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FSA chief hits right note on investor responsibility

The Scotsman: FSA chief hits right note on investor responsibility

“In the wake of a splurge of recent fines, particularly the record £17 million penalty on Shell for the oil giant’s reserves shortfall and cover-up, there have been those who have argued that it is the culpable directors who should bear the penalty, not the companies and investors.”

SCRUTINEER

MARTIN FLANAGAN

CITY EDITOR

Posted 11 Sep 2004

THE comments of the head of Britain’s financial regulator about who should suffer from financial penalties for corporate wrong-doing – companies and shareholders or the errant directors themselves – is timely.

In the wake of a splurge of recent fines, particularly the record £17 million penalty on Shell for the oil giant’s reserves shortfall and cover-up, there have been those who have argued that it is the culpable directors who should bear the penalty, not the companies and investors.

This argument, not without its merit, says swingeing fines on the likes of Shell mean shareholders get hurt twice over.

Shell’s share price took a major hit in the wake of the scandal that saw three top executives put out the door, in the case of chairman Sir Philip Watts and exploration head Walter van de Vijver, or shoved sideways, in the case of finance chief Judy Boynton.

Critics then say a massive fine on the company hits not only the company, but bashes the shareholder a second time from a possible second impact on the share price and less money in the coffers of the group the shareholder is investing in.

I think that misses the point. As John Tiner, chief executive of the Financial Services Authority, says, surely investors should bear some of the responsibility if things go awry in the boardroom. Shareholders benefit when management makes good decisions. They suffer when management makes bad decisions. Why should they not partly suffer when management make bent decisions?

As Tiner says, sharing a reasonable amount of the financial penalty pain might make shareholders and the non-executive directors who represent them more dogged in making sure managements keep to the straight and narrow.

In an ideal world, regulators would fine the directors responsible for wrongdoing (although sometimes that takes longer while inquiries continue that could lead to legal action, and a premature fine would prejudge such legal cases). They would also fine the company itself to show the regulator’s displeasure that the former’s procedures were slack enough to allow the perpetrators to get away with it.

And then investors would share in an indirect, much-reduced share of the punishment inflicted on the company if directors failed in their duties. Shareholders, particularly institutional ones, have responsibilities as well as rights. Shell is a very good example of how this sharing of pain can work.

The record £17m fine on the oil giant is a robust reminder to the Shell board that its previous management procedures were flawed and must not be repeated.

It sends a general message to the marketplace that this sort of overstatement of reserves is unacceptable and will be jumped on.

And, yet, in the context of a company making a profit of about £7 billion to £8bn a year, a £17m fine is neither going to feed through to earnings to affect shareholders in any meaningful way – and any share price fallout is likely to be temporary because of this.

That is because the City is less concerned with ethics than hard cash. And who’s to say there will not be further fines at Shell for individual directors farther down the line? The FSA has certainly not ruled it out.

It is just inevitable that it is always like to take far longer to reach financial settlements with individual directors than companies because, with their reputations at stake as regards future employment elsewhere, they have a vested interest in dragging proceedings out.

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