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EU Shareholder Rights Directive Part II

The European Commission has published its formal proposal for the much-leaked update to the 2007 Shareholder’s Rights Directive. It forms a part of the “road map” for the Commission’s 2012 company law and corporate governance action plan which is aimed at “enhancing transparency and engaging shareholders”.

The draft directive identifies 5 specific objectives:

Improvement of engagement of institutional investors and asset managers

Institutional investors will be required to have a policy on shareholder engagement (even if their policy is “we don’t do it”) and justify it. Furthermore, investors must also demonstrate how their investment strategy is aligned to their liability profile and “how it contributes to the medium to long term performance of their assets”, which may pose a challenge to those whose investment strategy is short.

Discussions on this may also revolve around whether improved transparency actually ensures better results, as the onus to achieve them will fall on asset owners in particular to pull their weight both as investors and asset manager clients.

Better links between pay and performance of directors

It is envisaged that the improvement of shareholder oversight of remuneration will in turn ensure better links between pay and performance, delivered through better transparency forcing greater shareholder engagement with boards. Proposals would “require listed companies to publish detailed and user-friendly information” (a phrase with more than a whiff of the oxymoron about it – watch that space), including standardisation of presentation of some information. As we’ve seen with the single figure debate in the UK, there’s often a minefield of “what ifs” between principle and practice. Further to the UK debate, the draft also proposes providing for shareholder voting on policy and remuneration practice.

Until there is consensus in the pay for performance debate on what constitutes performance and the role of extra-financial performance measures, this debate is likely to be either counter-productive for those who wish to see sustainability at the heart of their investment management processes, or circular in nature.

Strengthening of shareholder oversight on related party transactions

Related party transactions are some of the most contentious corporate governance questions, but shareholder rights to information and approval of them vary greatly across the EU. The draft directive therefore proposes minimum transaction size thresholds above which shareholders must be asked for their approval, alongside mandatory disclosure rules for smaller transactions.

All transactions must also be assessed by an external advisor and an opinion as to their fairness given, which imposes a compliance cost on issuers.

Certain concessions are provided for, such as the ability to ask for routine and closely defined general authorities for transactions, and the ability to waive the third party report requirement for recurrent transactions.

Improve transparency of proxy advisors

Debate is sure to be had about the stringent proposals that accuracy and reliability of voting recommendations should be “guaranteed”, that research content should be determined by regulators, as well as being required to publish details about the number of staff employed and recommendations provided – both of them academic in their relevance to the issues at hand. Conflicts of interest are also targeted, through providing for mandatory disclosure rules.

Given the recent publication by the industry of the Best Practice Principles for Corporate Governance Research Providers, it is surprising that the Commission is seeking to regulate this area so soon after ESMA’s attempts in 2013.

Facilitate easier exercise of rights flowing from securities for investors

It is proposed that intermediaries (custodian banks and CSD’s, for example) are to be required to offer to issuers the ability to have their shareholders identified – for a fee. It also brings to the table the idea of unique identification numbers for investors. Issuers are likely to oppose the idea that they must pay intermediaries to find out who their shareholders are but the idea of a Legal Entity Identifier for asset owners is something that Manifest has supported since the mid-90s.

It also requires intermediaries to “facilitate the exercise of the rights by the shareholder” – thereby potentially strengthening the stranglehold the custodian banks currently have on the voting process. The requirement for companies to confirm the votes cast in general meetings also misses the point that the problem with voting is not the message but the management (and often structure) of messaging.

As with all European Directives, there’s a lot of discussion still to be had, but against the backdrop of the European elections and a forthcoming shake-up of the European Commissioners meaning this could be a part of Michel Barnier’s swansong at DG Internal Market, the proposed time-scales and prospects for much-needed constructive dialogue not only of proposals but rationale too look murky to say the least. When all is said and done, the proposed Directive looks more like a Shareholder Obligations Directive than one which underpins existing rights that are in many cases impossible to exercise.

What do you think?