A general introduction to shareholder rights and activism in Brazil

All questions

Overview

i General perception

It is a common perception that shareholder activism² is still incipient in the Brazilian business environment. Activist campaigns are rare because, among the possible explanations (putting aside the implausible one that Brazilian companies are flawlessly managed and shareholders are completely satisfied with them), the typical capital structure of Brazilian companies makes activism ineffective; or the Brazilian regulatory framework on the subject offers few instruments to make activism worth its while. In this chapter, the potential causes will be analysed, without seeking to conclude whether corporate activism is a net positive or negative, and the above reasons (or a combination of them) will be considered to understand whether any of them justify the relative lack of activist campaigns in Brazil.

ii Are there too few targets for activist campaigns?

Currently, there is only one stock exchange in Brazil: the B3 (Brasil, Bolsa, Balcão). There are approximately 455 companies listed on the B3.³ Although that number is average among OECD countries, the general perception is that the Brazilian capital markets remain underdeveloped (the total market capitalisation in 2020 represented 65 per cent of GDP).⁴ This is perhaps due to the high interest rates historically paid by the Brazilian government, contributing to most investors preferring fixed income government debt,⁵ which (on a much smaller scale) was recently amplified by the flight of essentially Brazilian businesses to foreign stock exchanges due to the adoption of shareholder models that allow multiple voting (such as XP Inc, StoneCo Ltd and Pag Seguro Digital Ltd).

Another relevant factor is the capital structure of Brazilian companies. Historically, most Brazilian companies were controlled by families or small groups of shareholders linked by a shareholders' agreement. True corporations were less than a handful. This is changing and the proportion of pulverised control companies in the Novo Mercado listing segment of the B3 rose from 19 per cent in 2009 to 55 per cent in 2022,⁶ although (according to the Corporate Governance Yearbook of the Public Companies 2020–2021) from a sample of 150 Brazilian companies, only 6 per cent of the company's capital is dispersed (i.e., no shareholders hold more than 10 per cent of the shares).

Thus, despite the relative historical scarcity of opportunities for activism, Brazil's business environment may be moving towards a phase in which the equity structure of publicly traded companies allows for greater opportunities for shareholder activism. The following Section examines whether the law and regulations in force foster – or, conversely, discourage – activist campaigns.

Legal and regulatory framework

Brazilian Corporate Law (Law 6,404 of 15 December 1976, as amended) (BCL) and the regulations issued by the Brazilian Securities Commission (CVM) contain legal provisions available on the activist toolkit, such as relating to the supervision right, a very broad pre-emptive right that applies in any situation except, practically, stock option plans and public offerings,⁷ and the right to withdraw from the company in certain circumstances (such as mergers, changes in the business or changes to mandatory dividends).⁸

These broad principles give rise to a number of specific rights, as detailed below.

i Toolkit on shareholders' meeting

BCL sets forth that generally it is the board of directors that may call a shareholders' meeting. However, it also allows the shareholders and the fiscal council to call the shareholders' general meeting in certain cases. General meetings serve to dismiss and elect board and fiscal council members,⁹ make changes to the company's by-laws, determine guidelines for management, and initiate investigations, among other matters. In all such cases, shareholders must always exercise their voting rights in accordance with the company's interests and not their own.¹⁰

The fiscal council can call the shareholders' general meeting (1) in the case of delay of more than one month to call the annual general meeting by management, and (2) whenever the fiscal council identifies any serious or urgent reasons.¹¹

Shareholders may also call general meetings if management does not call in 60 days or by shareholders representing at least 5 per cent¹² of the share capital when (1) management fails to attend a call request made by shareholders within eight days, or (2) when a general meeting call requested by the fiscal council is not carried out by the management.

Even if minority shareholders are able to call meetings to discuss issues that may affect the company, there is no guarantee they will be able to form a majority capable of approving such resolutions, especially in companies with large shareholder groups that are friendly to management.

The BCL also allows shareholders to request the CVM to extend or interrupt the general meeting calling period. The extension is for up to 30 days from the date of disclosure of documents relating to such general meeting. The interruption is for up to 15 days to allow the CVM to review the proposals of the meeting and evaluate if they violate legal or regulatory provisions. Both tools are often requested to be used by minorities dissatisfied with proposals put forth by management or by controlling shareholders, and can serve as an effective pressure point if granted by the CVM, which is somewhat common but by no means guaranteed.¹³

ii Supervision and control

The shareholders also have the essential right of supervision, pursuant to Item III of Article 109 of the BCL. To this end, BCL created the fiscal council, a corporate body dedicated to the supervision of management and financial statements (shareholders can supervise management directly in some limited forms, such as reviewing corporate books).

The fiscal council can be composed of three to five members. Minority shareholders representing 10 per cent of the voting share capital (or shareholders holding non-voting capital, regardless of percentage) may elect one member each. The actual functioning of the fiscal council is optional, but shareholders may request it (provided they represent 10 per cent of the voting shares or 5 per cent of the non-voting shares).¹⁴

Although the fiscal council is a collegiate, members can act individually in supervising, denouncing, and requesting clarification to management.¹⁵ In practical terms, the fiscal council is an important instrument in improving transparency and oversight, especially in companies with controlling shareholders.¹⁶

iii Liability of the controlling shareholders and directors

An avenue often used by activists in Brazil is the threat of liability of the controlling shareholder or management for damages caused to the company or its shareholders, or both.

A controlling shareholder (Section 116 of the BCL) is one that holds the majority of votes at shareholders' meeting, and that has the power to appoint the company's directors and effectively uses such powers to direct the company's social activities.

The BCL sets extensive fiduciary duties to the controlling shareholder. The breach of such fiduciary duties constitutes an abuse of power and can give rise to liability of the controlling shareholder for losses and damages caused.

Claims for liability of controlling shareholder are somewhat rare in the activist scenario as the incentives are, mostly, skewed: claims will often generate little or no compensation to the shareholder that filed the suit and had to support its costs.

A currently more fashionable tool is found in Section 246 of the BCL, which sets forth the possibility of imposing liability to controlling companies. Shareholders representing 5 per cent or more of the share capital¹⁷ can start the suit (also even shareholders holding any number of shares, as long as they offer security for the costs and attorney's fees due in the event the action is dismissed).¹⁸

For this type of suit the BCL creates an economic incentive: a 5 per cent prize to the shareholder that starts the suit and 20 per cent for its lawyers, calculated on the compensation paid to the company. This claim is therefore more attractive to shareholders and has been used recently, for example, by the minority shareholders of Braskem SA, whose parent company (Odebrecht SA) admitted corruption. Certain shareholders of Braskem claimed that the corruption acts were a true abuse of control power held by Odebrecht and that Braskem was used as a means of obtaining undue benefits for Odebrecht managers, seeking compensation of 3.65 billion reais.

In addition to the civil liability of the controlling shareholder, the BCL provides for a specific suit for the liability of directors for breach of fiduciary duties. Such suit, provided for in Section 159 of the BCL, must be proposed by the company after a decision of the general meeting.¹⁹ If the company does not take any action after three months from the approval by the shareholders, then any shareholder may propose it. Shareholders representing 5 per cent²⁰ of the share capital can file such suit if it has been rejected by the shareholders' meeting.²¹

iv Appointment of directors

Shareholders can and often do interfere in the management of companies by appointing members of the board of directors. Generally, directors are chosen by majority vote, but the BCL has two procedures for minority representation in the board.

The first of these is multiple voting (Section 141 of BCL). In such a procedure, the voting is done individually, not by slate, and the number of voting shares is multiplied by the number of candidates to the board. This enables shareholders to concentrate their votes on one or several candidates. Such voting must be requested by the voting shareholders that represent at least a certain percentage of the share capital (depending on the amount of capital stock of the company; in most Brazilian listed companies, the percentage is 5 per cent).

The second procedure is separate voting, which is intended for companies with a controlling shareholder. If a separate voting is requested, up to two additional directors may be appointed. One by voting shareholders representing at least 15 per cent of the capital stock (in Novo Mercado companies that have only voting common shares, the CVM interpreted this provision of law to reduce the threshold from 15 per cent to 10 per cent) and the other by non-voting shareholders representing 10 per cent of the capital stock. If the shareholders with and without voting rights do not reach such levels, then they may unite and elect one director, provided that they represent, in aggregate, 10 per cent of the capital stock. This procedure is only available for shareholders that prove they held their shares for at least three months.

In any event, the controlling shareholder (if applicable) is granted the right to elect the same number of directors as the minorities plus one.

v Approval of management report and remuneration

An important procedure for mitigating the agency conflict between directors and shareholders is set forth in Section 152 of the BCL and determines that the management's compensation must be approved by the shareholders' meeting. This model established by the BCL since 1976 was a milestone at the time and is still advanced today.

The directors shall also submit to the approval of shareholders the management report and the financial statements. If the management report and financial statements are approved without reservations, then the management can no longer be held liable for past actions (except error, fraud, wilful misconduct or sham).²²

For this reason, the members of management who are also shareholders cannot vote for the approval of the management report and financial statements.²³ The CVM has recently interpreted such restriction to apply to entities controlled by a member of management.²⁴

vi Conflict of interest

Section 115 of the BCL prohibits shareholders from voting in certain circumstances. In addition to voting for approval of their accounts if they are members of management, a shareholder cannot vote in any situations in which they may 'benefit particularly' or if they have conflicting interests with those of the company.

The 'particular benefit' is a lawful benefit but one that serves the interests of one or a group of shareholders and no one else. An example of what the CVM considered a 'particular benefit' was a proposed different exchange ratio (for the controlling shareholder) on a merger.²⁵

The 'conflicting interest doctrine' is a contentious issue at the CVM. Historically, most decisions established that the shareholder is not prohibited from voting, but an analysis should be made of whether any vote cast was detrimental of the company after the event. CVM's recent position on the nature of the prohibition in this case is that there exists an absolute and previous prohibition on the exercise of votes by shareholders that have conflicting interests with those of the company.²⁶

Thus, shareholders can use administrative and judicial methods to prevent votes that conflict with social interests from being cast. In cases where the controlling shareholder is in a position of conflict, the minority shareholders are able to decide on the specific resolution in which the controlling shareholder is prevented from voting.