UNDER the Companies Act 2016, all directors owe a fiduciary duty to act in the best interest of the company. However, the Bursa Securities Listing Requirements (LR) takes a more pragmatic approach by distinguishing independent directors (IDs) from non-independent directors.
Independent directors are classified as independent non-executive directors (INEDs) while non-independent directors are classified as either non-independent non-executive directors (NINEDs) or executive directors (EDs). A non-independent director who has no executive capacity is a NINED.
The non-independent directors are deemed so under the LR for a few reasons, for example they are holding more than 5% shares, they are EDs, they are nominee directors or they are ‘related’ to each other.
In each of these instances, it is obvious that they may face challenges to their independence. Though they can be independent, the LR is being objective by classifying them as non-independent directors.
It therefore becomes obvious why minority shareholders place a lot of hope and trust on IDs and why they are considered the last bastion of hope at the corporate level.
Major shareholders elect IDs: A paradox
Major shareholders can elect IDs – unlike in a related party transaction (RPT) – where interested directors cannot vote.
Thus, a shareholder who holds more than 50% stake in a company can elect IDs of their choice. And obviously, there may be a temptation for these shareholders to appoint friendly parties or subservient parties as IDs.
Minority shareholders cannot do much in such instance even when the elected IDs are evidently ‘friendly parties’ or ‘connected’ in some way as they have not breached the definition of IDs. These so-called IDs fulfil the definition of IDs in form but not in substance.
The most the minority shareholders can do is to question the board and the nomination committee during annual general meeting. This is the first red flag for minority shareholders – is the independence of the ID questionable?
Remuneration impacting independence
Sometimes, IDs are handsomely remunerated in exchange for their allegiance and patronage. These IDs are heavily dependent on the remuneration to the extent that they become dependent in substance while fulfilling the definition of IDs in form.
In fact, a true ID is one who is prepared to walk away from the remuneration if he/she senses something is not right – the ID is not dependent on the remuneration to balance his financial position.
ID resigns mid-tenure
Another red flag is the reaction of IDs, if any, when issues surface and how soon they react when these issues surface. These will be the tell-tale signs for minority shareholders when making informed investment decisions.
Every ID has his own risk threshold which will trigger his resignation and whistleblowing when problems arise in a company.
We have seen this in the corporate circles where some IDs resign at the first signs of trouble while others, due to their risk appetite, stay on and resign at later stages as the problems fester to varying degrees.
Minority shareholders, as investors, must perform their due diligence on the background and track record of IDs sitting at the Board of PLCs.
Prominent and reputable directors are of some comfort but is not an absolute guarantee. Angels who walk on to boards may turn out to be devils. Perhaps, continued due diligence is the order of the day when evaluating IDs.
Multiple resignations
Multiple resignations from the board – at any one time or consecutively in short interval – is another wake-up call especially when it involves IDs. The inference is that perhaps all is not well in the company and these directors want out before things blow up. This may be an attempt to avoid regulatory sanctions.
Resigning directors often cite boiler-plate reasons such as ‘pursuing other interests’ as the reason for their resignation. Maybe, they do not want to burn their bridges by stating the actual reason. However, minority shareholders and the stock market are often able to read between the lines and draw their own inference.
There are a few instances where the directors have the integrity to state the actual reason as to why they are resigning. Such resignations are surely another red flag to be considered by minority shareholders.
Three disciplines of good CG
The best discipline is to have self-discipline. There are companies, even those with major shareholders, which end up with IDs perceived by the market as independent. Both the major shareholder and the company have exercised the self-discipline to ensure this.
And if there is no self-discipline, the market will step in to discipline the PLC. When the market perceives that something is amiss – whether in the appointment of IDs or in their resignation – the market disciplines these PLCs by ‘sell-downs’ of the shares, both by institutional shareholders and even minority shareholders.
This can be quite painful, not only in terms of share price reaction, but also by damage to reputation which is easy to lose and hard to regain.
The third discipline is regulatory discipline whereby the regulators will impose their sanctions on the PLC and/or directors in their personal capacity.
Conclusion
Minority shareholders must do their due diligence, not only on the PLC but also on the directors of the PLC, especially the IDs who are the last bastion of hope for minority shareholders.
We all know that the company is a legal person devoid of emotions – it is the directors who manage the company. Since, it is the directors, under whose directions the company operates, it makes absolute sense to spend some time performing due diligence on the directors, especially the IDs.
It is said that there are two types of IDs – independent directors and independent ‘independent directors’ – of whom minority shareholders would prefer the latter.
Devanesan Evanson is the CEO of the Minority Shareholders Watch Group (MSWG).
The views expressed are solely of the author and do not necessarily reflect those of Focus Malaysia.
