Recently, a regional bourse asked us to participate in the consultation of its proposal to set up a specialised corporate governance board for listed securities.

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From what we understand, there are four main factors driving the move:

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● Its equity market is still weighed down by queries as to whether it is accountable and transparent enough. With such a board, the bourse would send a signal to the global community that these selected listed companies adhere to globally respected standards of corporate governance;

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● The board would set apart companies that are ethical and fair to their shareholders from those that are not. This will bolster the bourse’s reputation as well as investors’ confidence too;

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● Having this board would put pressure on the bourse (which itself is a listed entity) to polish its best practices too; and

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● This new emphasis on corporate governance will be key to unlock the potential stored in many medium-size, family-owned companies – currently shunned by most investors in favour of their bigger and richer competitors – provided they do business in an accountable, open, clean and sustainable way.

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What then is our overall view? Well, we hope that the corporate governance board will encourage both well-run local companies to list and responsible international investors to support this new board strongly.

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As we have clients who are responsible, long-term owners of corporations, we welcome any move that nudges companies to be more accountable to shareholders.

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The board is a good move because shareholders prefer companies which respect them by keeping them informed of why they do what they do.

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With continued support, such companies will likely enjoy greater long-term value and a lower cost of capital.

 

Still, the new rules go far but perhaps not far enough. We have been disappointed by the failure of such initiatives in other emerging markets when positive rules such as these have not been enforced.

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Within the consultation paper, one of the issues that stand out is the issue of related party transactions.

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To the uninitiated, a related party transaction is simply a business deal or arrangement between two or more parties who have a special relationship with each other prior to the deal.

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Such a special relationship creates potential conflict of interest which can result in actions that benefit the people involved as opposed to shareholders.

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Such deals are very common across Asia and play a significant role in undermining investors’ confidence in a company and an entire stock market.

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We look forward to the new board training its “eagle eye” on such transactions and dissuading companies from trying to cheat minority shareholders for good.

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The developers of the board are suggesting a listing requirement that limits related party transactions at a threshold of 2.5% of net assets and that independent directors should oversee any related party transaction.

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The current bourse listing requirement, though, is double that – that is, at a 5% threshold limit.

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With that in mind, we are not convinced that the suggested 2.5% limit is effective enough to capture all significant transactions. We also have reservations that independent directors alone can ensure that companies toe the line.

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We would advise that stricter mechanisms for fuller disclosure and tighter checking be put in place especially for minority shareholders to monitor such iffy transactions.

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This is especially pressing because many local companies are family-owned, meaning the same members of a family are top officers and majority shareholders in such corporations.

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If one is serious about embracing best practices, we would suggest that the bourse in question build the following into the upcoming board:

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● Give full and frank disclosure: Send a circular on related party transactions to shareholders, as well as disclose all details of such transactions in the company’s annual report;

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● Get shareholders’ approval: Independent shareholders who attend a company’s annual general meeting must approve related party transactions. Plainly, those shareholders who are involved in such related party deals must abstain from voting on them; and

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● Get the auditors to work harder: Company officers should give its auditors enough access to its records of related party transactions for the latter to be able to do a deep and considered analysis of such deals. The auditors should then confirm the details of such transactions in the company’s annual report.

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We are hopeful that the soon-to-be board will draw investors back into this region and perhaps, even get other regional stock exchanges and their regulators to sit up and follow suit.