In the second quarter of 2019, the alignment of the Shareholder Rights Directive (SRD II) will be introduced into EU legislation. The new requirements imposed by SRD II on, among other things, the voting process, must be transposed by Member States into national legislation and ultimately implemented by members. The aim of this new directive is to focus European corporate governance policy on the long-term, and to address shortcomings of the old directive. This directive is going to have a significant impact on listed companies and their intermediaries. In this blog, I will elaborate on the three most important effects of the new directive.
05 Jun 2018
By Marnix Driesse
In a nutshell, the new directive states that when voting on annual general meetings (AGM’s), shareholder identities need to be disclosed between intermediaries, and issuers need to confirm the recording of votes cast. Furthermore, the directive states that institutional investors must be more transparent in their investment and voting policies. Transparency is a core concept of SRD II; in my opinion, it is necessary that this topic is highlighted.
- Identification of shareholders, information transfer & casting votes
To set up a communication channel at the AGM, it is essential to the issuer to identify its shareholders. In principle, shareholders are anonymous, but in practice some of them are known to the issuer, especially major shareholders with an interest in the company greater than 3%.
The new directive gives issuers the right to identify their shareholders, and intermediaries are obliged to co-operate in this process. Member states can restrict this legislation to investors with an interest in the company larger than 0.5%. In other words, the introduction of a new lower limit (0.5%) will change the transparency of share ownership. It should be noted that the laws protecting personal data are being implemented in accordance with GDPR legislation. Furthermore, the new directive states that in the case of electronic voting, issuers must confirm cast votes to their investors on request.
Operational limitations of the current proxy voting infrastructure erode the functionality of the AGM. This is because information channels, in some cases, only flow in one direction and the information is stuck in a limited format. This applies in particular to cross-border voting, where foreign shareholders cast votes at domestic shareholder meetings.
A consequence of this ’one-way street’ is that the issuers receive an instruction stating how the shareholders have voted, without knowledge of the underlying individual breakdown. This causes a situation where the company does not know how to tailor its policy in order to meet the wishes of its shareholders. This ‘one-way street’ also means that foreign shareholders, in many cases, do not receive a confirmation of their votes, which I find quite remarkable).
Something else notable is that several authorities point at communication, which is reflected in the new U.K. corporate governance code . The code states that when a significant minority (> 20%) vote ’against’ on a certain agenda topic, the company must enter into a dialogue with its shareholders to find out where this discontent is coming from.
At the moment, the effect of casting a vote on a company’s policy is marginal. Shareholders do not even know whether their vote is taken into account. This deters foreign shareholders from being engaged with the company’s policy. The possibility of providing an explanation of the votes cast, together with the confirmation of that vote will, in my opinion, improve the functionality of the AGM. Identifying the shareholders is an important first step in this process; the next step is to set up an efficient communication channel.
I think it is necessary for issuers and intermediaries to think about the platforms which are presently been used when casting votes. Identifying shareholders and facilitating an efficient communication channel, requires innovation of these platforms and the underlying structure, which is something we are working on at KAS BANK. We have developed a platform, based on blockchain technology, Voteroom, that will meet the requirements of the new legislation.
- Transparency and engagement of institutional investors, asset managers & proxy advisors
The European Commission will encourage institutional investors to pursue an engagement policy focussed on the long-term. This policy must define how institutional investors and asset managers monitor the companies in which they invest, as well as focusing on the capital structure and ESG-related issues. In addition, institutional investors and asset managers will have to account for the mutually agreed investment policy and the execution of the mandate.
Proxy advisors will also be more highly regulated; from now on they must comply with a prescribed code of conduct and report annually on how their market research relates to their vote recommendations. Furthermore, they must report, in general terms, how their recommendations are constructed and with whom they have collaborated.
At the end of May, Henk Brink (Senior Market Intelligence specialist) and I spoke at a Distributed Ledger Technology (DLT) taskforce of the European Central Bank in Frankfurt. This taskforce was set up by the AMI-SeCo (Advisory Group on Market Infrastructures for Securities and Collateral) and aims to improve transparency in share ownership. Experts from several parties were involved; The European Parliament, the European Commission, Central Securities Depositories (CSD’s), Custodians, Euroclear and Euro CCP. In light of SRDII I have discussed KAS BANK’s new Voteroom product with these parties. The taskforce noted that innovative applications such as Voteroom can make a very useful contribution to the transparency of both the investment policy of institutional investors and the management of listed companies. Voteroom gives more insight into policy and investment decisions by setting up transparent information channels with a well-organized underlying infrastructure based on blockchain technology.
I think these kinds of advisory bodies are very useful because they bring all the involved parties together. This way they can better coordinate these kinds of changes. Often greater discrepancies exists between requirements set by European directives and the capabilities of market participants. These kind of collaborative efforts can mitigate such discrepancies.
- Remuneration policy and transactions with related parties
‘Say-on-Pay’ is an important aspect of the new directive. Issuers must enable shareholders to vote on the remuneration of the board of directors. In addition, they must share a remuneration report with their shareholders. At the moment, the Netherlands is one of the only countries that has a shareholder vote with respect to remuneration, but the remuneration report will, however, be a renewal.
In my opinion, too little is being done about the conflicts of interest between large and small shareholders. The balance of power between majority and minority shareholders is completely distorted. This is due to the negotiating position of major shareholders in relation to small shareholders. Companies often enter into transactions with major shareholders which, in the long term, are primarily in the interests of the major shareholders themselves and not the company. The European Commission also sees this happening and has therefore tightened up the directive.
Related party transactions must from now on be made public and must be approved by the shareholders, the Executive Board and/or the Supervisory Board. With this directive, the committee aims to promote the interests of small shareholders. However, it is not clear whether this goal will also be achieved . Within SRD II Member States are not obliged -in national law- to exclude related parties from voting on a transaction between that party and the company. As a result, these related parties can still abuse their dominant position.
One year to go, the clock is ticking!
There is little time left for the implementation of SRD II. Member States must ensure that local legislation is in force by 10 June 2019 at the latest. Although these kind of implementation deadlines are often not met, it is important that the parties involved start thinking about how they can comply with the new legislation.