Board Governance | Litigation
Institutional investors turn to the courts When protecting asset value through litigation is increasingly seen as your fiduciary duty
Institutional investors are encouraged to exercise the rights attached to the securities in which they invest assets for their beneficiaries (retirees, clients, etc) and to actively engage with investee companies.
There is also a renewed interest for ‘fiduciary duties’ of institutional investors and the extension of those duties to environmental, social and governance (ESG) issues related to their investments. Institutional investors must often manage assets in the long-term interest of their beneficiaries while taking into consideration the long-term consequences, both financial and non-financial, of their investment activities. By acting as ‘good stewards’ through the exercise of due care in the selection of investments and the monitoring of investee companies, institutional investors can contribute to the creation of value in the long term for their beneficiaries. It can also help investors prevent, to some extent, undue destruction of value. Unfortunately, institutional investors are sometimes confronted with misconduct, wrongdoing or even fraud that can lead to significant losses on their investments, which also harm the interests of beneficiaries. Institutional investors must then consider available options to recover the value that has been destroyed – or at least part of it. While looking at the recent developments and how industry practices have evolved, it 60 Ethical Boardroom | Summer 2017
Charles Demoulin
Partner at Deminor Recovery Services
seems increasingly more difficult to disregard the option of litigation when harm has been done to assets entrusted to a professional investor. We will therefore focus on some aspects related to legal actions that can help institutional investors protect the assets under their management.
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Evolution towards a more active and direct participation in litigation to protect the assets For many decades, investors have been able to rely on the mechanism of class actions in the United States in which one or several (institutional) investor(s) act(s) as ‘lead plaintiff(s)’ in the interest of an entire class of aggrieved investors. Where those class actions lead to recoveries, most often through a class settlement, investors included in the class can claim their own share of those recoveries even if they have not been themselves directly and actively involved in the litigation. There have been discussions and opinions in the United States about whether and to what extent institutional investors have a fiduciary duty to take the necessary steps to collect available damages to which they are entitled as a result of a class action. A related issue is whether those investors have a duty to take a more active role in this type of litigation (e.g. by acting as lead plaintiff) or to leave the class (opt out) in order to pursue individual claims for their own benefit.
In Europe, the question of the involvement of institutional investors in securities class actions has also been raised. In a 2007 paper, the UK National Association of Pension Funds (NAPF) asked the question “Do trustees have a fiduciary duty to join a securities class action?” and answered that “It seems self-evident that trustees have a duty to protect the assets in their scheme and that they should therefore at the very least not neglect opportunities to recoup losses, where the cost and effort are commensurate with the expected return.”1 This is not limited to trustees in the strict legal sense but also applies to other ‘fund fiduciaries’ (as confirmed by NAPF in a document from 2015). At first sight, starting a court action could be considered as taking investor stewardship obligations to another – more contentious – level. We see however no reason to exclude litigation and the enforcement of rights from the scope of engagement activities that can be expected from institutional investors. In its Global Stewardship Principles that were ratified in 2016, the International Corporate Governance Network (ICGN) provides under Guidance 4.3 ‘Engagement escalation’: “Investors should clarify how engagement might be escalated when company dialogue is failing including… seeking governance improvements and/or damages through legal remedies or arbitration.”2 The relevance of this issue for institutional investors has not diminished, quite the contrary. Over the last years, they have been presented with a higher number of opportunities to recover losses through www.ethicalboardroom.com
