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E-MailChristoph Van der Elst is Professor of Business Law and Economics at Tilburg Law School and Ghent University; and Anne Lafarre is Assistant Professor at Tilburg Law School. This post is based on their recent paper.
Current shareholder engagement systems face large classical inefficiencies. The involvement of intermediaries in the exercise of fundamental shareholder rights such as voting, resulting in mistakes and costly court cases, shows the “absurdness” of the current systems. In our latest paper, we provide new arguments that blockchain technology has the clear potential to solve many of the current problems.
Let’s start with an example. When DNick Plc’s annual general meeting (“AGM”) approved the resolutions to cancel its listing, a group of minority shareholders started an appraisal procedure. The shareholder register only included two shareholders: the CEO of DNick and the Bank of New York Depository (Nominees) Ltd (“BNY”). BNY, the common depository agent, held the shares on trust for the account holders with Clearstream, which is the central securities depository (“CSD”) subsidiary of Deutsche Börse, where DNick was listed. Clearstream Interests (“CIs”), held by banks and financial institutions, were traded on the Deutsche Börse. Hence, when the minority shareholders of DNick started the appraisal procedure, it were only customers of the banks that held the CIs, and, in accordance with section 112(2) of the UK CA 2006, stating that “[e]very other person … whose name is entered in its register of members, is a member of the company”, they were not members of DNick. Moreover, DNick’s articles of association stated that only the holders of an account with Clearstream were allowed to vote in general meetings or appoint a proxy. As the banks and other financial institutions that held the CIs voted in favor of the delisting, the application to the court for the cancellation of the resolutions pursuant to section 98 CA 2006 was not open. The minority shareholders of DNick Holding saw their appraisal case dismissed.
Unfortunately, the case of DNick’s minority shareholders is not an isolated case. Shareholders at the other side of the Atlantic have encountered similar problems. We can point at the unfortunate experience of T. Rowe in the appraisal procedure against Dell, Inc. and the unclear—and probably wrong—voting results calculations in the proxy fight between private investor Michael Peltz and Proctor & Gamble.
Just like Vice Chancellor Laster of the Delaware Court of Chancery in his keynote speech for the Council of Institutional Investors in September 2016, the European Union recognizes the current inefficiencies in the intermediated shareholder engagement systems, and adopted the Revised Shareholder Rights Directive in 2017 to facilitate the exercise of shareholder rights and shareholder engagement. It contains inter alia new provisions for the identification of shareholders, the transmission of information between shareholders and the issuer, and the exercise of shareholder voting rights. The accompanied draft implementing Regulation of April 2018 already hints at modern technologies to increase the transparency and verifiability of shareholder engagement.
Obviously, there are more problems with our current shareholder engagement systems. AGMs and other general meetings are the primary (formal) place for shareholder engagement. While previously shareholders were voting in person at the meeting or were represented by another person, nowadays, the vast majority of the shareholders cast their votes electronically or authorize the chairman of the meeting, sometimes long before the meeting takes place. Notwithstanding the problems with the chains of intermediaries, the practice of remote voting can cause several problems. A direct consequence is that voting information, often including the final results, becomes available to some corporate insiders before the meeting takes place. This creates clear information asymmetries and impediments to the importance of the physical AGM.
Another problem is that voting items can be substantially changed during the course of the AGM. As described in our paper, the recent takeover of GKN Plc by Melrose Industries Plc shows a textbook example, resulting in the odd situation that shareholders that used the remote voting tool actually casted their votes for one director, but de facto “elected” another director.
And there is more to the story. Institutional investors and other larger shareholders have the opportunity to get in touch with corporate boards and representatives during private meetings and conversations outside AGMs. As the AGM is the place were also small private investors have the opportunity to ask questions and directly engage with the corporate board, the current shareholder engagement system creates inequalities and hinders a true shareholder democracy.
The solution to these substantial problems lies in a state-of-the-art technology. Blockchain can be described as a distributed ledger that can store transactions between parties in a verifiable and immutable way. In a public blockchain, new transactions are broadcasted to the network and are, together with the proof of work of the previous block, the new proof of work, and a timestamp added to the blockchain in a new block, thus chaining all blocks together.
We argue that the use of private (or permissioned) blockchain technology is key for the involvement of shareholders. Although both public and private blockchains are decentralized and the replica ledgers are synchronised via a consensus mechanism, the permissioned blockchain technology allows for a pre-selection of the participants based on the satisfaction of certain requirements or on the approval by an administrator that can be called “The Permissioner”. Participants thus need to have “permission” for their activities. We suggest using a permissioned distributed ledger to constitute a set of rules for shareholder voting, including majority requirements and access rights, so that shareholders can exercise their rights in accordance with the applicable corporate law framework and the company’s articles of association.
The advantages of blockchain technology for shareholder engagement systems are versatile. First of all, as blockchain technology ensures that the data is stored on a distributed ledger in a verifiable and immutable, there is—at least in theory—no need for any intermediary anymore to establish trust between the issuer and its shareholders. Shareholders will be able to verify that their vote is included in the voting outcome. Next, blockchain technology can harmonize shareholder engagement opportunities by offering a common and lean discussion platform for shareholders and board members.
The large amount of initiatives and prototypes of blockchain proxy voting and trading, including the legislative initiatives that were initiated for example in the US and France in the past two years that we discuss in our research, show the merits of using this state-of-the-art technology. However, some important (legal) questions remain. In addition to the questions posed in our previous post, it remains an open question who can act as The Permissioner in this new shareholder engagement system and what the role of CSDs will be. A smooth transition process will be pivotal for the success of such a new system, but current legislative initiatives seem promising.
The complete paper is available here.
