Some of the issues which are driving the corporate governance debate in continental Europe
News that the activist fund manager Calpers wants to raise its overseas equities holdings from 13 per cent to 20 per cent of its assets could send shivers down the spines of executives in underperforming companies across the globe. And the chill wind of heightened expectation may be felt most in boardrooms across continental Europe. A significant chunk of the Californian fund's extra $6 bn or so is destined for investment in French and German interests (the rest targeted at the UK and Japan). Calpers executives will be paying visits to London and Paris in early October to meet with corporate leaders and other fund managers.
Calpers' record on corporate governance has forced a few sturdy directors to jump to attention in the past, and doubtless there will be some who will be wondering what it means for them and whether they have to sharpen up their company's act. Similar questions were asked last summer when the US Department of Labor clarified that the obligation of Erisa pension funds to vote their proxies extended across borders. And the jitters really got going in December when the now infamous David Herro of Chicago-based Harris Associates triggered the ousting of Maurice Saatchi as chairman of the advertising group he had founded.
Of course, the corporate shivers mentioned above are largely unjustified but it makes for good copy. The idea that activist US funds are resolutely imposing the American way on continental European companies can largely be discarded as media hype. As Bruce Babcock, vice president and director of global research at Institutional Shareholder Services (ISS), points out, most of the US funds simply do not have the percentage holdings, the necessary resources or - by extension - the inclination to justify spending money on activist campaigns in continental Europe. It's only the likes of Calpers, Templeton and Creff which could possibly fall into that league. Even they remain restricted on their international programmes by minor holdings relative to their own portfolios and to the share capital of the companies in which they have interests.
This does not mean that US funds are not inclined to give a few nudges in what they consider the right direction when the opportunity presents itself. Babcock confirms the vast increase in global proxy voting since the Labor Department's clarification of obligations. He says that when ISS started its global research support in March 1992 it had around five or six clients for the service. A year later that had jumped to 30-40. And since the DoL announcement? '{Now there are so many}I haven't a clue,' says Babcock.
Most of those client funds have accepted that if they have to vote their proxies then they might as well go through the motions of indicating what they do and don't like. Babcock says that it is only in exceptional cases that US funds will specifically seek dialogue with managements in continental Europe to smooth out any quibbles.
'As far as corporate governance goes, the interest from the US in continental Europe is still largely academic,' says Joe Lufkin, president of Boston-based Global Proxy Services Corporation. 'When you go beyond exercising voting rights, there's not a lot of direct dialogue between US institutions and corporate managements in Europe. The more sophisticated US funds realise that they shouldn't just wade in with their cowboy boots on. They're not trying to dictate terms - it's not like two elephants charging at each other. More like a confluence of two glaciers. There are a lot of little eddies and swirls in the streams.'
It's not just US institutional investors which are increasingly flexing their voting muscles in continental European companies, though. Homegrown institutions, shareholder associations, private shareholders and even corporate investors have been hitting the headlines as they check the activities of what they view as wayward managements.
Those actions have been taking a variety of forms, ranging from discreet pressure behind closed doors to full-blown courtroom showdowns. Invariably managements have been cast as the ogres. Win or lose, whatever the methods, the negative effect on companies is intensified when the leading proponents are adept at swaying media opinion. Names such as Colette Neuville, Martin Ebner, Andre Baladi and Ekkehard Wenger frequently crop up in a positive light.
Those sticking to the belief that shareholder activism and corporate governance are but a passing wave in the continental European scheme of things are battling against the tide of opinion. A recent report by the Centre for European Policy Studies (CEPS) states the case. It argues that the move away from direct investments by households towards institutionally-managed money is likely to spiral in coming years as ageing populations impel a switch from pay-as-you-go financed pension schemes to privately managed ones.
'These developments will lead to an increase in the demand for equity and disintermediated finance by institutional investors, acting as the depositors of pension funds,' says the report. 'They will push companies to adjust their financing methods and may well result in a reduction of the debt-to-equity ratios of European industry. The growing importance of institutional investors in the European capital markets will push corporate governance towards the British/American model.'
What then are the major issues in continental Europe which are attracting the attention of proxy voters or leading to shareholder resolutions? Because of the diversity of European markets they vary from country to country. But the CEPS list - covering information to shareholders, the one share/one vote principle, dividend policy, executive pay, and the assembly of shareholders - does not stray too far from the mark in the major jurisdictions. What follows is a look at those issues in the context of three markets: France, Switzerland and Germany.
After the UK, France is often viewed as being the most shareholder-friendly market in Europe. But with that tag comes the increased likelihood of owners pressing to get what they want. And there remain plenty of matters to gripe about.
Led by the debacle at Credit Lyonnais, greater accountability from directors is at the top of the agenda. Small investor groups, such as the association for the defence of minority shareholders (Adam), and the national association of French shareholders (Anaf), have been setting the pace.
Adam and Anaf are in the process of launching a joint campaign to attempt to force companies to act in the interests of shareholders by using the combined power of the large numbers of private investors to create strength. Tabling resolutions and lobbying against capital increases and low dividends are on the agenda, as is a push for a better average yield on shares. Recent corruption hit miscreant, Alcatel, which saw its shares tumble by over 50 per cent, is in their sights as one target.
Sophie L'Helias, president of Franklin Global Investor Services, says that the effect of the Vinot report will be one to watch. Released in July by a group of French industrialists chaired by Marc Vinot of Socit Gnrale, the report made recommendations on the duties and powers of boards of directors. L'Helias says that the impact of the report will not be seen until the vacation season is over. Among other things, it recommends the appointment of independent directors and seeks to further the interests of minority shareholders.
Other issues to the fore include the splitting of powers away from the main board and the dominance of the prsident-directeur gnral (PDG) by the creation of audit, remuneration and nomination committees. The power of the PDG in French companies has been bolstered by the unquestioning stance of corporate cross-shareholdings; shares held in bearer form - putting the onus on shareholders to contact companies; and the elitist circle of corporate appointments, many moving from the public sector. L'Helias describes the cross-shareholding conundrum as the eternal dilemma of French capitalism. 'They will exist until pension funds have grown to have significant shareholdings,' she says. Or, putting it the other way round: 'The absence of pension funds means the continuation of cross share-holdings.'
The issue of voting rights continues to be a bugbear. Calpers has entered into the French fray on this before now, opposing the limitation of voting rights at food giant BSN back in 1992, for instance. Foreign shareholders are still vociferous about this, opposing the double voting rights proposed at Elf Acquitaine earlier this year. The privatisation programme and the so-called 'golden shares' or supervoting powers which the government has retained have provoked some of the largest backlashes. Babcock says that it's a particular sticking point: 'To continue with the privatisation programme, the government needs the foreign pension capital but doesn't want to give up its own voting rights.'
Domestic institutional investors have also been on the warpath. Union des Assurances de Paris successfully led a move to block Suez from increasing its capital to purchase a stake in Pinault Printemps Redoute. And following a period of poor results, Paribas, in concert with other shareholders, wiped out the board of Navigation Mixte to replace them with its own nominees.
Change for the better? It's difficult to say. Paribas's move was the final outcome of a 30 per cent stake it acquired in 1989 in hostile circumstances. When agreement broke down, Paribas achieved its aim with scant regard for other shareholders.
Geneva-based financier and shareholder activist, Andre Baladi, says that Swiss companies are no different from those in the rest of continental Europe in their approach to corporate governance. Indeed, many of the issues raised by Baladi are similar to those in France. Baladi believes that the most important prompt for corporate governance reform is to educate executives about the benefits of control. He favours exposing continental European companies to US corporate governance practices by promoting their listing on US exchanges and encouraging Anglo-Saxon institutional investors to intervene in the proposals of the companies that they own.
Discriminatory voting rights are high on Baladi's list of targets for reform, along with the fact that dividend pay-outs in Swiss companies are generally much lower than in Anglo-Saxon countries. He has been pushing for stock buy-backs as a means of creating shareholder value but, thwarted by withholding tax obstacles, has urged managements to talk to authorities about reducing the tax burden. Baladi maintains that until performance-linked stock options have become accepted as a means of incentivising Swiss managements, they won't be motivated to release value to shareholders.
At Nestl's annual general meeting on June 1, Baladi asked the management to proceed with a stock buy-back and to divest its 26 per cent stake in French beauty company L'Oreal. He argues that the L'Oreal stake is a classic example of underperforming assets serving no useful purpose for shareholders. Baladi informed those at the AGM why he had moved most of his holdings in Nestl into another Swiss company, Socit Gnrale de Surveillance (SGS). Baladi lauds SGS as the way forward for Swiss companies in terms of governance - almost to the point of hero worship of its chairman and CEO Elisabeth Salina. 'It is the model Swiss company and what others should aspire to,' says Baladi. 'It has increased its dividend pay-out to 43 per cent compared to the Swiss average of 30 per cent.'
But it's not just SGS which has been making moves forward - even if it has been leading the pack. Since Nestl opened up the floodgates to foreign investors seven years ago, other large companies, such as Roche and Sandoz, have also - although voting restrictions of some sort or another remain par for the course. The soon-to-be implemented code of obligations is chivvying the reforms along. And company and criminal law reforms have encouraged more openness and discouraged the shady side of finance which the country had previously attracted.
That progress has been furthered by Switzerland's first hostile takeover bid by International Paper for Holvis in April this year. Holvis had previously eliminated voting restrictions on its shares and then sought to achieve the best value for shareholders in the bid, resulting in the final sale to British firm BBA. When it is finally resolved, lessons from the ongoing conflict between UBS and Martin Ebner's BK Vision may also lead to a wider opening of a previously closed market.
Germany's ostensibly successful governance system was shattered in December 1993 by the revelations at metals and industrial conglomerate Metallgesellschaft (MG). The near bankruptcy prompted calls for reform to the two-tier system of supervisory and management boards and the strong links between companies and banks. The failure of the bankers on MG's supervisory board to demand adequate disclosure was viewed as a significant failure of the governance structure and an indictment of a system that relied too heavily on banking overview.
Jella Benner-Heinacher, managing director of Germany's largest shareholder association Deutsche Schutzvereinigung fr Wertpapierbesitz (DSW), points to a range of issues of concern. The role and make-up of the supervisory board has been a hot topic since the problems at MG surfaced. Benner-Heinacher says that reporting from the management to supervisory board is not reporting satisfactory and suggests that monthly between the two should be enforced.
The question of limitations of mandates for those sitting on supervisory boards has also been raised, but Benner-Heinacher believes that misses the main point. 'At the moment a person is legally allowed to hold ten mandates on different supervisory boards and it is proposed to limit that to only five,' she says. 'We believe that the rules regarding the chairmen of supervisory boards are more important because of the workload. Therefore the seat of the chairman should count as two mandates.' Likewise, DSW is arguing for fewer members on supervisory boards in order to focus discussion. At the moment, there can be up to 20 members but DSW suggests that the maximum should be more in the region of ten to twelve.
Professor Theodor Baums of the University of Osnabruck says that a number of reform proposals have been made by the opposition Social Democratic Party (SPD). Although the proposals are pushing the debate forward there is little chance of their being fully adopted. The SPD's resolutions include calls to give supervisory board members more incentive to carry out their roles by increasing their liability in the face of corporate collapses, as at MG. It is also seeking to strengthen the links between the company auditor and supervisory boards and to guarantee that members get an earlier opportunity to review company reports rather than the current norm of just before meetings with management boards.
Perhaps the most radical of the SPD's proposals is the idea of imposing a limit on equity holdings by banks and to sever the relationships between banks and their fund management subsidiaries. 'I don't view the curtailment of equity holding by banks as a practical proposal,' says Baums. 'If loans go bad it can't be avoided as they are converted into equity. I view that as just another source of corporate finance.'
Along with others, Bruce Babcock at ISS believes that the most pressing governance problem for German companies is the lack of disclosure - including the heavy use of hidden reserves which is made possible by the high level and unquestioning attitude of cross-shareholdings. 'Germany is where undervalued assets become important,' says Babcock. 'Companies hide a lot of assets and don't present very deep disclosure to shareholders. It tends to favour the large banks and the establishment.' Calpers has also been active in Germany, most notably in support of a one-share, one-vote system at RWE, proposed by a local shareholder association. Although defeated, the RWE action signalled that local shareholders are seizing the mantle and seeking change in an otherwise entrenched system.
The issues highlighted in France, Switzerland and Germany are mirrored to varying extents across the continent. Italy has suffered from not having a system for proxy voting and from both political and corporate scandals - often interlinked. Legislation has recently been passed to enable postal voting and slate-list voting (allowing the board to represent minority shareholders), but at the moment that only applies to the shareholder meetings of recently privatised companies.
Belgium and the Netherlands have seen particular opposition to anti-takeover mechanisms which dilute shareholder value. Brussels-based shareholder activists Deminor have hit the headlines several times, often concerning actions to further the cause of the minority shareholder. Deminor's successful suing of Accor over its bid for Wagons-Lits is its best known appearance to date. Most shrug their shoulders when asked to comment on governance issues is Spain. 'There are too many large independent shareholders and companies don't cooperate on disclosure,' says Babcock. 'Annual reports are still being released three to four months after shareholder meetings.'
Whatever the situation and major issues in each jurisdiction across the continent, one thing looks certain: pressure on corporate governance issues - whether from private or institutional, domestic or foreign investors - can only increase in the future.
'Any issue that dilutes influence of shareholders pro rata to stock held, or puts power in managements hands to choose who runs the company will be subject to voting,' says Joe Lufkin of GPSC. 'Corporate governance does not necessarily mean ensuring that there are outside directors on the board. It's the study and practice of running companies from the top level of ownership. It's the use of ownership positions to control how the company is structured. That happens all over the world - just in different ways.'