Risk & Governance Weekly

Governance Reforms on the Rise in Spain

By Germán Vargas, Global Research Analyst

Spanish companies have begun committing to greater board independence and the unbundling of director elections because of a new corporate governance code that comes into effect this year. Though Spanish companies do not often disclose their efforts to recruit independent directors or detail their executive pay practices, more firms likely will seek to improve their governance in 2008.

In 2006, a number of Spanish corporate governance experts--including the Comisión Nacional del Mercado de Valores (CNMV or National Stock Market Commission)--published the Código Unificado de Buen Gobierno (Unified Good Governance Code). In crafting the code, Spanish authorities were also influenced by the European Union, which is putting pressure on all member and prospective-member nations to have companies in their markets comply with corporate governance best-practice guidelines. The EU does not employ a unified set of governance guidelines, but many member nations, like Spain, follow recommendations like those in the Organisation for Economic Co-Operation and Development’s Corporate Governance Principles and the principles of the International Corporate Governance Network.

Spanish companies could begin complying with provisions of the code when it was introduced in 2006. Although the recommendations in the code are not legally binding as it becomes effective this year, it states that companies should “comply or explain,” that is, each company must provide a corporate governance report stating whether has adopted the tenets of the code, and, if not, the reason(s) for noncompliance. Companies began to add resolutions to implement code provisions last year, but in 2008 the rate of voluntary compliance likely will rise, especially in the areas of board composition and shareholder rights. The Spanish proxy season begins in late April and peaks in May.

The code covers board composition, operation, and reporting to shareholders. Recommendation 15 of the code highlights the importance of women in Spain’s economy, particularly in managerial positions, and emphasizes the need for companies to seek out female candidates to fill vacancies on their boards of directors. Though the code specifies that gender diversity is a managerial responsibility, so far, no companies have put forward specific proposals on director diversity issues.

Recommendation 13 calls for at least one third of a company’s board members to be independent of management and major shareholders. However, it will be difficult to assess how many companies are actively pursuing greater board independence as opposed to those that end up with more independent boards this year because of the departure of an executive or shareholder representative from the board. Spanish companies largely do not announce to shareholders their intent to bring on more independent directors.

Under Recommendation 5, all directors should be elected with a separate resolution, rather than bundled together as one slate. Although this recommendation still falls under the comply-or-explain guideline, the unbundling of director elections reflects a new emphasis on shareholders’ right to vote on proposals individually. There is a similar trend among Spanish companies to present article and bylaw amendment proposals as separate requests. As of the end of 2007, most Spanish companies put forward individual resolutions. Some of the companies that have unbundled include telecom provider Telefónica, Banco Santander, and utility company Iberdrola--which first offered separate resolutions in 2007. Firms that still have bundled resolutions in 2008 include insurance company Mapfre, construction materials firm Grupo Uralita, and electric utility Red Eléctrica de España.

Finally, Recommendation 40 suggests that a “Director Remuneration” report be put up for shareholder approval annually. This year, the first year in which Spanish companies have put remuneration reports before shareholders, about eight have gone to a vote.

According to the code, an ideal report would include details of the remuneration for board members, the remuneration suggested by the board/compensation committee for the company’s executives, and changes to the company’s remuneration policies in the past year. A report would also include, when appropriate, planned remuneration policies for the future. Although the shareholder vote to approve this report is not binding, the level of disclosure and the possibility for shareholders to express their discontent with a company’s compensation policies are both significant steps toward improved governance, in line with changes made in other markets over the past few years. The United Kingdom and Australia have implemented mandatory annual non-binding votes on executive pay, while such votes are binding in the Netherlands and Norway. The issue is also receiving a great deal of attention in the United States (where seven companies have agreed to put an advisory vote on executive pay on the ballot) and Canada.

Spanish companies include director pay information in their annual reports, but the disclosure standard varies by firm. Most include general information that is focused on director as opposed to executive compensation. However, a few companies, like Banco Español de Crédito (BANESTO), this year provided detailed information on performance criteria, share-based compensation plans, and peer groups.

Advisory pay vote resolutions have differed greatly so far this year. Investors were asked to vote on a general remuneration report at BANESTO on Feb. 26, and at recycling company Befesa Medio Ambiente and commercial bank Bankinter on April 17. Pay reports for directors only went to a vote at Mapfre on March 8 and television production firm Gestevisión Telecinco on April 9--and will be voted on at paper manufacturer Iberpapel Gestión on June 6.

It is still unclear as to how Spanish companies would react if a majority of shareholders were to reject a remuneration report proposal. All resolutions have received majority support thus far, according to company reports.

Shareholder Activism

Investor activism in Spain is relatively unknown, and it is difficult to gauge the effect that the corporate governance code’s publication has had on the level of shareholder participation in the Spanish market.

Shareholder proposals are not governed by the code, but are regulated under a 2005 amendment to the Spanish Corporate Law. Shareholders owning 5 percent or more of a company’s stock can submit resolutions to be included on the ballot, and proponents must submit ballot measures within five days of the company’s publication of its original meeting notice.

Instances of investor-sponsored proposals are very rare, but the number appears to be growing. In 2007, a few large Spanish companies--including mortuary services firm Funespaña, equipment and vehicle rental company General de Alquiler de Maquinaria, real estate developer Metrovacesa, and Vueling Airlines--had either shareholder proposals on their ballots or called special meetings to accommodate those proposals. Investors at Funespaña, Metrovacesa, and General de Alquiler de Maquinaria put forward proposals asking for director elections.

So far in 2008, one special meeting was called by shareholder Viviendas Jardin Origen at residential and commercial property developer Inbesos. After large company stakeholders--some from Inbesos’ founding family--made an agreement to sell a collective 55.2 percent stake to residential construction firm Grupo Horcona in October 2007, Viviendas called a meeting with resolutions requesting that the company disclose all relevant details of the transaction--including the legal research and due diligence performed before the purchase agreement, and why a rights issue wasn’t made to existing shareholders first. The company reported that a majority of shareholders voted in favor of all of the Viviendas resolutions at the March 7 meeting.

Even though shareholders are submitting more proposals, investors may not learn the details of a particular proposal, especially at regular annual meetings. Companies must include shareholder resolutions in the meeting notice, but are not required to include information such as proponent name, affiliation, and supporting statements.

International Editor Rob Yates, International Analyst Etelvina Martinez, and Staff Writer L. Reed Walton contributed to this report.