The regulatory recap
Improving shareholder engagement
Coming into force on 3 September 2020, the EU’s Shareholder Rights Directive II (SRD II) strengthens shareholder rights and imposes new requirements for intermediaries, institutional investors, asset managers and proxy advisors.
SRD II is a revision of the 2007 Shareholder Rights Directive, which was found wanting in the wake of the 2008 financial crisis. EU lawmakers had decided to act as the crisis revealed that in many instances, shareholders supported excessive short-term risk taking by their investment managers. Lawmakers also found clear evidence that the monitoring of investee companies by investment managers, and engagement by institutional investors and asset managers with the companies in which they invest, was often inadequate and focused too much on short-term returns, which may have led to suboptimal corporate governance and performance.1
In December 2012, the European Commission had published an Action Plan on European company law and corporate governance.2 The Action Plan set out a legal framework designed to encourage more engaged shareholders in sustainable companies, and included a number of actions to encourage long-term shareholder engagement and to enhance transparency between companies and investors.
SRD II is a part of the Action Plan and is intended to improve transparency regarding the investment strategy, the directors’ remuneration, the voting process in general meetings, and identification of shareholders.
The aim is to facilitate shareholders’ long-term engagement, increase transparency in the voting process both in relation to proxy voting and shareholder identification; and improve issuer-investor dialogue.
Scope, scale and structure
A European directive with global implications
SRD II applies principally to securities with voting rights issued by companies that have their registered office in a Member State of the European Economic Area (EEA) and that are admitted for trading on a regulated market within a Member State.
Focusing on issuers of securities with voting rights that are traded in the EU and EEA, the SRD II sets out requirements for intermediaries, institutional investors, asset managers and proxy advisors.
However, the Directive also explicitly outlines its applicability to non-EU/EEA intermediaries that provide services in relation with in-scope securities. Similarly, the Directive applies to all shareholders of in-scope securities, irrespective of the shareholders’ location.
Key requirements under the SRD II
One of the key requirements introduced by SRD II is the Shareholder Identification Request. This sets the right for listed companies to identify shareholders and mandates intermediaries, such as custodians, to take a role in this process. Custodians are expected to disseminate disclosure requests to their customers that are considered as intermediaries. Each intermediary in the chain must also submit disclosure information directly to the issuers or their appointed agents in a timely fashion.
The Directive also aims at facilitating voting and exercise of shareholders’ rights. It requires intermediaries to transmit ‘without delay’ corporate actions and announcements of general meetings or proxy voting and to lodge clients’ corporate actions responses and general meeting votes to the next intermediary/agent in the chain.
Building the blueprint for your firm
The challenge of diverse interpretations
As an EU Directive, SRD II must be transposed into national law across all EU member states. Transposition, however, can introduce variations as each jurisdiction may interpret requirements differently. For example, a shareholder is defined in certain markets as the end beneficiary, while in others, it is the legal holder of a security, which could include a nominee.
For firms operating across borders in Europe and elsewhere, dealing with these nuances will be challenging, particularly if they wish to automate processes.
There are also variations in the threshold set for shareholder identification disclosure. SRD II sets a threshold range between 0.0-0.5 per cent, with each jurisdiction settings its own threshold. Those firms affected by the Directive and operating in multiple markets must adapt to this variation.
With SRD II coming into effect, firms need to focus on compliance with its requirements. For end investors, little action is required other than being aware of the Directive. For intermediaries, the SRD II’s impact is more significant and their preparations for its implementation would entail the following:
- Assessment. In looking at the how the Directive might apply to them, the issues for the firm to consider include whether they are based in the EU/EEA. If outside the EU/EEA, the next question would then be whether they deal with affected securities, and if so, the volume of affected securities.
- Information transmission. All parties are required to transmit information from issuers to investors along the chain of intermediaries in a timely fashion. This should not be an issue for most intermediaries as this can be considered very much ‘business as usual’.
- Shareholder information request. This is the main challenge for most participants as it is a much more formalised process than existing disclosure requirements in most markets. Machine readable and automatable formats are required to be passed from issuers, investors, and intermediaries. Firms must examine their ability to handle these requests from issuers or from agents. They must also be able to provide that request to a client and respond on behalf of a client directly to the requester. All of this must be done without delay.
Building the blueprint for the industry
Time to move to ISO 20022?
There is increasing awareness of the requirements of SRD II and the industry is undergoing a period of adaptation, with the emphasis on ensuring compliance.
The Securities Market Practice Group (SMPG) and the SRD II ISO Taskforce have worked together to develop ISO 20022-based message standards to support the SRD II obligations in terms of information request transmission and proxy voting.3 The developments comprise updates on eight existing messages for general meeting (formerly known as proxy voting) and the creation of five new messages for Shareholder Identification Disclosure.
The new ISO 20022 messages for general meetings will ensure the industry has messages that comply with SRD II provisions, especially with reference to machine-readable formats which allow for interoperability and straight-through processing (STP). Additional changes in ISO 15022 following the advent of SRD II are likely as SWIFT is scheduled to introduce a new indicator to flag SRD II-related events in its November 2020 standards release.
Over the longer term, there is potential for distributed ledger technology (DLT) to be applied to the shareholder information request. While some specialist proxy voting and disclosure-handling companies are exploring the use of DLT as a more efficient way of sharing shareholder information, in the interim, firms are more focused on meeting the minimum requirements of the Directive.
However, with securities market infrastructures also moving towards the adoption of ISO 20022, SRD II may prove to be a catalyst of more widespread take up of the standard.
Championing change with Standard Chartered
A work in progress
As a custodian, we are well prepared for the SRD II coming into force and can assist our clients with understanding and complying with its requirements.
Currently, ISO 20022 has not been globally adopted in the securities services industry. As such, it is unlikely that all participants in the chain – especially those outside the EEA – will be fully compliant with these new ISO 20022 formats by September 2020.
Standard Chartered Bank Securities Services has opted for a pragmatic and proportionate approach to this requirement and will support alternatives to ISO 20022, including SWIFT ISO 15022 messages, the Bank’s proprietary Straight2Bank and automated emails / files transfers.
Standard Chartered will continue to engage with industry working groups, such as the Association of Global Custodians and the SMPG, to ensure the industry moves towards a solution that can be further automated and made even more efficient.
1 Directive (EU) 2017/828 of the European Parliament and of the Council, 17 May 2017 https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A32017L0828
2 Action Plan: European company law and corporate governance - a modern legal framework for more engaged shareholders and sustainable companies, European Commission (12 December 2012) https://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=COM:2012:0740:FIN:EN:PDF