The Combined Code on Corporate Governance: Relations with
shareholders
This article is based on UK law.
Despite some impressions to the contrary, the Combined Code
makes it clear that good governance is not a one-way street.
Companies and their boards have numerous obligations and duties to
shareholders, but there are reciprocal duties owed by the
shareholders to the company.
In the interests of good governance, investors should:
- communicate with directors;
- “police” boardroom practices – i.e. monitor compliance with the
Code.
Communication
Main principle D.1 says that there should be a dialogue between
the board and shareholders “based on the mutual
understanding of objectives”. Main principle E.1 says:
“Institutional shareholders should enter into a dialogue
with companies based on the mutual understanding of
objectives”. Yes, the board has to explain to shareholders
what it is about, where it wants to get to and how it is going to
meet its aims; but equally shareholders must make sure they clearly
state their objectives and the timescale in which they want them
achieved.
In talking about dialogue with shareholders, the Code refers
largely to major investors. There are two reasons for this:
- the Code originated as a response to pressure from large
institutional shareholders for reform of boardroom practice;
- practicalities dictate that no board is going to spend time or
money talking to every shareholder with a few hundred shares; the
priority will be investors with a large proportion of the share
capital – and in most listed companies these will be pension funds,
insurance companies and other investment managers.
While this focus on big investors, is natural, perhaps even
inevitable, it highlights a potential flaw in the Code. It could be
seen as marginalising or ignoring those investors who, though
small, still have rights. In many places, the Code openly refers to
consultations with “major shareholders”, and main principle D.1 is
headed “Dialogue with Institutional Shareholders”. An inconspicuous
footnote maintains the legalities by stating: “Nothing in these
principles or provisions should be taken to override the general
requirements of law to treat shareholders equally in access to
information.”
It is a difficult balancing act to maintain, keeping your major
shareholders informed of the latest developments and consulting
them on major issues of interest to them without putting them in a
privileged position. Confidential briefings for analysts and major
shareholders were criticised as being exclusive and unfair to small
investors, and are now closely regulated; in recent years it has
become common for them to be done by webcasts that any shareholder
can log into, with copies of presentations by the chief executive
being available on a company’s website.
The reality is that major shareholders will usually make their
views known to the board by talking to the chief executive, the
chairman or the senior independent director at what may be a
regular meeting: the Code encourages non-executive directors to
“develop an understanding of the views of major shareholders”
through face-to-face contact, briefings with brokers and analysts
and surveys of shareholder opinion. Smaller shareholders have the
forum of the annual general meeting where, if they are sufficiently
vocal, their protests may hit the mass media and so apply pressure
to the board in that way.
Compliance
In assessing a company’s compliance with the corporate
governance regime set out in the Code, institutional shareholders
are urged to “give due weight to all relevant factors drawn to
their attention”. They need to factor into their assessment “the
size and complexity of the company and the nature of the risks and
challenges it faces”. In other words, they need to understand the
issues and considerations that will have influenced the board.
Shareholders should not adopt a box-ticking approach and ignore the
explanations proffered by a board for non-compliance. Rather, they
should give the company their reasoned views if they disagree and
be prepared to enter into a dialogue with the board if differences
remain.
In trying to police the board and exert pressure for reform,
institutional shareholders need to ensure that they use the
considerable voting power they have. There have been a number of
cases where particularly vocal shareholders have failed to vote as
a result, it would seem, of difficulties in passing instructions
down the line to the nominees or agents who complete the proxy
forms or attend the meetings on their behalf. As we have seen, one
objective of the company law reform process, which resulted in the
Companies Act 2006, was to “enhance shareholder engagement”, and to
that end the government has taken (but not yet used) the power to
compel institutional shareholders to disclose their voting
records.
