A report published by Italy’s BNL (Banca Nazionale di Lavoro) late last year found that a growing number of the country’s investors are willing to manage their own portfolios (BNL, 18th annual report on savings and investors in Italy). At the end of 2000, says the report, about 7 mn Italians were investing directly in the stock exchange, compared with less than 2 mn just five years earlier. Most investors also use other financial products that they do not manage directly. But it is clear that ‘do-it-yourself’ direct investing is becoming an important component of Italy’s growing equity markets.
Until the 1980s, most Italians had much of their wealth tied up in their homes, with the remainder held in current or deposit accounts. The majority of savers first came into contact with financial markets via gilt-edged securities which became popular that decade, although most gilts were, and still are, held by funds.
Between 1991 and 1993 the Italian state received financing totaling 11 percent of GDP from financial markets. This absorbed around 90 percent of family savings, with the coupon (interest) offered by the government on its securities kept high in order to attract investors. However, the political crisis of the early to mid-1990s worried private investors, and rising interest rates rendered government securities less attractive. Much private investment was switched to bank deposit certificates and investment funds – as a result investors have gained valuable experience in new financial instruments. The interest of private investors in the stock market has been on the rise ever since.
Getting real
With more private money in the stock market investors have become ever more demanding. The flow of information between companies and their shareholders has developed, and is now promoted by stock exchange recommendations and the directives of Consob, the Italian market regulator. ‘Five or six years ago, listed companies wouldn’t even talk to minority shareholders,’ says Dr Fabio Galli, director of Assogestioni, Italy’s association of asset managers. ‘It has taken a concerted effort by Consob, the stock exchange and other organizations such as Assogestioni and AIAF (the Italian Association of Financial Advisors) to improve the situation.’
Dr Franco Papa, president of the AIAF, points to three important developments in recent years: the Draghi Act of February 1998; 1999’s Preda Code, which laid down guidelines for the conduct of listed companies; and the new Star market program for mid-cap companies, launched by the stock exchange in April 2001, promoting corporate governance among its adherents.
According to Papa, it was the Draghi Act (named after Mario Draghi, the treasury general manager who proposed the act) that first raised the specter of corporate governance in Italy. Drawn up by the Italian government and Consob, with the stock exchange acting in an advisory role, the act deals with issues such as fair disclosure, conflicts of interest, reporting requirements, auditing and accounting. In particular, the act gives a clear definition of what constitutes price-sensitive information and obliges companies to divulge any such information as widely as possible in a timely manner. Consob has since clarified just how such information should be divulged: via press releases to the regulator, the Borsa Italiana and at least two recognized press agencies.
Obedience problem
However, ensuring that companies obey Draghi directives is proving problematic.
‘The regulations governing transparency in Italian companies, such as those referring to price-sensitive information, are solid,’ says Galli. ‘But enforcement is still weak. We at Assogestioni are working with the stock exchange in order to produce some guidelines that will improve enforcement.’ The act needs some teeth, then, if an acceptable level of transparency is to be ensured.
Malcolm Duncan, director of Milan-based IR consultancy MGD & Associates, points out that if all Consob recommendations were to be obeyed, Italian analysts would be placed at a disadvantage compared to their foreign counterparts. For example, Consob has criticized some analysts for reports that are not available to retail investors, recommending that all financial research should be published within ten days of completion.
Dr Claudio Salini, director of Consob’s markets division, confirms that complaints have been made to his office by Italian analysts concerned that they are being unfairly penalized. The problem has, in fact, existed for a number of years, but caused little discomfort in the past because reports would only reach a limited audience. Now, with better news distribution technologies available, it has become a much bigger issue. ‘Consob will meet with analysts over the next few months to see how the problem can be addressed,’ adds Salini. The situation is being monitored by both the European Federation of Securities Commissions and the International Organization of Securities Commissions.
Freedom with accountability
The guiding principle behind the Preda Code is ‘freedom with accountability’, and its declared aim is to let companies pursue their objectives while simultaneously allowing for the transparency of their choice. It is the de facto code of conduct for listed companies. ‘In drawing up the code,’ it states, ‘this committee accordingly endeavors to align the proposed system of corporate governance with international standards… so as to allow the competitiveness and the image of Italian companies to be appreciated in a global financial context.’
Although the Preda Code is offered as a guide to best practice, it leaves organizational choices to companies’ discretion. While there are no formal sanctions, those companies seen to be failing to comply are liable to incur damage to their reputation in the investor community.
Much inspiration for the code was derived from the UK’s Cadbury Report of 1992 and Combined Code. For example, Preda makes a number of recommendations regarding the appointment and composition of the board, including the importance of non-executive directors. It also specifies that ‘remuneration packages should be able to attract and motivate persons with adequate experience and ability, not only for the board but also for top management positions.’ Incentives offered to directors and managers should be linked to economic objectives.
Still, much criticism has been leveled at a number of companies that only partially apply the recommendations, doing their best to circumvent their spirit altogether.
As pointed out by Elena Tedesco, a senior analyst at governance agency Deminor Rating, some individuals are members of a number of different boards, meaning their loyalties are sometimes divided.
Moreover, says Tedesco, ‘The number of independent board members is still restricted. Even the concept of independence itself is too vague in many companies, and does not take the Preda Code as its cornerstone.’ Deminor also points out that minority investors are poorly represented. ‘The number of companies that facilitate voting by correspondence is laughable,’ says Tedesco.
She criticizes Italian fund managers for taking little responsibility for promoting what are, ultimately, their own interests. For example at the last annual general meeting of Enel (the now-private Italian electricity board), fund managers had the opportunity to elect two members to the company’s supervisory board, in addition to the three representatives from the Italian treasury.
In the event, only one member was proposed to represent fund managers, which meant that the treasury could choose four members. Fund managers thus effectively passed up an opportunity to defend their own interests through stronger representation on Enel’s board.
A further weakness of Preda, according to Galli of Assogestioni, is that listed companies are not obliged to subscribe to it. ‘Listed companies are liable to inspection and a fine by Consob if they declare self-regulation and then violate the terms of Preda,’ says Galli. ‘The problem is that they can choose which of the code’s regulations they wish to adopt.’
In a recent KPMG survey of 127 Italian companies, 57 percent said they had adopted the Preda Code in its entirety, while 19 percent said they had adopted most of the code, but adapted some of its recommendations to their own particular situation. Unsurprisingly, some companies are still putting off changes to their boards, and over 20 percent have yet to appoint an independent director. On the plus side, 74 percent of the companies surveyed have appointed investor relations officers.
Satisfaction
A highly positive response greeted the Borsa Italiana’s Star project when it was introduced this year. The AIAF’s Papa describes it as ‘one of the first cases of self-regulation in the industry.’ The stock exchange’s new market segment is aimed at small and medium enterprises (with a market capitalization of less than E800 mn) in established sectors which satisfy a series of requirements for the flow of information, liquidity and corporate governance. If they are newly listed, the free float must be at least 35 percent of market capitalization, although more established companies can maintain the mandatory level of 20 percent. Companies wishing to qualify for the Star program are also obliged to appoint a market maker to ensure liquidity in their shares.
Star’s rules on transparency include the obligation to publish quarterly data within 45 days of the end of the quarter and a commitment to send accounts to the stock exchange in electronic format for inspection. All price-sensitive information must be available on the internet in both Italian and English. There must also be a named investor relations officer on the staff, and the board of directors must include some independent non-executive directors.
Star has been warmly received on all sides. Assogestioni encourages eligible companies to join the program, and the stock exchange says there has been much interest from companies that are seeking investment from abroad. Deminor’s Elena Tedesco says Star will stimulate medium-sized companies to improve their performance in the fields of transparency and corporate governance without imposing impossible objectives on them. The only problem, according to Tedesco, is that the information received is based on the companies’ own declarations, with little provision given to external verification.
Growth incubator
As with other smaller exchanges such as London’s Techmark, companies can be quoted on the Nuovo Mercato without first producing financial reports for the inspection of the regulatory bodies.
Camilla Pedraglio of the Italian Exchange points out that the authorities did not want an abundance of regulations on financial reporting to deter companies from listing on the Nuovo Mercato. However, says Pedraglio, companies are subjected to a two-month check by the exchange before they are quoted.
For firms with no financial reports, the largest shareholders have to agree to hold at least 80 percent of their shares for a minimum of two years after listing. The shares are held in escrow for this period.
Much has been done in Italy to bring investor relations to the fore and raise corporate governance standards. The Italian Exchange, Consob, fund managers, investment analysts and the companies themselves have all played an important part. Indeed, in June last year the AIAF published its own set of criteria on transparency and corporate governance and now awards its ‘blue medal’ to companies that satisfy its criteria. Assogestioni, too, will soon identify companies that distinguish themselves in these fields. Concludes Edoardo Giuliato, a stock exchange reporter at GMTrend.com, a recently established online financial analysis service, ‘With respect to regulations and recommendations on investor relations and corporate governance, we have little to envy our European partners or, indeed, any other country. But we have to maintain the impetus and continue to insist on total transparency if we are to convince the rest of the world that Italy really is a good investment.’
