CORPORATE GOVERNANCE

The legal structure and complexity of investment in shares make it even more difficult to engage shareholders/investors. The votes attached to shares are, in most cases, exercisable by a financial organisation, often a nominee, whose name is on the register of shareholders. Beyond this, precisely who in the equity investment chain has the responsibility to think about and exercise the votes attaching to shares is a fascinating area for research. It is not often the ‘ultimate providers of capital’ (a term used in the UK Stewardship Code). Efforts to engage shareholders in corporate governance have focused on the ‘institutional investors’ who reside between the company and the individuals who are the ultimate providers of the capital.

Institutional investors have faced severe criticism over the years for their failure to take their role as shareholders seriously and for failing to exert adequate influence over boards of directors of the companies in which they invest. In 2002, in response to criticism, the Institutional Shareholders Committee (ISC), an industry association, developed and published Principles on the Responsibilities of Institutional Investors and their Agents. Following further criticism of the ISC’s failure to act when they were ‘needed most’ (Lord Myners in 2008), the principles were developed, in 2009, into the Code on the Responsibilities of Institutional Investors. In the midst of the financial crisis and following the 2009 Walker review of governance in financial institutions, the Financial Reporting Council (FRC) took responsibility for institutional investor stewardship and, in 2010, the FRC published the non-statutory Stewardship Code (‘the Code’) based on the ISC code. The aim of the Code is to encourage institutional shareholders to play a more active role in corporate governance than had been the case leading up to the financial crisis. The involvement of the FRC is intended to give the Code quasi-official status in order to promote adherence to it.

In 2011, the Secretary of State for Business, Innovation and Skills (BIS) commissioned John Kay to conduct a review of activity in the UK equity market and its impact on the long-term performance and governance of UK quoted companies. Interim and final reports were published (and are referenced at the end of this chapter) (‘the Kay Review’). The principal concern of the Kay Review was ‘to examine how well the equity markets are achieving their core purpose: to enhance the performance of UK companies and to enable savers to benefit from the activity of those businesses through returns to direct and indirect ownership of shares in UK companies’.

The Code was revised in September 2012. The term ‘institutional investors’ is used in it to describe ‘asset owners and asset managers with equity holdings in UK listed companies’. Compliance with the Code remains voluntary but is becoming best industry practice. The Code contains a voluntary ‘comply or explain’ requirement in relation to seven stewardship principles.

QUOTATION

In addition to the non-statutory Stewardship Code, attempts to improve shareholder engagement in the governance of quoted and traded companies include changes made to the:

  Companies Act 2006 by the:

  Companies (Shareholders’ Rights) Regulations 2009 (SI 2009/1632) (the Shareholder Rights Regulations) (implementing the Shareholder Rights Directive (2007/36/EC)); and the

  Enterprise and Regulatory Reform Act 2013 ss 79–82 on payments to directors of quoted companies; and

  Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 (SI 2008/410) by the 2013 amending regulations, introducing a substituted Sched 8 setting out the information required to be shown in directors’ remuneration reports (SI 2013/1981).

In April 2014, the European Commission published a proposal for a Directive, (COM(2014) 213), to amend the Shareholder Rights Directive (2007/36/EC) by:

  giving companies the right to identify the beneficial owners of its shares; and

  imposing various transparency and other obligations on institutional investors, asset managers and proxy advisers, including making their voting intentions clearer.

The European Commission has also published a communication (COM(2014) 208) providing guidance to companies to improve the quality of corporate governance statements, including the reporting of Corporate Governance Code compliance on a ‘comply or explain’ basis.

Interesting questions regarding the implications of law reform designed to enhance shareholder engagement are raised by the structure of investment in equities in the UK, the importance of institutional investors and the consequent, inevitable, focus on institutional investors to perform the engaged shareholder role. The root of the argument for enhanced shareholder engagement is the need to monitor and control the self-interested behaviour of directors. In economic terms, legal reform designed to enhance shareholder engagement is part of the response to the ‘agency problem’. Enhanced disclosures and new laws subjecting director remuneration policies to shareholder approval are obvious examples illustrating this. That being the case, is it a sensible move to create and empower a new set of intermediaries or agents (the institutional investors) who will themselves, one can surmise, seek generous remuneration for their stewardship services? Two articles containing an interesting exchange of views between a US Judge (Leo E. Strine Jr) and a US academic (Professor Lucian Bebchuck) on the implications of shareholder empowerment and activism are referenced at the end of this chapter.

MODEL ARTICLE

MODEL ARTICLE

The decision whether or not a company should commence legal action in given circumstances is part of the general management of the company so will ordinarily be vested in the board of directors pursuant to Art 3. The applicability of the basic rule against usurpation by shareholders to the decision to litigate or not was confirmed in Breckland Group Holdings Ltd v London & Suffolk Properties Ltd [1989] BCLC 100. Harman J restrained the majority shareholder from taking any further action in litigation commenced by the shareholder without authority of the board until a board meeting could be held at which it could be resolved whether to continue or discontinue the legal action.

The 2006 Act states that resolutions of the shareholders of a public company must be passed at shareholders’ meetings held and conducted in accordance with the 2006 Act for which notice has been given in accordance with the Act (ss 281(2) and 301). Private company shareholders must pass resolutions either at similarly conforming shareholders’ meetings or by written resolution (s 288(1)).

It is only possible to determine whether or not a resolution has been validly passed if we know:

  which shareholders have the right to vote;

  the proportion of votes needed to pass the resolution; and

  how votes are to be counted.

Voting rights

Voting methods

Three different voting methods are used to pass resolutions. Two are used at shareholders’ meetings and the third, available to private companies only, is used for written resolutions.

Vote on a show of hands

A vote on a show of hands is very simple, being based on shareholders in attendance at a meeting raising their hands to indicate support for, or opposition to, a resolution put to the meeting. A resolution passed on a show of hands is a general resolution if it is passed by not less than a simple majority of the shareholders (including duly appointed proxies) who vote on the resolution (being eligible to do so). It is a special resolution if passed by not less than 75 per cent of shareholders (including duly appointed proxies) who vote on the resolution (being eligible to do so).

Example 1

Ten shareholders attend a meeting and are eligible to vote on a resolution. Six shareholders raise their hands in support of the resolution. The resolution has been passed as a general resolution.

If only three shareholders had raised their hands in support, the chairman of the meeting would have been required to ask those who wished to vote against the resolution to raise their hands. If only two shareholders voted against the resolution, the resolution would have been passed as a general resolution because a simple majority (three) of those who voted (five) supported it. If three or more shareholders had voted against the resolution, it would not have been passed.

Poll vote

A poll vote is not based on the number of shareholders who vote, but on the voting rights of the shareholders who vote. A resolution passed on a poll is a general resolution if passed by shareholders representing not less than a simple majority of the total voting rights of shareholders who vote (in person or by proxy) on the resolution. It is a special resolution if passed by shareholders representing not less than 75 per cent of the total voting rights of shareholders who vote (in person or by proxy) on the resolution. A person with more than one vote is under no obligation to cast all his votes or to cast those he uses in the same way (s 322).

Additional provisions apply to quoted and traded companies in relation to poll votes, including the obligation to make the results and associated information about poll votes available on the company’s website (s 341).

Example 2

Written resolution vote

A written resolution is based not on the number of shareholders who actually vote, and not on the voting rights of the shareholders who actually vote, but on the voting rights of all shareholders eligible to vote. The relevant date for determining eligibility to vote on a written resolution is the date on which the written resolution is sent to shareholders (ss 289 and 290). Essentially, copies of a proposed written resolution are sent to shareholders who sign the copy of the resolution and send it back to the company, although any signed or otherwise authenticated document referencing the resolution and indicating the shareholder’s agreement to it, sent or emailed to the company, suffices (s 296).

In one respect, voting on a written resolution is calculated in the same way as on a poll vote: it is the proportion of votes held by those shareholders who support and oppose the resolution that counts. Calculation of votes differs from a poll vote, however, in that a written resolution must be passed by shareholders representing no less than a simple majority (for a general resolution) or no less than 75 per cent (for a special resolution) of the total voting rights of eligible shareholders. In contrast, a poll vote is based on the voting rights of only those shareholders who are in attendance at the meeting (in person or by proxy) and who actually vote on the particular resolution.

As indicated above, written resolutions can only be used by private companies (s 288) and even private companies may not use the written resolution procedure to remove a director pursuant to s 168 or to remove an auditor before expiry of his term of office (s 288(2)).

Proxies and corporate representatives

A shareholder is entitled to appoint another person as his proxy to exercise all or any of his rights to attend, speak and vote at a meeting of the company (s 324). Proxies are entitled to vote on votes by a show of hands as well as on poll vote. The availability of proxy voting has been expanded and the rules improved by the 2009 regulations. A clear statement of the obligation of a proxy has been introduced as a new s 324A to the Act.

SECTION

The changes to the proxy rules applicable to all companies essentially allow proxies for more than one shareholder to cast votes both for and against a resolution where their instructions from different shareholders requires such. Some of the changes apply only to traded companies which must provide an electronic address for the return of proxies and, although the appointment and termination of a proxy’s authority must be in writing, for these purposes, writing includes by electronic communication (ss 327 and 333A).

Note that, following confusion, s 323 has been amended by the Shareholders’ Rights Regulations 2009 and it is now clear that where a shareholder company appoints more than one corporate representative, the corporate representatives are permitted to vote in different ways from one another in respect of different blocks of shares.

Statutory provisions on shareholder meetings (ss 301–361)

Rules governing shareholder meetings, also called company meetings, are an important part of shareholder decision-making. A company with only one shareholder may hold a properly constituted meeting (s 318). Apart from that circumstance, and unless the articles require a higher number, two shareholders (or corporate representatives or proxies) present at a meeting are a quorum (s 318). This means that even if one individual present represents two or more shareholders, the meeting is not a properly constituted meeting and no business can be conducted.

Annual general meetings

Every public company must hold an annual general meeting (AGM) within six months of the end of its financial year and if the company fails to do so a criminal offence is committed by every director and the company secretary (s 336). At least 21 days’ notice of an AGM, stating that it is an AGM, must be given (s 307(2)) to all shareholders and directors (s 310) unless all shareholders entitled to attend and vote agree to shorter notice (s 337(2)). Except for the longer minimum notice of meeting period (21 days rather than 14), the need for unanimous consent to short notice (rather than 90 per cent (for private companies) or 95 per cent (for public companies)) and the rules requiring the company to circulate notice of shareholders’ resolutions to be moved at the AGM (s 338), the rules for general meetings set out below apply to AGMs.

General meetings

The directors may call a general meeting (s 302) and are required to call a general meeting if holders of at least 5 per cent of the voting rights of shareholders having a right to vote at general meetings request (in writing or electronic form) that the directors do so (ss 303 and 304). If the directors fail to call a general meeting within 21 days of such a request, or to hold the meeting within 28 days of the request, the shareholders who made the request may call a meeting and hold it within three months of the request, in which event their reasonable expenses are reimbursable by the company (s 305).

If it is impracticable for a meeting to be called or conducted in accordance with the articles of the company or the 2006 Act, the court may, on application by a director or any shareholder who would be entitled to vote at the meeting, or of its own volition, order a meeting to be called, held and conducted in any manner the court thinks fit (s 306).

Shareholders with at least 5 per cent of the voting rights of shareholders eligible to vote on the proposed matter may require the company to circulate a statement of up to 1,000 words relating to a proposed resolution or any other business to be dealt with at the meeting (s 314). A similar right exists in relation to written resolutions (s 293).

Special notice is required of four resolutions:

  to remove a director pursuant to s 168;

  to appoint someone in his place at the removal meeting;

  to remove an auditor (s 511); and

  to appoint a new auditor (s 515).

Special notice is given by the shareholder to the company of his intention to move the resolution and must be not less than 28 days before the date of the meeting at which the resolution is to be voted on (s 312). Be sure to distinguish special notice of a resolution given by a shareholder to the company from notice of a meeting given by a company to shareholders.

The rules governing general meetings were altered for trading companies by the Shareholders’ Rights Regulations 2009. Amongst other rights, the shareholders of a traded company have the right to ask questions at a general meeting (s 319A). The obligation of the company to answer shareholders’ questions is circumscribed; in addition to not being required to answer if to do so would involve the disclosure of confidential information, no answer is required if, ‘it is undesirable in the interests of the company or the good order of the meeting that the question be answered’.

Class meetings

Meetings of holders of a particular class of shares are called class meetings. The rules governing class meetings are essentially the same as for general meetings, being applicable ‘with necessary modifications’ (s 334).

Court-ordered meetings

If it is impracticable for a meeting to be called or conducted in accordance with the articles of the company or the 2006 Act, the court may, on application by a director or any shareholder who would be entitled to vote at the meeting, or of its own volition, order a meeting to be called, held and conducted in any manner the court thinks fit (s 306).

Shareholder decisions recognised at common law

The principle that the shareholders of a company may unanimously reach a decision without the need for compliance with formal procedures is known as the ‘Duomatic principle’. The principle was in fact established long before it was applied in Re Duomatic Ltd [1969] 2 Ch 365. Lord Davey referred to the principle in Salomon to confirm that the company was bound by the purchase of the boot manufacturing business because the unanimous agreement of the shareholders of the company was an inevitable inference from the circumstances. The principle was applied in the very simple circumstances of Re Express Engineering Works Ltd [1920] 1 Ch 466 (CA).

The principle has been applied in a wide range of circumstances, including when different types of resolutions would otherwise have been required, such as a special resolution (Cane v Jones [1980] 1 WLR 1451). Mummery LJ described the principle in the following terms in Euro Brokers Holdings Ltd v Monecor (London) Ltd [2003] BCLC 506 (CA).

Judicial constraint on the exercise of voting rights by a shareholder

Tension exists between two lines of cases relevant to the exercise of shareholder voting rights. There is no principle that the position of shareholder gives rise to fiduciary obligations to the company but the range of decisions in relation to which a shareholder is required to think beyond his own self-interest is unclear.

The Allen v Gold Reefs of West Africa Ltd [1900] 1 Ch 656 (CA) line of cases focuses on when voting shareholders are exercising a power conferred on majorities enabling them to bind minorities. They apply the general principles of law and equity applicable to such powers and require a shareholder to exercise his votes bona fide for the benefit of the company. With the exception of Oliver J (as he then was) in Re Halt Garage (1964) Ltd [1982] 3 All ER 1016 explaining the decision in Hutton v West Cork Railway Co (1883) Ch D 654 (CA) as an application of these general principles, cases asserting the requirement that a shareholder must exercise his votes bona fide for the benefit of the company appear to be confined to cases amending the articles.

In contrast, a number of cases, reaching back to Pender v Lushington (1877) 6 Ch D 70, have emphasised the unrestrained right of a shareholder to vote in his own individual interest. In the words of Sir George Jessel MR in Pender:

Subsequent cases have stressed the individual property nature of the voting rights attaching to shares. In Re Astec (BSR) plc [1998] 2 BCLC 556, Jonathon Parker J stated:

Northern Counties Securities Ltd v Jackson & Steeple Ltd [1974] 2 All ER 625 seems to be the high-water mark of this approach. The question in issue was whether or not shareholders would be in contempt of court if they voted against a resolution that had to be passed if the company was to comply with an undertaking it had given to the court. Walton LJ (sitting in the Chancery Division) held that not even a shareholder who was also a director was required to vote in anything other than his own interest.

In Re Unisoft Group Ltd (No 3) [1994] 1 BCLC 609, Harman J attempted to reconcile the Allen and Pender lines of cases by asserting the freedom of the shareholder in strong terms but emphasising the distinction between the act of a shareholder in voting for or against a resolution and the resolution itself.