Which Related Party Transactions Should Be Subject to Ex Ante Review? Evidence from Germany
With its rules on related party transactions (RPTs), the amended EU Shareholder Rights Directive introduces a novel ex ante review of suspicious transactions to many continental jurisdictions. German law, for instance, has traditionally been adhering to a very different regulatory strategy for policing tunnelling. And despite the German stock market having opened up in recent decades, it still remains dominated by stronger insider interests than its counterparts in the UK or the US. Subjecting such insider transactions to more incisive scrutiny is a leap in the dark for Germany—and arguably for most other economies on the continent as well.
With a focus on the ongoing implementation of the Shareholder Rights Directive in Germany and elsewhere, we use the disclosure of RPTs under International Accounting Standard 24 to cast some light on the magnitude of RPTs by German companies. In our paper, we provide hand-collected data on reported RPTs in 2017 for almost all German companies listed as of December 2017.
Ownership concentration remains high in Germany: 40% of companies have a majority shareholder and 73% have at least one shareholder with 20% of the voting rights. In light of so many strong owners, one key question is the appropriate design of the materiality test triggering disclosure and the approval requirement. The present draft of the German implementation bill sets the materiality threshold at 2.5% of balance sheet assets. Our data allows us to estimate that a mere 10–20% of German companies would have reached this limit.
Based on our evidence, we make two main recommendations for the design of the materiality test. First, we suggest using more than one single reference value, such as company assets. One or two appropriately chosen additional measures would make it harder for managers to sidestep RPT review by tinkering with the amount of a given transaction. Second, we expose what we believe to be a legislative glitch in the Shareholder Rights Directive—the inclusion of transactions with downstream entities (subsidiaries, joint ventures, and associates). We argue that member state legislation should seek to neutralise the EU’s mistake by using optional exemptions and introducing a significantly higher threshold for downstream RPTs.