3 rd Eurasian Corporate Governance Roundtable Shareholder Rights

3 rd Eurasian Corporate Governance Roundtable Shareholder Rights, Equitable Treatment and the Role of the State April 17 -18, 2002 hosted by Securities and Stock Market State Commission of Ukraine State Property Fund of Ukraine PFTS with the support of The Government of Japan The Global Corporate Governance Forum 1

Protecting Shareholders From Abusive Self Dealing Eddy Wymeersch Professor at the University of Ghent-Belgium Chairman of the Banking and Finance Commission, Belgium 2

What is self dealing The basic agency relationship: accountability and fiduciary duties esp. duty of loyalty Types: n Directors entering into transactions with the company for their own interest n Directors dealing with third parties in which they have financial interests n Directors not supporting the interest of the shareholders n Corporate opportunities: diversion of opportunities 3

What is self dealing Types: n Directors acting in the interest of one shareholder, not of all, shareholders n What about the other conflicting interests: employees, creditors, suppliers – not involved in company structure – except: co-determination systems – creditors: in case of insolvency n Conflicts in state-owned firms n Conflicts with parent companies n Conflicts with the state as shareholder 4

Four main cases n The conflict between a director and his company n Conflicts between majority and minority shareholders n Conflicts in groups of companies – intragroup transactions, – corporate opportunities 5

Four main cases n Conflicts with the state as shareholder – multiple and conflicting interests – tax collector, – employment policy – monetary policy – other public interests 6

What is the problem with self dealing? n Perverts the fundamental scheme on which companies are based: Agents should act in the interest of the principal n Undermines investor confidence in the directors and the company n Leads investors to shun away from productive investment n Leads to overcostly control systems: audits, etc n Undermines the functioning of the public markets n Often: criminal behaviour, perverts honesty in the economy 7

Four Main Cases of Selfdealing n n Case 1: The conflict between a director and his company Case 2: The conflict between majority and minority shareholders Case 3: The conflict inherent to groups of companies Case 4: The conflict of interest in State owned firms 8

Case 1: The conflict between a director and his company This is the traditional hypothesis Solutions n outright prohibition: e. g. loans to bankers – n may be detrimental: too rigid mostly procedures: full disclosure and fairness – disclosure of the conflict – no voting - but what in SMEs? – decision reported to AGM: e. g. in France; no approval – auditor confirms the figures 9

Case 1: The conflict between a director and his company Solutions n structural measures: in two tier board structure, approval by supervisory board n general case law rule: fiduciary duty with heavy liability: US – vague, ex post – deterrent ex ante if sanction is sufficiently heavy – may result in formal procedures, with lawyers, experts, investment bankers 10

Four Main Cases of Selfdealing n n Case 1: The conflict between a director and his company Case 2: The conflict between majority and minority shareholders Case 3: The conflict inherent to groups of companies Case 4: The conflict of interest in State owned firms 11

Case 2: The conflict between majority and minority shareholders Frequently found: detrimental to the firm Remedies n Remedy 1 – In listed companies: exit through the market – In unlisted: fight ! – Winding up, dissolution: impracticable, costly, last remedy 12

Case 2: The conflict between majority and minority shareholders Remedies n Remedy 2 – Case law developments: abus de majorité – Comp. In Germany: Holzmüller – Is there also minority abusing their rights ? ? 13

Case 2: The conflict between majority and minority shareholders Remedies n Remedy 3: Mandatory take-over procedures in unlisted companies: Netherlands and Belgium rule – Plaintiff can demand other shareholders to take over his shares, – If serious reasons relating to defendant’s behaviour. – In fact “abus de majorité” remedy. 14

Case 2: The conflict between majority and minority shareholders Remedies n Remedy 4: Squeeze out: at the 90% or 95% threshold. – Leads to going private – Eliminates the conflict – Costly 15

Four Main Cases of Selfdealing n n Case 1: The conflict between a director and his company Case 2: The conflict between majority and minority shareholders Case 3: The conflict inherent to groups of companies Case 4: The conflict of interest in State owned firms 16

Case 3: The conflict inherent to groups of companies The central dilemma: conflict between the group interest and the subsidiary’s interest n Systems: German n European continental: Rosenblum case, Cassation France n Case law approach in the US 17

Case 3: The conflict inherent to groups of companies Philosophies n Group as an entity: rarely followed n Intragroup relations to set off: German Group law n Intragroup relations to be restrained within certain limits: French doctrine n No European generally accepted rules: – Except in consolidation of annual accounts – Except in accounting: related party transactions 18

Case 3: The conflict inherent to groups of companies Alternative solutions n n Mandatory bids , squeeze-outs and similar – for listed companies mainly – Essential rule – 13 th Directive Corporate Governance techniques – independent directors – audit committees 19

Case 3: The conflict inherent to groups of companies Alternative solutions n n Stock Exchange Regulations – No shareholder with more than 30% – If exceeds 30%: mandatory bid Criminal law rules – Abus de biens sociaux: art 437 French Code – Frequent use even against top people 20

Four Main Cases of Selfdealing n n Case 1: The conflict between a director and his company Case 2: The conflict between majority and minority shareholders Case 3: The conflict inherent to groups of companies Case 4: The conflict of interest in State owned firms 21

Case 4: The conflict of interest in State owned firms What is the difference with a business shareholder? Complex system of divergent interests n composition of the board n decision making according to political criteria n whose interest are being served ? n board functioning n external control and auditing 22

Case 4: The conflict of interest in State owned firms Diverse other weaknesses – Financing – State aid – Procurement policy – Price setting – Financial rating 23

Case 4: The conflict of interest in State owned firms Diverse other weaknesses – Social relations – Foreign expansion – External controls – Sale of business – Industrial relations 24

How to solve the problem n privatisation: continuous problems e. g. Personnel ! – n Better definition of the state’s interest – of the firm’s purpose – n Autonomy in decision making Indemnification cfr. German group law reduction of state influence: in supervisory board yes; not in management 25

How to solve the problem n Professional management n Special rules for conflict of interest cases: conflicts committee n Accounting: greater transparency n Well defined state supervision 26

Conclusion Universal Topic Different solutions ONE AIM: GOOD GOVERNANCE is a safeguard for welfare 27