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Mar 23, 2020

UK’s new Stewardship Code could place more demands on debt IR

Updated code now covers all asset classes, including debt

The new UK Stewardship Code 2020, which came into force at the start of this year, calls for engagement between companies and investors to take place across asset classes – including fixed income. As a result, debt IR, which today is mainly a concern for the financial sector, could grow in importance for all companies.

‘Most issuers don’t have any debt investor relations at all,’ says Michael Hufton, founder and managing director of ingage, a corporate access platform. ‘For those that do, it is typically embedded within treasury and the focus is almost entirely on regular primary debt issuance, not on secondary engagement with holders of existing debt instruments.

‘If we assume the code is adopted and observed, this is going to require companies to invest a lot more in their debt IR effort. Suddenly they will need to be engaging with investors in a way they haven’t before.’

All change

The original version of the Stewardship Code, produced by the UK’s Financial Reporting Council (FRC), was a trailblazer. Released in 2010, it helped to position British investors as global leaders in engagement practices. But over the years, it lost its shine. Other countries released their own codes, some of which went further than the UK’s. The final straw came in 2018 when an independent report said the British text should either be reworked or scrapped.

‘If… the code remains simply a driver of boilerplate reporting, serious consideration should be given to its abolition,’ stated the report, authored by respected businessman Sir John Kingman. And, indeed, the new code is a complete overhaul of the 2010 version. The scope has been extended beyond asset managers to include both asset owners and service providers. There is also a strong focus on stewardship in practice, rather than just in theory.

‘The code up until now has largely been about investors’ policies when it comes to stewardship,’ says David Styles, director of corporate governance at the FRC. ‘What we are asking for now is much clearer information about not simply the policies, but also the activities investors undertake in terms of stewardship, and the outcome of those activities.’

Another major change is the extension of stewardship responsibilities across asset classes. Since the release of the previous code, there has been a shrinkage in the importance of equity in investor portfolios, with debt and other investments taking on more prominence, explains Styles. ‘We’re simply reflecting the market,’ he says.

Integrated approach

Traditionally, equity investors have been viewed as the most suitable group to take on stewardship duties. They have an ownership position in the company and can use tools like voting at the annual shareholder meeting to enforce change. Bondholders, by contrast, have a narrower, contractual agreement with corporate issuers and fewer ways in which to influence behavior.

The belief is growing, however, that debt investors should become more involved in holding companies to account, especially over ESG issues that could impact the issuer’s long-term viability or creditworthiness. In 2018 the UN-backed Principles for Responsible Investment released a report on why fixed-income investors should conduct ESG engagement. More recently, Hermes Investment Management launched a set of new high-yield bond funds that employ a ‘lead engager’ to bring out positive ESG outcomes.

‘Our vision for the 2020s is active stewardship taking its place at the heart of the activity and purpose of investment management firms and how they operate,’ writes Hermes in a report titled ‘Stewardship: the 2020 vision’, published in October 2019. ‘This will need to apply across all asset classes, from equities and corporate credit to real estate, infrastructure, private equity and even sovereign debt and hedge funds.’

Given the growth of fixed-income engagement, companies need to better integrate their response to stewardship inquiries, says Styles.

‘Trying to look at governance and stewardship as a whole, what we’re finding is that, in the same way that we would expect to see better integration within investors when it comes to how they engage with companies, we would expect to see better integration within firms, too,’ he explains.

Nascent stage

For financial companies that already have large and complicated funding needs, debt investor relations is a well-developed practice with dedicated internal resources. Outside of that sector, however, it is ‘really quite nascent,’ Hufton points out.

‘Last summer, I sat with the group treasurer of a large company who told me that the firm had never done a road trip. And I think that sort of situation is quite common at the moment, especially outside of the cycle of new debt issuance. I think that is going to change.

‘Companies that have billions in outstanding debt will increasingly find themselves fielding questions from and engaging with investors, and this will require roadshows and other secondary debt IR activity, as is the norm in equity investor relations. People who own the debt are going to have to start talking to those issuers about all sorts of engagement topics and reporting on the outcomes of that engagement.’

Any changes stemming from the new code will feed through only slowly. To become part of the first list of signatories, firms have until March 31, 2021 to file a final report with the FRC. The UK’s code, however, is just one of several national and global initiatives encouraging better stewardship by investors across asset classes. The flow of funds to passive has also increased the importance of stewardship for investors, given that they cannot just walk away from investments. While the impact on debt IR remains to be seen, the stewardship movement as a whole continues to gather pace.

‘Every investor in the market is under pressure to ensure it is being a good steward,’ says Domenic Brancati, CEO of proxy solicitation firm Georgeson for the UK and Europe. ‘A company’s board, senior executives, investor relations team and secretariat must increasingly work more closely to answer questions that come in from investors as a result of increasing pressure from their own clients.’

Code effects

Aside from the potential impact on debt IR, how else could the new UK Stewardship Code 2020 affect IROs?

First, companies should expect (even) more questions on ESG issues. The code is divided into 12 principles for asset owners and managers. Principle nine states: ‘Signatories systematically integrate stewardship and investment, including material environmental, social and governance issues, and climate change, to fulfil their responsibilities.’

While investor focus on ESG issues, including climate change, is already at an alltime high, the code will put further pressure on investment firms to include these topics in their discussions with companies.

‘ESG has been all the rage, but for any companies out there that are still doubting how important climate change will be, we’re now seeing a whole chorus of people in the market with these sorts of requirements,’ says Michael Hufton, founder of London-based corporate access platform ingage.

Second, IR teams could end up with more insight about investment firms. The code asks signatories to disclose the ‘approximate breakdown’ of ‘assets under management across asset classes and geographies’. It also asks investors to describe why they engage with firms, what methods they use and the results of action taken.

‘If that information can be properly gathered, collated and presented in profiles, it could be really useful intel for investor relations teams,’ says Hufton.

This article was published in the spring 2020 issue of IR Magazine