What Are the Laws of Directors Remuneration in Australia - Coursework Example

Word Count: 2993 [Name of the Student] [ID Number of the Student] Remuneration to Directors in Australia Remuneration has been defined under the provisions of the Corporations Act 2001 at section 9, in the following manner. It should be a benefit provided to an employee or officer of a corporation that is remuneration in the context of an accounting norm. Such accounting standard should pertain to disclosures in the financial reports of the company that deal with the remuneration of directors.1 The Australian community had been deeply concerned with the practice of paying exorbitant amounts as executive pay to directors who indulged in reckless business risks. This sentiment was reiterated by the Australian government, which has expressed its commitment to making certain that the regulations relating to executive pay conform to the expectations of the community and international best practice.2 In order to achieve this objective the Australian Government has plugged several of the loopholes in the framework pertaining to the remuneration of executives. Moreover, the government had adopted measures that would permit shareholders to reject excessive termination benefits to the directors and executives of companies.3 The Australian government has been commended for the reforms that it has brought about through the G20. The Australian Prudential Regulatory Authority implements the latter with regard to national financial institutions. However, a major lacuna with the system is that there is legislation that mandates directors and executives to repay bonus amount that had been disbursed on the basis of financial statements that had been deceptive. Such reconciliation is impromptu and has little if any bearing on governance oversight and could even have the undesirable outcome of legitimising deviant corporate behaviour.4 As such, there have been proposals to reform the relevant legislation, and this could enhance accountability. However, there are serious misgivings that these initiatives could significantly change the extant corporate culture that promotes aberrant ideas regarding individual entitlements. 5 This proposed legislation has been opposed by the corporate sector on the grounds that external supervision would be difficult to administer and that it would interfere to an unwarranted extent. It has also been contended that the remuneration of executives lies in the realm of internal governance. 6 In this context it is to be borne in mind that there should be a correlation between pay and tangible performance. In the absence of such correspondence, the conclusion that emerges is that the board culture promotes and preserves a mechanism that ignores financial and moral issues. 7 However, a significant amount of change has been engendered by the Corporations Amendment Act 2011. These changes concern the procedures related to executive pay, empowerment of the shareholders to render directors accountable for decisions regarding remuneration to executives, and new requirements in the area of engagement and interaction with remuneration consultants. In addition, this Act imposes important voting restrictions on executives and the management, with regard to remuneration issues, and it also proscribes certain practices related to remuneration. Furthermore, the Corporations Amendment Act 2011 has a major bearing on areas, such as the practices of the Board in prescribing Board limits and the determination of proxy votes. 8 Moreover, the Corporations Act 2001 mandates that the remuneration report of a listed company has to be put to a non – binding shareholder vote at the Annual General Meeting. All the same, this Act has not stipulated the consequences for adopting remuneration policies by a board, when the shareholders have not voted in their favour.9 In addition, this Act introduced a two – strikes and re – election process. The first strike relates to a situation, in which a remuneration report of a company is voted against by a fourth or more of the shareholders. In such cases, the subsequent remuneration report has to incorporate an explanation regarding the proposed action of the board. The second strike pertains to the subsequent remuneration report that receives the approval of less than 25% of the shareholders.10 After the ASX Corporate Governance Principles and the ‘if not why not regime’, the 2 strikes rule has emerged as the most important reform to corporate governance in Australia. With this change, stakeholders and shareholders were provided with a powerful means of opposing company boards that ignored their preferences while implementing remuneration practices. 11 Moreover, this would permit shareholders to remove a director or a board, in the event of the structure and quantum of remuneration not being addressed in a satisfactory manner. In particular the two strikes rule will enable shareholders to vote out the directors of a company, if a fourth or more of these shareholders oppose the remuneration report in two consecutive Annual General Meetings. Furthermore, a close correlation has been established, due to these changes, between the performance of a company and executive remuneration. This has been achieved by precluding senior executives and their close associates, and the directors of the company form indulging in hedging against equity based components of their remuneration agreements. 12 Furthermore, there have been several attempts by senior executives to transfer the risk of variations in the value of securities. To this end these individuals have indulged in hedging contracts, in order to transfer such risk to others. This stratagem protects the executive against loss if the value of the shares and options reduces, prior to being realised. This practice has been decried by the legislation on the grounds that remuneration should be associated with performance.13 A major device of corporate governance is that of voting by the shareholders. It is the right of shareholders to be furnished with adequate and relevant information. These rights should be made available to shareholders by the corporate governance system.14 A certain amount of difficulty is apparently associated with policy goals that are described with reference to the amount of remuneration. This difficulty is perceived with regard to reducing these objectives to a regulatory form that includes relevant sanctions for guaranteeing compliance.15 If the rules relating to proxy voting were amended in a manner that would render them more effective, then some of the mechanical hurdles to voting would be excised. The efficient functioning of the framework can be best achieved by improving the incentives for institutional shareholders to participate in the voting process.16 While complying with the legal requirements, companies are provided with considerable freedom in adopting procedures and policies. The aim is to permit companies to regulate their internal affairs in a manner that promotes efficiency. However, there is a veritable plethora of rules that relate to specific aspects of company operations. 17 Nevertheless, it would be naïve to presume that companies can function with impunity and immunity to legal scrutiny. Consequently, there is a genuine necessity for sound and transparent practices with regard to the remuneration paid to company executives. This becomes evident from the public interest in corporate activity, activism of shareholders, changes made to regulation, and the globalisation of business activity. In addition, developers of best practices and those who regulate them have to respond in a better manner to the governance issues that they attempt to resolve.18 In addition, there have been several initiatives to enhance transparency in rewarding executives and allowing shareholders to influence the remuneration of executives. Such measures have chiefly been based on restricting munificence. However, in the absence of proper deliberation, these initiatives could emerge as another area of contention.19 Some of the legislative measures that have been employed in order to empower shareholders are the erstwhile non – binding votes and the present two strikes system. On the other hand, the directors and executives attach greater priority to the interests of the minority shareholders. To a major extent this is due to the power of these minority shareholders who have the capacity to supplant directors. This situation has given rise to the well founded apprehension that company boards could be browbeaten into ignoring their fiduciary duties, and satisfying the requirements of the minority shareholders.20 As such, Australia has introduced a number of important reforms in respect of executive remuneration. The Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (Cth) has increased the disclosure requirements. Moreover, the Act has also introduced the shareholder advisory vote system enabling shareholders to vote on the remuneration report of companies.21 The new reforms have been implemented to ensure good corporate health. According to the Explanatory Memorandum to the Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003 (Cth), the fundamental objective was to improve the efficiency of the audit function, and the independence of auditors. This initiative was developed in the background of several major corporate collapses in Australia. These financial fiascos had severely affected the ability of shareholders to assess the financial health of their investments. 22 In addition, the government has made recommendations to strengthen and better the rights of shareholders. This can improve the standards of corporate governance. Shareholders should have a say in the internal affairs of the company. Such measures can be promoted by means of disclosure and voting, which constitute the critical factors that ensure the accountability of company boards and management. Such enhanced rights will enable the shareholders to improve the standards of corporate governance. 23 Directors have a fiduciary duty to protect the interests of the company and its shareholders. In this context, a company is frequently deemed to be its shareholders as a general body. It has traditionally been conceded that the directors of a company owe a duty to the latter and not to the shareholders of the company. From this perspective, it would apparently be a drastic departure to hold that directors owe a fiduciary obligation to individual shareholder, merely for the reason that the latter are not involved with the management of the company. 24 In general, situations in which fiduciary duties had been owed by directors towards individual shareholders had been in the realm of small and family owned companies. In such cases, the directors will be constrained to attach greater importance to the interests of the shareholders rather than that of the company. Moreover, directors would be required to have a complete idea regarding the individual requirements of the shareholders.25 This approach is obviously impractical in the context of public companies. The number of shareholders will be significantly more in these companies. Furthermore, there would be considerable potential for a conflict of duties, which would render the functioning of directors unsuitable from the perspective of corporate governance. Nevertheless, with regard to shareholders as a whole, company directors could be reasonably expected to owe a fiduciary duty.26 However, it would be in the fitness of things to restrict this duty to disclosure requirements. Moreover, the participation or non – participation of a director in making a bid plays a key role in a management buyout situation. This situation requires a full disclosure of the performance of a director in a bid or failure of a director to participate in a bid. It is mandatory to prove that a director had performed or failed to perform, while considering a bid. There should be full disclosure, which constitutes a major factor in deciding the buyout.27 During this exercise, the financial benefits are assessed to determine the success of a bid. This requirement compels directors to consider the benefits of the company and not the shareholders. The directors can be expected to safeguard their personal benefits under the guise of upholding the benefits of the company. This is a conflicting situation, in which the interests of the shareholders could be easily relegated to the background, if not totally ignored. 28 According to the Corporations Act 2001, this conflict of interests is likely to give rise to a material personal interest. Thus, a full disclosure of the interests of the director in the company is required, in such situations. In public companies, such interested directors will be prevented from participating in board meetings that address these matters. Moreover, these directors will also be prohibited from voting on the matter. The disclosure should be made with regard to the interests of the director. The directors are under an obligation to ensure that the final purchase price promotes the best interests of the shareholders. 29 As such, shareholder empowerment has assumed considerable significance in the corporate governance mechanism. The Government of Australia is striving hard to provide adequate empowerment to the shareholders of companies. To this end it has introduced new reforms that provide the two strikes mechanism. The voting system empowers shareholders to reject excessive payments to the executives and directors of a company. 30 However, the Business Council of Australia (BCA) has expressed serious misgivings, as it is very much concerned with becoming subservient to the interests of the minority shareholders. One of its major contentions is that such measures would interfere with the functioning of company boards and intimidate them to the extent that they would find it difficult to discharge their fiduciary duties in the best interests of the company. It claims that the reforms would favour the interests of minority shareholders by providing excessive powers to them, which inter alia would enable them to dismiss directors from office. The boards would be compelled to engage with the investors to a much greater extent, in order to avoid negative voting against them. 31 These claims of the BCA have been challenged by the shareholders, who insist that there should be regulation regarding the remuneration of directors and executives. It is in this milieu that the stakeholders and shareholders have sought regulation that would provide them with greater protection and influence. It is the heartfelt desire of the shareholders that companies should operate under sound corporate governance principles. 32 According to Gordon, regulation on the remuneration would influence two sectors of the company, namely the interests of the shareholders and concerns about the social implications of power. Thus, the strategies that uphold one sector would undermine the interests of the other. The Australian Institute of Company Directors (AICD) has stated that remuneration regulation would integrate both directors and shareholders, as the directors would interact with the latter in order to negative voting against their decisions. Furthermore, directors would be required to adopt financial performance measures. 33 As such, the provisions of corporate legislation, with respect to the remunerations of directors, had as one of their chief objectives the protection of the interests of the shareholders. These regulations are aimed at empowering shareholders to participate in the governance of the company. In general, directors owe a fiduciary duty towards the shareholders and the company. Under some exceptional conditions, they can take decisions that promote the interests of the company, while disregarding the interests of the shareholders. Directors under the guise of protecting the best interests of the company, frequently relegate the interests of shareholders to the back ground. It can be concluded as per the above discussion, that the remuneration legislation has to be reformed, so as to improve shareholder involvement in decisions relating to the remuneration of executives. Bibliography A Articles/Books/Reports Anderson, Helen, Welsh, Michelle, Ramsay, Ian and Gahan, Peter, ‘Shareholder and creditor protection in Australia: A leximetric analysis’ (2012) 30 Company and Security Law Journal 366 Chaung, Yee Ben, ‘The lure of private equity: Financial arrangements with target directors’ (2012) 28 Company and Security Law Journal 180 Kovačević, Savo, ‘Executive Remuneration Developments in Australia: Responses and Reactions’ (2012) 23(2) The Economic and Labour Relations Review 99 Sheehan, KYM, ‘The Regulatory Framework for Executive Remuneration in Australia’ (2009) 31 Sydney Law Review 273 B Legislation Corporations Act 2001 (Cth) Corporations Amendment Act 2011 (Cth) Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (Cth) Explanatory Memorandum to the Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003 (Cth) C Other Sources Corporate Governance (29 June 2011) Allens Fisse, Brent, Fraud and Liability of Company Directors Piterman, Hannah, ‘Boards need to show some remuneration restraint or pay the price’, The Age (Melbourne), 10 February 2011 Rear, Simon and Lucas, Phil, Australia: How does the ‘2 strikes’ rule affect your Company and your Board? Remuneration Reform (23 January 2012) mondaq Regulation of director and executive remuneration in Australia (29 May 2009) Chartered Secretaries Australia Remuneration Packages: Are New Rules for Executives Really Necessary? (7 March 2011) Australian School of Business Swan, Wayne, Government Welcomes Productivity Commission Report on Executive Remuneration (4 January 2010) Press Office Deputy Prime Minister and Treasurer Commonwealth of Australia Read More