Improving Corporate Governance in Russia and the EU
No. 2 2006 April/June

The advance of modern codes and principles of corporate
governance – which involve the system of relations between the
shareholders, board of directors, investors and management of a
company as defined by the corporate charter, bylaws, formal policy
and rule of law – has acquired a global character. Experts of the
Organization for Economic Cooperation and Development (OECD), which
oversees the promotion of international standards in corporate
governance, note that progress has been made by a number of
countries in East and Southeast Europe (Hungary, Russia, Croatia
and the Czech Republic) and Latin America (Argentina, Brazil,
Colombia and Chile). In this sphere, the interests of the state and
business coincide: both equally need a favorable and transparent
business environment. A well-built corporate governance system is
an essential condition for the growth of capitalization,
development of the stock market, and creation of an
investor-friendly economic environment.

Corporate governance practices in the EU and in Russia differ
considerably. There are, however, certain objective and subjective
factors that allow for comparisons and analogies to be made.
Furthermore, even within the euro zone, corporate governance
institutions differ in the levels of their maturity. These
differences became especially pronounced in the wake of EU
enlargement with a number of East European states, although several
“old” EU members (e.g., Portugal or Greece) are only slightly ahead
of Russia in the development of such institutions.

In Europe, it is the state that calls the shots in reforming
corporate governance. The business community – not only in Russia,
but also in many European countries – is not yet self-organized and
self-sufficient enough to influence the formation of corporate
governance principles. The prevalence of concentrated ownership in
Russian and the majority of European companies has a substantial
impact on such essential aspects of their activity as relations
between shareholders and management of a company, transparency, and
the status of independent directors.

Comparative analysis of certain corporate governance
institutions in Russia and major EU countries also shows that they
have much in common. For example, boards of directors in France,
Germany or Italy, as in Russia, are not particularly active and are
mainly comprised of ‘insiders’ affiliated with the owners and
management of the companies. Minority shareholders are clearly in
the minority there. In the U.K. and the United States, boards of
directors are vigorously active and include mainly independent


In recent years, the European Commission (EC) has visibly
intensified its efforts of improving corporate legislation and
corporate governance practices. EU commissioner for internal market
and services, Charlie McCreevy (former Irish finance minister),
incumbent since November 2004, consistently supports the
initiatives put forward by his predecessor, Frits Bolkstein (former
Dutch defense minister).

In the Old World, this problem was given high priority in the
wake of a series of corporate scandals (involving Parmalat, Vivendi
Universal, Royal Ahold, Skandia Insurance, Adecco, etc.) that made
institutional investors and shareholders aware, like never before,
that they had to deal with a serious risk factor. The EC’s efforts
to institute an effective corporate governance system are dictated,
in equal measure, by the desire to restore trust in the stock
market and, most importantly, to stop the decline in EU economic
growth rates. Furthermore, European companies whose shares are
listed on U.S. stock exchanges must comply with the accounting
requirements of the Sarbanes-Oxley Act (2002). Finally, the
admission of new members to the EU (Hungary, Poland, the Czech
Republic and others) highlighted the need for harmonizing corporate
governance models and bringing them in line with EU standards.

Today, work is underway in EU member countries to adapt the
existing corporate governance codes to the OECD Corporate
Governance Principles revised in 2004. EU officials are
increasingly talking about the convergence of legislative and
regulatory documents to improve corporate governance practices
within the entire European Union. EU officials say that this will
not lead to the elimination of country (national) models that
evolved under the influence of national political and cultural
traditions. Furthermore, they deny the possibility of enacting a
European Code of Corporate Governance, along the lines of the
European Constitution (which is still under consideration).

According to McCreevy, the role of the EC is to coordinate the
efforts of EU members with an aim at improving corporate governance
practices by amending national laws and codes of corporate
governance. It is important to remember that EU countries have
different historical traditions that should be treated with
respect. At the same time, it is essential to eliminate divergences
in the legislative sphere that hinder the creation of a single
financial market and create additional impediments to

The European Corporate Governance Forum, a body designed to set
priorities and work out recommendations, was launched in October
2004. It is made up of 15 experts representing a range of
stakeholders, issuers, investors, regulators, auditors, and
academic circles. Its members include Antonio Borges, the vice
chairman of Goldman Sachs International; Alastair Ross-Gooby, who
until recently was chairman of the International Corporate
Governance Network; Jaap Winter, professor of Amsterdam University;
De Brauw Blackstone Westbroek PC; and others.

The Forum was created as part of the Action Plan on Corporate
Law and Corporate Governance, adopted in May 2003. Under the Action
Plan, the EC has for the past two years been publishing regulatory
documents designed to help national governments lay the groundwork
for EU principles in this sphere. Compared with the tough
requirements of the Sarbanes-Oxley Act, the proposals by EU
regulators appear milder and are mainly of an advisory nature and

The Forum’s sessions held last year in Brussels (January),
Luxembourg (June) and again in Brussels (November) showed that the
main problem area in EU corporate governance practices, according
to the EU’s “committee of wise men,” is within the realm of
shareholder empowerment. In particular, foreign shareholders are
confronted with serious legal impediments in exercising their
rights. Meanwhile, according to the EC, public companies in large
EU states have 30 to 35 percent of foreign shareholders, while
companies in small European countries have between 70 and 80
percent. There is also a pressing need to improve corporate control
mechanisms to minimize investment risks.

The EC code of recommendations prioritizes the interests of
shareholders. This refers to expanding shareholders’ access to
information about management and board of directors’ activity,
their participation in discussions and attendance at voting at
general meetings, and giving them a greater role in decision-making
on management compensation policy. Top management salaries should
be transparent and linked to a company’s financial performance. In
a special recommendation (December 2004), the EC directed the
Spanish government to amend its national legislation to end
discrimination against minority shareholders, in particular by
issuing additional shares. In the interests of shareholders, the EC
Directorate General for Internal Market and Services urged issuing
companies to publish special annual reports disclosing in detail
corporate governance practices and procedures.

At the same time, European regulators are aware that should
shareholders’ influence in corporate management move beyond a
certain level, this could effectively nullify the role of
management, turning it into a purely bureaucratic appendage. The
latter, incidentally, is fraught with greater risks, as well as a
possible decline in economic effectiveness. Ideally, the regulators
believe that the interests of shareholders and management should

Other EC recommendations include increased representation. This
move would include a greater role of independent members in the
board of directors, in order to harmonize the relations between
management and majority and minority shareholders; a greater
priority would be given to their professional qualifications. The
advocates of uniform standards also propose improving the level of
responsibility toward the investors and shareholders in relation to
the decisions made by members of the board of directors – above all
in financial matters.

At the same time, certain EC recommendations are failing to
secure the understanding and approval of national governments in
those European countries where national corporate governance
traditions took decades to evolve. Countries of the Old World,
where, in contrast to the United States, concentrated rather than
“dispersed” ownership structures prevail, do not see much point in
a forced expansion in the number of independent board members. For
example, Sweden’s latest version of the code of corporate
governance basically preserves the practice of granting majority
seats of the boards of directors to representatives of majority

The EC principle of guaranteeing the equality of shareholders is
coming up against traditions, especially in medium-sized French
companies where the “veteran” shareholders enjoy a privileged
position compared with “young” shareholders (e.g., in voting at
general meetings). The EC’s stringent disclosure recommendations
have also stirred heated debate within the business community. For
instance, top management at major German concerns is obviously less
than enthusiastic about the idea of introducing mandatory
disclosure claims of board member compensation arrangements. Not
surprisingly, shareholders, supported by the German Federal
Government, insist that this procedure be made into law.

The vector of change outlined by the EC does not mean a move
toward the U.S. model, however, with its over-regulation and
excessively tough and detailed requirements. Brussels officials
prefer a more uniform corporate governance model that would take
into account national specifics and be based on a flexible
combination of mandatory and non-binding procedures. 


In Russia, as well as in other transitional economies, the state
and business community have yet to create an institutional and
legal framework for a full-fledged corporate governance system. In
the opinion of Russia’s more far-seeing business leaders, this
sphere of activity is increasingly taking on a financial and
economic dimension. Russian business majors are spending more money
on improving corporate governance practices. Corporate transparency
strengthens a company’s reputation, while ultimately yielding more
dividends than through the dubious practice of skimming profits
into offshore accounts. To foreign investors, this development is
just as important as witnessing progress in macroeconomic
indicators. Not surprisingly, this aspect is often highlighted by
many Russian companies at their road shows (meetings, presentations
and conferences with members of the investment community) held in
the West. 

It is no secret that the level of corporate governance in Russia
is still far from European standards. At the same time, a number of
Russian companies have been demonstrating good results in this
sphere. In general, however, progress remains rather limited. In
the past one or two years, the biggest achievements have been made
in creating new corporate governance instruments and procedures.
The decision-making role of various corporate boards of directors
is increasing as the number of major deals subject to their
approval is expanding. Companies are streamlining their structure,
in particular by setting up specialized committees – on auditing,
human resources and remuneration, strategic planning, relations
with investors, etc. Furthermore, the proportion of independent
members on boards of directors continues to increase not only at
large but also medium sized companies. At some large companies and
banks, beneficial owners (real owners of securities not subject to
promulgation) are moving from operating control to strategic
planning, leaving it for company management to run day-to-day
activities (the Magnitogorsk Metallurgical Plant, the Pipe
Metallurgical Company, SUAL Holding, MDM Bank).

Another factor involves foreign capital in Russia. The presence
of European and U.S. capital in Russian companies (Vympelkom,
TNK-BP, Wimm-Bill-Dann, Lukoil) has a positive impact on the state
of their corporate governance.

Russia’s shortfalls in the realm of corporate governance are
typical of transitional economies. At best, corporate governance is
oftentimes seen as a mandatory ritual that companies must adhere
to; at worst, it represents a free pass to the stock market.
Needless to say, the legal framework remains insufficient and lags
behind the needs of domestic business.

Corporate legislation in Russia is marked by substantial
internal contradictions and outdated norms and regulations. This
results in numerous corporate conflicts related to the
redistribution of property, while the danger of hostile takeovers
and mergers increases investment risks and the concentration of
ownership. As a result, the volume of publicly traded shares on the
Russian stock market remains insignificant.

In light of the abovementioned situation, there is a pressing
need to amend and adjust legislation regulating corporate
conflicts, mergers and acquisitions, as well as relations between
majority and minority shareholders. Other areas of concern involve
dividend policy, the use of insider information, conflicts of
interest, and affiliation criteria.

In late 2004 and during 2005, an attempt to achieve a
breakthrough in adjusting company law was made. Within the space of
a few months, three state regulatory bodies offered their vision on
how to develop Russian corporate law. First, the State Duma
Property Committee issued recommendations in November 2004. Then in
May 2005, the Expert Council on Corporate Governance of the
Economic Development and Trade Ministry (EDTM) put forward for
discussion a draft concept of corporate law for a period until
2008. The Council comprises a number of reputable experts on
company and finance law representing the Research Center for
Private Law (affiliated with the Office of the President of the
Russian Federation), the Russian Lawyers’ Union, and Baker &
McKenzie. The Council is chaired by Deputy Minister Andrei
Sharonov. Finally, in June 2005, the Federal Service for Financial
Markets came out with a strategy for the development of Russia’s
financial market that also contains a number of proposals on
improving corporate legislation.

It is expected that the key provisions of these documents will
be approved at a Cabinet session and integrated in the form of
amendments and additions to the federal laws On Joint-Stock
Companies, On the Securities Market, and others.

The EDTM concept contains a number of practical recommendations
on improving corporate governance. This refers in particular to
further downsizing the number of executive directors on boards of
directors with a view to distancing them from managerial
structures. One serious shortfall in Russian corporate governance
practice is the weakness of the internal control system and its
subordination to company management. There are also proposals
concerning the formation of control commissions, which would
involve various strategies, such as banning all company executives
from being elected to control commissions, and introducing
cumulative voting in the election of members so as to take into
account the opinion of minority shareholders and ensure their

Current legislation lacks provisions about the liability of
independent directors who have harmed their company by voting
contrary to its interests but in accordance with the wishes of
“their” shareholders. To this end, there are plans to amend the
federal law On Joint-Stock Companies, specifying the duties of
board members and laying down action procedures by the board of
directors in the event of a conflict of interests between a company
and its shareholders.

Russian corporate legislation has yet to address issues related
to insider information. Meanwhile, share prices are being
constantly manipulated on the stock market. For example, in April
2003, insiders cashed in on rumors about the YUKOS-Sibneft merger
that never materialized. According to the federal law On the
Securities Market, the circle of individuals privy to insider
information is rather narrowly circumscribed and does not include,
e.g., members of the board of directors, the audit commission, or
major shareholders. Today, a bill On Insider Information and Market
Manipulation is pending in the State Duma. It provides a clear
definition of “insider information,” while giving a list of
securities that can be affected by insider trading. The bill would
ban the use of such insider information, and expand the scope of
insiders to include not only corporate executives, but also state
and government officials who have access to an issuing company’s

There is also a pressing need to amend the Corporate Code of
Conduct that was prepared in keeping with OECD standards. This
document was approved by the Russian Government in February 2002,
and remains the main guideline for companies seeking to follow
modern principles of corporate governance. A Financial Market
Development Strategy, formulated by the Federal Service for
Financial Markets, proposes amendments to the Corporate Code of
Conduct, such as the creation of independent boards of directors,
preparation and disclosure of consolidated financial statements
according to international accounting standards, and the
impermissibility of insider trading.

There have been few changes in the status of minority
shareholders. Today, Russian business majors have almost 188,000
minority shareholders who own a total of $3.1 billion worth of
stock. Their status remains one of the most serious problems in the
field of corporate governance even though many companies are
striving to earn credentials as being “minority friendly.”
Shortfalls in Russian corporate governance practices include the
infringement of minority shareholders’ rights, the insufficient
role they have in the decision-making process, and the shortage or
complete absence of their representatives on boards of

The EDTM and Duma documents give priority to creating legal
mechanisms of protection against hostile takeovers. In particular,
proposed amendments to the federal law On Joint-Stock Companies
prohibit the seizure of the shareholders’ shares involving
enforcement proceedings, as well as guarantee that decisions by a
general shareholders’ meeting held without approval from the board
of directors will be deemed null and void. The interests of a
majority owner can also be secured by squeezing out minority
shareholders from a company through a forced buyout. In practice, a
considerable part of corporate takeovers is accomplished through an
extraordinary general shareholders’ meeting conducted by minority
shareholders who control a total of not less than 10 percent of
stock. In this context, the EDTM Expert Council on Corporate
Governance has recommended an amendment whereby an extraordinary
shareholders’ meeting may only be convened by a group of minority
shareholders once a court has ruled that the refusal by the board
of directors to hold such a meeting was illegitimate.

The State Duma Property Committee officials believe that
minority shareholders have excessive rights that they purposely
abuse. According to Committee Chairman Victor Pleskachevsky, there
is a pressing need to protect companies and major shareholders
against minority shareholders who act in bad faith. Under current
Russian legislation, the holders of even one or two shares have the
right to file lawsuits to protect their property interests, while
courts may impose all sorts of restraints on companies as security
for these claims, thus effectively paralyzing their operations. For
instance, several years ago, a major LUKOIL deal was scuttled over
a groundless lawsuit filed by a single minority shareholder.

In order to eliminate corporate blackmail, amendments have been
drafted limiting minority shareholders’ rights to file claims on
matters concerning the convocation of extraordinary shareholders’
meetings, the arrest of blocks of shares, the issue of additional
shares, and the reorganization of joint-stock companies. By way of
compensation for these amendments, the Duma Property Committee has
proposed a bill making it binding for all open joint-stock
companies to distribute and pay dividends. Opponents to the idea
believe, however, that such measures could result in company’s
underreporting their profits as a way of lessening the dividend

In July 2004, the State Duma (on the initiative of the chairmen
of four of its key committees: property; credit organizations and
financial markets; civil, criminal, arbitral and procedural law;
and constitutional law and state building) unanimously passed in
the first reading an array of amendments to the federal law On
Joint-Stock Companies. Under these amendments, the holder of a
controlling stake who owns more than 90 percent of company stock
has the right to buy out minority shareholders. Later in the year,
however, the issue stirred heated controversy, which continues to
date. In September 2004, a large group of foreign and Russian
investors representing Hermitage Capital Management, Prosperity
Capital Management, Firebird Management, Aton, Charlemagne Capital,
East Capital, Halcyon Advisors, Morgan Stanley Investment
Management, MC Trust, Third Point Management, Troika Dialog, Vostok
Nafta, and Alfred Berg Asset Management, asked the Russian
president to withdraw the bill. They said that the bill could hurt
the interests of investors and minority shareholders in major
companies. It should be remembered that in the overwhelming
majority of cases, a foreign investor in Russia is a minority
shareholder. Thus, the Expert Department of the Administration of
the President of the Russian Federation supported the investment
community, thereby recommending that the bill be scrapped. As a
result, the draft bill providing for a mechanism to squeeze out
minority shareholders was sent back to the committee and in the
summer of 2005 taken off its agenda.

Disclosure and transparency is an important factor in reducing
the level and intensity of corporate conflicts. According to
Standard & Poor’s, domestic business is becoming increasingly
transparent. The corporate transparency index of Russian business
majors rose from 40 percent in 2003 to 46 percent in 2004,
eventually hitting 50 percent in 2005. The Mechel Steel Group (a
leading Russian mining and metals company) made spectacular
progress within the space of just one year: initially beginning as
an outsider, it quickly rose to become one of the top three leading
mining and metals companies in Russia, along with MTS and
Rostelecom. It was not the majors, however, but medium-sized
companies that were a crucial factor in the index. It is noteworthy
that Russian corporations are far more willing to disclose
information about their social and charity activities than about
the remuneration of their top executives, members of boards of
directors, and external auditors. The majority of companies still
shun transparency. At the same time, many top executives in Russia
are inclined to see “excessive” transparency as a risk factor,
contributing to hostile takeovers and administrative pressure by
corrupt bureaucracy.
The main priority for Russian lawmakers at this point is to
establish a clear legal framework for resolving corporate
conflicts, create civilized mechanisms for mergers and
reorganizations, define affiliation criteria, and regulate the use
of insider information. These moves would signal a clean-up stage
for creating a favorable environment, which is critical to a
full-fledged corporate governance system in Russia. 

Addressing the first international conference Corporate
Governance and Economic Growth in Russia in June 2004, Ira
Millstein, a prominent expert on corporate governance, drew an
interesting analogy: “Throughout its history Russia successfully
repulsed invasions from foreign powers of all kinds: Germany,
France, Turkey, and Sweden. At the same time, however, there is a
kind of invasion that remains impossible to resist: corporate
governance and the global need to attract capital to secure
production growth and enhance competitiveness. This is a universal
rule that was not invented in America, Britain, Germany, Canada or
anywhere else. It applies to all countries. If Russia wants to
become part of the global economy, it should play according to the
general rules. If you want to attract capital to Russia, you’ll
have to live according to these rules.”