Key Notes

Modernisation of European company law

In the middle of the Parmalat financial scandal and in the wake of Enron and Cirio, stakeholder confidence in the real efficiency of the ‘corporate regulation market’ has been severely shaken. The European legislature is by no means indifferent to these matters; the truth is exactly the opposite.

At this moment Parliament and the Council are considering a Commission communication on modernisation of European company law, which should provide useful solutions. At EU level, however, greater protection for shareholders and third parties and the restoration of confidence and efficiency to the markets are intertwined issues which have to take precedence over the matter of bringing about a genuine Europe-wide corporate surveillance market.

What has arisen, then, is the twofold challenge of devising rules to revitalise the competitiveness and efficiency of European companies without in any way stepping outside the bounds of legality.

The internal market can be completed either by establishing a playing field in the true sense by harmonising national corporate regulation systems or by allowing Member States to compete among themselves in creating the most attractive legal environment for businesses to be set up.

The legislature needs to decide quickly what path to follow because the Court of Justice, through its judicial practice spanning the Centros case to the recent Inspire Art case, and including the Uberseering case, is already coming down in favour of competition among national regulation systems. In practice, if its head office is in a Member State, a company can operate freely in all parts of Union territory.

But common rules are not easy to lay down: the Member States are all particular about their own rules and unwilling to accept full harmonisation, as was seen in the case, and its satisfactory outcome, involving the directive on takeover bids (TOBs), in which the solution worked out is a mixture of harmonisation and competition among regulation systems. The same model has been used for the European Company Statute.

One reason for this is that European capitalism has no defined scale: public companies exist alongside leading families. The trend, admittedly, suggests that capital held across a broad range of owning interests, institutional investors, and financial intermediaries are coming increasingly to the fore, but this is an incipient process that should be overseen and encouraged, but cannot be imposed. It is consequently necessary to lay the foundations for what amounts almost to a natural evolution by completing the internal market in financial services and widening and paving the way for the spread of pension funds.

For the time being, the Community framework can and should specify the model to follow, a benchmark to attain, and offer rewards to those who do so on their own initiative. And the model is based on business competitiveness, a wide-ranging power of scrutiny for shareholders, and the correct proportional relationship between venture capital ownership and voting rights.

These three key principles must go hand in hand with the utmost transparency afforded by corporate governance and a clearer definition of a conflict of interest between managers and a company.

It follows that a professional investor should not acquire stakes in companies belonging to his own group, or in companies controlled, even jointly, by his controlling partners, or in companies with which he could be considered to be connected.

Furthermore, institutional investors should play their proper role in quoted companies, proceeding from the awareness that what they have to do is not just to exercise a right, but also, and above all, to perform a role constituting a duty to the investors whom they represent or their customers, in the case of banks.

One subject that deserves to be considered separately is statutory auditing of quoted companies’ accounts: auditing firms appear to have been found wanting in the role conferred on them by law, namely of certifying that accounts are truthful. One reason for this is another very common form of conflict of interest: an auditor often does consultancy work for the same company, and consultancy is undoubtedly the more lucrative part of the business. A person who audits a quoted company’s accounts should therefore be prohibited from acting as a consultant to that company, and a person who acts as a consultant should be prohibited from carrying out statutory audits of accounts.

Share-owning democracy, and hence scrutiny by minority interests, must be strengthened by doing away with the so-called ‘rational apathy’ characteristic of small investors, who tend to play no part in corporate life.

An important role in this connection falls to independent administrators, who should exercise scrutiny (and must not be appointed by the controlling partner or partners). To enable them to accomplish their delicate task, they should be entitled in their own right to have access to all corporate documents, or the ‘audit committees’, on which they serve, should be allowed to obtain information from company departments directly, without need to rely on managing directors.

Another subject to tackle is authorised capital, a safeguard for third parties, in a Europe where companies are undercapitalised. There is no point in abandoning the system, as has happened in the United States; instead, the proposal is to replace minimum capital, which is now meaningless, with a proper relationship between capital and the scale of business operations.

In addition, it is necessary to produce a better definition of the characteristics and responsibilities of those who hold hybrid financial instruments (a mixture of financing and rights to participate in corporate decision-making), which are today widely used and in fact constitute a kind of ‘capital flight’.

Finally, there is still the very broad subject of Europe-wide financial market surveillance, which must go hand in hand with completion of the internal market in corporate surveillance. The present fragmentation of checks may be helping the more rogue elements to ‘get off scot-free’. That is why the coordinating role of the CESR, the European umbrella organisation for supervisory authorities, needs to be strengthened in order to make for closer convergence in supervision. To that end, common supervisory procedures should be drawn up on the basis of exchanges of experience, and standards laid down to govern, for example, risk management, marketing policies, the structure of commission, and conflicts of interest.