Enterprise and Regulatory Reform Bill

Lord Razzall Excerpts

Thursday 31st January 2013 Grand Committee

[Lord Mitchell]

My Lords, this group of amendments is about accountability. We will be going over some of the area we have discussed before, but some of the points need stressing. Again, the issue is about putting power back into the hands of the shareholders.

Amendment 58BD, where we intend to change the word “ordinary” to the word “special”, talks about the type of resolution that would be necessary to get through any changes in the principle. We feel that a special resolution, which would be 75% of the shareholders, gives it a greater importance as far as the company is concerned and makes any changes to the principles of remuneration that much harder to make.

The current arrangements for backward-looking votes have given some power to shareholders, but have not sufficiently empowered them. While we welcome the changes, we feel that more could be done. In 2012, at the height of what became known, as the Minister said, as the shareholder spring, there were significant votes against directors’ pay, such as those at Aviva, Barclays and William Hill. The most memorable was the voting down of a 30% pay increase for Sir Martin Sorrell at WPP.

However, from 2011 to 2012, there was an increase in executive pay to the tune of 12%. By comparison, the rate at which pay increased for everyone else averaged 2.8%. Only 12% of the country received a pay increase of more than 4%. Needless to say, there was no rise in share price to equate with that 12% jump in wages, and nor would one be expected. In the past 10 years, FTSE 100 executive pay increased by 300%, while the FTSE 100 index has increased by 48% and, more devastatingly, fallen by 8.1% in the past five years.

It is far more difficult for shareholders to organise today than it would have been in the past, mainly because ownership is so global. Indeed the Kay review into the effect of UK equity markets on the competitiveness of UK business pointed out that the increase in foreign ownership has made it much more difficult for a disparate group of shareholders to organise and collaborate. In 1981, the percentage of shares in UK-listed companies held outside the UK was 3.6%. Today the figure is 41.5%—a dramatic change. Shareholding is also often a much more short-term affair than in the past. In 1998, the average holding in US and UK banks was around three years. Ten years later it had reduced to three months. It is probably even less today.

With that in mind, shareholder protest should be reconsidered. If 40% of shareholders in a company combine to oppose a remuneration report, it is a hugely significant development showing a deep level of dissatisfaction with company policy. Indeed the Government’s consultation in March appeared to acknowledge precisely this problem. Under the proposed rules, however, it would be possible for a company to ignore the report. The amendment would rectify that.

I want to address the question of an annual vote, which, of all the issues that I am addressing, we feel very strongly about. Our amendment is also about empowering shareholders. It proposes an annual binding vote for shareholders on a company’s remuneration policy, as opposed to a three-yearly binding vote. Having such a vote will ensure that executive pay is a matter that directors have to engage with regularly and will ensure that the issues around it are kept in mind. It would not be a difficult requirement to comply with, and I do not imagine that businesses will find much difficulty in doing so. This is because there are already many reporting requirements on an annual basis. Indeed the triennial approach, while a well thought-out idea, probably loses sight of that fact. The idea of a binding annual vote on pay has broad support. Indeed, it is again the case that the Government’s consultation in March seemed to suggest that it was their preferred approach.

In this case, there was every indication that Vince Cable and the Government initially supported an annual vote, but then performed a U-turn once it became apparent that pressure had been applied to them by large firms—yet another example of this Government talking big and acting small. A Financial Times editorial piece on the subject said of directors:

“Annual votes would at least put them firmly on the spot. Mr Cable’s triennial polls, however well-meaning and thoughtful, may not”.

This is not to be confused with my party advocating short-termism. We believe that in many cases pay has been thought about with too short-term an approach. The triennial vote actually reflects that to a certain extent, as for many companies, three-year share options are thought of as long-term. However, that is for companies themselves to think about. What the annual binding vote would do is ensure that whatever remuneration policy is chosen, shareholders have the power to hold it to account. I beg to move.

[Lord Razzall]

My Lords, this is clearly a serious issue and the noble Lord, Lord Mitchell, is right to use this opportunity to get the issue debated. I do not wish to delay the Committee for too long on this point, unlike some of my colleagues, but the point ought to be made that while the noble Lord is of course right that the Secretary of State’s initial position was to look at annual binding votes, one of the objectives of consultation on these issues is to try to arrive at a consensus. It looks as though a consensus about the triennial proposal has been found that gets both the TUC and the CBI on side. That is a significant achievement, given that this is a tricky issue. The initial position could have been significant hostility from one side to the other, whatever the Secretary of State’s recommendation had been. It should be noted that the compromise was well negotiated between the two positions. It is not often that the trade union movement and the CBI can be got to agree on something so complex.

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Moved by

[Lord Razzall]

58F: After Clause 73, insert the following new Clause—
“Fiduciaries: performance of investment functions
(1) In the performance of any investment functions, a fiduciary must act in the way the fiduciary considers, in good faith, would be most likely to be for the benefit of the beneficiaries as a whole and to be fair as between the beneficiaries, including as between present and future beneficiaries and in doing so, the fiduciary may have regard (amongst other matters) to—
(a) the likely consequences of any investment activities in the long term,(b) the impact of any investment activities on the financial system and the economy,(c) social and environmental considerations, including—(i) the implications of social and environmental factors for return on investments, and(ii) the impact of any investment activities on communities and the environment,(d) the implications of any investment activities for beneficiaries’ quality of life, and(e) the views, including the ethical views, of beneficiaries.(2) If a fiduciary considers that the general adoption by market participants of a particular standard of conduct has been or would be conducive to the benefit of the beneficiaries, the fiduciary may observe and promote the standard notwithstanding any rule of common law or equity which might otherwise oblige the fiduciary to act contrary to the standard or to require or influence any other person to do so.
(3) In this section—
“beneficiaries” means persons for whose benefit investments are being, will be or may be applied, whatever the particular form of ownership under which investments are held for the time being;
“benefit” includes—
(a) financial benefit provided out of investments; and(b) any benefit which the fiduciary considers can be conferred on beneficiaries without any material prejudice to long-term return on investments; “fiduciary” means a person or institution to which this section applies;
“investment activities” means any actions taken in the performance of any investment functions;
“investment functions” includes (amongst other matters) such of the following as pertain to the particular description of fiduciary—
(a) the selection, retention and realisation of investments,(b) the exercise of rights, including voting rights, attaching to investments,(c) engagement with the managers of investee companies and other investee entities, including in relation to corporate governance and corporate actions,(d) the selection, appointment and monitoring of investment managers and other agents to whom the fiduciary delegates any investment functions,(e) the selection and ongoing review of any investment funds which are operated by institutions acting as principals and in which the fiduciary invests,(f) the selection, appointment and monitoring of investment consultants and of other advisers in relation to the performance of any investment functions,(g) advising or assisting another fiduciary in relation to the performance of any investment functions,(h) taking such steps as the fiduciary considers reasonable to ascertain the views of beneficiaries in relation to the fiduciary’s investment activities, and(i) collective action with other market participants to further any common interests;“investments” means the investments in relation to which any investment functions are performed and, where the context admits, includes assets of any kind representing such investments;
“standard of conduct” includes (without limitation) a standard which a fiduciary considers to be in accordance with—
(a) widely accepted norms of behaviour relating to environmental, social or governance issues, including any such norms set out in international conventions, voluntary codes of practice or otherwise, or(b) the views or values of beneficiaries.”

[Lord Razzall]

My Lords, this is a new point. Although the amendment which stands in my name and that of my noble friend Lady Brinton, on which I am grateful for the assistance of FairPensions, is complicated, the issue is really quite straightforward. It is that there has been significant concern in the financial markets for a number of years that organisations that are described as fiduciaries in the drafting of this amendment, which include trustees, pension funds et cetera, are, as a matter of law, obliged when making an investment to take into account only the financial advantage of their pensioners, beneficiaries and clients.

The purpose of the amendment is to establish clearly a matter of law that has always been in doubt, on whether, in making an investment decision, such as whether to accept a bid for a company in which they are invested or any decision regarding the investment money for which they are responsible, fiduciaries are entitled to take into account the wider considerations set out in subsection (1) of new Clause 58F without potentially being attacked for not looking after the interests of the people whose money they are managing. This is a serious issue because the law is unclear on whether they are entitled to do so, and the purpose of these amendments is to make clear that in those situations the fiduciaries, as they are defined, may take into account other factors.

One of the objections to these proposed amendments is that they are mandatory. They are not mandatory; there is nothing here to say that a trustee cannot simply take the money and run. The purpose is to clarify that if trustees take into account the wider interests as set out in subsection (1) of the proposed new clause in Amendment 58F, they cannot be criticised as a matter of law. That is the purpose of this amendment and FairPensions has been campaigning for it for some time. We thought this was a Bill where we could try to get it inserted. I beg to move.

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[Viscount Younger of Leckie]

My Lords, these amendments would introduce a statutory requirement for institutional investors to act in the best interests of their clients and beneficiaries. They seek to clarify that these investors are not legally obliged to maximise short-term financial returns, but may take into account longer-term considerations, including the social and environmental impact of the companies in which they invest.

I am grateful to my noble friend Lord Razzall, supported in name by my noble friend Lady Brinton, for giving us the opportunity to debate the vital issue of fiduciary standards in the investment industry. As noble Lords may be aware, the duties of investment intermediaries were considered by Professor John Kay in his 2012 independent review of equity markets and long-term decision-making. The noble Baroness, Lady Hayter, mentioned this in her speech. The Government have broadly accepted the recommendations of the Kay report in this area. Specifically, they have made clear their support for the view expressed by Professor Kay, and echoed in Amendment 58F, that institutional investors should not automatically assume that maximising short-term returns is sufficient to serve the interests of their clients or beneficiaries. Instead they should take into account long-term factors relevant to their clients’ interests over the time horizon of the investment. However, the Kay report also found that there was no clear agreement on what the law currently requires of those investing on others’ behalf, and recommended that the matter be referred to the Law Commission.

The Government have therefore asked the Law Commission to undertake a review of the legal obligations arising from fiduciary duties that dictate what considerations are appropriate for trustees and other intermediaries acting in the best interests of their clients and beneficiaries. The Government also support Professor Kay’s view that there should be a common minimum standard of behaviour required of all investment intermediaries. While I therefore have great sympathy with the spirit of my noble friends’ intentions, I do not believe that the approach taken in these amendments would achieve this. The amendments attempt to enshrine aspects of the common-law concept of fiduciary duties in statute, and to apply these to certain institutional investors in all circumstances. This includes applying them to certain FSA-authorised firms without due regard to the FSA’s existing regulatory requirements. This approach would add to confusion and uncertainty about the meaning of the word “fiduciary”, the circumstances in which a fiduciary relationship already arises and the standards already expected of investors in regulation.

The government response to the Kay report is very clear in setting out the principle that all investment intermediaries should act in the best interests of their clients or beneficiaries in line with generally prevailing standards of decent behaviour. In order to embed this principle effectively, the Government have asked the FSA, and its successor organisation, the FCA, to consider to what extent current regulatory rules in this area align with this principle and to determine what action might be desirable. This includes, if necessary, changes to regulatory requirements at EU level.

With these reassurances, I hope that my noble friends will feel able to withdraw their amendment.

[Lord Razzall]

My Lords, I must say I am slightly disappointed by the Government’s response to this. This amendment is not about looking at the issues that the noble Viscount has suggested need to be looked at. It has nothing to do with the FSA or European regulations. Its entire purpose is to clarify the existing law. For example, it seeks to clarify that institutional shareholders which had a shareholding in Cadbury’s were entitled to take the view that they did not have to accept a very successful financial bid if they were concerned about other characteristics. That is not an FSA point or a European regulation point; it is a simple matter of clarifying the law. That is all we are asking for.

I have serious reservations and concerns about the matter being referred to the Law Commission because I predict that we will be debating this in five or 10 years’ time—those of us who are still alive then—when the Law Commission eventually comes back with a recommendation that will cover much wider areas than are dealt with by the amendment, as the Minister has indicated. To my mind, that is typical of the way in which Governments respond to things, in that you propose a relatively small amendment and they say, quite fairly, that the whole area, which is huge, is being looked at, of which the amendment is just a small part, and therefore they cannot do anything about the small amendment until that huge area has been looked at. That is the problem, and that is what I worry about. However, in the mean time, I shall withdraw the amendment.

[Viscount Younger of Leckie]

I would like to clarify this matter or go some way to clarifying it. I re-emphasise that the Government are currently discussing the precise terms of reference for the review with the Law Commission and, as mentioned earlier, will make an announcement in the coming weeks. The objective of the review is to provide clarity for institutional investors on their legal obligations. It would not be appropriate to prejudge the Law Commission’s review on whether there is a need for legislation to achieve that end. I hope that goes a little way to clarify our position, but an announcement will be made in the coming weeks.

[Lord Razzall]

If I may say so, that very short response was more helpful than the Minister’s previous comments. I beg leave to withdraw the amendment.

Amendment 58F withdrawn.

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[Lord Razzall]

My Lords, I have considerable sympathy with the amendment proposed by the noble Lord, Lord Stevenson, and the noble Baroness, Lady Hayter. These issues are always extremely tricky in that it is a matter of getting the balance right between the wish of companies or individuals to carry on trading following an insolvency action and that of creditors to protect their interests. There is a slightly wider issue of pre-pack administrations and sale of businesses where the major losers are the unsecured creditors. That is something that your Lordships have looked at from time to time to see whether any change needs to take place. This is a relatively small amendment to marginally shift the balance in relation to organisations which, although insolvent in one form or another, are carrying on trading. We have had a lot of evidence—obviously on the Labour side as well as on our side—that there are quite significant occasions when the suppliers of these services, rather than cutting off the service, say that they will carry on the service but charge a significant extra amount. That seems not to be conducive and, in this case, shifts the balance far too far away from the creditors’ interests. Therefore, I think that this amendment is very appropriate and the Government should consider it seriously.

[Lord Mitchell]

My Lords, I had not intended to talk about what I am talking about now, but it is pertinent, particularly as the noble Lord, Lord Razzall, mentioned pre-pack administration. I would like to say a little more about that.

Some pretty awful stuff is going on out there. Pre-pack administration is a situation in which a company is in trouble, particularly with its creditors, and is just about hanging on, when at the very same time some influential shareholders get together with a friendly administrator and say that they will put the company into administration. They suggest that the moment that it is put into administration there will be just a short period of time in which to sell it, then they will come in with company mark 2, which will buy the assets and business from the administrator and start up again, often with a very similar name. The effect of doing that is that the small creditors, which is the area that I care about because they are generally SMEs, and the small shareholders, get absolutely stuffed, because the company ceases to exist—and it then in its revised form continues with a different name and some of the same shareholders. They have an agreement with their banker. They have dumped all the toxic stuff into the river and moved on and started the company again. This does goes on; I have seen lots of examples of it happening. In fact, I am a minority shareholder in a company and there was a time when the majority shareholder was threatening to put the company into pre-pack, which would have meant me losing my shareholding. This was several years ago but I have experienced the threat of it. In effect, it never happened but it is one of the weapons that a company can use to dump shareholders and creditors. I put this down as something that I might come back to. I am not expecting the Minister necessarily to come back on any key points but I just want to make that point.