Will the Green Deal banish shareholder value primacy from Europe’s social market economy?

The European Commission ponders legislative response to sustainable corporate governance

The European Commission’s Action Plan on Financing Sustainable Growth envisaged corporate governance as a means to reduce short-termism in capital markets.

As if it was closing the circle of sustainability and the other measures proposed in the Plan, action point #10 introduced the concept of fostering “sustainable corporate governance”. 

The task given to the EC was to investigate whether corporate law and governance frameworks should require directors to act in the company’s long-term interest.

That implied a challenge to the still dominant shareholder value primacy idea, that directors should just focus on maximising shareholder returns.

The concept of sustainable corporate governance has made it into the Green Deal. In hindsight, a first sign came from the new Commission President herself. 

In her maiden speech to the European Parliament, Ursula von der Leyen said that competitive sustainability has always been at the heart of Europe’s social market economy.

She said: “We just called it differently. Think of the family-owned businesses all across our Union. They were not built solely on shareholder value or the next bonuses. They were built to last, to pass down generations, to provide a fair living to employees.”

A leaked draft of the Green Deal stated that the EC would “assess the need to adopt a legislative proposal on sustainable corporate governance” by June 2021.

The final version dropped the reference to legislative proposals. It settled on the idea that sustainability should be further embedded into corporate governance frameworks, and in the same breath linked it to the review of the Non-Financial Reporting Directive.

Could this be interpreted as a sudden lack of ambition? 

Filip Gregor, Head of the Responsible Companies Section at purpose driven law firm Frank Bold, told RI that there will be more clarity once the Directorate-General for Justice and Consumers (DG Just), which runs the governance file, publishes its Work Programme for 2020.

Gregor said: “We don't believe the plans of DG Just have become less ambitious, but they are still considering the options for their proposal.” 

Gregor added that sustainable corporate governance and the NFRD are “twin” issues. 

“It is possible that the two will be prepared in parallel, or that governance issues related to sustainability will be included in the reporting reform. Ideally, integration of sustainability in corporate governance should be done both by means of clearer reporting requirements, and clarification of board obligations,” he said. 

"There is a large common understanding that voluntary action has not brought the necessary change"

According to Beate Sjåfjel, Professor of Law at the University of Oslo and involved in research about the topic, the wording is less specific but in practice might not mean any difference in ambition. 

Sjåfjel based her impression on the latest public speech of Salla Saastamoinen, DG Just Director for Civil and Commercial Justice, at the 24th European Corporate Governance Conference held in Helsinki a week ago under the auspices of the Finnish Presidency of the Council of the EU.

At the conference, which was focused on company law and climate change, Saastamoinen presented the initial findings of the analytical work mandated by the Action Plan, which might point to the need for legislative reform.

Saastamoinen explained the main issues that DG Just have examined when it comes to fostering sustainable corporate governance.

First, whether company boards strike a right balance between the interests of shareholders and stakeholders. 

Second, whether sustainable strategies of corporates should be “built on EU law”.

Third, whether companies should be subjected to due diligence requirements to account for potential ESG risks and their impact in the value chain.

Among the initial findings Saastamoinen cited that “there is a large common understanding that voluntary action has not brought the necessary change”.

She said that this is consistent with the findings on the study of the NFRD which concluded that “companies are failing to report in a meaningful way on their impact to society and environment.”

Saastamoinen said the findings showed there could be appetite for EU level regulatory measures on due diligence requirements, with 70% of business surveyed considering this could bring “legal certainty and a harmonised non-negotiable standard for everybody”.

"No company law anywhere mandates that boards as a general rule should maximise returns for shareholders"

The findings of a second study focused on directors’ duties and their potential accountability for sustainable value creation could be released in the spring of 2020. See RI coverage

Sjåfjel told RI that the shareholder versus stakeholder value dichotomy has permeated the policy making space, particularly after the financial crisis. 

According to Sjåfjel, who like Saastamoinen was a keynote speaker at the Helsinki conference, shareholder value primacy is a key barrier for sustainable growth.

The research initiative she leads, the Sustainable Market Actors for Responsible Trade (SMART), has found shareholder value primacy is not a legal obligation but just a social norm.

Sjåfjel said: “No company law anywhere mandates that boards as a general rule should maximise returns for shareholders. But there is a very strong social norm, which we call shareholder primacy drive, that has taken over the space that company law gives boards, and by extension management, to find out what is the best way to run the company.”

Presenting the SMART research in Helsinki, Sjåfjel advocated for the redefinition of the purpose of the company within EU corporate law.

She said purpose should be a legislative matter, as it is “what most business want to do anyway: create value in a sustainable way within the planetary boundaries framework.”

Frank Bold, the law firm, has also advocated for legislative measures around sustainable corporate governance. A statement signed by 50 governance scholars called for legally binding sustainability duties for directors.