Board Formation: OECD and Russia

1. OECD Russia Corporate Governance Roundtable Moscow, 25–26 November 2012 Board Formation: OECD and Russia Héctor Lehuedé Senior Policy Analyst, OECD Co-sponsored by Informational partner

2. OECD Russia Corporate Governance Roundtable Moscow, 25–26 November 2012 Disclaimer: The views expressed in this presentation are those of the author and do not necessarily represent the opinion of the OECD Russia Corporate Governance Roundtable, the OECD or its Member countries, or of the Moscow Exchange. Co-sponsored by Informational partner

3. Contents OECD standards and country experiences • The OECD Principles • The OECD Guidelines • OECD country experiences Board formation in Russia • The Russian framework • The rules and practices in the SOE sector • Independent directors Conclusions

4. OECD standards and country experiences

5. OECD Principles on board formation Principle II.A: basic shareholder rights should include the right to elect and remove members of the board. Principle II.C: effective shareholder participation in key corporate governance decisions, such as the nomination and election of board members, should be facilitated. Principle V.A: disclosure should include, but not be limited to, material information on board members, including their qualifications, the selection process, other company directorships and whether they are regarded as independent by the board. Principle VI.D: the board should fulfill certain key functions that include ensuring a formal and transparent board nomination and election process.

6. OECD Guidelines on board formation Overall: “a major challenge is to find a balance between the State's responsibility for actively exercising its ownership functions, such as the nomination and election of the board, while at the same time refraining from imposing undue political interference in the management of the company”. Guideline II.C: the State should let SOE boards exercise their responsibilities and respect their independence. Political objectives: direction should be channeled through the coordinating or ownership entity and expressed as enterprise objectives rather than imposed directly through board participation. Guideline III.D: need to facilitate the participation of minority shareholders in shareholder meetings in order to allow them to take part in fundamental corporate decisions such as board election.

7. OECD country experiences: Peer Review 2012 /1 In 2012, the OECD published a review of rules and practices related to the nomination and election of the board. It covers 26 jurisdictions, including in-depth reviews of Indonesia, Korea, the Netherlands, and the United States. 1) Board nomination processes and shareholders’ rights: • Key factor is often assessing actual roles of boards (de facto / de jure). • High concentration ownership markets: role of board often limited to oversight. Impact on board formation and questions about independence. • Dispersed ownership markets: boards with legal role as stewards of the company. Power of board is vast and sometimes at the expense of shareholders’.

8. OECD country experiences: Peer Review 2012 /2 2) Shareholders’ right to elect board members: • general practice is to permit shareholders to present candidates to the election. Thresholds often set around 1% to 2% of shares. • AGM vote: contested elections are rare. • Special arrangements for minority shareholders to have a chance to obtain collective action, such as by the use of special voting mechanisms. • Cumulative voting is often permitted, but mostly ineffective.

9. OECD country experiences: Peer Review 2012 /3 3) Disclosure about the nomination and election process: • Generally the process is becoming more transparent • Full disclosure about the qualifications of candidates and membership on other boards that may point to conflicts of interest. • Challenges still remain, though. • Board evaluations and recruiting agencies are being used to establish desirable profiles for board membership.

10. OECD country experiences: Peer Review 2012 /4 4) Overall functioning: • Board formation process should facilitate boards capable of properly performing key board’s functions. • In practice there is a big difference between de jure and de facto roles. • The definition and enforcement of director’s duties underpins the functioning of the board. Well defined liability might even be more influential than board composition in determining performance. • Even if boards of controlled companies have little strategic functions, they have relevant roles. • For these roles, they require staffing special board committees with independent and skilled directors.

11. OECD country experiences: Boardroom view Lessons from the recent financial crisis: absence of a good balance of necessary skills, even at large multinationals. Procedures for nomination of candidates vary widely. Laws and regulations do not always guarantee the best results. The private sector plays an important role in improving board practices • Voluntary standards. • Leadership at the boardroom.

12. OECD country experiences: SOE Boards OECD 2012 Stocktaking report on the functioning of SOE boards: Outlines key elements of robust board nomination policy framework: • Specifying the person or body responsible for nominating the candidates; • Being transparent about any qualifications that may be required or guidelines that exist on appointments; and • Pursuing a consistent approach across all SOEs. OECD 2011 working paper: Recommendations for improving the nomination process of SOE boards: • Appoint based on merit, and retain based on performance. • Key issue: tendency for politicisation.

13. Board Formation in Russia

14. The Russian framework /1 1) Board nomination processes and shareholders’ rights: • High ownership concentration has a substantial influence over outcomes. • Reflected in strong de jure duties assigned to the board that are combined with a de facto situation in which they often do not play a decisive role. • Russian boards (and their nominations committees) are currently not allowed to make additional nominations to those of the shareholders. • Practitioners also argue that boards of Russian companies are still in transition.

15. The Russian framework /2 2) Shareholders’ right to elect board members: • Threshold set at 2% of the voting shares. Generally in line with common practices. • PwC/IDA Roundtable Survey: only in 25% of companies shareholders are involved in the selection of candidates for the board. • Although shareholder activism is not developed in Russia, some group and individual efforts are visible. 3) Degree of disclosure about board formation process: • Russian Law and Code provide for disclosure of the main elements. • PwC/IDA Roundtable Survey: only half of the top 50 Russian public companies disclose background information on board candidates and when they do, scope is rather limited.

16. The Russian framework /3 4) Overall assessment: • Widespread acknowledgment that Russian board practices and composition have significantly improved. • Evidence suggests that in many companies the most important decisions are still being adopted outside of the board room. • This is said to be related to a claim of lack of independent leadership by Chairmen. • Also to controlling shareholders taking over board functions without well defined liability.

17. The rules and practices in the SOE sector Rough estimation: size of the State-owned at between 40% and 50% of GDP, number of federal holdings of commercial enterprises around 5.000. The Russian State is thus a prominent controlling shareholder, including in listed companies, but privatisation also at the top of the agenda. State officials being replaced by independent directors and “professional attorneys”. A Commission for selecting independent directors was established in 2009. The system of instructions is however still regarded as setback.

18. Independent directors Russian Law: independent directors solely as an issue for approval of RPT. Code: board should include a sufficient number of independent directors Listing requirements (A1 and A2): at least 3 independent board members. For lower-levels, at least one. Surveys point to an increase in the number of independent directors But lack of clarity about its definition has brought confusion. PwC/IDA Roundtable Survey: almost half of the companies apply only the minimum independence criteria set out in the Law. Experts ask for more fairness in the nomination procedures. Competence and reputational requirements. More training and higher membership standards by professional directors’ associations are also mentioned.

19. Conclusions

20. Conclusions Russian framework for board formation developed in short period and with ownership structure still in flux. Current rules and practices are a mixture of strong and weak points. Overall, progress is evident and widely acknowledged. Shareholders have the right to elect and remove members of the board. Their effective participation is facilitated. Disclosure seems not to be enough. Ongoing reforms: improve the power of the board to nominate candidates, proposed reforms of the Civil Code may ensure that controllers’ influence remains fair. The SOE sector has modernized its nomination process and Presidential decisions to replace high level State officials has adopted best practice. A sound set of rules and practices for board formation in Russia is developing and should be further encouraged.

21. OECD Russia Corporate Governance Roundtable Moscow, 25–26 November 2012 Thank you Co-sponsored by Informational partner