Keith Woodford considers what Fonterra needs to think about while they "take a breath", suggests a better voting system, shows dangers of a too-small board

By Keith Woodford*

The key message from this month’s failed governance restructure vote is that Fonterra’s directors and the Shareholders’ Council must go back to the drawing board. Farmers do want change, but nothing can happen without 75% support from voting members. So where to from here?

 Calculated over the total membership, approximately 37% of the voting electorate said ‘yes’ to the proposals, 21% said ‘no’, and 42% sat on the sidelines. Those 42% on the sidelines were either confused, disenchanted, or distracted by other events.

It is hard to believe that any of Fonterra’s farmers could consider themselves to be disinterested. This is because, unlike most investors who have diversified holdings across many companies, Fonterra’s farmers are totally dependent on Fonterra. It is a very special relationship.

Chairman John Wilson is saying that it is time to take breath and that makes sense. This time they need to get it right. So both Fonterra’s directors and the Council need to reflect on the implications of failure.

The key reason the Board and Council got it wrong last time is once again because of group-think. If they had tested their ideas more broadly, specifically asking key thought analysts to search hard for flaws, rather than seeking endorsement, then a lot of angst could have been avoided. 

The problem was that Fonterra produced a selection process for future directors that was fundamentally flawed. Despite the apparent unanimous endorsement of both the Board and the Council, the tide turned in the last ten days once the flaws were exposed and so the vote was lost. This was despite many farmers having already voted ‘yes’ before the tide turned.

The key issue is that farmers were being asked to delegate the power of choosing the new directors, or re-appointment of current directors, first to three independent business men for shortlisting, and then to representatives of the Board itself for final selection.  It was all too cosy.

The counter argument was that an open election does not produce the best candidates. Also, that prior name recognition can be a key determinant of success, rather than genuine ability.

The path forward must surely be to make better use of the Shareholders’ Council as an electoral college.

For reasons that are obscure, reform of the Shareholders’ Council was laid aside while Fonterra dealt with restructuring the Board itself. That was a strange decision, given that the Shareholders’ Council and the Board are both elements of governance.

I have always believed that the notion of having a shareholders’ council at Fonterra was important. In a co-operative with some 10,000 members, there has to be a group that represents farmers to the Fonterra Board. Without such a structure, the individual farmer is effectively disenfranchised.

Despite the importance of the Council as a representative body, in practice the relationship between the Council and the Board has often been tangled.   Quite simply, the Council has had no real power.

If the ward-elected Council were in the centre of the Board appointment process, then many things would change.  First, this would produce a higher calibre of Council member. More good people would stump up, knowing that councillors had genuine influence. Second, it would mean that the Board would treat the Council with respect, knowing that the Council would be making the decisions about who should be returned and who should be replaced at the next election. All of a sudden, Fonterra directors would be accountable to a lead group of Fonterra farmers who would be in a position to assess their performance.

With this system, it should be the full Council, and not a sub-committee with its own power relationships, that would vote on the candidates. The council would develop its own processes for interviewing and assessing the skill sets of candidates.

For the candidates themselves, it would mean they could focus on communicating in depth their skills, experience, and vision to a modest-sized group rather than stumping up and down the countryside electioneering in draughty halls.

It would be up to the Shareholders’ Council members to liaise back with their ward members, just as it is now, on matters that they wished to be represented on. The fundamental difference would be that farmers would actually consider it worthwhile to engage with their councillor, knowing that councillors now had some influence and would be listened to by the Board.  And farmers would make sure they were represented by someone on the Council who did genuinely represent their interests.

In setting up the system this way,there are lots of details to be worked out. But no more details would be necessary than had to be developed for the governance proposal that farmers have just turned down.

One of the key accompanying decisions is the specific voting system to use. Personally, I am a fan of the single transferable vote (STV) system as it does increase the chance of getting diversity. However, it remains poorly understood, in large part because of a failure of Fonterra to effectively communicate to its members the rationale for this system.

Within Fonterra’s membership, there has been too much focus on the so-called limitations of the quota requirement within STV. In essence, the STV is a ranking system. The so-called quota is just a measure of the point at which a leading candidate can no longer be overtaken, and a trailing candidate can no longer make up a deficit, through further re-assignment of preferences.

One of the important advantages of STV is that it prevents two strong candidates who are attractive to the same voting constituency from cancelling each other out and allowing a third weaker candidate to come through the middle.  It means that there is no ‘gaming’ within the voting process, and voters do not have wrestle with the issue of ‘wasted votes’. All it requires is for voters to rank their preferences.

Although empowering of the Shareholders’ Council as a Board electoral college has much to commend it for election of farmer directors, this is not necessarily the best way forward for non-farmer directors. These people need to be appointed for specific skill sets that are otherwise missing from around the Board table.  It is the Board itself which can best identify these missing skill sets, and then set in place a professional search process to find the best candidates.  The Board should then nominate preferred non-farmer directors for endorsement or rejection by the Shareholders’ Council.

Currently, there is a groundswell of opinion in favour of a smaller Board, and so I expect that notion to come forward again at the next iteration. In doing so, farmers need to reflect on the narrowing of the field this creates when it comes to finding a suitable chairman with experience and requisite wisdom. Within Fonterra, the role of Chairman is crucial, and has its own unique skill requirements, which are not necessarily found in many otherwise competent directors.

The worst outcome of all would be a small Board with open election by all members. There are always going to be some weak performers in a Board elected that way, and it can be very hard for members at large to identify those directors who are ‘all noise but lack substance’.

Keith Woodford is Professor of Agri-Food Systems (Honorary) at Lincoln University and a Senior Fellow (Honorary) of the NZ Contemporary China Research Centre. His archived writings are at http://keithwoodford.wordpress.com