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Cai Jin

Protecting the investor from corporate malfeasance

The first step should be to identify the real and unique problems faced by investors here

When the code of corporate governance was last revamped four years ago, the corporate accounting scandals that afflicted some S-chips - China-based firms listed here - were still fresh in investors' minds.

Changes were made to the code to beef up the independence of the board and to tighten the definition of independent directors - "indies" for short.

This was to better safeguard the interests of investors who invest in listed firms whose businesses and assets are based overseas and whose bosses continue to be the controlling shareholders.

Now, the same issue of entrenched control in a listed firm has cropped up again, thanks to a vigorous debate in the local investment community over whether the Singapore Exchange should permit dual-class share listings here.

Although these shares offer the same economic benefits and rights to dividends as ordinary shares, they carry substantially more voting rights which enable their holders to retain control over a firm.

Against this backdrop, Mr Ong Chong Tee, the Monetary Authority of Singapore's deputy managing director of financial supervision, recently raised the issue of reviewing the code again.

The SGX Centre. The recent debate about dual-class share listings has thrown up the issue of firms that are steered by a controlling shareholder and the problems that minority shareholders face. Solving the dilemma will require a closer look at the u
The SGX Centre. The recent debate about dual-class share listings has thrown up the issue of firms that are steered by a controlling shareholder and the problems that minority shareholders face. Solving the dilemma will require a closer look at the unique dynamics of the local corporate scene. ST PHOTO: SEAH KWANG PENG

Packing the board with more indies isn't going to solve the problem if they are all going to be beholden to the controlling shareholder for the same reason.

It may be time to consider if we should be more discerning about adopting the "best market practices" on corporate governance in markets such as Britain. The "best market practices" which work there may not necessarily produce a similarly satisfactory outcome here.

As he observed, what is needed is a "balanced and progressive code that not only serves to enhance Singapore's corporate governance standards but is also pragmatic and workable in practice".

To the occasional investor, it is difficult to figure out what the fuss over the code is all about.

That is a pity. The code plays an important role in safeguarding his investments and makes sure that when the management's interests are not aligned with the company's, board members, appointed from outside the company, will be able to exercise objective judgment independently of the management.

This is because part of the code is devoted to criteria on how to select indies, making sure that they have no relationship with the company, its subsidiaries, management or substantial shareholders, which may impair their judgment ability. And while adherence to the code is voluntary, listed firms which do not comply will have to give reasons for failing to do so in their annual reports.

Yet, despite all these guidelines, some are less than enthused about the performance of indies in the local corporate scene.

As corporate governance expert Mak Yuen Teen noted in a recent article, indies can be classified into the "good, bad or ugly". One problem he raised is their lack of accountability if they fail to discharge their duties properly, and whether they make suitable safeguards, despite such a glaring shortcoming.

It would not be surprising to find, in any further review of the code, the role played by indies coming under the spotlight again and how the code's guidelines could be further improved to ensure they stay just that - independent.

However, I feel that even before any revamp of the code is undertaken, we should first review some of the assumptions used in framing the code in the first place.

Our code, like many others, takes its cue from Britain where a strong corporate culture has flourished revolving around a strong and independent board exercising oversight over the management.

One reason why indies have grown in importance in Britain is due to the dispersed manner in which shares are held, with each investor holding a relatively small percentage of the company. And because these shareholders seldom act as a group, they are unable to pin down the management on sensitive issues, and hence the need for indies to uphold their interests.

Here, the problems facing minority shareholders are quite different. In many firms, the founder still runs the show and owns a sizeable stake in the company. Very often, if a major problem erupts, the cause can usually be traced back to him.

Hence, the problem is not about keeping a dominant management in check but one of protecting shareholders from the controlling shareholder. This is a problem which surfaces over and again, whenever we face corporate scandals.

Examples would include S-chips where a boss can wield great power as he is also the company's legal representative, which gives him the right under Chinese law to execute agreements, transfer assets such as land and cash, and give guarantees on the firm's behalf.

At the last revamp of the code, one remedy was to require half of the board to be made up of indies if the same person is serving as chairman and chief executive, and to ensure that the indies are not linked to the company in any way.

But there is a structural flaw that remains to be remedied. We currently allow the controlling shareholders to vote during the election of the indies who are charged with oversight of the management.

That begs the question: How can we reasonably expect an indie to be independent of the management if the management is also the controlling shareholder who elects him to the board?

Packing the board with more indies isn't going to solve the problem if they are all going to be beholden to the controlling shareholder for the same reason.

It may be time to consider if we should be more discerning about adopting the "best market practices" on corporate governance in markets such as Britain. The "best market practices" which work there may not necessarily produce a similarly satisfactory outcome here.

What can be done?

It would be good if the debate over dual-class shares, where the issue of controlling shareholders has also cropped up, can throw up new ways to protect minority shareholders' interests.

To me, one option is to disallow controlling shareholders from voting during the election of indies.

This would ensure that whoever is elected would be acceptable to the minority shareholders, who could then look to them to exercise objective judgments on transactions where the interests of the controlling shareholder and the company are at variance.

As it is, such a structure already exists in some European markets such as Italy.

Related to this issue raised on the independence of indies is how they should be compensated for their efforts.

One problem which has cropped up time and again is the fees paid to an indie for his services, other than his director's stipend which has to be approved by shareholders. The worry is that all these other payments may cloud his independence of judgment.

Usually, this relates to fees paid for services rendered by a firm linked to the indie. But in some cases, this may also refer to the fees which an indie gets paid for sitting on the boards of the listed firm's subsidiaries. These fees are not subject to shareholders' approval and there is no breakdown of the payments in the annual report.

The code recognises that such fee payments may pose a problem and states that "payments aggregated over any financial year in excess of $200,000 should be deemed significant" enough to deem an indie as non-independent.

But providing a ballpark figure of $200,000 may oversimplify the issue. One question to ask is whether the guidelines ought to be tightened - especially if it turns out that the advisory fees which an indie is receiving are considerably higher than his director's stipend.

Of course, there may be other concerns that will need to be looked into, if the code comes under review.

But before we do so, we should seriously think hard about what problems exactly we are trying to prevent and how to solve them. Merely copying the so-called "best practices" of other markets, which operate under very different dynamics, will not achieve our purpose.

A version of this article appeared in the print edition of The Straits Times on October 10, 2016, with the headline 'Protecting the investor from corporate malfeasance'. Print Edition | Subscribe