Spain moves on corporate governance

Author: | Published: 25 Apr 2003
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Like other western economies, Spain has been shaken by a number of the events that have recently taken place. Some, like the recent financial scandals affecting large multinational corporations, were from beyond the country's borders while others, such as the acquisition of controlling stakes in competitor companies in order to avoid a public offer, have a more local flavour. Other more general developments have affected corporate governance practices. The way in which managers receive their remuneration through stocks and stock options in particular are a reflection of the Spanish re-interpretation of management fashions invented abroad.

In the EU, the European Commission is drawing up a plan of action on corporate law based on the findings of the Winter Report on the modernization of EU corporate legislation, which was published in November 2002. Armed with a mandate bequeathed by the Oviedo meeting of the Council of Ministers Economic Committee (Ecofin), the plan comprises several aspects relating to corporate governance reform issues that arose from recent corporate scandals.

EU member states have adopted new legislation in order to provide confidence to the markets and have published different reports in order to draft good governance codes or to amend the existing ones. Last year Germany approved the Cromme Report, France and Italy reviewed their codes; and earlier this year the Higgs and Smith Reports proposed a set of modifications to the UK corporate governance guidelines based on the Cadbury Report of 1992.

In Spain regulators have realized that redressing this situation will affect three sensitive areas: the draft Companies Code on listed companies, the November 2002 Law 44 on Reform Measures of the Financial System, and jointly the draft amendment to the 1988 Financial Markets Law 24 and the Consolidated Text of the Law on Corporations (Sociedades Anónimas) which was approved by Royal decree 1564 in 1989 and aimed at reinforcing the transparency of listed public companies.

Draft legislation introduced to reinforce the transparency of listed public corporations, mainly deal with the first aspect. The Special Commission for the Development of Transparency and Security in Markets and Listed Companies (also known as the Aldama Commission) has dealt with the second aspect. Finally, a new regulation on the tax treatment of stock options, appearing in the new Personal Income Tax Law deals with the third question.

Reform of the financial system

Law 44 on Reform Measures of the Financial System was published in the Spanish Official Gazette last November. It became apparent almost immediately that the law was full of surprises.

As the implementation of the Law mainly rests on other pieces of legislation, the fourth final disposition of the Law authorizes the government to issue new texts in a year's time. These consolidated texts will take the form of royal decrees (textos refundidos) of the most relevant existing laws including the 1988 Financial Markets Law on the financial markets.

In regard to the Financial Markets Law, the Law anticipates corporate governance regulations, without pre-empting the much-expected Corporation Code (Código de Sociedades) which has been more than 8 years in the making.

Transparency is the key to this reform, but it has suffered slightly from the haste with which the Law has been published. This can already be seen from the fact that the Law has already been contended in the courts. Autonomous communities feel that it has invaded their own competence to regulate the matters that the law deals with such as the status of savings banks.

The text of the Law has also initiated reforms to protect investors (mainly small investors). Chapter 5 introduces many of the new regulations referred to in the international briefings section of the December issue of IFLR.

The Aldama Commission

In the light of the structural changes which had taken place to the Spanish economy since Spain's corporate governance rules were introduced in 1997, and taking into account the recent financial scandals outside the country, the Spanish government announced the creation of the Special Commission for the Development of Transparency and Security in Markets and Listed Companies in April of last year. The commission would analyse the frequency of these events in the financial markets and suggest answers to the questions posed by these issues.

To this end the Aldama Commission, as it became known, was created by the Council of Ministers in July 2002 and charged with issuing a report that was published on January 8 2003. The Aldama Report stated that the transparency principle is a key to the correct functioning of financial markets, implying that all relevant information for investors must be provided in due course and in due time and that such information must always be accurate.

The Aldama Commission also set out the importance of self-regulation in corporate governance tied to transparency obligations. The Commission highlighted the convenience of a legal framework in order to promote and develop transparency within self-regulation. Self-regulation would be instrumented through two specific regulations (Reglamentos): one for the board of directors and another for the shareholders' meeting.

The Report made numerous recommendations, some of them to be incorporated by the governing bodies of the companies, others to be reflected in different pieces of legislation. The most important of these latter recommendations concern information and transparency duties, the definition and regime of directors' duties (conflict of interest issues) and the obligation to assume a set of mechanisms on corporate governance which include a regulation of the board of directors as well as shareholders' meetings.

Planned changes to the Financial Markets Law and Consolidated Text of the Law on Corporations

In response to the recommendations made by the Aldama Commission, the Ministry of the Economy and the Ministry of Justice issued a draft amendment to the Financial Markets Law and the Consolidated Text of the Law on Corporations.

The draft legislation amends several provisions of the Consolidated Text of the Law on Corporations, where the Aldama provisions apply on a general basis to all corporations, and introduces a new title on 1988 Financial Markets Law, relating only to listed corporations.

The draft amendment introduces the new title "Listed Companies" for listed corporations, into the text of the Financial Markets Law. Among other things it establishes mandatory publicity of para-corporate agreements, which are agreements among shareholders, either with the aim to exercising joint voting rights or of restricting or conditioning the free transferability of the shares of the company or of its convertible bonds. The draft also says that the company and Spain's financial regulator, the Comisión Nacional del Mercado de Valores (CNMV), must be notified of celebration, extension in time or modification of these agreements. Para-corporate agreements must be registered with the Mercantile Registrar of Companies. If this information is not filed the relevant para-corporate agreements will be deemed ineffective.

Article 113 of the draft amendment states that publicly listed companies must approve a specific regulation for shareholders' meetings, which they must notify the CNMV of and register with the Mercantile Registrar.

The draft amendment also sets out a number of duties for the directors of listed corporations in Article 114. Directors cannot exercise voting rights corresponding to represented shares in respect of those points of the agenda in which they have a conflict of interest. In the same manner, they cannot exercise the corporate liability action with the applicant itself. In the company's annual report directors also have to declare transactions they have carried out during the financial year with the company itself or with companies within the same group, if these operations are alien to the ordinary activity of the company or are not carried out under normal business conditions. Directors must stop any transaction on securities pertaining to the company or to its subsidiaries, over which they have privileged or reserved information until this information is made public.

Additionally, the draft amendment provides that with the approval of the shareholders' meetings the board of directors shall issue a regulation on internal rules and on the functioning of the board. This regulation will contain concrete measures tending to guarantee the proper management of the company, and will be disclosed to the CNMV and registered with the Mercantile Registrar.

On corporate governance information the draft legislation states that listed companies must annually publish a corporate governance report which must be filed with the CNMV. Although the basic content and structure of the report is determined by the Ministry of Economy, listed companies may spread all the information they deem of relevance or of interest through any technical means. That said, all listed companies must have a web page through which they can provide information on their organization.

Article 116.4 of the draft legislation attributes the corporate governance report to the CNMV, so that the Commission can collect whatever information is required as well as make public any information which it deems to be relevant to the effective degree to which companies have complied with corporate governance rules.

As stated before, the draft legislation also introduces a number of amendments to the Consolidated Text of the Law on Corporations, and taking into account that this general legislation also applies to listed companies, the following concepts affect their systems of corporate governance.

A new fourth section on voting is added to article 105, which states that shareholders may exercise their vote by post or electronic mail provided that the identity of the person exercising the voting right is duly guaranteed.

The draft legislation also provides that for up to five days prior to a shareholders' meeting, shareholders of listed or private corporations may ask the directors for information on any of the points included in the agenda as well as any report or clarification which they deem necessary.

Shareholders of a listed corporation may also request reports or clarifications or may formulate questions in writing in relation to the information available to the public which the company has provided to the CNMV, since the last general meeting of shareholders took place. During shareholders' meetings, shareholders may orally request any report or clarifications they deem convenient, relating to the matters that are included in the agenda. The directors must provide the information or clarification requested by the shareholders, unless the chairman states that doing so would harm corporate interests, something that cannot be argued if at least the 25% of issued capital agrees.

With respect to the duty of diligent management, it is stated that each director shall diligently look for information on the performance of the company. Directors shall comply with imposed duties to accurately report the company interests, and are also subject to a number of loyalty duties, and to a duty of secrecy. It is important to state that the draft legislation bolsters these duties by pointing out that directors must accurately report all corporate interests understood as the common interest of all the shareholders.

The draft legislation provides that directors are liable before the company, the shareholders and the corporate creditors, for damages arising from actions contrary to applicable law or by-laws, or for those actions which breach their duties as directors. Persons holding management positions are personally liable before the company, its shareholders and corporate creditors for these damages.

It should be also noted that directors of dominant companies are equally liable in front of dominated companies, their shareholders and their creditors for damages arising from instructions provided to directors of dominated companies when they carry out actions contrary to the applicable law or to the by-laws.

The draft legislation states that listed companies shall be adapted to the aforementioned provisions within 6 months from its entry into force. As a consequence of the obligations imposed on listed companies in respect of corporate information and publicity, the draft legislation deems the breach of these obligations an infringement without prejudice of the powers granted to the CNMV by the Financial Market Law to control listed companies compliance with these measures.


Changes in Spanish corporate governance rules have given birth to a reform of corporate law. The most important part of this reform relies on general legislation aimed at both listed and private corporations. The new requirements for listed companies in particular specifically refer to the necessity of declaring para-corporate agreements, the self-regulation of the board of directors and annual general meetings, and to the annual report on corporate governance and the need to create a web page. In his article Personal Vision - A useless reform of corporate law? published in the Spanish financial daily Expansión last month Professor Jesús Alfaro of the University of Madrid points out that the obligation to register the self-regulation of a shareholders' meeting with the Mercantile Registrar could be difficult to coordinate with the bylaws of the company itself. He rightly suggests that self-regulation is incorporated into the bylaws of the company itself.

The draft legislation has more importance for the general duties of the board of directors of a listed or a non-listed corporation. But the definitions of these duties are no more than general concepts that create difficulties of interpretation when the general duty (fidelity duty or loyalty duty) has to be understood in terms of hard facts. In such cases, there is no real legal exit from the situation. Instead the problem has to be resolved by the courts or, even worse, by the corporate bodies of the company (the shareholders' meeting or the board of directors) with all the risks that such solutions involve.

In any case, healthy corporate governance has more to do with the functioning of the board of directors than with any other corporate body. As Professor Jeffrey Sonnenfeld stated in the Harvard Business Review last September, we have to consider "not only how we structure the work of a board but also how we manage the social system a board actually is. We'll be fighting the wrong war if we simply tighten procedural rules for boards and ignore their more pressing need - to be strong, high-functioning work groups whose members trust and challenge one another and engage directly with senior managers on critical issues facing corporations". In this very interesting article, Professor Sonnenfeld recommends different measures to build an effective board. He particularly stresses creating a climate of trust and candour, sharing important information with directors in time for them to read and digest it; fostering a culture of open dissent, making clear that dissent is not the same thing as disloyalty; using a fluid portfolio of roles, not trapping directors in rigid positions; ensuring individual accountability; and evaluating the board's performance by going beyond reputations, experience and skills to look at initiative, roles and participation in discussions.

These recommendations touch the heart of the matter. Corporate governance is nothing if we reduce it to legislative reforms that are more or less in agreement with corporate trends and fashions.

At best legislation is nothing more than a framework and the ultimate tool for addressing liabilities. 90% of corporate governance virtues are to do with the selection of people on the board of directors, whether they represent ownership or are executive members or independents. A good and committed team spirit among the management of the company is needed to cope with the critical issues facing corporations.

Time will tell if Spain's proposed legal framework endorses these virtues.