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Conquering the world – The success of stewardship codes

The first Stewardship Code was published in 2010 by the UK’s Financial Reporting Council (FRC) in response to criticism about the role institutional investors had played in the run-up to and during the recent financial crisis. Changes to the code made as part of its 2012 revision clarified the respective stewardship responsibilities of asset managers and owners, including those stewardship activities they have chosen to outsource or undertake in collaboration with others. The code is implemented on a comply-or-explain basis, meaning that all its signatories have to produce a statement of commitment to the code or explain why it is not appropriate to their business model. More than 300 signatories have signed it to date. It is too early to come to a conclusion about the success of the code. However, there is room for improvement in stewardship across all listed companies, involving engagement on a variety of issues beyond board composition and remuneration. According to the FRC, the quality of engagement between major investors and large companies has improved following the introduction of the code. But concerns about the disclosure and reporting on stewardship by fund managers remain, which is why the FRC has announced that disclosures by signatories will be assessed and a tiering system introduced in July 2016.

After the publication of the UK code, other countries followed suit with their own, including the Netherlands’ Best Practices for Engaged Ownership developed by Dutch corporate governance forum Eumedion, South Africa with its Code for Responsible Investing and Switzerland with its Guidelines for Institutional Investors Governing the Exercising of Participation Rights in Public Limited Companies. In 2011, the European Fund and Asset Management Association provided a framework of six high-level principles and best practice recommendations for asset managers to follow when engaging with investee companies. In addition, the revised EU Shareholder Rights Directive is expected to tackle significant aspects of stewardship and engagement.

Big in Japan
One of the biggest launches of stewardship codes took place in Japan in 2014. To date, the country’s Principles for Responsible Institutional Investors is the only other code apart from the UK to have been drafted by a regulator, Japan’s Financial Services Agency (FSA). The development of the code represented a switch from a traditionally rules-based corporate culture to one based on principles and has been a significant step forward in responsible investment and ownership activities in Japan. The country intends to foster sustainable, longerterm growth and attract foreign investors and has made a clear link between improved stewardship, corporate governance and economic success.

We were involved in the Japanese Code’s development and responded to the public consultation on its draft version. We were particularly supportive of the notion that the stewardship responsibilities of institutional investors should go beyond voting to include proper monitoring of and constructive dialogue with investee companies. We suggested that the FSA develop practical guidance and best practice for disclosing and implementing key principles. We also welcomed the proposal for the FSA to review the code periodically. We were one of the first signatories to the code, which as of 30 November 2015 had 201 signatories.

Although many Japanese companies have started to engage with overseas investors, discussions between Japanese asset managers and companies seem to have stayed as requests for information and generally lack an engagement objective and targeted outcomes. We understand from our discussions that local private pension funds and insurance companies would like to engage for change and are looking for ways to achieve this.

We have contacted the FSA council in charge of Japan’s Stewardship Code and Corporate Governance Code to encourage the effective implementation of the codes. Welcoming the comply-or-explain approach employed by the codes, we shared our views on effective interpretation of the requirements and meaningful explanation companies are expected to provide in case of non-compliance. We pressed for enhanced dialogue between companies and shareholders, including direct contact with non-executive directors.

Setting the scene

As a representative of responsible investors, we encourage and support the development of regional stewardship codes, a set of principles or guidelines aimed primarily at institutional investors who hold shares and thus voting rights in companies. Implying that it is part of the fiduciary duty of investors to behave as good owners of companies, stewardship codes require investors to monitor and, where necessary, engage with companies on material
matters, including environmental, social, governance, strategy, performance and risk issues and to vote their shares at company AGMs and EGMs. We believe that effective stewardship benefits companies, investors and the economy as a whole, a view that is supported by the UK’s Financial Reporting Council, which drafted the country’s Stewardship Code.

Lessons from Malaysia
Hot on the heels of Japan’s code, Malaysia launched its Code for Institutional Investors in 2014, the second code in emerging markets after South Africa. Again, we were involved in its development. However, there has been a lack of commitment by local funds to the code and as a result, its uptake and implementation to date have been poor. The lesson learned from the Malaysian Stewardship Code is that prior to the launch of any stewardship code or principles, the code needs to have the support and commitment of local funds.

Malaysia has since set up an Institutional Investor Council (IIC) to promote the code and its implementation, as well as overall corporate governance in the country. As a member of the IIC, we work closely alongside local funds and have used the opportunity to put stewardship code implementation and training on the agenda of its working committee.

While the market faces some real corporate governance challenges and stewardship is a new concept, the establishment of the IIC seems to have generated some momentum, with at least one of the major local funds committed to formally signing up to the code.

Following our engagement, speeches and workshops in Taiwan over a number of years, we were pleased that the local stock exchange published the draft of a stewardship code in December 2015. It means that another leading Asian capital market is likely to introduce stewardship guidance for institutional investors in the near future. Our contribution to the process leading to the local code’s publication was acknowledged by the stock exchange. We will respond to the consultation on the draft, which is due to conclude in February 2016.

Hong Kong
We met Hong Kong’s Securities and Futures Commission (SFC) in 2013 and 2015 to exchange views and share our experience in other markets of introducing local stewardship codes and engagement activities. Encouragingly, in March 2015 the SFC launched a public consultation on the draft of the Principles of Responsible Ownership, which follow a comply-or-explain approach. Overall, there was broad support. The SFC was pleasantly surprised by the support from family offices, large fund management companies and many of the listed companies. The more negative responses came from family-controlled companies worried about shareholder activism. The SFC was expected to announce the adoption of the Principles in late 2015 but this has since been delayed. It has also asked us to step up our education efforts in the market. In the meantime, the Hong Kong Exchange has strengthened the ESG reporting of listed companies. This should improve disclosure and help the introduction of stewardship. We welcome the initiative taken by the SFC and will continue our involvement in the implementation of the stewardship code in Hong Kong.

As a result of our engagement in Singapore on the topic in 2014, we were invited to join the Singapore Stewardship Working Group, chaired by the think tank the Stewardship Asia Centre, to develop a stewardship code for the city state. We participated in a series of conference calls throughout 2015 and provided extensive written feedback based on our international experience with stewardship codes. We were also the only representative of foreign institutional investors to address the inaugural forum of Stewardship Asia, explaining the reasons for the surge in interest in stewardship codes by institutional investors and reflected upon adjustments to their role in Asia, where family and state ownership is widespread among listed companies.

We are pleased that following our feedback on the initial draft, the code now primarily targets institutional investors and has an additional principle on collaboration between investors, which we strongly pushed for. Based on the experience in Malaysia, we supported the idea to hold a series of meetings with key local investors and stakeholders to gather support ahead of the launch of the code, which we expect to take place in the first half of 2016.

South Korea
After calling for the introduction of stewardship guidance for institutional investors in our keynote speech at a conference hosted by South Korean regulators in 2014, we welcomed the development of a draft local stewardship code in 2015. We understand that there has been a hearing on the code and plan to encourage a formal, public consultation open to foreign investors in 2016 during our next visit to Seoul. We believe such consultation could improve the quality of the code and most importantly contribute to its acceptance among local and international investors. This is crucial as in South Korea political appetite for stewardship appears to be limited and a progressive corporate governance agenda absent.

Brazil’s Association of Capital Market Investors (AMEC) has also started a project to develop a stewardship code for Brazil, in which we are heavily involved. As a drafting member of the working group for the code, we are looking at best international stewardship practice, for example using the UK code as a benchmark. The first meeting of the stewardship code working group took place in late 2015, with the consultation scheduled for mid-2016. The code’s launch is set to coincide with AMEC’s 10th anniversary in the fourth quarter of 2016. To ensure a good uptake of the code by local pension funds, education is necessary in the Brazilian market as the country’s institutional investors are not yet familiar with the stewardship concept and often lack resources.

A global code
In addition to the various national stewardship codes, the International Corporate Governance Network (ICGN) has begun work to introduce a global stewardship code template. The code seeks to build on ICGN’s existing policy framework, including the ICGN Global Governance Principles, and to add to its guidance on international stewardship. It is meant to complement, rather than supersede, other stewardship codes. We welcome the creation of a global code for investors seeking to implement their stewardship policies in markets without such codes or across multiple markets with differing stewardship codes. Signing up to stewardship codes in many markets or referring to foreign codes is likely to be inefficient and may lack credibility in a specific market.

The global stewardship code could also act as a helpful resource for regulators in markets considering the development of their own local or regional stewardship codes and principles. Nevertheless, it is crucial to recognise different legal and cultural frameworks and environments and most significantly different models of corporate finance and ownership of listed companies in markets globally. Some concerns remain about how to address stewardship activities with family or state-controlled companies often found in Asia or continental Europe – as opposed to the widely dispersed share ownership typical for the UK. We have encouraged more thinking on this important issue.

We responded to the ICGN’s consultation and aim to create a comparison matrix of stewardship codes in the first half of 2016. We will continue our thinking on how institutional investors can effectively and efficiently undertake stewardship activities in markets globally. The proliferation of stewardship codes is positive, as they increase awareness of the role of institutional investors in the governance of the companies in which they invest. In continuing to promote and influence the development of stewardship codes globally, we can ensure they are to the benefit of shareholders and companies and support sustainable economic development.

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