Broadridge’s Demi Derem outlines the changes SRD II will bring to the European markets
The Capital Markets Union (CMU) places the investor at the centre of the plan to encourage greater retail participation and more foreign investment into EU financial markets. One of the areas of significant focus for the European Securities and Markets Authority (ESMA) and the European Commission (EC) is the asset servicing space, as part of the push to improve transparency and engagement between issuers and investors, specifically encouraging automation and shareholder participation in corporate governance.
The EU’s revised Shareholder Rights Directive (SRD II) has been a key piece of regulation for the asset servicing space in Europe since it came into force in September 2020. SRD II is targeted at improving transparency between issuers and their shareholders and at encouraging investors to engage more frequently in shareholder voting activities. It reflects the increased regulatory focus on corporate governance and fostering shareholder capitalism in the region over the last five years.
Though SRD II is certainly a step in the right direction for improving the transparency of the proxy voting space, there is room for improvement in a practical sense when it comes to market efficiency. The implementation of the directive remains relatively inconsistent across the region. The crux of the problem lies with the nature of SRD II as a directive rather than a regulation, which means it has been interpreted differently by national competent authorities across the EU. This divergence in interpretation reflects the fact that the definition of ‘shareholder’ varies from country to country within the region, which makes the fundamental application of the directive challenging from the start.
In terms of positive improvements, connectivity between market intermediaries has evolved to facilitate the timely transmission of sensitive information, such as shareholder identity. Some intermediaries, particularly retail banks and brokers, have had to implement brand new technology and connectivity as a result of the need to provide their underlying clients with the ability to vote at issuer meetings.
In many cases, market intermediaries have maintained legacy channels of communication to relay common data points under SRD II. These include the ongoing use of ISO15022 message standards, bespoke proprietary channels, and non-standard formats. However, legacy communication methods lack the capability to include many SRD II details in standard machine-readable fields without enhanced support models. In several cases, this is contrary to the permissible formats described by the directive. Additionally, this causes manual intervention and delays in further disseminating event information across the investor chain. Due to the current delay in the industry adoption of Securities Market Practice Group (SMPG) -recommended MX20022 messaging, much of the desired automation, efficiency, and transparency that the European regulators hoped to bring to the industry is still to be achieved.
Not all market participants have made the necessary changes and investments required to be compliant with SRD II. Additionally, delays in the transposition process have resulted in several markets failing to complete the transposition process on the launch date, which has added to the industry’s challenges in trying to achieve compliance across all member states. Based on Broadridge’s analysis, 75 per cent of eligible intermediaries that have holdings in SRD II markets have yet to fully adopt SMPG-recommended MX20022 messaging.
ESMA will likely address lagging transpositions with national competent authorities over the next 24 months. In the meantime, national market practices will continue to differ significantly.
The gaps in SRD II
There are differences in interpretation and a lack of consistency in event announcements across the individual markets. For example, several intermediaries within the same member state may provide individual, inconsistent event-level data points and reference numbering for the same event. This causes unwanted manual intervention and increases the potential for votes to be rejected. Differences in the number of agenda proposals and consistency in proposal numbering, key dates, and referencing, may result in processing challenges and raise the number of risk profiles.
The previously noted differences often cause numerous systemic and automated vote rejections due to ad hoc intermediary processing. Intermediaries may reject votes due to inconsequential formatting infractions, which, in turn, causes votes to be delayed, and, as a result, leads participants to miss voting deadlines. Standardisation and consistent usage of ISO 20022 SMPG-compliant messages, for the dissemination of event-level information from issuers and issuer agents, could address these process deficiencies at source.
The intention of the European regulators in introducing ‘vote without delay’ was to enhance transparency by passing proxy voting instructions through the chain of intermediaries upon receipt. The immediacy of delivery would therefore provide issuers with improved vote transparency prior to the voting deadline or meeting date.
As ‘vote without delay’ was not adequately defined within the directive, market practices were not aligned across domestic and regional regulators, which made it very difficult to implement. The cost and process changes required for intermediaries to implement the vote without delay requirements were also detracting factors in local market adoption. As a result of these factors, the European-level adoption of ‘vote without delay’ is currently very low.
Vote confirmation is another area where disparate market transposition has impacted issuer and intermediary adoption. Post-meeting vote confirmations are lacking in certain markets, as issuers and their issuer agents have not established the requisite capabilities to deliver such confirmations. However, confirmations are a vital component for institutional end-investors, as they allow their advisors to record and prove their compliance and participation in the general meeting process. Confirmations may also be necessary to validate certain ESG credentials, which means regulators are likely to take further action in future.
The market differences in SRD II transposition impact the amount of shareholder information issuers can expect to receive and, subsequently, the quantity of information intermediaries are required to disclose. Unfamiliarity with the local transposition can also lead to intermediary over-compliance with the disclosure of personal identifying information, in response to issuer requests.
The different national definitions of ‘shareholder’ also impact the usefulness of the disclosure requirement under SRD II in certain markets. As previously noted, in the UK, Ireland, and Malta, the ‘shareholder’ is defined as the registered holder, thereby challenging the disclosure requirements under SRD II.
In addition, the directive provided local authorities with the possibility of implementing disclosure thresholds of up to 0.5 per cent of issued share capital before shareholder information needed to be disclosed. Austria, Cyprus, Estonia, Gibraltar, Slovakia and the Netherlands have all included such thresholds in their transposition of SRD II. These varying thresholds are difficult for intermediaries to manage, as many clients have split portfolios.
Given the popularity of governance as a topic, due to ESG investment strategies and investor appetite, the market can expect the volume of voting at general meetings to increase year on year.
If the EU’s CMU plan goals are realised, retail participation will grow, and this will increase the number of shareholders voting at these meetings. This, in turn, will require firms to further automate processes to support the required notifications and confirmations as mandated under SRD II and its successor, once ESMA has finished its review in 2023.
