On 3 March 2013, the Swiss electorate approved a people’s initiative with the suggestive name “against remuneration rip-off”, by an overwhelming majority of 67.99% of the votes cast and in the face of opposition from the Swiss government and industry leaders.
The Swiss people’s vote has attracted a lot of notice internationally, as innumerable press-headlines show. The interest was compounded by the fact that almost simultaneously the EU-Commission and the EU-Parliament unveiled plans to limit bonuses and to submit management compensation to a shareholders’ vote, respectively.
What is the background to the “Initiative against remuneration rip-off”? What does the Swiss people’s vote in favor of the initiative really mean and what will happen now?
The initiative was launched on 26 February 2008¹ with the goal of strengthening the influence of shareholders on the compensation of the board of directors and senior management of stock-exchange listed companies.
The promoters of the initiative argued that excessive management compensation, which is beyond effective shareholder control, is damaging to companies and to the broader economy, and that self-regulation has failed to resolve the problem.
On the other hand, those opposed to the initiative argued that the legislative proposal was contrary to the liberal tradition of Swiss shareholder legislation, that it would bring about an unnecessary restriction of the economic freedom of listed companies and that it would hinder sustainable, long-term management of business.
Eventually, after some years of political debate, the Swiss government acknowledged the need for more regulation by issuing a counter-proposal to the initiative, containing draft legislative proposals to create more transparency for shareholders and increased duties of care (and therefore also liability) of the board of directors. Remarkably, as opposed to the initiative, the government’s counterproposal was to apply to both public and privately held companies. The counter-proposal would have entered into force if the initiative had been rejected in the referendum.
The approval of the initiative results in a new article in the Swiss Constitution². Swiss government and Parliament are now called on to implement the provisions of the initiative into domestic legislation and to amend existing laws that run contrary to the new constitutional provision.
- Main Provisions of the Initiative
The main provisions of the initiative, which will apply to Swiss listed companies (in Switzerland and abroad), can be divided into two categories: (1) shareholder control and other limitations on senior management compensation, and (2) increased independence in shareholder votes.
- Shareholder Control and other Limitations on Senior Management Compensation (“Say on Pay”)
1.1 Annual Shareholders’ Vote on Management Compensation
The aggregate total compensation (both cash benefits and benefits in kind) of the board of directors, the executive officers and of any advisory board of Swiss listed companies (whether listed in Switzerland or abroad), will have to be approved on an annual basis by the general meeting of shareholders. Currently, Swiss listed companies must merely provide information in the notes to the balance sheet on the total remuneration paid to the aforementioned management categories.
1.2 Prohibited Categories of Compensation
The following categories of senior management compensation, which are currently widely used, shall in future be prohibited: (i) severance payments and other compensation granted in connection with a departure from the company (i.e. “golden parachutes”), (ii) advance compensation, i.e. payments made before or for joining the company, (iii) premiums or bonuses granted for sale or purchase of enterprises (i.e. M&A transactions), and (iv) additional compensation from advisory, consultancy or employment agreements with other group companies (i.e. multiple group contracts).
1.3 Compensation, Grants and Incentive Plans to be set out in Company’s Articles of Incorporation
The articles of incorporation will in future have to set out rules on the amounts of any loans, facilities and retirement benefits to be granted to senior management and board members. Furthermore, incentive plans (stock option plans, variable compensation plans etc.) available to board members and senior management will also have to be set out in the articles, as will the duration of employment agreements of executive officers.
This will mean shareholder scrutiny over all such matters, since amendments to the articles of a Swiss company must be resolved by a shareholders’ vote (limited exceptions apply).
1.4 Other Limitations and Controls
According to the new constitutional requirements, the board members, chairman of the board and members of the compensation committee will be elected individually and on an annual basis. Today, members of the board of directors are elected for a three-year term, unless provided otherwise in a company’s articles, and terms of up to six years are permitted. Furthermore, under the current rules, the chairman can be elected by the board and a compensation committee is not compulsory (although recommended and usual for listed companies).
- Increased Independence in Shareholder Voting
Traditionally, shareholders’ votes in Switzerland have often been exercised by way of corporate proxies, i.e. institutional representatives appointed by the company itself, or depositary proxies, i.e. representatives appointed by the banks. Usually, large numbers of “passive” shareholder votes have been channeled through these proxy models, which have generally been managementfriendly or at least predictable.
A number of additional provisions in the new constitutional provision have the potential to substantially change shareholders’ participation in general meetings and to strengthen independent voting:
- Both corporate proxies and depositary proxies are to be prohibited under the new constitutional article;
- As a consequence, only independent proxy representatives will be permitted. Such independent representatives are already foreseen under the current legislation. However, in future they are to be elected by the shareholders (as opposed to now, where they are appointed by the company);
- Shareholders will have the right to vote electronically from a remote location;
- Representatives of pension funds will have the obligation to vote “in the interests of” their insured members and will have to disclose how they have voted.
- Sharp Teeth of the Initiative
Compliance with the new constitutional article is to be ensured by way of criminal sanctions. Accordingly, a breach – potentially any breach – of the new provisions will carry a custodial sentence not exceeding three years or a monetary penalty of up to six times annual compensation.
Combined with the existing provisions of the Swiss Code of Obligations on liability of the members of the board of directors and persons engaged in the management of a company, the new system has quite sharp teeth. The implementation of the new constitutional provisions will show whether these sharp teeth are also strong and capable of biting.
- Implementation and Outlook
The constitutional amendments will first have to be implemented into Federal legislation, a process which can be long and complex.
In order to avoid a postponement sine die of the implementation of the new provisions, the initiative incorporates a requirement that, pending adoption of implementing legislation by the Parliament, the Swiss government must issue an ordinance for provisional implementation of the constitutional amendment within one year from approval by the Swiss electorate (i.e. by 3 March 2014).
This notwithstanding, implementation of the new constitutional provision will be a lengthy process that will have to clear many hurdles. The constitutional amendments will require a number of changes to Swiss corporate laws, and listed companies will then have to incorporate substantial changes into their articles of incorporation.
While it is too early to say how the implementing provisions of the new constitutional article will look and when they will come into force (and even, for a number of them, whether they can be effectively implemented at all), there is a potential for Swiss legislation on public companies to become one of the most radical in the world with regard to the “say on pay” of senior management.
Accordingly, Swiss listed companies will have to closely monitor the upcoming developments, in order to be ready to take in a timely manner the necessary action, particularly with regard to their compensation schemes for senior management.