesperson. Between February and April, the company looked at its options and prepared to submit a regulatory analysis.
Hearings are currently being held and customers are concerned about potential rate hikes and the company's influence on the regulatory commission.
If the commission rejects Duke Energy's petition to increase rates and decides that customers shouldn't have to pick up the additional tab, shareholders may have to foot the bill -- and then they too may have a problem with the lag time between Duke's private breakfast with its own regulator and the public release of information about its cost overruns.
This isn't the first time that a company has provided material information to regulators before its own investors. Ken Lewis, former CEO of Bank of America (BAC), found himself in hot water when it was revealed that he privately shared concerns about the company's Merrill Lynch merger with Hank Paulson at Treasury and Ben Bernanke at the Federal Reserve and failed to notify investors of those concerns in a timely manner.
As of 2010, new disclosure rules require companies to discuss risks in their compensation programs in their annual proxy, but most boards still do not fully understand the implications of these requirements. Political risks just might be a new frontier for shareholders and regulators.
Duke Energy's 2010 proxy filing suggests that executives may have been rewarded in ways that could contribute to motivating undue political influence. Duke Energy vice president James Turner's compensation was tied, in part, to the goal of advancing "federal and state policy and legislative initiatives to protect customers and Duke Energy's interests." Keith Trent's compensation was tied to reducing "regulatory lag" and improving "regulatory cost recovery." And CEO James Rogers' performance was tied to achieving "public policy, regulatory and legislative outcomes that balance the needs of customers and shareholders."
Since April, three Duke Energy employees, including James Turner, have been fired or have resigned because of the issues surrounding the company's relationship with the IURC.
Hardy was fired from his seat as chair of the IURC in October amid an ethics probe that showed that he allowed an individual who was looking to start working for Duke Energy to preside over a matter concerning the company.
As investors engage more vigorously with companies this proxy season, boards should expect more than just an accounting of the dollars and a serious look at political spending. They should expect in-depth conversations with major shareholders over the reputational, compliance and ethical risks of their political involvement.
Eleanor Bloxham is CEO of The Value Alliance and Corporate Governance Alliance (http://thevaluealliance.com), a board advisory firm.