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Kemela Okara examines how increased shareholder participation in corporate management may lead to a better protection of shareholder rights.
The term shareholder activism may be mistaken for a call to revolutionary action by shareholders particularly those of public companies. This may not be far wrong. The changing face of capital markets call for a radical departure from current shareholder attitudes of passivity. Historically anecdotal evidence indicates that most individual shareholders buy and keep shares looking to long-term capital appreciation without an active monitoring of the corporate decision making process. However this trend may soon change. Part of the ongoing privatization process has involved encouraging the average Nigerian to own shares in the newly privatized entities. Consequently with increased participation will come increased awareness of the mechanics of the corporate sector and increased demands on the process of wealth creation that is embodied in the capital market. This should lead the shift away from passivity to active involvement in the process of managing public corporations.
To appreciate the expected shift it is important to understand the legal nature of the corporate entity. This is necessary because the corporate entity has been at the heart of the capitalist economy for over a century. Central to the existence of the company is the concept of legal personality i.e. that companies have distinct personalities from their owners and managers. To help achieve this legal fiction the company has a Memorandum and Articles of Association, which forms the basis for a three-way relationship between the company, its shareholders and its directors. Historically the fiction came into existence to provide a platform for business activity with the added advantage of mechanisms for limiting exposure to the potential for loss. This rationale is still valid today and has fostered the growth of capital markets worldwide that allow for the mobilization and allocation of low risk equity investments. In line with the three-way agreement embodied in the Memorandum and Articles of Association the company, which lacks mind and body to independently achieve its objects will function on a day to day basis through the directors who act as its agents and through its shareholders in general meeting who meet to review the performance of the directors in managing the affairs of the company. This legal framework has evolved over time through a combination of legislative enactments and judicial precedent to give legal effect to the commercial objectives of the private sector.
From this structure has grown the sophisticated system of investing that allows corporate entities to be run by professional managers, supervised by an independent board answerable to a diverse group sometimes running into hundreds of thousands of people who all have a share in a corporate entity. Naturally this system gives rise to competing and sometimes conflicting interests between management/board and shareholders. This is a natural consequence of the loss of control that arises with the appeal to a diverse group of shareholders with no particular attachment to the company. Although the law provides that the matters to which the director is to have regard in the performance of his duties include the interest of the shareholder and the company's employees many times there is a divergence of opinion between the directors and shareholders as to how this works in practice. For instance the directors may prefer deferring a dividend or paying a lower dividend in favour of building reserves whilst shareholders maybe rooting for an immediate payout. More often today the issue may be curbing a ballooning management compensation structure or the more complex manipulation of earning forecasts in order to benefit from share option schemes agreed for management. The challenge for the shareholder is how to ensure that in reality the director's duties of care and skill are exercised with their best interests at heart.
The traditional forum for reviewing the work of directors has always been the general meeting where shareholders as of right can either applaud the board or vent their spleen. At the general meeting the shareholders will receive the director's report giving a fair account of how the company's business has progressed through the year and its status as at the time of the report, what the board recommends as dividend and reserve, any significant changes in asset values, director's interests, gifts to charities, employment initiatives for the disabled and if there was any purchase of its own shares by the company. There would also be the presentation of the balance sheet and profit and loss account for the year under review. These reports will form the basis upon which the performance of the directors and the direction of the business will be judged by the shareholders.
Regardless of the legal provision of the general meeting as the shareholder forum for overseeing the board certain hurdles remain in the way of a proactive shareholder. These range from practical problems such as holding meetings at locations inconvenient to many shareholders, to the actual conduct of meetings affording shareholders an opportunity to be heard, to failings in providing timely notification of meetings. In a recent survey conducted amongst regulatory agencies, and other stakeholders such as chambers of commerce, issuing houses, lawyers, stock brokers and shareholder organizations using the Organisation for Economic Co-Operation and Development (OECD) corporate governance assessment instrument the survey found that there was poor compliance and enforcement of shareholder rights comparative to similar emerging markets in the Middle East and North Africa (MENA). The survey addressed issues directly impacting on shareholder rights such as the handling of general meetings, compliance and enforcement of the prohibition against Insider Trading, the publication of director's dealings and transactions, adequate notification to shareholders of changes in capital affording them adequate time to participate and the transparency of any extraordinary transactions as to price. The survey also ranked Nigeria low in the enforcement of shareholder rights in court and shareholder access to information.
The Peterside Committee inaugurated by SEC in 2000 presented its report early last year. In this context the report recommends action from both the board and shareholder. For shareholders there is a call to work in concert with other shareholders through shareholder associations. This may be fraught with problems because the most recent example of a shareholder association flexing its muscles may have unduly delayed the Unipetrol/Agip merger, which to all intents and purpose was a properly consummated transaction. However, it is a welcome reflection of the democratic philosophy of corporate governance. They also recommend that shareholders with 20% or more of the share capital should have a seat on the board and that one director should sit on the board to represent minority shareholder interests. A long list of expectations are recommended for directors ranging from ensuring AGM locations are convenient to all shareholders, to providing more regular briefings beyond the half yearly and yearly reports and ensuring that separate resolutions being proposed on issues of substance to promote an organized system of voting. Looking further afield in the OECD countries for instance a number of mechanisms have also been promoted. The more common is the exit mechanism, which depends on the capital market to police the board in favour of investors. Thus where investors are unhappy with management shares are offloaded with a potential for a slide in the share price, which either leads to a take-over with new management coming in or a re-focusing in favour of investors by the company through the same management or a new set of managers. However, this mechanism may not be very effective in Nigeria because of the relative illiquidity of our capital market i.e. the lack of market makers to facilitate an exit mechanism. Other worthy strategies involve institutional investors insisting on a pre-agreed set of governance safeguards to attract their investment. Infact some institutional investors apparently threaten the publication of a blacklist of companies refusing a pre-agreed governance safeguard. The safeguards typically focus on ensuring the availability of effective disclosure rules, acceptable compensation schemes and agreeable board practices.
It would appear the most effective strategies favour institutional investors i.e. the exit mechanism and pre-agreed governance safeguards. This is not ideal but should spearhead change if institutional investors would lead the charge. After all a recent survey of shareholding in most listed companies on the Nigerian Stock Exchange (NSE) indicates that majority of investors are institutional holding 45% of all stock followed by individual investors holding 35%. The recommendations of the Peterside committee are welcome and it remains to see what approach to compliance by public companies SEC will seek. Since the corporation remains the single most important unit of wealth creation in our market economy the need for activism by shareholders cannot be overstated. The efficient allocation of equity as capital to the most productive sectors of the economy is the responsibility of all stakeholders especially shareholders as the primary providers of such capital.
Kemela Okara
6th March 2003 |
