Brian Gaynor: Message to directors: buy and hold

Directors' shareholdings are a contentious issue. There is a widely held belief that shareholdings act as a strong incentive to directors, but not everyone agrees.

Trans Tasman Properties' independent directors have put forward reasons they have not bought shares and a highly respected senior director has similar views.

He believes: "The insider trading restrictions (and indeed ethical considerations) are such that if one takes a very strict view there is really no time at which a director is not in a privileged position when compared with other shareholders.

"If company directors wish to trade shares then they are well advised to do so in companies other than their own.

"My personal belief is that if a director wishes to hold shares in the company, then he should acquire them at the time of his appointment to the board.

"Thereafter the prudent course is to regard them as a locked-in investment until some time after he ceases to be a director.

"Any trading activity in the shares should be discouraged and has the potential to have adverse consequences, not only for the director but for the board as a whole and the company."

As the accompanying table shows, independent non-executive directors of our 10 largest companies, which account for 60 per cent of the sharemarket's total value, are neither big traders nor large shareholders.

The only two non-executive directors with large holdings at the latest balance date were John King of Telecom, with 248,080 shares, and Bill Trotter of Sky City, with 295,339.

The table does not include the shareholdings of executives or former executives on the board. In this group are Telecom chairman Dr Roderick Deane, Fisher & Paykel chairman Gary Paykel, Hugh Fletcher of Fletcher Building and the former Carter Holt Harvey chairman Sir Wilson Whineray.

Telecom's independent directors, with the exception of King, have relatively small shareholdings. Only Patsy Reddy and Paul Baines participate in the company's dividend reinvestment scheme.

Reddy is one of the few directors who buys and sells. She bought two lots of Telecom shares in the June 2002 year, 4000 at $5.10 and 2000 at $5.16, and sold 2000 Sky City shares at $5.75 (adjusted for the share split) and bought back 1665 at $6.00. Australia-based Rod McGeoch bought 10,000 Telecom shares at A$4.63 on June 25.

Carter Holt Harvey has three independent directors, chairman John Maasland, Dr Helen Nugent and Terry McDonald. McDonald has 40,000 shares but the other two have none.

Contact Energy's three independent directors own a total of 52,412 shares. They recommended shareholders accept Edison Mission Energy's $4.14 a share takeover offer at the end of 2001.

In the June 2002 year Sky City's independent directors bought 380,043 shares and sold 305,470, after adjusting for the November 2001 share split.

Most of the purchases were through the exercise of options and the sales were to finance these transactions.

When directors exercise options they usually sell sufficient shares to finance the purchase but Sky City's independent directors would be better off by more than $900,000 if they had held onto all their entitlements.

The independent directors of Auckland International Airport, Sky Network Television and Independent Newspapers own relatively few shares and have not bought or sold in the past two years.

The Warehouse's independent directors have very few shares, with the exception of John Avery, who has a related party holding of 405,145. Avery holds none in his own name, nor does chairman Keith Smith.

Some Warehouse directors received shares through the "Outperform the market" share option plan, which have not been included in the July 2002 purchases.

Although Fletcher Building's independent directors bought 47,000 shares in the June 2002 year, only one of them takes part in the company's dividend reinvestment scheme. It is surprising how few directors participate in these schemes.

Fisher & Paykel's non-executive directors bought 17,000 shares in the latest March year but still have relatively small shareholdings. Adrienne Clarke, an Australian-based director, sold 7000 shares in June for A$9.79 and bought 10,000 a few days later for A$9.78.

These shareholding statistics demonstrate that independent directors are not large holders of shares or big traders.

Purchases and sales by directors are suppose to give a strong signal to the investors about the prospects of a company but these signals are not strong in New Zealand because of the relatively few trades.

One of the arguments against director shareholdings is that most of our big listed company flops - Equiticorp, Chase, Robt Jones Investments, Brierley Investments, Air New Zealand and Tranz Rail - all had directors or related parties holding large numbers of shares.

This is true, but these companies didn't have many independent directors and when they did they had fairly small shareholdings.

Independent directors have an incentive to monitor a company if they have money invested in it. A buy and hold strategy is preferred because this focuses their minds on long-term objectives.

There are three reasons a buy and hold strategy should not cause any problems from an insider trading or ethical point of view.

The Insider Trading (Approval Procedure for Company Officers) Notice 1996 contains a recommended procedure for selling and buying securities by directors, company secretaries and employees.

Before buying or selling, individuals must give written notice of the transaction and consent must be received from the board.

The securities must be bought or sold no later than 15 days after the consent is given.

There are two periods in which directors can buy or sell securities. These are:

* From the day after the announcement of the annual profit to one month before the end of the first half of the next year.

* From the day after the interim result is announced to two months before the end of the financial year.

For companies that report quarterly insiders can buy or sell shares from the day after a quarterly profit is announced to the end of the quarter in which the announcement is made.

The Insider Trading Notice is not binding but most of our larger companies have adopted its main recommendations.

The procedure ensures that insiders can buy and sell only after receiving permission from the board and within certain time frames.

Kerry Hoggard was forced to resign as chairman of Fletcher Challenge because he bought shares without complying with these requirements.

Two other legal requirements, continuous disclosure and the disclosure of relevant interests by directors and officers of public issuers, should enable directors to buy and sell without worrying about insider trading.

Under the continuous disclosure regime the market should be fully informed about a company, and directors and officers now have to disclose all trades to the stock exchange within five trading days.

Investors would be delighted to have our listed company boards stacked with independent directors holding large numbers of shares.

With the new continuous disclosure regime, disclosure of directors' interests requirements and the recommended procedure for buying and selling shares, there is no reason for independent directors to worry about insider-trading restrictions.

Investors would have more confidence in the market if independent directors had bigger shareholdings that were acquired as part of a buy and hold strategy.

* Email Brian Gaynor