Shareholders Rights Directive II (SRD II)

Background

Shareholders Rights Directive II (2017/828/EC) is an amendment to SRD I (2007/36/EC) that entered into force in 2007 post the financial crisis. Both SRD I and SRD II together form part of the European Commission’s Corporate Governance Action Plan 2012, to promote longevity and stability and to prevent short termism. The directive amendment intends to improve shareholders ability to exercise their rights across multiple markets whilst utilising technology to enhance communication between firms, intermediaries and the shareholders. The directive amendment will be transitioned into EU Member States national law.

Overview

What are shareholders rights? Any investor that owns common shares of a company stock, has common rights with other shareholders. The most common shareholder rights include; the right to share income profitability and assets but most importantly; the right to influence a company decision, for example; management selection or vote at general meetings.

What is proxy voting? Proxy voting is where a voting obligation or power of a shareholder is passed to an alternate decision-making body or representative.

SRD II forms requirements with regards to the exercise of specific shareholder rights linked to voting, to enable issuers to gain greater company identification of its shareholders. In addition, it forms the requirement to boost long term shareholder engagement. The directive’s goal is to motivate effective stewardship that will lead to higher standards and act as a differentiating factor between firms.

Key points to note:

• Income/ Pay – Issuers of shares must create an annual remuneration report to show an in-depth review of all renumeration including benefit awarded or due to directors in the current financial year. It is mandatory to vote on director renumeration at the general meeting of shareholders.
• Investment Policies – All institutional investors that includes asset managers, insurance companies and pension funds, must promote and form a specific investment strategy and publish it with associated reports.
• Shareholder Identification – (amendment to Article 3) Issuers of shares have the right to obtain exact shareholder information directly with the investor.
• Proxy – Proxy advisors must ensure accurate voting recommendations. It is mandatory for proxy voters to be transparent and publish a compliance report to the code of conduct for proxy advisors.
• Transactions – Many transactions such as intragroup transactions between a firm and its affiliates of the same holding company must be declared and approved by shareholders at the general shareholder meetings.

Key Objectives

• Provide greater visibility for proxy voting.
• Increase transparency for shareholder identification.
• Minimise risk and advance communication between the investor and issuer.
• Encourage long term shareholder participation.
• Monitor correlation between director performance and renumeration.

Who will be affected by SRD II?

• Intermediaries utilised by shareholders – It is mandatory for intermediaries to assist and facilitate a company’s right to identify a firm’s shareholders and facilitate the actioning of shareholders rights. Arrangements of such must be distributed to the shareholders in a timely manner for example; provide voting forms, registering a vote with the issuer or liaising between the shareholder and the issuer.

• Institutional Investors and Asset Managers – It is mandatory for Member States to monitor institutional investors and asset managers to certify that they disclose their investment strategies to the public to ensure alignment with their profile, duration of liability and its contribution to the long-term performance of the asset.

• Third country intermediaries – Non-EU companies that hold EU shares for its shareholders.

What Shares will be affected by SRD II?
• In scope shares, are shares in companies that have their registered office in the EU and where their shares are admitted to trading on a regulated market in the EU.

How will SRD II affect Securities Lending?

Securities Lending is well-known to play a pivotal role in ensuring liquidity in the capital markets and once a security has been transferred as part of a lending agreement, all the rights are also transferred to the borrower; this includes the right to vote. ISLA advocates the rules of the Bank of England Money Markets Code (Chapter 4 – Securities Lending; Voting Rights and Benefits Section 6.2-6.4) in which it clearly states that it is best practice, not to borrow securities for the sole purpose of exercising the right to vote. Empty voting is frequently labelled as a big concern for asset managers but the introduction of SRD II represents a significant shift in european corporate governance and as part of the directive, asset managers must disclose to institutional investors their use of proxy advisors and their policy on securities lending to the regulator. Any lent shares under a securities lending agreement would have to be recalled for voting at general meetings. Securities Lending programmes are abundant amongst investors and SRD II will help to increase transparency drastically and prevent the misuse of voting rights due to additional disclosures.