For three years Australian directors have had to contend with the ‘two strikes’ rule regarding executive remuneration. Under the rule shareholders have the opportunity to spill a company’s board of directors if the resolution to approve the company’s remuneration report receives a ‘no’ vote of 25% or more at two successive annual general meetings (the 2S Rule). The 2S Rule was implemented by the Australian parliament to impose greater accountability on company directors when setting their remuneration packages in response to the GFC. However, recent experience suggests the rule is having a number of unintended adverse consequences and is not achieving the level shareholder protection originally envisaged.
Whilst it is true that the 2S Rule appears to have resulted in more responsible executive remuneration packages, the consequences associated with disgruntled shareholders exploiting the rule arguably outweigh the benefits. Chief amongst the concerns of directors and shareholders is the fact that many ‘spill meetings’ are doomed to fail before they are even held. This is for two main reasons:
- Directors (and their “closely related parties”) are not entitled to vote on their remuneration packages but are entitled to vote at the spill meetings. This means that companies managed by boards with large shareholdings will almost never pass a spill resolution.
- Retail and small-scale investors are frequently ignorant of the process or are simply not sufficiently engaged in the company’s affairs, with the result that they abstain from voting on the spill resolutions. This means that institutional investors are given more clout at the expense of the ‘mums and dads’, who are precisely the type of investors the 2S Rule is designed to protect.
We are also seeing a trend of large minority and activist shareholders exploiting the 2S Rule in order to disrupt a company’s board, often for reasons that have nothing to do with remuneration. This results in companies having to allocate significant time, effort and resources to prepare for the spill meeting which distracts from their core activities. Ironically, shareholders bear the brunt of such strategising through the company having to deal with non-core issues.
So, whilst the 2S Rule may result in more responsible executive remuneration packages, it does so at a cost. The conclusion of the 2013 AGM season will be an opportunity to revisit the rule’s effectiveness.