Shareholdings by non-executive direc-
tors in companies on whose boards they sit is thought to encourage directors to increase their focus on company performance and share value.
This can benefit all shareholders, and is in principle, supported.
Indeed, statistical evidence from the USA, referred to in the 1995 National Association of Corporate Directors blue ribbon commission report on director compensation, suggests that companies with high median levels of share ownership by directors are more successful than companies with lower levels.
From the director’s perspective they need to be aware of the following implications:
? Any shareholding should be compatible with their own financial resources and personal circumstances.
? Their freedom to deal with the shares is subject to number of constraints:
– the prohibitions on insider trading by directors of companies that are public issuers (including listed companies) contained in the Securities Amendment Act 1988;
– the procedures approved by the Securities Commission for the buying and selling of shares in public issuers by directors (and employees) contained in the Insider Trading (Approved Procedure for Company Officers) Notice 1996;
– section 149 of the Companies Act 1993, in relation to companies other than those to which the insider trading provisions of the Securities Amendment Act apply, which allows directors with inside information material to the value of shares to acquire or dispose of those shares only where fair value is given or received;
– section 148 of the Companies Act which requires directors of all companies to disclose to the board any acquisition or disposition of shares in the company and to ensure that the disclosure is entered in the company’s interests register;
– minority holdings in closely held companies are generally less marketable than holdings in widely held companies, particularly listed companies.
The New Zealand Stock Exchange listing rules require details of the holdings of directors (and associated persons) of listed companies to be disclosed in the annual report. Even if all legal and regulatory requirements are complied with, directors should be conscious of potential perceptions of the use of inside information.
With these implications in mind companies need to recognise that if directors are compelled to hold shares in the companies they direct then good candidates could be dissuaded from taking up appointments. On the other hand, shareholdings should be encouraged.
What size?
If directors are eligible to acquire shares through share or option scheme designed for executives of the company their judgement on scheme features may be affected.
Because the size and structure of companies and the personal circumstances and philosophies of directors can differ so markedly it is not practicable to specify an ideal number or proportion of shares that directors should hold in every situation.
Although the interests of the company as an entity, and its shareholders, usually coincide, this isn’t necessarily always so. Conflicts can arise, for example, when dividends are to be authorised.
Directors’ fundamental duty, prescribed by law, is to always act in good faith in what they believe to be the best interests of the company. This raises the question of whether the interests of shareholders in dividend is the same as the interests of the company.
Traditionally the law regarded shareholders as body as “the company” for such purposes and the constraint on dividend policy was the prohibition against paying dividends otherwise than out of profits. Until the effect of the 1993 Act on this principle becomes clearer, caution is recommended.
Procedure
A formal policy on share ownership by directors should be established and disclosed to shareholders in, say, the annual report.
This should include:
? The company’s views on the merits of share ownership by directors.
? summary of the applicable law in readily understandable terms.
? Details of any arrangements to encourage ownership (for example, through an allocation of portion of directors’ fees).
Although the procedures set out in the Insider Trading Notice apply to shares of public issuers only, it’s recommended that the essential features, with some modifications, be adopted by other companies.
These features of the notice are:
? Before buying or selling shares the director ensures that the counter-party is aware that he or she is dealing with director;
? Before buying or selling shares the director gives notice to the company, including details of shares involved.
Statements that:
– the decision to buy or sell had not been made on the basis of inside information;
– where shares are bought, they aren’t intended for sale within six months;
– the director believes the transaction to be at fair value.
This should also include confirmation that the board is not aware of any director-held information that would make the transaction unfair.
The company, acting through the board or through an authorised officer, considers the request and, if satisfied with its veracity, may give the requested confirmation.
If the confirmation is forthcoming, the transaction must take place:
a) within limited period after confirmation is given, and
b) within specified periods after the usual regular announcements of the company’s financial results.
Where rights issues, bonus shares and shares in lieu of dividends are transferred, although notice is given to the company beforehand the company’s confirmation is not required.
Peter Webb is director of Policy and Research at the Institute of Directors. This article is one of the Institute’s Best Practice Statements. The set of 28 is available for $200 or $7.50 each from the Institute of Directors, Box 7436, email [email protected]
