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Board Games 2016 Family business: Do governance scores paint the full picture?

Board Games 2016: Additional tables on company and director diversity and a full report card are available for purchase.

When The Globe and Mail first began scoring governance in Corporate Canada 15 years ago, some of the country's most respected business families freaked out.

Ted Rogers, late founder of Rogers Communications Inc., argued wife and fellow board member Loretta was as independent a thinker as you will ever meet, so the company should not lose points by having Mrs. Rogers counted as a related party director.

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Power Corp.'s lawyer took issue with a methodology that ranked the Desmarais clan's conglomerate at the back of the pack. There were approximately 40 large family-controlled companies in the TSX benchmark, and they made their voices heard.

Over time, the outrage faded. Governance grades became part of corporate coverage, alongside a long list of tools that use both analytics and opinion to predict a company's prospects, measures that range from analyst recommendations to credit ratings and lists of the best places to work.

Where early surveys found family-controlled companies fell short of best practices in the boardroom, most companies evolved, to their credit.

The same improvement in governance played out at dual-class share companies, which make up approximately 15 per cent of the S&P/TSX index and also lag single-class peers in board rankings.

While heads may no longer be spinning, the methodology of the ratings remains largely the same. Family-owned companies tend to lose marks in governance surveys over issues such as the composition of their board, and end up ranking behind companies with no controlling shareholder.

Which begs the question: How much weight should investors put in governance scores?

Are Manulife Financial Corp. and Sun Life Financial Inc., top insurers on The Globe and Mail's rankings, better stocks to own than Great-West Lifeco Inc., which trails its rivals on governance scores due in part of the fact it is controlled by Power Corp.? Is family-controlled Bombardier Inc. in a tailspin due to poor governance, or the fact that it's years behind schedule and billions over budget on an unproven aircraft?

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There's no simple answer. Family-owned companies point to academic evidence that shows a controlling shareholder is positive for performance. A recent study by the University of Toronto's Rotman School of Management found that over a 15-year period, Canadian publicly listed family firms significantly outperformed the rest of the S&P/TSX index, to the tune of an additional 25-per-cent total return to shareholders.

But the same academic work found that thorny governance issues such as compensation get even more difficult when a family is involved. Rotman's Clarkson Centre for Board Effectiveness is working on a report that sweeps in "the unique challenge of compensating a CEO who is a member of the controlling family."

The next instalment of the Rotman study should make for interesting reading. Talk to boardroom veterans, and they'll quietly observe that the biggest shift in governance at family-controlled companies over the years is a steady move to experienced, outside management, rather than a chief executive officer who inherited the job as a member of the lucky sperm club.

So what should investors do with results of governance rankings? Recognize that top scores on governance do signal that the right systems are in place for shareholders, but don't consistently translate into a stock that outperforms. Understand that issues such as family control or a dual-share structure will weigh heavily on where a company ranks against peers.

Scoring boards puts a spotlight on the governance process, opening boardroom doors that were historically closed to shareholders. These surveys shows which boards have adopted best practices, and which are lagging. They highlight companies that, for one reason or another, are run differently from peers.

In simple terms, the role of the board is to find the right CEO, ensure that individual and the rest of the management team execute well, and try to stop potentially fatal mistakes. These rankings help outsiders understand which boards are best positioned to do that job.

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