The end of golden shares

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In 2011, Rolls-Royce, the UK aerospace and defence group and the second-largest engine manufacturer globally, was granted approval from the City of London to appoint a foreign chairman or chief executive for the first time in the group’s 100-year history. Following this approval, the company will now ask investors to sanction a change to its articles of association concerning the ‘unforeseen resignation’ of the chief executive or chairman.

Whereas one of the stipulations of the concession remains that at least one of the top two positions within the company must be held by a British national, the development nonetheless represents a significant change in the regulations that govern UK companies, as it sees the relaxation of the so called ‘golden share’ agreement that has protected businesses such as Rolls-Royce from foreign takeovers.

Purpose-built decisions
Over the years the UK government has been extremely reluctant to allow foreign nationals to run home-grown prize assets, and has been particularly keen to retain home-ownership in the case of businesses which are closely linked to the defence and security industries, such as Rolls-Royce.

In the 1980s and early 1990s, the government purposefully took shareholdings in certain UK businesses. Golden shares were designed to protect newly privatised companies against a takeover. The rationale behind this was to protect the company, as a temporary measure, from an overseas acquisition, principally on the grounds of national security. This was a means of helping management to adjust to the circumstances of its new private sector ownership.

Typically, the golden share grants the Secretary of State (as the holder of the share) a 15 percent shareholding in the company, and consequently the ability to block any potential takeover of the business.

Today, Rolls-Royce – privatised in 1987 – is a key UK player in the construction of the power plants, and as such one which is key to the government’s national defence programme, most notably in providing vital components in operations, which ranged from Typhoon fighters to nuclear submarines.

Furthermore, it continues to be a very successful British business. In 2012 it contributed approximately £7.8bn of the UK’s total GDP. It is still one of the country’s biggest employers, with a staff base of 22,000 people in the UK, and there is almost the same figure employed in its overseas operations. In terms of its international operations, some 85 percent of its sales are in the export market.

In the 1980s and early 1990s, the government purposefully took shareholdings in certain UK businesses. Golden shares were designed to protect newly privatised companies against a takeover


In terms of the British defence strategy, some 400,000 members of the armed forces rely on Rolls-Royce’s technology to keep them airborne and operational. Furthermore, Rolls-Royce’s order book currently stands at some £62bn – nearly four times the value of the Royal Bank of Scotland. It is also notable that Rolls-Royce has recently signed an agreement with the French Government, which will mean that it is now scheduled to build key parts for the next generation of Anglo-French nuclear power stations over the next 10 years.

Given these stats, the UK government is still keen to hold on to its star performer. In early 2011, the Prime Minister David Cameron descended on its Derby-based aviation plant, holding an impromptu Cabinet meeting. This is a clear indicator of how important Rolls-Royce is to the government.

In late 2012, the Department for Business announced the government had agreed that the terms of the golden share could be amended in the event of special circumstances, provided that the shareholders of Rolls-Royce agreed to them.

A highly political backdrop
In the early 1990s, Britain’s leading industrial companies were ICI and GEC. Rolls-Royce completed this triumvirate. All three were governed by golden share agreements. However, ICI and GEC have both gone under. Rolls-Royce, meanwhile, has gone on to prove itself as one of the last success stories of British industry. Since 2002, approximately one-fifth of listed companies have de-listed from the London Stock Exchange, meaning that the UK today has virtually no home-grown quoted company in the fields of car construction, chemical or building materials. These formerly British-owned businesses are now controlled by overseas investors.

More recently, there have been other developments. In 2012, the UK Ministry of Defence (MOD), which holds golden shares in a number of UK defence companies, agreed to modify the golden share rule on one of its businesses – QinetiQ – a business that provides technical and engineering services to the MOD, meaning that the government forfeited its right to veto transactions. Whereas the MOD retained voting rights, it lost its power to block an investor from building up a stake in the company, which could result in a future takeover.

david cameron
David Cameron met at Rolls Royce

The EU’s standpoint
However, recent EU Legislation has challenged the legality of the golden share, which could open the floodgates for large corporates to appoint outside shareholders, and ultimately, become independent of government control.

The European Commission (EC) has a long history of challenging golden shares, referring them to the European Court of Justice. In recent years the EC has instigated proceedings against Italy, Portugal, France, Belgium, Spain, the UK and Germany in relation to their golden shares. In 2010 Portugal exercised its golden share rights in order to attempt to block the sale of Portugal Telecom’s stake in Vivo – a Brazil-based telecommunications company – to Telefonica in Spain. In a further case against Portugal that year, the ECJ confirmed its earlier rulings on golden shares.

Also, the German Government has held a golden share since 1960, in a law that privatised Volkswagen. The EC successfully challenged the law in 2007, which forced the German government to make limited amendments to the transaction. However, as a precedent, in 2003, the European Court of Justice drew on the EU principle of the free movement of capital ruled against the Spanish government for holding golden shares in a number of privatised companies, including Repsol and Telefonica.

Golden share exemption
In the UK, the government previously held a golden share in BAA Systems, the airport operator which controlled Heathrow and Gatwick. BAE’s strategy was to merge its operations with EADS, the France-based owner of Airbus, and although BAE protested that the defence part of the business would remain in London as opposed to Paris, the UK government exercised its right to enforce the golden share rule.

However, in 2000 the EU ruled that the golden share rule contravened current EU Legislation, and subsequently revoked the share. From a purely financial perspective, Rolls-Royce’s full-year results for 2012 saw an increase rise of eight percent to £12.2bn, this – in addition to pre-tax profits by nearly one quarter on the previous year, to £1.4bn. This is a real success story, and one which the government understandably wants to boast about.

Financials aside, today Rolls-Royce is now a global business and one that is aiming to access a global pool of talent as the business continues to expand. According to a recently-issued press release, the company says, “As such, the company has set its sights on establishing a security committee of UK nationals to decide on sensitive technology and security matters should a foreigner be appointed CEO.”

Another factor in the relaxation of the golden share rule is that Rolls-Royce is struggling to compete in the international market when it comes to CEO wages. For instance, the current CEO earns just over £800,000 a year. Whereas this sum seems huge in comparison to the common man, to put it into perspective, W James McNerney, the CEO of Boeing, was paid in the region of $2m last year.

Furthermore, Rolls-Royce estimates that the demand for military engines over the next 20 years could total around $155bn, and in addition to this, its services and support equipment could tally as much as $260bn.

In today’s market, civil aviation looks set to reach new highs. According to data from the International Civil Aviation Organisation (ICAO), some 2.9 billion people used air transport in 2012. The highest growth was seen in the Middle East and the ICAO expects the industry will see six billion people flying each year by 2030.

Substantial growth is also expected in the company’s marine business, where it makes systems for offshore oil and gas, merchant and naval vessels. Its power-generation business – which designs and manufacturers turbines for nuclear – oil and gas power plants, is also expected to boom as energy becomes a more valuable commodity.

In view of the recent regulatory challenges by the EU – especially in connection with the BAA ruling – the UK Government has reluctantly agreed to relax the golden share rule. As a twist of irony, Rolls-Royce recently appointed the Oxford-educated Ian Davis – formerly Chairman of McKinsey – and a British national, as Chairman.

In order to compete in the global market place, Rolls-Royce needs to exploit the opportunities that are presented, not just in terms of the booming aviation sector, but also national defence. However, it could be argued that the UK Government is holding it back. Whereas the Government is keen to hold on to one of its last-remaining home-grown success stories, it also appreciates that in order for it to compete in the global market place it needs to be content in a global market, and against companies that are not tied to a golden share agreement.

The legal angle

Historically, golden shares were purchased by the UK Government for a nominal value, at as little as £1.

This agreement means that the UK Government continues to retain a stake in the company, essentially holding the right of veto in the event of a potential takeover from an overseas acquirer.

The golden share effectively means that the UK Government can block any deal that would lead to companies operating in the UK’s defence sector becoming owned by overseas owners.

No other investor is permitted to acquire more than a 15 percent stake in the company.

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