Shareholder power gets legal backing

Moves in the UK and Switzerland are broadly welcomed by activist investors

Gulf News

The news that Switzerland has voted to give shareholders the power to reject senior executives’ pay packages, mirroring moves in the Netherlands and the UK, leads to an obvious question: will other countries follow their lead?

Whether binding shareholder votes on executive pay and bans on golden goodbyes will also make their way into legislation in France, Germany and Belgium and turn into a pan-European phenomenon is up for debate. But it is undeniably true that the fairness of executive pay is drawing ever-greater attention these days.

With economic growth remaining weak and unemployment stubbornly high, populism is in vogue. As a result, shareholders are being handed greater power while well-paid executives are losing it.

At the start of the month, in a vote dubbed the “people’s initiative against fat-cat pay”, 68 per cent of Swiss voters backed plans to allow shareholders to veto compensation plans and ban big payouts for new and departing managers. Rules on executive compensation that are almost as strict will come into force in the UK in October, when legislation arrives that replaces shareholders’ advisory votes on compensation pay with binding ones. It will also give them veto power over the size of exit packages, and a few other rights.

The respective moves in the UK and Switzerland are broadly welcomed by activist investors.

“Shareholders should rightly have a role in expressing their views on executive pay,” says Simon Wong, a partner with Governance for Owners, a “responsible” investment group. “The news has received coverage and people are debating once again how we best address the issue of executive pay.”

Tom Powdrill, spokesman for Pirc, the UK stewardship group, has been lobbying for shareholders to be given greater responsibility in the oversight of companies for some time. “We basically think you need a bit of bite in the powers that shareholders can exercise,” he says. “If a vote is binding, it is stopped in its tracks.”

Powdrill expects the arrival of binding votes in the UK and Switzerland will cement the bonds between companies and their shareholders. He also argues that many shareholders are eager to veto golden goodbyes. “Most shareholders say they don’t like golden hellos and they don’t like golden handshakes, but as things stand, they don’t get the chance to challenge them,” he says.

“When you are paying off a chief executive to get him out because you want a new leadership team, this mandatory vote will come in handy.”

He adds: “These changes will give shareholders leverage ... it will make companies more responsive to shareholder questioning and engagement. It’s a model that can be exported.”

Germany seems poised to move on the issue soon. Last week, Angela Merkel, the German chancellor, voiced her disgust over “salaries that tip the scale” in a newspaper interview. A parliamentarian from her Christian Democratic party also said a law would be introduced to regulate managers’ salaries.

The French also appear committed to the cause, with Jean-Marc Ayrault, France’s prime minister, saying that Paris should “take inspiration” from the Swiss vote, according to Reuters; indeed, an array of restrictions on remuneration has already been suggested under Socialist president Francois Hollande.

Better disclosure and rigorous scrutiny and oversight of pay is on the agenda at French companies. Under a string of proposals presented last month in the country’s National Assembly, some of which may morph into legislation, remuneration reports would be prepared by big companies; shareholders would vote on companies’ pay policies every three years; and each year executives’ pay, sign-on bonuses, and severance packages would be put to a vote as well.

“The changes suggested in France indicate the extent of the political will in jurisdictions across continental Europe to act on pay,” says Katharine Turner, an executive compensation specialist with consultant Towers Watson. “You should watch the space in Belgium too. Legislation is in the pipeline there as well.”

But there can also be drawbacks to awarding shareholders greater power in corporate decision-making. Wong of Governance for Owners says a strict regime in Holland — a case study for the rest of Europe — has led to some “frustrating debates between companies and shareholders”.

“If a company changes its policy, then it needs to put those proposals up for a vote by shareholders,” Wong says.

“Any amendments you propose in the Netherlands also have to be approved if they constitute a material change, but companies and shareholders don’t always agree.”

Wong believes the less radical approach of offering shareholders an “advisory” vote on issues such as executive compensation has worked well in the UK.

“I thought it was sufficient. It allowed shareholders to engage with companies and they would listen,” he says.

Turner, meanwhile, argues that getting shareholders to sign off on “binding” votes also poses problems if they involve a detailed issue.

“It depends on what you have a binding vote on. The combination of having a binding vote and having a binding vote on something that is quite detailed is complicated,” she says. “If companies find themselves subject to very onerous disclosure requirements, they risk becoming uncompetitive.”

Separate rules set to be introduced next year that will cap European bankers’ bonuses at twice the level of their salaries — if shareholders approve, otherwise the ratio is pegged at a maximum of 1:1 - are also generating controversy.

They are being met with some enthusiasm by responsible investors, who argue that shareholders should guard against attempts to “game” these bonus restrictions, for instance by ramping up fixed pay.

But it is hard to gauge how receptive pension funds, asset managers and other big investors will be to the requests bankers put forth to raise the maximum cap on their bonuses to twice the level of salaries.

“Shareholders may well vote in favour of letting bankers get a bonus that is twice the level of their salaries as the alternative is to raise their fixed pay, which, in turn, increases companies’ fixed costs,” concludes Powdrill.

From activists to politicians: the tide is turning against top pay

Key points of the Swiss initiative

Shareholders will have an annual binding vote on the aggregate compensation paid to the board of directors and the executive board.

Shareholders will annually elect the board members, the chairperson and the compensation committee members.

Sign-on payments, payments in advance, severance payments and transaction bonuses to the directors and to the executive board will be prohibited.

Additional employment or consulting agreements of directors and officers with any group companies will be prohibited.

Infringement of the provisions will be punishable by imprisonment (up to three years) and fines (up to six times the perpetrator’s annual compensation).

The Swiss Parliament still has to enact the necessary final legislation. It is not expected to come into force before January 2015.