The German Public Companies Act or Aktiengesetz turns 50 this month. We mark this occasion with a chapter setting out our perspectives on corporate law and governance in Germany in a book called ‘Corporate Governance: Geschichte – Best Practice – Herausforderungen’ (Corporate Governance: History – Best Practice – Challenges) that will be launched in Frankfurt on 24 September. We have also updated our Corporate Governance Principles.
Germany’s corporate law is more shareholder-friendly than widely believed
Contrary to popular opinion, Germany’s Companies Act provides shareholders with some powerful tools. Investors can, for example, file counterproposals, vote annually on the performance of the boards (Entlastung) and request special audits. We have used many of the rights provided by the law in our engagements with German companies over the last decade, most recently at the AGM of Deutsche Bank, where we used the vote on the performance of the management board to encourage a review of the company’s leadership.However, the German two-tier board system and employee participation are not well understood by foreign institutional investors. In a German public company, the CEO chairs the management board, which leads and manages the company. The management board in turn is overseen, controlled and advised by a supervisory board, which exclusively comprises non-executive directors and is led by the company’s chair. Shareholders only have the right to elect half of the members of the supervisory boards of large companies – the other half is chosen by employees. Significantly, the CEO and other members of the management board are appointed by the supervisory board.In theory, the clear division between executives and non-executives is appealing, as long as the drawbacks of having separate boards, such as less frequent meetings and potentially a reduced flow of information, can be overcome. The long-term success of many German companies confirms that the country’s two-tier governance system and the involvement of employees can add value in practice.
Although in our view, there is no need for major reform of the Companies Act, we believe the following two issues should be considered and addressed to optimise German corporate law and practice:
- Dialogue between institutional investors and supervisory boards:
In line with Germany’s Companies Act, the supervisory board is an inward-looking organ of the company that only communicates with shareholders at the AGM. This can lead to a lack of information and accountability of its members, not least with regard to the nomination process. The current practice of little or no involvement of investors in the process has led to a number of situations over the years in which nomination proposals were questionable and controversial and at the 2010 AGM of Infineon even resulted in a proxy fight.While some companies are now making their chairs available for meetings with investors, the format and quality of the resulting dialogue varies significantly. Questions about the composition and effectiveness of supervisory boards continue to emerge, including in relation to some of their key responsibilities, such as CEO succession, strategy development and oversight.We therefore believe it is time to review how institutional investors should communicate with supervisory boards of companies in which they invest to ensure an adequate flow of information and accountability of board members.
An AGM has three main purposes: Information, communication and decision-making. However, in practice, the AGMs of German companies do not fulfil any of these roles satisfactorily. Certain aspects of the legal framework governing AGMs have been addressed since the Companies Act came into force in 1965. Other cornerstones, such as the right of each shareholder to speak and request answers to detailed questions and the right to legally challenge resolutions for a wide range of reasons, remain largely unchanged. This contributes to the length of AGMs, which can take up a full day and run into the late evening, as well as significant legal risks for companies with regard to the resolutions passed.As such, we believe that the legal framework of AGMs should be reviewed, starting with the fundamental question of what role they should play in the 21st century for major investor groups and possibly other stakeholders.
Hermes EOS actions
In our book chapter and German Corporate Governance Principles, we have developed a number of suggestions on the issues identified above. While questions relating to the legal framework governing AGMs will require law reform, there are practical steps that companies, together with their shareholders, can take to optimise the interactions between investors and supervisory boards. We seek to contribute to the development of best practice and together with some of the leading German companies and other investors plan to develop guidelines for the dialogue between institutional investors and supervisory boards. Please contact me if you would like to find out more.
The Arctic - to drill or not to drill?