In the aftermath of the global financial crisis, many investors have grown concerned about standards of corporate governance. In fall of 2009, the European Commission released a study of corporate governance monitoring and enforcement practices in its member states. The study was undertaken by RiskMetrics Group in collaboration with BusinessEurope, ecoDA and their affiliates, and Landwell & Associates and their affiliates.
In most EU states, national governance codes set rules with which corporations must comply, or else explain why they have not complied. The RiskMetrics study found support for "comply-or-explain" regimes, but also found "some deficiencies," including "unsatisfactory level and quantity of information on deviations by companies and a low level of shareholder monitoring."
The research team assessed practices of 270 firms from 18 Member States. They also surveyed two groups – directors' and companies' organizations, and EU shareholders – to evaluate their perceptions of corporate governance codes and practices.
Regulators, Companies, Investors Support "Comply-or-Explain"
The study cites the European Corporate Governance Forum's view, "supported by the European Commission," that comply-or-explain is a "better and more efficient approach than detailed regulation." Surveyed companies agreed, although a majority believe that the costs of implementing corporate governance codes exceed the benefits. Conversely, investors would support both greater disclosure and stronger shareholder rights.
Free Riding by "Absentee Landlords"
The investors who replied to the RiskMetrics survey may not be representative of the broader EU shareholder community. Of 2000 solicited institutional investors, only 100 participated in the study. The authors note that respondents may represent a "self-selected group" of shareholder activists. They suggest that that most EU shareholders are "passive investors," except for a minority who make frequent use of their rights.
The authors quote UK Treasury Minister Lord Myners, who has described the majority of institutional investors as "absentee landlords" who have been "too reliant and unchallenging" in their ownership of public companies.
Where Shareholders Report on Engagement, they become More Active Investors
Having identified this "well-known free-rider problem," the authors write that "few market participants believe this market failure can be properly addressed by imposing a mandatory requirement for institutional investors to use their voting rights."
The authors propose to fix the "market failure" of passive institutional investing by redefining investors' fiduciary duty. The law need not force investors to vote; instead, it need only require them to disclose their voting practices to their clients and the public. In four member States, this has already occurred:
"The situation in four countries – France, the Netherlands, Portugal, and the United Kingdom to a certain extent – is illustrative of the positive effect such a measure could have on investor's level of activity. Indeed, evidence of this Study shows that free float investor participation at general meetings is more important in those countries where investors have a duty to report on their engagement and voting policy."
Better Disclosure by Goose and Gander
The authors conclude that comply-or-explain should not be abandoned, but "it should be strengthened." The RiskMetrics study calls for new mechanisms to elicit better reporting from corporations. While most institutional investors would welcome stronger requirements for companies, the authors also believe shareholders should receive some of the same medicine. They argue that EU corporate governance could be strengthened by a comply-or-explain regime for investors, as well as for the companies whose shares they own.
Leave a comment