Article appearing in February issue of ICSA Governance and Compliance
Company secretaries and investor relations officers must work closer together
The impetus for the development of investor relations (IR) as an independent profession was largely the implementation of the 1985 Companies Act. This gave public companies the right under s212 to interrogate shareholders as to their real ownership. Hitherto, shareholders, whether institutional or retail, could hide behind ‘front’ or ‘shell’ nominee companies, mainly operated by the custody departments of banks and stockbrokers. Nominee companies – or custody accounts to use the international term – existed then and now for two main purposes: firstly, as an easier way for their operators to collect and distribute dividends to underlying shareholders, and secondly, to allow investors not to appear on the UK share register in their own name.
Over the past 30 years there has been a concentration of ownership of UK plc by nominee companies. These companies act for the majority of institutional investment and increasing swathes of retail investment, with the growth of execution-only and broker platforms. As the banking and custody markets have consolidated globally, we now find that a handful of international players dominate the UK share register, as opposed to the much more fragmented situation when s212 was initially introduced.
The introduction of the s212 dispensation predicated the emergence of IR as a corporate function because the change in the Act allowed companies to understand more fully who owned and managed their shares, and with this knowledge came the urge to communicate.
Before 1985, UK companies relied heavily on their corporate broker for market intelligence, and share ownership information was just one of them. The house broker would know who had traded the company’s stock far more closely than anyone else because, in those days, most trades would go through the house broker’s book. In those days, there was a requirement for fund managers to seek best execution from stockbrokers for their trades – today this is usually no longer the case. The house broker’s institutional and retail clients would also be the major buyer of the company’s shares, often on the basis of a ‘nod and a wink’, as insider dealing was considered a normal part of City life, until it was outlawed explicitly by the Company Securities (Insider Dealing) Act of 1985.
Understanding who owned your shares was also not so important in a time when most stock in companies was owned by friends and family of the founders or directors of the company, and the overall retail ownership of your stock was much higher than now. The most significant change in the structure of the UK equity market from the 1960s onwards was the rise of the institutional investor and institutional asset management. This was the result of significant growth in the amount of money allocated to savings and insurance, whether through pensions or insurance funds initially or later via the intermediary collective investment vehicle of the unit trust (now more commonly known as the mutual fund). The level of retail ownership did not fall as much as shrink in proportion to the amount of money pouring into equities from the new breed of money managers of the 1970s.
The new investor profile of UK plc brought with it new challenges: although retail investors usually sided with management and were loyal long-term holders in their investee stocks, professional investors were a much more fickle bunch, willing to sell their shares to the highest bidder to bulk up the returns for their demanding clients. The market liberalisation of the Big Bang in 1986 heralded a sea-change in the UK capital markets, as the old-school boxing style of gentlemanly capitalism gave way to the rough-and-ready US bare-knuckle fighting of mergers and acquisitions. We entered the dangerous world of the unsolicited contested bid.
Suddenly, UK companies needed to know who owned them in order to defend themselves properly. They needed to know who owned other companies to take a view about whether they should buy them, as a defensive merger or to join in the feeding frenzy of acquisition and conglomeration. Senior management needed advisers in-house and externally to manage and advise on how to deal with these new turbulent equity markets and the predators that emerged therefrom. Thus were borne financial PR and investor relations in their modern forms. Financial PR was no longer just about acting as an out-sourced provider of content for annual reports and regulatory press releases, but instead it became a strategic and often public arena. Titans of industry, locked in corporate battle, would try to achieve knock-out blows against each other, guided by their trusty knights of combat, the PR gurus. The fight between Virgin and British Airways of 1993, commonly dubbed ‘the dirty tricks campaign’, is a classic of the genre but there were many others during the late 80s and early 90s. The gloves in UK business were off, as US styles of management and finance took hold.
Corporate Governance Code
Another aspect of US business culture that gained strength over the same period was corporate governance. This began not as an ethical or moral piece about the behaviour of company directors in their management of business but more as a way for shareholders to flex their muscle as owners of companies to improve returns on their investment. Governance and activism have always been close bedfellows, particularly in the US market historically and certainly in the UK latterly.
There was increasing media focus on the behaviour of major UK companies and their boards in the newly liberated financial markets, fascinated by both the febrile atmosphere of the M&A world and the various corporate scandals of the era. After BCCI, Polly Peck and, arguably more importantly, the shenanigans of Robert Maxwell, the City recognised that some new structures and rules, even if self-regulated, had to be introduced. If only to persuade the alarmed general public that order could be brought to what seemed like chaos and corruption.
Sir Adrian Cadbury set up his Corporate Governance Committee in 1991 under the auspices of the Financial Reporting Council and the London Stock Exchange, with the support of the accountancy profession, in order to bring back confidence in the UK markets. This lead to the production of a code which forms a major part of today’s Corporate Governance Code in the UK and similar codes around the world. A particularly British aspect of the original Cadbury Code, still in place, was the notion of ‘comply or explain’, which allows companies which do not follow every aspect of the Code to provide background to their diversion therefrom.
Many aspects of Sir Adrian’s Code are now taken as common-sense approaches to running public companies in the interests of all stakeholders. Although criminality and corruption cannot be regulated away, good governance in corporate life is viewed as basic market practice by the vast majority of investors and boards – and largely adhered to.
Principles of governance
A whole industry has built up around these basic principles of governance. This includes specialist governance investors within asset management firms, advisers who guide companies on governance and agencies measuring and auditing governance, in order to advise investors on the state of governance at their investee or target companies. Companies or investors have never taken governance so seriously. The recent changes to the UK regulatory environment surrounding ‘say on pay’ and directors’ re-election have sharpened the minds on both sides of the governance equation.
Governance matters and liaison with governance fund managers (or fund managers with governance concerns) have traditionally been the bailiwick of the company secretary in conjunction with the chairman, the senior independent director or occasionally executive management, if and when relevant. Governance could be seen in this sense to be a non-executive function, with a necessary distance from the executives, especially in the area of remuneration, where a critical distance can only be seen as healthy.
Investor relations officers (IROs), where present, have often not been party to or even aware of the discussions held between the ‘governance team’ and investors. However, it is often the governance officer at the asset management firm that the governance team meets, not the portfolio managers or buy-side analysts that the IROs deal with.
The company secretary
Every company is different and so we see many configurations of the ways that the company secretary and IRO work together. Yet there is a distinct correlation between the size of the company, how long it has been in existence and the degree of division between the functions. Simply put, the larger the company and the longer it has been operating, the more likely it is that company secretarial and investor relations functions will operate in separate ‘silos’ within the business. The only ongoing common bond, other than at AGM time and the production of the annual report, may well be the production of the IR section of the board report.
We know that this is not merely a case of governance ‘capture’ by the company secretarial profession. Many IROs will roll their eyes at the mention of governance, perceiving these issues to be non-strategic, an unwanted imposition of regulatory burden and a matter of non-substantial box-ticking, only with little upside for them or the company. This view has to change.
The understanding of investor relations and governance work as two separate practices is no longer sustainable. We already have a situation where the life of the public company can be affected significantly by external factors: voting by shareholders at the annual general meeting and the role of activist shareholders in creating change. Neither of these are new features of corporate life but there have been material changes over recent years in the way that decisions are made by investors. These changes affect the remits of both the company secretary and the IRO equally. They include:
- Higher levels of voting by institutional investors at shareholder meetings as a result of the Stewardship Code
- Increased importance of the proxy advisery agencies in terms of their influence on institutional shareholder voting
- Governance officers at asset managers have greater influence over voting decisions relative to the portfolio managers than ever before
- Greater prominence given to governance and related issues (such as environmental and social issues) by investors when making stock selections and carrying out analysis of companies’ valuations
- Rising levels of aggressive activism and the arrival in the UK of US-style litigation culture
- Greater willingness amongst UK long-only ‘vanilla’ investors to join with activists to achieve corporate change
- The arrival of collective engagement in the form of the newly formed UK Investor Forum.
On a practical basis, at IR meetings on their non-deal roadshows, IROs will now often meet a group of fund managers from the same investment management firm where equity, debt, governance and SRI-interested (socially responsible investment) fund managers are represented. Many investment management firms are breaking down their own silo approach, so that their governance officers will regularly accompany the portfolio managers to missionary or retention corporate access meetings.
Governance and IR
Corporate communication to the financial markets needs to be holistic. Just as we have seen the growth at larger companies of an integration of the equity and debt IR functions, there should also be greater integration of the governance and IR functions across all companies. The audiences are becoming unified and communication practice should follow suit.
There are circumstances where there should be a separation of process, in order to avoid conflicts of interest, such as around remuneration of directors. In general however, it seems clear that there should be a better knowledge capture and record keeping of governance meetings between company secretarial and IR teams. This will ensure that both sides understand better who has seen whom, when and why and therefore advise senior management accordingly.
This is the future of good IR and corporate secretary practice. If the audiences for IR and governance are integrating, and the importance of governance investors on the future of UK plc is also growing, then maintaining a silo-led approach is in itself poor corporate governance.
The dialogue between IR professionals and company secretarial teams must widen and deepen in the face of the changing nature of capital markets. This is especially important now that the role of the sell-side is evolving as a result of the regulatory changes regarding payment for corporate access and sell-side research. Companies need to understand their investors better than before and take a more proactive stance towards their IR activity, as the traditional support from their broker may deteriorate due to commercial pressures.
Company secretaries and IROs should work together more closely and efficiently to ensure that their companies have the best chance of flourishing in an increasingly difficult environment. Governance and investor relations are more closely linked than ever from the investor’s perspective, so corporate practice should reflect this.
ICSA Annual Conference 2016
Richard Davies will be speaking at the ICSA Annual Conference on 8 March. Book your place via the website.