Stewardship code wins wide support

29th October 2010

The first of its kind in the world, the code is likely to be a benchmark for global investing practice.  Last week, the Financial Reporting Council said 48 asset managers, 12 asset owners and 8 service providers are fully behind the code. The backers includes some of the biggest names in the investment and pension fund industries.

The code sets out how dialogue between companies and their investors should work. For those of a technical leaning, it is laid out here in full. All asset managers that have signed up have to state publicly what they are doing to comply with the code and it means that anyone can examine institutional investor practice on good governance.

Need for code

The Code was launched in response to criticism of large investors during and after the credit crunch that they should have done more to prevent corporate mis-management. The most obvious case was in the banking sector, but there have been considerable concerns about pay, governance and risk management elsewhere as well.

Thomas O'Malley, corporate governance analyst at HSBC Asset Management, says: "The Stewardship code is about identifying good practice and encouraging investors to be clear about their approach. It is also about how they will monitor companies and engage with them it and what they will do if it that doesn't work."

He adds: "The findings of the review of the Corporate Governance code found that the existing system was the right system, it just needed the structures to work better…The Stewardship code more clearly defines the role of investors."

Shareholder collaboration

Perhaps one of the most important aspects of the Stewardship code has been the extent to which it emphasises collaboration between shareholders. Companies have always been more inclined to back down when faced with unified shareholder pressure – the Prudential/AIA deal being the best recent example. By improving collaboration structures, the Code aims to reduce the ability of companies to ‘divide and rule' when confronted by investors pressing for management changes. It also offers a way to bring in international shareholders such as sovereign wealth funds, who are often significant owners of UK companies.

The code also helps establish the lines of responsibility between companies and investors. There has been pressure on shareholders to micro-manage companies where corporates have run into trouble. Fund managers do not want to be held responsible for running companies. The Stewardship code clearly lays out the investors' role as one of supervision rather than day-to-day management.

O'Malley says that there is a danger that if the code does not work, the regulators will seek to reduce the role of institutional investors in corporate governance. He says: "Most UK shareholders would resist this. The advantage of the 'comply or explain' model in the UK is that companies can do things in their own way and then explain. The owners can then agree or disagree."

Enthusiastic support

Ultimately everyone has a vested interest in the code succeeding. This is why the code has received enthusiastic support from industry bodies – the IOD ; the AIC   and the IMA -.

It certainly creates some administrative headaches for asset management companies, but it is better than the alternative. No-one wants legislation to take power away from asset owners. For investors, fund managers becoming more active in monitoring corporate poor practice should ultimately improve risk management and over the long-term may improve returns.

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