CANADIAN UPDATE – Governance Insights 2013

Executive Summary:

This third annual edition of Governance Insights presents Davies’ analysis of the corporate governance practices of Canadian public companies over the course of 2013 and the trends and issues that influenced and shaped them.

We expect 2014 to be an active year for governance themes with greater calls for diversity on boards, a growing shareholder voice on “say on pay” resolutions, and further regulatory initiatives around proxy voting and the regulation of proxy advisory firms.  We also anticipate continued discussion on shareholder activism and scrutiny of the tools and strategies used by issuers and shareholders.

We begin our report by profiling Canadian boards and their membership in Chapter 1, Directors and Boards.  We expect additional calls – including from regulators – for reforms to foster diversity on boards and in management, including in the longer term the promotion of racial and ethnic diversity among Canada’s corporate leaders.  We observe that the most common profile for a director of a TSX 60 issuer remains a male in his early 60s and that there continues to be a significant deficit of women on Canadian boards, with only 10.5% of a subset of 3,275 board seats occupied by women in 2013.  We also review the different prescriptions suggested by regulators and investors for augmenting the presence of women on boards.

In Chapter 2, we review the Executive and Director Compensation practices of Canadian issuers and comment on the trends that we have observed over the last two years.  One important trend is the tremendous acceptance of “say on pay” practices as a tool for fostering shareholder engagement, particularly among larger Canadian issuers.  In 2013, just over 80% of TSX 60 issuers put say on pay resolutions forward, as compared to just over 50% in 2011.  We expect the practice of say on pay to gain momentum among the remaining issuers on the TSX Composite and SmallCap indices, partly at the urging of institutional investors, shareholder advisory firms and governance advisory groups.  On the flip side, we expect that shareholders will become increasingly more comfortable with using these practices to express their dissatisfaction for compensation and related governance matters, potentially resulting in more failed votes.  In our discussion, we suggest steps that boards should take to avoid being surprised by the result of a say on pay vote.

In Chapter 3, Shareholder Voting Issues, we provide an update on the status of regulators’ initiatives on proxy voting and the regulation of proxy advisory firms – two areas where further developments can be expected in 2014.  In 2013, there has been a growing awareness among Canadian securities regulators of the issues and challenges relating to the operation of the proxy voting system that Davies initially canvassed in our 2010 paper “The Quality of the Shareholder Vote in Canada”.  We also review the status and evolution year-over-year of issuers’ practices in the area of majority voting – a practice now firmly entrenched in Canada.  It remains to be seen, however, whether the prevalence of majority voting practices will translate into more shareholders withholding support from management nominees.  We also expect that by the end of this year, mandated majority voting will become the reality, and we discuss additional trends we expect to see in this area, including a greater push for under-supported directors to resign.

Directors of Canadian public companies will be increasingly exposed to shareholder activism of one type or another, making it more important than ever that they have a strong understanding of the rationales underpinning activism and the different strategies and techniques employed by issuers and activists in the context of shareholder engagement.  Shareholder activism and the success rate of dissident shareholders continued to rise in 2013, with the number of proxy contests in Canada growing from just five in 2003 to 30 year-to-date in 2013.  Activism is also emerging as a significant new asset class.  In Chapter 4, Shareholder Initiatives, we canvass the various reasons for these trends and some of the tools issuers and dissidents should be aware of, such as shareholder proposal and requisition rights, short slate proposals and universal proxies.  Our discussion sheds light on key trends and issues emerging in this area, such as the increased scrutiny on “vote buying”, director compensation by dissidents and “empty voting”, and the potential benefits to issuers of using advance notice by-laws to thwart ambushes by dissidents.  We also canvass recent judicial developments in this field.

The heightened focus on how issuers with operations in emerging markets manage risk that we observed in 2012 has continued into 2013, accompanied by important new developments in the area of anti-corruption legislation and enforcement.  These developments, some of which can serve as cautionary tales for boards faced with similar challenges, are highlighted in Chapter 5, Risk Oversight:  Operations in Emerging Markets.  Given the vigorous approach Canada is taking to combat foreign corrupt practices, boards of issuers, particularly those with substantial operations in emerging markets, should carefully consider their risk management approach to ensure a robust system and proper practices are in place to manage the risks of operating in foreign jurisdictions.

Canadian boards have long considered the shareholder rights plan a potentially effective tool for responding to significant stock accumulations or unsolicited bids.  In recent years, companies have been facing uncertainty as to when and if “a rights plan must go” as a result of some rights plan decisions by securities regulators.  In response, in 2013, two alternative proposals for regulating so-called “poison pills” have been put forward by the Canadian securities regulators:  one that would largely shift the decision of whether a rights plan remains in place to issuers’ shareholders, and the other focused on defensive tactics generally and affording boards greater deference in the exercise of their duties.  In our final Chapter 6, Rights Plans:  Governance Issues in Changes of Control, we discuss these two alternative approaches and key arguments on both sides of the debate.  Importantly, we conclude that both approaches would have a significant impact on the manner in which directors may respond to control offers, the strategies employed by bidders and the relative leverage that boards and bidders may possess in the future.

View the full article: Davies Governance Insights 2013.