An effort in Germany to keep foreign investors at bay has sparked an uproar among governance activists, who say new legislation to keep the so-called “locusts” in check will also hamper efforts to raise boardroom standards and encourage responsible share ownership.
At issue is Germany’s Risk Reduction Act, which expands the scope of what it means for one investor to be “acting in concert” with another. German law already requires investors who own more than 30 percent of a company to launch a bid for the rest if they are working together and to make disclosures about their plans. But last year an important court ruling sharply narrowed the situations where this applied, effectively limiting its scope to coordinated voting at annual shareholder meetings. Now the government is proposing new laws to undo that court ruling and cast the net wider.
The new law deems investors to be acting in concert if they cooperate to “permanently or extensively” influence a company’s corporate policy and that effort extends to coordination outside of public shareholder meetings. The investors’ actual reasons to work together “would not necessarily be relevant,” according to a legal bulletin from the law firm Cleary Gottlieb. Regardless of whether investor groups genuinely want to launch a hostile takeover, or merely improve corporate governance practices, the law apparently treats them equally. Berlin plans to put the law in effect by January 1, 2008.
The lack of clarity about acting in concert has alarmed corporate governance bodies. The International Corporate Governance Network, a global body that represents investors with assets of $15 trillion, has raised its fears with the German government. In an Oct. 10 letter to the German Finance Ministry, Michelle Edkins, chair of the ICGN’s shareholder rights committee, said her group fears that the law “will introduce uncertainty as to whether shareholders discussing corporate governance matters might be captured within the concert party rules.” That uncertainty would discourage shareholders from talking to each other or limit discussions to governance issues that had already been aired in the media, she said. “Neither of these approaches is conducive to a system of good governance.”
Edkins said shareholders must be able to discuss their concerns privately so that they can clarify issues and agree on the corrective action that they want a company to take. “Governance issues are often complex and sometimes quite sensitive … It does not help to have those concerns aired in the public domain, especially if the exact nature of the concern is not yet clear,” her letter went on to say.
Other corporate governance groups have similar concerns. Hermes, one of Europe’s most influential fund managers, has written to the government saying the in-concert rules would lead to a “significant weakening” of the corporate governance system because of the harm on constructive private dialogue. It would also be “counterproductive” to the government’s attempt to make sure that short-term investors do not have disproportionate influence, the fund said.
Hirt
“The new definition of acting in concert would create a lot of legal uncertainty and may expose investors to legal risks, simply for talking ahead of annual general meetings or even talking to companies during the year about common concerns they share,” says Hans-Christophe Hirt, associate director of Hermes Equity Ownership Service. “That would hinder the useful dialogue we are currently having with companies in Germany and is likely to lead to a more public and confrontational style of activism.”
Hirt says other investors have contacted Hermes to support its stance, and may even launch a formal campaign to change the in-concert rules. “We are considering different options and trying to figure out the most effective way forward, given the timetable for consultation,” he says.
The “concert party” issue is not limited to Germany. “There is a great deal of uncertainty across all major markets—except for the United Kingdom—about what shareholders can do ahead of an annual meeting and when they are in concert party territory,” Hirt says. “What is clear is that the German definition is the widest that we have come across so far.”
While the proposals in the Risk Reduction Act have come in for criticism, notes Carsten Grau, head of regulatory matters in the Hamburg office of lawyers DLA Piper, they are still better than some of the alternatives the government considered. Those included measures aimed directly at investors, such as screening them to weed out the undesirable foreign investors (primarily private equity firms). That would have increased the compliance burden for regulators and investors alike, and “would have had a tremendously disadvantageous effect,” Grau says. More recently, politicians have come to realize that Germany needs foreign investment, Grau says, and, “If we protect our economy too much, these investors will shy away.”
By comparison, the Risk Reduction Act “is a soft solution, which is much better,” he says. But does that mean it is a good idea? Grau diplomatically says that “is a very political question.”
Grau
Under German law, a move by shareholders to act in concert is considered dangerous to companies, he says. But thwarting the plans of those “undesirable” short-term investors is difficult without sweeping up other innocent investors in the same net. “Of course there are black sheep in the markets,” he says. “But how can you define them? There are no criteria available. It’s a problem that you cannot solve by means of legislation.”
Legislation, however, is the government’s chosen weapon. In swatting the locusts it might also damage the efforts of more desirable investors.
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