Brussels, 01/09/2010
{{ETUC response
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Introduction
In view of the financial and economic crisis, the ETUC has put forward a number of proposals to reform the regulatory and supervisory framework for financial markets. The ETUC has among other things called on the EU to ensure that national, European and global regulatory architecture provides for a banking system that delivers stable and cost-effective financing for the real economy, enhancing growth, stabilising macro-economic volatility, and allocating finance to socially beneficial use.
The crisis has also revealed the limits to the existing corporate governance regime. The ETUC agrees with the Commission that “although corporate governance did not directly cause the crisis, the lack of effective control mechanisms contributed significantly to excessive risk-taking on the part of financial institutions”. In our view, this is not simply a question of poor implementation. Improving implementation of current corporate governance principles would not address the underlying problem of corporate short-termism.
The Commission should therefore start working on the design of a new model – a model that is based on real workers’ participation which should restore the legitimacy of binding regulation to ensure public control and oversight of all institutions, products and transactions.
{{General question 1: Interested parties are invited to express whether they are in favour of the proposed solutions concerning the composition, role and functioning of the board of directors, and to indicate any other measures they believe would be necessary.
}}The ETUC particularly wants to stress measures to ensure diversity in the composition of the board of directors. The functioning of boards can be improved by including more women and persons with different backgrounds, experiences and roles. Board-level employee representation is one way of ensuring that persons from different backgrounds are included.
General question 5: Interested parties are invited to express their view on whether they consider that shareholder control of financial institutions is still realistic. If so, how in their opinion would it be possible to improve shareholder engagement in practice?
The idea of shareholder control is based on the presumption that shareholders are long-term investors that favour the long-term interest of the company. However, this is frequently not the case. A distinction has to be made between asset owners and asset managers. While asset owners such as pension funds and insurance companies traditionally apply a long-term perspective, an increasing proportion of shares are owned by asset managers whose aim is to make money through trading strategies rather than long-term ownership.
Stronger measures are therefore needed to ensure that long-term shareholders are able to exercise control of financial institutions. Measures need to be undertaken to reduce the influence of short-term investors and short-term bias. This means changing the way that investment managers are evaluated and rewarded for performance.
Furthermore, the influence of stakeholders with a long-term interest, such as workers, must be strengthened, e.g. by strengthening workers’ rights to information and consultation. The specific investment risk born by workers should also be reflected in the composition of the board. {{
Specific questions:
5.1. Should disclosure of institutional investors' voting practices and policies be compulsory? How often?
}}Yes, voting disclosure is necessary in order to exercise shareholder control. Disclosure should take place shortly after each vote in a manner which is easily accessible, e.g. in a dedicated space on the institutional investor’s website. As a minimum, disclosure should be required once a year in a published and easily accessible document. But it is also important to use the same format for disclosure. It should be possible to compare the voting records of different fund managers.
{{5.2. Should institutional investors be obliged to adhere to a code of best practice (national or international) such as, for example, the code of the International Corporate Governance Network (ICGN)? This code requires signatories to develop and publish their investment and voting policies, to take measures to avoid conflicts of interest and to use their voting rights in a responsible way.
}}The ETUC agrees with the principle that institutional investors must be held to account. The current lack of accountability to the ultimate investment beneficiaries undermines investors’ role in governance. There are a number of different codes that institutional investors could adhere to including the OECD Principles of Corporate Governance. However, not all codes cover the role played by stakeholders, including employees, which must also be addressed.
{{5.3. Should the identification of shareholders be facilitated in order to encourage dialogue between companies and their shareholders and reduce the risk of abuse connected to 'empty voting'?
}}Yes. It is important to provide transparency regarding the identity of shareholders, including those which are short sellers of stock. Shareholders acquiring undisclosed voting rights before an annual general meeting as well as those with short positions in companies are frequently not concerned with the long-term interests of the company. Due to the inactivity of many institutional investors, however, short-term oriented shareholders may have a disproportionate influence over the company.
{{5.4. Which other measures could encourage shareholders to engage in financial institutions' corporate governance?
}}One set of measures involve encouraging a longer term perspective by institutional investors, including changing the way that the performance of asset managers is evaluated and rewarded. A second set of measures should decrease the payoffs to short-term trading strategies, such as a transaction tax on trading securities and extra voting rights and/or dividends for long-term investors. A third set of measures should involve the mandatory adoption of responsible investment policies by institutional investors. It is also important to reduce the conflict of interest problem that many asset managers have in representing the interests of asset owners since they often do business with the companies whose shares they are voting on.
{{General question 6: Interested parties are invited to express their opinion on which methods would be effective in strengthening implementation of corporate governance principles?
Specific questions:
6.1. Is it necessary to increase the accountability of members of the board of directors?
}}As a general principle, the board of directors should be accountable to all stakeholders, including employees, and should have the capacity and resources to represent the interests of these stakeholders. The degree to which this principle is realised varies greatly across member states and companies. In companies and countries where employees have rights to representation on company boards, it should be ensured that key decisions are taken by the full board and not delegated to committees which may not include employee directors. In countries without board level employee representation other mechanisms must be strengthened to ensure that the voice of employees is heard and taken into account by company boards, such as improving access by trade unions to top managers, improving human resources management so that the needs of employees are clearly assessed, and strengthening the rights of European Works Councils.
{{6.2. Should the civil and criminal liability of directors be reinforced, bearing in mind that the rules governing criminal proceedings are not harmonised at European level?
}}The rules on civil and criminal liability of directors as well as the enforcement of these rules vary greatly across member states. In some member states this liability and its enforcement could be considerably strengthened. However, given that such law is generally defined at the national level, the potential for European measures is limited. Comparative studies on the effectiveness of different liability regimes would be useful.
{{General question 7: Interested parties are invited to express their views on how to enhance the consistency and effectiveness of EU action on remuneration for directors of listed companies.
Specific questions:
7.1. What could be the content and form, binding or non-binding, of possible additional measures at EU level on remuneration for directors of listed companies?
}}The ETUC considers that non-binding measures are not sufficient, which is highlighted by the fact that a number of Member States do not follow the recommendations on remuneration and directors’ pay adopted by the Commission in 2009.
A major problem is the lack of transparency on management remuneration, particularly in disclosure on individual managers and on items like the characteristics of stock option plans, pensions, and golden parachutes. Although the requirements and practice vary greatly across member states, in general stronger rules on transparency are needed.
Remuneration for directors should reflect long-term economic, social and environmental performance. In fact, the link between performance and remuneration has in many cases been weak. Moreover, pay increases for directors should be in line with those offered to other staff in the company. This is particularly important in view of rising income inequality. Measures are therefore needed to ensure proportionality between top level remuneration and minimum and average pay. One step in the right direction would be to require companies to disclose the ratio of total pay between the chief executive and the typical employee as is the case in the US.
{{7.2. Do you consider that problems related to directors' stock options should be addressed? If so, how? Is it necessary to regulate at Community level, or even prohibit the granting of stock options?
}}Research shows that stock options create perverse incentives for top managers of financial institutions. Not only are they too high in relation to salary, but they are detrimental to long-term incentive schemes. Stock options orient managers’ behaviour towards stock prices, but stock prices can have only a very weak correlation with “real” performance for very long periods of time. If stock options are nevertheless used, they should be limited to a small part of total pay and should have very long “lock-up periods” during which they cannot be exercised. Also, they should be open to all staff.
{{7.3. Whilst respecting Member States' competence where relevant, do you think that the favourable tax treatment of stock options and other similar remuneration existing in certain Member States helps encourage excessive risk-taking? If so, should this issue be discussed at EU level?
}}There is a clear link between the use of stock options and excessive risk-taking by financial institutions. Member States should consider introducing special tax rates to discourage the use of stock options.
{{7.4. Do you think that the role of shareholders, and also that of employees and their representatives, should be strengthened in establishing remuneration policy?
}}It is crucial to strengthen the role of stakeholders, and in particular employees and their representatives, in establishing remuneration policies. One way of doing this is to require that remuneration policies should be approved by the entire board. Where there is no board level employee representation, other ways should be explored to strengthen the role of long-term responsible investors (but not of short-term oriented institutional investors) over remuneration policies.
{{7.5. What is your opinion of severance packages (so-called 'golden parachutes')? Is it necessary to regulate at Community level, or even prohibit the granting of such packages? If so, how? Should they be awarded only to remunerate effective performance of directors?
}}Severance packages are often far too high in relation to pay and should be considerably restricted. They should also be linked to performance in such a way that it would no longer be possible to walk away with a large sum when a company is making losses. Furthermore, “clawback” provisions should be included so that remuneration can be taken back, should mismanagement be discovered subsequent to the manager’s departure.
{{General question 7a: Interested parties are also invited to express their views on whether additional measures are needed with regard to the structure and governance of remuneration policies in the financial services. If so, what could be the content of these measures?
}}In general, remuneration policies in the financial services sector should not be different from those that apply to directors of listed companies. Nevertheless, research shows that stock options should be particularly critically viewed in the case of banks, since shareholders’ capital is highly leveraged through deposits, which typically are explicitly or implicitly guaranteed. Stock options create asymmetric reward structures, whereby managers can enjoy huge gains when the share price goes up but only limited losses when share prices go down.
{{Specific questions:
7.6. Do you think that the variable component of remuneration in financial institutions which have received public funding should be reduced or suspended?
}}Bonuses and other incentive payments should be significantly reduced. They should not be allowed to constitute more than a limited part of total pay. They should be linked to long-term indicators that reflect sustainability, risk management and wider corporate goals and values and not just short term profit. High levels of remuneration are particularly critical in the case of financial institutions which have received public funding, since the legitimacy of such rescues are undermined when taxpayers are being exploited by funding excessive remuneration.
ETUC
1st September 2010