A bold governance tonic for UK equity markets

The Chancellor of the Exchequer has declared ‘Strong public markets are a vital component of the UK economy.’  Recently, though, serious concerns have arisen regarding the status of the publicly traded British company.  The Financial Conduct Authority (FCA) amended its Listing Rules in 2021 in various ways in response.  It is doubtful whether the changes introduced thus far will do much to strengthen UK equity markets.  Arguably, reform of a more radical character should be on the agenda, such as abolition of the UK Corporate Governance Code.  We engage with these issues in two recent papers.  

Data substantiates concerns about UK equity markets.  The number of companies listed on the London Stock has fallen from over 4400 in the mid-1960s to just over 1100 today.  Moreover, while as of 2006 shares of companies listed in London were worth 10.4 per cent of the global equity market and 36 per cent of Europe’s total market value, the equivalent 2021 figures were 3.6 per cent and 22 per cent respectively.  

The headline change the FCA made in 2021 to its Listing Rules to strengthen UK equity markets was to make it easier for companies to list on what is known as the ‘premium tier’ of the London Stock Exchange (LSE) with founders retaining some outsized voting clout.  Reforms relaxing restrictions impinging on the use of special purpose acquisition companies (SPACs) to buy up firms to bring to public markets were a significant supporting act.  Additionally, the minimum ‘free-float’ for an initial public offering (IPO) for a listed company was cut from 25 per cent of the outstanding shares to 10 per cent. 

Founders apprehensive of losing control of their firms will likely continue to give listing on the LSE a miss

In one of our two papers we assess this reform package and maintain that the changes are unlikely to prompt numerous additional companies to move to the stock market.  We point out that because the Listing Rules as reformed do not embrace outsized voting rights fully, founders apprehensive of losing control of their firms will likely continue to give listing on the LSE a miss.  As for SPACs, not only are they currently being ‘paraded as symbols of market excess’ in the United States after thriving in 2020 and 2021, it cannot be taken for granted that when a UK-listed SPAC acquires a target company that the enlarged entity will re-list on the LSE.  As for the FCA’s reduction of the minimum free-float threshold, with typical pre-reform UK IPO free-float levels being well above the former 25 per cent minimum threshold the change is unlikely to have an appreciable impact.

Even if our assessment of recent IPO reforms is too pessimistic, adjusting the rules governing IPOs is unlikely to strengthen UK equity markets markedly.  IPOs are only one factor influencing the strength of the stock market.  In each year since 1999, save for 2018 and 2021, the number of listed companies on the London Stock Exchange has fallen due to exits exceeding IPOs.  Despite 2021 being a ‘banner year’ for IPOs, substantial exit volume meant the number of LSE listed companies only increased by two.  

Quoted firms have been cheap prey due to weak UK share prices and a Brexit-driven decline in the value of the pound

Why are exits from the London Stock Exchange so common?  Part of the explanation is that quoted firms have been cheap prey due to weak UK share prices and a Brexit-driven decline in the value of the pound.  Our second paper speaks to another possible cause, namely the regulatory burden publicly traded companies face compared to their privately held counterparts.  In this paper, we focus on the UK Corporate Governance Code, arguing it should be abolished. 

The FCA’s Listing Rules require premium listed companies to describe how they apply the Code’s principles and provisions.  Theoretically, such firms have substantial scope to depart from the Code’s provisions but investor ‘box-ticking’ pushes them toward adherence.  Moreover, the Financial Reporting Council (FRC), which oversees the Code, has emphasized that any deviations from the Code should be temporary.  Abolition of the Code would eliminate all such compliance pressure.  

Listed firms would have wide latitude currently lacking in practice to adopt beneficial bespoke governance arrangements.

We do not argue in favour of full deregulation.  Instead, we propose that the Listing Rules mandate that companies divulge pivotal specified corporate governance arrangements.  Crucially, though, listed firms would have wide latitude currently lacking in practice to adopt beneficial bespoke governance arrangements. This may well help to bolster the publicly traded company in the UK.  Unlisted businesses that otherwise might contemplate a move to the stock market have expressed concern about the regulatory burden associated with being publicly traded and anecdotally the prospect of ditching the UK Corporate Governance Code has encouraged various listed companies to go private.  For firms in either situation, abolition of the Code could well tilt the balance in favour of being publicly traded.  

We do not stake out our case in favour of Code abolition solely on the basis that this move would strengthen UK equity markets.  We also point out that numerous Code measures are redundant because they duplicate requirements regulatorily mandated elsewhere.  Also, a recent shift in emphasis in favour of stakeholder protection in the Code is misguided because Code compliance is contingent on shareholder oversight and there is only so far that shareholders will go in promoting non-shareholder stakeholder interests.  Still, with over-governance having been cited as a key reason why companies would prefer not to be publicly traded, the fact that ditching the Code would attack this pattern head on is a key argument in favour of abolition.   

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Continue reading:

Why it is Time to Say Goodnight to the UK Corporate Governance Code (8 July 2022, Brian Cheffins, Bobby Reddy)

Thirty Years and Done – Time to Abolish the UK Corporate Governance Code (8 July 2022, Brian Cheffins and Bobby Reddy)

Will Listing Rule Reform Deliver Strong Public Markets for the UK?  (8 July 2022, Brian Cheffins and Bobby Reddy)

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Professor Brian Cheffins is S.J. Berwin Professor of Corporate Law at University of Cambridge and Fellow of the European Corporate Governance Institute.

This article reflects solely the views and opinions of the authors. The ECGI does not, consistent with its constitutional purpose, have a view or opinion. If you wish to respond to this article, you can submit a blog article or 'letter to the editor' by clicking here.