Response to the European Commission s consultation on the EU corporate governance framework

Transcription

1 Response to the European Commission s consultation on the EU corporate governance framework Prepared by: Hay Group European Executive Reward Senior Practitioners 2011 Hay Group. All rights reserved.

2 Introduction Based on the traditional definition, as set out in the Green Paper, corporate governance is a system of control and direction and a description of the relationships between a company s management, board, shareholders and stakeholders. The implied goal of a harmonised governance structure within the European Union is to empower a strong and successful single market across Europe. As the issue of social responsibility is not up for discussion as part of this consultation, we will leave aside the Commission s assertion that social responsibility is a key element to building up a single market and focus on the governance element. Before responding to some of the specific questions as laid out in the consultation paper we would like to address the overall context of the Green Paper. We feel that addressing the issue of governance in the EU is a much more difficult and nuanced task than the Green Paper is currently structured to allow. The guidelines proposed are much too high-level to address adequately the issues of the 27 different and unique member states. We feel that the EU initiative on governance would be much more successful if it were focused not on providing regulation but rather guidelines intended to help each country to successfully implement their own governance regulations. We submit here our responses to several of the questions as posed by the European Commission s consultation Green Paper of 5 th April The responses are based on input from practitioners in several member states of the EU with different tier board systems and national corporate governance standards. 2/10

3 Responses Question 1: Should EU corporate governance measures take into account the size of listed companies? How? Should a differentiated and proportionate regime for small and medium sized listed companies be established? If so, are there any appropriate definitions or thresholds? If so, please suggest ways of adapting them for SMEs where appropriate when answering the questions below. According to the above definition, all companies have a system of governance; some governance structures are more complex than others, some are more efficient than others, but all companies have one. The question here is: should the commission reasonably expect all companies to comply with a single definition of good governance regardless of size, structure or circumstance? Simply put, we would argue that no, this is not a reasonable expectation. There is, arguably, a set of basic governance standards which should apply to all publicly traded companies; however, the degree and structure of compliance on these issues should be flexible to the circumstance and we would therefore encourage a policy of comply or explain for all governance measures. Hay Group s position is that a varying standard should be created based on the complexity and structure of the organisation. As such, a tiered system of compliance should be created based on the satisfaction on one or more criteria that represent the complexity of the organisation such as turnover, number of employees, ownership structure or risk sensitivity. The defining thresholds for the various tiers are something that can easily be left up to the governing institutions of the various countries to ensure that they are suitable for the local environment. Question 2: Should any corporate governance measures be taken at EU level for unlisted companies? Should the EU focus on promoting development and application of voluntary codes for non-listed companies? Ensuring a fair and open relationship between a company and its owners is an important aspect of a governance code and, as part of a regulated market, it is possible to do so with listed companies. However, we firmly believe that it is not the place of the European Commission to develop governance regulation for unlisted companies. As the split between ownership and control either doesn t exist or is very minimal, the need for a governance code to address the resulting issues is dramatically less; similarly, the requirement to protect retail investors does not apply in a non-listed environment. By not being a 3/10

4 part of a regulated market, it becomes the prerogative of the company and its investors to determine the level of governance that works for them. In many European regions, family-owned businesses and private enterprises are the backbone of the economy. A cumbersome and restrictive governance culture will create an unnecessary barrier for entrepreneurial activity. Additionally, many unlisted companies are significantly smaller than large listed enterprises and the administrative cost and burden placed on them by stringent governance and disclosure guidelines would be prohibitive. All of this being said, we would, however, support the Commission in their promotion of unlisted companies voluntarily taking up some or all of a set of governance guidelines as developed for listed companies as a matter of best practice ; there are examples of sectors and markets where this occurs. Question 9: Should disclosure of remuneration policy, the annual remuneration report (a report on how the remuneration policy was implemented in the past year) and individual remuneration of executive and non-executive directors be mandatory? Yes, for listed companies; however, an option to opt out of full disclosure by way of a majority vote on behalf of shareholders would be a much more efficient treatment of pay disclosure. Recognising that the gap between ownership and control can be very wide in a publicly traded company, governance can be an important part of maintaining the line of communication between management and shareholders. A key component of investment decision-making is the strategy and direction of the company and the alignment of the executive management team with the strategy. One way to observe alignment with strategy is through remuneration policy and incentive plan design and delivery on the strategy is best shown by measuring the link between pay and past performance. Both of these indicators require full and complete remuneration disclosure in the annual remuneration report. However, through an analysis we have conducted in the UK market, we have found that, on average, remuneration disclosure now takes up a little over 8 per cent of the annual report, while the actual remuneration represents less than 1 per cent of the total turnover of the company. Continued scrutiny and governance regulation has resulted in a disproportionate level of disclosure at a continually increasing cost to the company, with arguably diminishing returns. 4/10

5 We would support governance guidelines which require disclosure of executive remuneration, including policy and individual pay for both executive and non-executive directors, in a uniform and easily accessible manner. However, actual implementation of this disclosure should be left to individual countries to determine, subject to these minimum standards and with an allowable comply or explain provision. Question 10: Should it be mandatory to put the remuneration policy and the remuneration report to a vote by shareholders? We would argue that while shareholders are the owners of the company and have a right to a say on pay, there is an issue of efficiency and clarity to consider. As mentioned above, remuneration disclosure is already taking up a disproportionate amount of space in the annual report and becoming less clear as more information is required for disclosure. Additionally, in many regions of Europe there are matters of efficiency to consider. In Germany, for example, where there is a policy of co-determination, an AGM can already take upwards of 12 hours to complete and additional voting by shareholders is not the most efficient use of time. This is, again, an issue which should be left to the local regulators to interpret. We are in support of a measure to increase clarity on remuneration to shareholders; however, we believe that it should be undertaken upon their request. Shareholders should be given the right to request a say-on-pay vote at the AGM and not necessarily have one imposed upon them. Should a vote on remuneration be put forward, however, we would caution that the vote should not be a binding one. Executive remuneration policy and design is a complicated process and there is a danger that shareholders will vote against a well-designed plan that they do not understand. A non-binding vote by shareholders could prompt better design and communication on the part of the company and the board of directors to try and avoid such a situation. If the vote becomes binding, there is a very real risk that remuneration design for all companies will begin to converge towards a singular, homogeneous design that will become familiar and acceptable to shareholders but will not represent the long-term interests of the company within its unique circumstances. Furthermore, in many EU jurisdictions there is a real concern that a binding vote would cause a legal conflict for supervisory board or compensation committee members who are already considered fully liable for the compensation design. We would note that the longstanding operation of a non-binding vote in the UK market has led to a number of useful reforms, including a significant reduction in director termination payments. 5/10

6 Question 11 Do you agree that the board should approve and take responsibility for the company s risk appetite and report it meaningfully to shareholders? Should these disclosure arrangements also include relevant key societal risks? In order to have a better position on this issue, we would need more clarity around the definition of risk appetite. We would not advocate a mandate on what risks should be considered as part of a risk appetite. The workings of a free market are such that the company should be free to determine their risk appetite based on their vision for the company, which may or may not include issues such as societal risk in their eyes. This will also pose an issue in many regions of Europe where a two-tier board is in place and the supervisory board is legally prohibited from approval of risk management issues. Once again, we put forth the argument that the European Commission should issue a set of guidelines which may be interpreted and put into policy by each individual region as fits with their specific legal and regulatory climate. Part of the board s responsibility is to mind the strategic direction of the company and supervise the management team s efforts to deliver on that strategy. As such, we would agree that, as part of the strategic vision of the company, the risk appetite should also be determined with significant input from the board. In an effort to maintain a full and open line of communication with shareholders, we would also not object to a requirement that the risk appetite of the company be disclosed to shareholders. Alternatively, a helpful guideline for risks that a typical company may face could help companies to consider those such as societal risks that may otherwise not occur to them; however, making a governance regulation to that effect removes too large an element of a free and efficient market. Question 14: Are there measures to be taken, and if so, which ones, as regards the incentive structures for and performance evaluation of asset managers managing long-term institutional investors portfolios? Europe-wide measures have already been taken within the financial industry to regulate incentive structures. There is a real possibility that the inclusion of further measures through a governance code will result in an over-complicated and sometimes contradictory set of measures. Furthermore, this is a very philosophical issue, and our position would be that while incentive disclosure is fine, forcing alignment with a certain investment perspective is not. The implication in this question 6/10

7 is that the interests of short-term investors are less important than those of long-term investors. There would be no argument that short-term and long-term interests cannot be served with the same investment model; however, the approach that needs to be taken is one of education and not restriction if the intent is to move the stakeholder perspective more towards long-term investing. We would argue that the onset of derivative instruments and instant market updating via technology have contributed just as much to short-termism and shareholder apathy as asset manager incentive plans. The natural drive to achieve a goal quickly cannot be curbed with the asset manager it must happen with the investor s mentality, which will require education on the pros and cons of short-term vs. long-term investment. Question 16: Should EU rules require a certain independence of the asset managers governing body, for example from its parent company, or are other (legislative) measures needed to enhance disclosure and management of conflicts of interest? Other than conflicts of interest which could be considered insider trading or result in an unfair trading advantage, which are already regulated and controlled, we would argue that a requirement for disclosure is sufficient to address the issue of conflicts of interest. Asset managers do not have the shareholder rights; the investors do and they are generally given the option to vote on their own shares or to allow the asset manager to vote on their behalf. So long as an asset manager s voting decisions and motives are clear and transparent, it should be left to the investor to act in their own best interest on any voting matter. Question 18: Should EU law require proxy advisors to be more transparent, e.g. about their analytical methods, conflicts of interest and their policy for managing them and/or whether they apply a code of conduct? If so, how can this best be achieved? Yes, most definitely. Many of the decisions that proxy advisors make are formulaic in nature; these formulas should be disclosed either voluntarily or, at the very least, upon request from the investee company to whom they have been applied. Similarly, proxy advisers should give companies a reasonable period of time to review their draft advice, if only to correct factual errors. Question 19: Do you believe that other (legislative) measures are necessary, e.g. restrictions on the ability of proxy advisors to provide consulting services to investee companies? 7/10

8 Yes. As a result of their black box methods, proxy advisors have actually created a consulting market that would otherwise not exist and then charge money to advise within that market. This is monopolistic behaviour as they have the power to influence shareholder votes with their advice and are then the only people capable of advising on how to change their advice, due to the secretive nature of their advisory guidelines. As well as allowing the proxy advisors to make excess profits through monopolistic behaviour, this model also gives proxy advisers huge influence over the level and shape of the compensation market despite having no ownership interest in companies. Question 24: Do you agree that companies departing from the recommendations of corporate governance codes should be required to provide detailed explanations for such departures and describe the alternative solutions adopted? Yes. Governance regulation, as all regulation, cannot cover every circumstance and eventuality and therefore must have a mechanism built in for a certain degree of flexibility. The comply or explain rule is the ideal approach for regulation as it allows a company to provide a reasonable explanation as to why it cannot or will not be complying with the regulation. As the spirit of the code would still apply, we would agree that any reasonable explanation for non-compliance should also include a description of how compliance is either not relevant in their case or is being achieved through an alternative means. Question 25: Do you agree that monitoring bodies should be authorised to check the informative quality of the explanations in the corporate governance statements and require companies to complete the explanations where necessary? If yes, what exactly should be their role? No, we would not support this level of supervision on the part of the monitoring bodies. We would argue that it is the role of the shareholders to monitor this through their voting capacity. So long as shareholders are provided the opportunity to vote on issues of remuneration by their national governance body and there is sufficient auditing of the data by an objective third party then there should be no need for any further government intervention. 8/10

9 Hay Group s European Executive Reward senior practioners Carl Sjostrom, Head of Executive Reward, EME (carl.sjostrom@haygroup.com) Christine Abel, Head of Executive Reward, Germany, Austria & Switzerland (christine.abel@haygroup.com) Enor Signorotto, Head of Executive Reward, Italy (enor.signorotto@haygroup.com) Sergio Perez, Head of Executive Reward, Spain (sergio.perez@haygroup.com) Peter Boreham, Head of Executive Reward, UK (peter.boreham@haygroup.com) Denis Lesigne, Head of Executive Reward, France (denis.lesigne@haygroup.com) Eric Engesaeth, Head of Executive Reward, Netherlands (eric.engesaeth@haygroup.com) Walter Janssens, Head of Executive Reward, Belgium (walter.janssens@haygroup.com) Rui Luz, Head of Executive Reward, Portugal (rui.luz@haygroup.com) Aspasia Voulgari, Head of Executive Reward, Greece (aspasia.voulgari@haygroup.com) Juhani Ruuskanen, Head of Executive Reward, Finland & Sweden (juhani.ruuskanen@haygroup.com) William Eggers, Director, Executive Reward, Germany, Austria & Switzerland (william.eggers@haygroup.com) Jon Dymond, Director, Executive Reward, UK (jon.dymond@haygroup.com) Marcel Spaans, Director, Executive Reward, Netherlands (marcel.spaans@haygroup.com) Tom Hilgers, Director, Executive Reward, Netherlands (tom.hilgers@haygroup.com) 9/10

10 Hay Group s European Executive Reward senior practioners contd. Gerard Zaalberg, Consultant, Executive Reward, Netherlands (gerard.zaalberg@haygroup.com) Caroline Robard, Consultant, Execuitve Reward, France (caroline.robard@haygroup.com) Chris Haley, Consultant, European Executive Reward (chris.haley@haygroup.com) 10/10