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Shareholder Activism: Balancing Accountability and Effective Governance

Posted on 5 January 2022

"Shareholder activism", in its various forms, has received substantial media attention in recent years, and is an issue about which companies and investors are increasingly mindful. The political and economic background of the last fifteen or so years, as a result of events including the Global Financial Crisis, Brexit, and the COVID-19 Pandemic, has led to greater caution and involvement by investors, resulting in greater engagement with company performance. Additionally, developments in technology have democratised investment, both by making it easier than ever to buy shares and access investment information, and to coordinate with other shareholders on how to build consensus and drive change. 

Shareholders in companies in England & Wales enjoy a range of legal rights through which they can make their voices heard by, seek greater transparency from, or bring a claim against the companies in which they are invested. Most of the tools available to shareholders in English companies are rooted in the Companies Act 2006 ("CA") and the Financial Services and Markets Act 2000 ("FSMA"). Therefore the broad concept of "activism", which can often have a pejorative connotation, actually covers legitimate engagement and the exercise of statutory rights. 

The most high-profile shareholder activism usually involves publicly listed companies, where shareholders' rights may be exercised in conjunction with non-rights-based actions such as press campaigns and open letters.  However, one should not overlook the rights and powers exercisable in respect of private companies. Private companies account for trillions of pounds of shareholder value in the UK, and the vast majority of corporate disputes that come before the courts relate to private companies.     

Underperforming Companies

Shareholder activism often targets underperforming companies, with investors seeking to compel their boards to take action (or refrain from doing something) via their shareholders' statutory rights. These powers are often the first to be invoked by investors trying to effect change or seeking to ensure a company is being run properly. 

These shareholder rights are balanced against the powers and duties of directors, in particular as set out in ss.171 – 176 CA.  The tension between the competing rights and duties of shareholders and directors is at the very heart of shareholder activism litigation – for example in Eclairs Group Ltd v JKX Oil and Gas Plc [2015] UKSC 71. In this case a group of shareholders were suspected of being "corporate raiders" seeking to destabilise and acquire the company. The company took various steps to stop them from doing so, including serving restriction notices on them under the company's articles. Restriction notices such as these are typically included to be used as a final step if a shareholder does not comply with a notice from the company asking for information about the holders of its shares (a section 793 notice). The Supreme Court found that those steps were in breach of the requirement (under s.171(b) CA) that a director of a company must only exercise powers for the purposes for which they are conferred. Their proper purpose was to remedy a failure to comply with the section 793 notice, and not to influence the outcome of the next shareholder's meeting.

All shareholders enjoy certain statutory rights. However, a 5% shareholding is a key threshold, above which greater legal rights become available to the shareholder, enabling them to influence the company more effectively. A shareholding at this level enables the shareholder to: require the company directors to call a general meeting and suggest the text of a resolution (s.303-305 CA); for public companies, require a resolution to be put before an AGM (ss.338-340 CA); and circulate a thousand-word statement on a given matter at a general meeting (ss.314-317 CA).  A 5.5% stake in Barclays Bank, for example, enabled activist investment fund Sherborne Investors to elect Bramson to the board of directors at the 2019 AGM, and to attempt to remove the incumbent CEO in an effort to increase Barclays' share price. While these actions attracted significant media attention, they did not achieve their objectives, and Sherborne sold its shares in Barclays.

Responsive Activism

Shareholder activism may also be aimed at recovering losses suffered as a result of an investor's shareholding. 

For shareholders of listed companies, ss.90 and 90A of FSMA provide potentially powerful tools for litigation. S.90 FSMA is an important check on the accuracy of listing particulars and prospectuses.  It provides a course of redress to anyone who acquired securities offered under those documents, and suffered loss as a result of any misleading or untrue statement, or material omission. The action may be brought against any person 'responsible' for the document, which includes the issuer and others, such as the directors named in the document as being responsible for it. The cause of action is established if the shareholder can establish: (i) the fact of the misleading statement; and (ii) their loss. There is no need to prove reliance on the published material, or even that the shareholder read the prospectus. However, there is a defence if the issuer or other person responsible reasonably believed (after making reasonable enquiries) that the statement was true at the time it was made, or that the omission was properly omitted. This cause of action was relied upon by the claimants in the RBS rights issue litigation. In that case, the shareholders claimed that the listing prospectus for RBS' £12bn rights issue in 2008 contained untrue and misleading statements and omissions.

S.90A FSMA concerns the liability of issuers for the publication of untrue or misleading material in a wider range of announcements made to the market which may be relevant to the company's performance, financial or otherwise. It enables shareholders who have suffered loss in reliance on that material to claim compensation. The scope of the types of published material is considerably wider than for s.90 FSMA, and includes annual report and accounts, and interim reports. As considered later in this article, these reports contain not just financial information, but directors' reports, strategic reports, and corporate governance statements – any of which might form the basis for a claim under s.90A FSMA. However, unlike claims under s.90 FSMA, a claimant must demonstrate both that the statement or omission was relied upon by the shareholder, and that it was made deliberately or recklessly. Given this higher threshold of evidence, s.90A FSMA is not frequently invoked, although the provision was relied upon in the high-profile Tesco shareholder litigation.

Finally, the most widely used shareholder remedy in the context of private companies is unfair prejudice petitions under s.994 CA. This provision enables any shareholder to bring a petition against the company, its directors, and other shareholders on the ground that the company's affairs have been conducted in a manner that is unfairly prejudicial. The unfair prejudice can be to the interests of the members generally, or some part of the company's membership, including the petitioner. This is therefore a very wide-ranging provision. Under s.996 CA the Court is granted a very wide discretion as to the remedies for unfair prejudice. Engaged and active shareholders should invite the court to make full use of this discretion to enable the ongoing regulation of the company's affairs. 

Activist shareholders may also pursue a derivative action against the company under Part 11 CA. However, these claims are rare, both due to their complexity and also because the shareholder is not directly compensated if the claim succeeds, as the claim is brought on behalf of the company. Given the flexibility that the court has in ordering remedies under an unfair prejudice petition, this is generally a preferable and simpler route for a shareholder to pursue.

Activism on ESG Issues

A key trend in shareholder activism in recent years is activism in relation to Environmental, Social and Governance ("ESG") issues. The objectives of such activism are wide ranging. They are generally concerned with non-financial issues, such as environmental impact, equality and the diversity of the workforce, and accountability and transparency. However, research has shown that a strong record on ESG leads to improved cash flow for companies in a number of ways, including facilitating top-line growth and minimising regulatory and legal interventions. Therefore such activism can have a positive financial, as well as a societal, impact.

High profile examples of shareholder activism on ESG issues have generally been pursued using non-rights based means, such as national (or even international) media campaigns and communications with other shareholders. The "Say on Climate" Campaign is a high profile example of this, which encourages investors to propose and pass resolutions requiring annual disclosure of a company's emissions, and related measured to cut those emissions. This campaign, with strong backing from large asset managers, has resulted not only in shareholder resolutions on environmental issues, but in those resolutions being proposed by the company boards themselves. Such campaigns are sometimes deployed in parallel with litigation pursued by other stakeholders seeking similar outcomes. For example, following a claim brought by environmental charity Friends of the Earth, a Court in the Netherlands recently ordered Royal Dutch Shell to substantially cut its global carbon emissions. It now faces related demands from shareholders to cut carbon emissions and increase returns for shareholders.    

There is, however, no reason in principle that an activist investor in a UK company could not bring a claim in relation to ESG issues under their statutory rights as a shareholder. For example, it might be possible to bring a claim under s. 90A FSMA in relation to statements or disclosures given by the company which relate to their ESG credentials. The only requirement would be that the claimant(s) could show that they relied on those statements when deciding to invest (or continue to invest), and that they suffered loss as a result. Considering the momentum behind shareholder activism on ESG issues, and especially on environmental issues, we may begin to see shareholders exercising these rights through litigation to hold companies to account on their ESG credentials. 

Conclusions

The company law framework in England & Wales provides engaged and active shareholders with a number of routes through which they can effect change at the companies in which they are invested. These rights potentially enable investors to achieve a range of outcomes, from direct financial compensation, to improved financial performance, or greater delivery on ESG issues. Activist investors and their advisers are continually becoming more creative, using litigation alongside other means to achieve their objectives as shareholders.

The writers of this article recently gave a talk looking at these issues and more in greater detail, which can be viewed online through Lexology here. (Registration required)

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