175. We set out in Chapter 2 the different approaches adopted by major shareholders and the collective failure of their combined stewardship responsibilities. Under the rules governing engagement, conversations between investor and company generally occur on a bilateral basis, other than in situations of corporate or economic stress.490 There are also requirements preventing the release of information that is not available to other investors and constraints on acting in concert in the Takeover Code. The BEIS Committee explored in its report on corporate governance the potential for the UK Investor Forum to provide a basis for concerted action in limited cases, but noted also the challenges presented by the trends towards highly dispersed share ownership and passive rather than managed funds.491 Proper engagement can be resource-intensive and-if the board is unreceptive- ineffectual, as with Carillion. In this scenario, it can make sense just to divest, or to stay in but rely on other institutional investors to engage effectively. There is also a strong financial interest for shareholders not to say anything in public which may have an adverse impact on the share price. This might help to explain why the press and Parliament sometimes appear to do a better job of holding company boards to account than shareholders.
176. The potential consequences of what some have characterised "ownerless companies", subject to the whims of increasingly short-termist investors, have been subject to much debate and deserve consideration in the context of the Government's industrial strategy. Some of the issues were highlighted in the recent hostile takeover of the supplier GKN by the turnaround specialist, Melrose. They won the battle for ownership of the company with promises of higher returns to shareholders, with a business model that envisages relatively short-term ownership. They were up against a company with a long history of supplying parts to the automotive and aerospace sectors, including defence-related components, in the UK and US. Whatever the objectives of the Government's industrial strategy to support the development of productive sectors and supply chains in the UK, there is nothing in law or governance codes that requires investors to do anything other than look after their own interests. These may or may not align with those of the board, employees, or the long-term aspirations of the sector and government.
177. The Government has recognised that there is a problem. In its consultation on Insolvency and Corporate Governance, it includes a section on shareholder responsibilities in which it argues that "recent corporate failures make it right to ask whether a larger proportion of institutional investors could be more active and engaged stewards and whether more could be done to ensure that company directors and their investors engage constructively."492 It asks for submissions on what changes could be made to the Stewardship Code to promote engaged stewardship, including the active monitoring of risk. It includes as possible options for reform:
• Amendments to the Stewardship Code to provide more detail on how investors should consider long-term sustainability;
• Promoting better reporting of stewardship outcomes by investors, as opposed to just reporting on process;
• Establishing a requirement in the Code for asset managers to monitor and engage on how directors have fulfilled their section 172 requirements;
• The establishment of an expert "stewardship oversight group" to review significant corporate failings and ensure that lessons are learnt.493
This last option is reactive and of questionable impact, although fully in line with the tone of regulatory intervention in the corporate realm. It is odd that the Government itself is inviting submissions on reforms to the Stewardship Code when the FRC is already committed to an overhaul of that Code later this year and the Government has previously referred recommendations relating to the Stewardship Code to the FRC review.494
178. In its report on Corporate Governance, the previous BEIS Committee called for the revised Stewardship Code to provide more explicit guidelines on high quality engagement, requirements for greater transparency in the voting records of asset managers and an undertaking to call out poor performance on an annual basis.495 Following the Committee's report the Government asked the Investment Association to establish a public register of those companies experiencing a dissenting vote of more than 20% in any reporting year. This is now established and should help provide greater transparency on the effectiveness of company engagement with investors. The implementation of the EU Shareholder Rights Directive should also help to address short-termism and insufficient oversight of remuneration and related party transactions.496
179. The effective governance of companies and faith in our business culture relies upon the effective stewardship of major investors. They in turn rely upon accurate financial reporting and honest, constructive engagement with company boards. The current Stewardship Code is insufficiently detailed to be effective and, as it exists on a comply or explain basis, completely unenforceable. It needs some teeth. Proposals for greater reporting and transparency in terms of investor engagement and voting records are very welcome and should be taken forward speedily. However, given the incentives governing shareholder behaviour, and the questionable quality of the financial information available to them, we are not convinced that these measures in themselves will be effective in improving engagement, still less in shifting incentives towards long-term investment and away from the focus on dividend delivery. A more active and interventionist approach is needed in the forthcoming revision of the Stewardship Code, including a more visible role for the regulators, principally the Financial Reporting Council.
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490 Financial Reporting Council, Stewardship Code, Principle 5
491 Business, Energy and Industrial Strategy Committee, Third Report of Session 2016-17, Corporate Governance, HC 702, April 2017, para 44 - 52
492 Department for Business, Energy and Industrial Strategy, Insolvency and Corporate Governance, March 2018, p 26
493 As above, p 27
494 Business, Energy and Industrial Strategy Committee, Second Special Report of Session 2017-19, Government Response to Third Report on Corporate Governance, HC 338, September 2017
495 Business, Energy and Industrial Strategy Committee, Third Report of Session 2016-17, Corporate Governance, HC 702, April 2017, para 55 and 60.
496 The Shareholder Rights Directive (EU) 2017/828 of the European Parliament and of the Council of 17 May 2017 came into force on 10 June 2017 and is due to be transposed into UK law by 10 June 2019.