1.1 Introduction

A "huge question for regulators and arguably an embarrassment for all European capital markets" is how one analyst responded to the news that carmaker Porsche used equity derivatives to silently build up a large stake in Volkswagen in the fall of 2008.1 The use of equity derivatives to conceal economic ownership of shares ("hidden ownership") is a phenomenon that is increasingly drawing attention from the financial community, as is the exercise of voting power without corresponding economic interest ("empty voting").2 Market participants and commentators have called for an expansion of ownership disclosure roles, and policymakers on both sides of the Atlantic are now contemplating how to respond. Yet, in order to design appropriate responses, it is key to understand why we have ownership disclosure mies in the first place. This understanding currently appears to be lacking, which may explain why we observe divergent approaches between countries.3 The case for mandatory ownership disclosure has also received remarkably little attention in academie literature, which has focused almost exclusively on mandatory issuer disclosure.4 Perhaps this is because most people assume that ownership disclosure is a good thing.5 But why is such information important, and to whom?

This Chapter aims to answer these fundamental questions, using the European ownership disclosure regime as an example. A focus on the European regime is useful because this regime has been developed fairly recently and a number of justifications have been offered for it. It is also appropriate in light of the fact that the British Financial Services Authority (FSA), which operates within the European framework, has taken the international lead when it comes to adjusting ownership disclosure rules to changed market circumstances. However, the basic insights yielded by this Chapter can be applied universally and should be of interest to scholars and policymakers around the globe, including the U.S. Securities and Exchange Commission (SEC).

The Chapter is structured as follows. Section 1.2 identifies two main objectives of ownership disclosure rules: improving market efficiency and corporate governance. Next, it explores the different mechanisms through which ownership disclosure performs these tasks. This section thus focuses on the potential benefits of disclosure rather than the costs, some of which will be discussed later in the Chapter. The resulting taxonomy sets the stage for a systematic analysis of hidden ownership and empty voting.

Section 1.3 describes some recent high-profile cases that have occurred in Europe and in the U.S. and that illustrate the dramatic effects of bidden ownership. Next, it analyzes the extent to which this phenomenon is captured by existing rules onder the disclosure regime. The analysis suggests it is not, at least not effectively. Finally, this section demonstrates how hidden ownership undermines the mechanisms through which ownership disclosure improves market efficiency and corporate governance. Section 1.4 offers a similar analysis of empty voting. Together, sections 1.3 and 1.4 enable a better understanding of why hidden ownership and empty voting are so problematic.

Section 1.5 discusses policy implications. In general, policymakers contemplating how to respond to hidden ownership and empty voting should not focus only on the most obvious problems caused by these phenomena, such as malfunctioning of the market for corporate control. Instead, they should take into account the whole range of adverse effects described in this Chapter. Specifically, the European Commission, which is currently evaluating the European ownership disclosure regime, should consider expanding the scope of the disclosure rules. In each case, policy-makers should duly take into account the potential costs of increased disclosure, which are highlighted in this section.

The Chapter concludes by summarizing the main findings and by pointing at certain related issues that merit careful consideration, such as the issue of regulatory competition.