After long discussions in the two branches of the Italian Parliament, the so-called "Investors' Protection Act" was finally approved and enacted through Law No. 262 of December 28, 2005 (the "Act" or the "Reform"). The Act, which is intended to be a reaction to the Cirio and Parmalat corporate scandals and to restore confidence in the Italian capital markets, is very important as it significantly reforms, among other matters, several rules regarding minority shareholders' rights and corporate governance of Italian listed companies.
Below is a summary and brief commentary of its most relevant provisions in the aforesaid areas.
1. Changes To Corporate Governance Rules Of Italian Listed Companies
1.1 Directors. Italian listed companies shall be required to implement a voting system which ensures that at least one member of the Board of Directors be appointed out of a list of candidates to be submitted by minority shareholders. The by-laws shall identify the threshold (in terms of percentage out of the issuer's capital stock) that is required for minority shareholders to be entitled to submit a list; such threshold shall not be in excess of 2.5% of the issuer's capital stock .
This is a significant and welcome change compared to the current situation where the law only requires that one of the members of the Board of Statutory Auditors (a corporate body that is similar to a Supervisory Board and has the main duty to oversee the directors' activities to make sure they are carried out in compliance with the law and the by-laws and with proper management principles) be reserved to the minorities.
Based on a recent survey,1 as of December 31, 2005 only 21% of the Italian listed companies had a list-based voting system in place for the appointment of directors (like the one described above) and less than 10% indicated they had directors who were actually appointed by minority shareholders. Interestingly, among such companies, the average threshold to submit a list is 2.4% (therefore, less than the newly introduced maximum), although thresholds as high as 10% have been recorded.
In addition, the new rules require that, if the Board counts more than seven directors, at least one of them (in addition to the director appointed by the minorities) be an independent director.
The Act also requires that the shareholders' vote for the appointment of the directors shall take place by secret ballot.
The secret ballot requirement has been broadly criticized by commentators as it could in practice frustrate the requirement that at least one director be appointed by minority shareholders. The secret ballot would indeed make it impossible to understand who votes in favor of each list of candidate directors. As a result, the March 2006 revision of the Corporate Governance Code issued by the Italian Stock Exchange recommends that (a) Italian listed companies, while complying with the secret ballot requirement, still "ensure transparency in the selection and appointment process of directors" and (b) qualified shareholders of Italian listed companies (including controlling shareholders and institutional investors) spontaneously declare their votes in the shareholders' meetings for the appointment of the directors.
The aforesaid provisions apply (with few differences) to two of the three governance systems allowed under Italian law (namely, the so-called ordinary system and the single board system ), whilst different rules apply to the dual board system.
The rules that apply to the dual board system appear to be less favorable to minorities compared to those that apply to the other two governance systems.
A company governed by the dual board system has:
(i) a Supervisory Board which is appointed by the shareholders and which, among other things, appoints the Management Board (see (ii) below) and oversees the latter's activities to make sure they are carried out in compliance with the law and the by-laws and with proper management principles; and
(ii) a Management Board which is appointed by the Supervisory Board, is entrusted with the management of the company and is substantially the equivalent of a Board of Directors.
Now, the Act requires that companies with a dual board system ensure that one of the members of the Supervisory Board be appointed by minority shareholders, whilst no member of the Management Board is required to be reserved for the minority. In addition, the requirement that at least a member of the Management Board be an independent director only applies to Management Boards having more than four members.
Based on the above, an Italian listed company which was to be governed by the dual board system and had a four-member Management Board would only be required to reserve one member of the Supervisory Board for the minority, while none of the members of the Management Board would be required to be designated by minority shareholders or to be an independent director.
This is a significant step back in the protections afforded by the Reform for minority shareholders of companies governed by the dual board system compared to those available to minority shareholders of companies governed by the ordinary system or the single board system. At present, very few Italian listed companies have opted for the dual board system as their governance model: time will tell if more companies will adopt a dual board system in an attempt to circumvent the application of rules that are more favorable to minority shareholders. If this were the case, it will also be interesting to see whether sophisticated minority shareholders (such as institutional investors and hedge funds) will penalize listed companies which make such a governance choice in their investment decisions.
1.2 Statutory Auditors. With regard to Statutory Auditors (or Supervisory Board members for companies governed by a dual board system), before the enactment of the Reform, Italian law already required that one of the permanent members of a three-member Board of Statutory Auditors or Supervisory Board (two in case of a Board composed of more than three members) be reserved for the minority.
The Act has reinforced the above principles by providing that CONSOB (Commissione Nazionale per le Societ e la Borsa) shall issue a regulation setting forth appointment mechanics to be adopted by Italian listed companies that are such as to ensure that one member of the Board of Statutory Auditors or Supervisory Board be actually reserved for the minority .
Based on a recent survey,2 as of December 31, 2005 88% of the Italian listed companies disclosed they had a list-based voting system in place for the appointment of Statutory Auditors and the average threshold to submit a list was 2.7%, although thresholds as high as 10% have been recorded. Also, 29.6% of the Italian listed companies indicated they had Statutory Auditors who were actually appointed by minority shareholders.
In addition, the Act now requires that the Chairman of the Board of Statutory Auditors of an Italian listed company be appointed from among the member(s) designated by minority shareholders. Reiterating the less favorable approach for minority shareholders described in paragraph 1.1 hereof in connection with companies governed by a dual board system, the aforesaid requirement shall not apply to the Supervisory Board.
It is not clear whether the provision of the Act requiring that the appointment of directors be made with a secret ballot (see, paragraph 1.1 above) also applies to the appointment of the Statutory Auditors. If this were the case, the same concerns and criticism illustrated in paragraph 1.1 hereof would apply. The same transparency recommendations made for the appointment of directors by the March 2006 revision of the Corporate Governance Code issued by the Italian Stock Exchange apply to the appointment of Statutory Auditors.
Finally, the Act provides that CONSOB shall issue a regulation setting forth limits to the number of companies in which a Statutory Auditor or a Supervisory Board member of an Italian listed company will be allowed to hold management or control positions. The Statutory Auditors and Supervisory Board members of Italian listed companies shall also disclose the companies in which they hold management or control positions to CONSOB and the market.
2. Directors' Liability Action
A very important provision of the Act modifies the procedure to initiate a liability action vis-a-vis the directors of an Italian listed company as set forth in Articles 2393 and 2393- bis of the Italian Civil Code ("CC"). Following is a summary of the main changes.
(i) Threshold. The threshold required for minority shareholders to directly bring a liability action vis--vis the directors (see, Article 2393- bis CC) has been reduced by the Act from 5% to 2.5% of the company's capital stock (or the lesser percentage that the by-laws may provide). This is a significant step forward in the direction of making it easier for minority shareholders to line up and directly sue the directors.
(ii) Statutory Auditors. The Act provides that a directors' liability action may now be brought also following a resolution of the Board of Statutory Auditors that is passed with the favorable vote of two thirds of its members.
3. Minority Shareholders' Powers In The Shareholders' Meeting
The Reform has also increased the power of minority shareholders in the shareholders' meetings of Italian listed companies by introducing a provision that allows minority shareholders collectively holding at least 2.5% of the company's capital stock to require that additional items be added to the meeting's agenda for shareholders discussion and resolution.
4. Disclosure Obligations
The Reform imposes stricter disclosure obligations on listed companies regarding directors' and employees' compensation plans based on the granting of stock or securities, mergers of non-listed companies into listed companies and the adoption of and compliance with best practice codes. Also, CONSOB has been afforded broader powers to ensure that Italian listed companies comply with the disclosure requirements imposed on them.
5. New Rules On Internal Accounting
The Reform provides for new rules aimed at ensuring greater reliability and truthfulness of the internal accounting system of Italian listed companies.
In particular, the Act requires that a manager in charge of the accounting documents' drafting (the " Accounting Supervisor ") be appointed and that each document produced by the company regarding its economic or financial conditions be accompanied by a written statement signed by the General Manager and the Accounting Supervisor whereby they represent that the information and data provided for in the relevant document are truthful.
6. Transparency For Offshore Companies
The Reform greatly enhances transparency with regard to those Italian listed companies having foreign subsidiaries, parent companies or affiliates with registered offices in countries that do not ensure transparency in their incorporation, economic and financial conditions or operations.
In particular, with regard to the aforesaid type of foreign subsidiaries of Italian listed companies, their financial statements shall be (i) drafted in compliance with either the Italian accounting principles or internationally recognized accounting principles; (ii) audited by the auditors of the Italian listed parent company; and (iii) certified as to their truthfulness and accuracy by the Board of Directors, the General Manager and the Accounting Supervisor of their Italian listed parent company.1 "Analysis of the implementation of the Corporate Governance Code by the Italian listed companies (Year 2005)", by Assonime S.p.A. and Emittenti Titoli S.p.A.
Stefano Crosio is Resident Partner and Gherardo Cadore is an Associate in the New York office of Gianni Origoni Grippo and Partners. They may be reached at (212) 957-9600 .