According to a 2003 World Bank assessment of Chilean corporate governance practices, Chile scores well on the assessment on compliance with the Organization for Economic Co- operation and Development (OECD) principles. Nonetheless, certain weaknesses were identified and the World Bank made policy recommendations in three broad areas relating to legislative reform, institutional strengthening and voluntary/private initiatives. The World Bank recommended amending the legislative framework to achieve greater transparency and strengthening the market surveillance mechanisms. Improvements in the general enforcement of investor property rights were also suggested. More recently, a 2008 paper by Allen and Gourevitch notes that ownership is highly concentrated and that minority shareholder dissatisfaction is "substantial." However, Chile has been taking initiatives to achieve greater convergence with international practices. Law No. 19,705 known as the Corporate Governance Law was introduced in 2000 with the main goal to protect minority shareholder rights in Chilean companies, especially during changes in corporate control. Furthermore, according to the Deloitte IAS Plus website, by 2009, all major listed companies will be presenting financial statements in accordance with International Financial Reporting Standards promulgated by the International Accounting Standards Board.

General Overview

According to a number of sources, Chile's corporate governance standards are high and its capital markets are among the most developed in Latin America. In 2003 the World Bank conducted an assessment of Chilean corporate governance practices benchmarked against the Organization for Economic Co-operation and Development (OECD) principles of corporate governance. The findings were published in the Report on the Observance of Standards and Codes (ROSC) in which the World Bank confirmed that "overall Chile scores well on the assessment on compliance with the OECD Principles, scoring "Observed" or "Largely Observed" for 14 of the 23 Principles; no Principle is deemed "Not Observed" (p. 1). Nonetheless, certain weaknesses were identified and the World Bank made policy recommendations under three broad categories: legislative reform, institutional strengthening and voluntary/private initiatives. The report recommended further amendments to the Corporations Law and the Securities Market Law to increase transparency for investors; greater transparency in and accountability of the Superintendency of Securities and Insurance (SVS); additional resources for the SVS to strengthen market surveillance; and improvement in the general enforcement of investor property rights. Finally, the report proposed the creation of an Institute of Directors to provide training for supervisory board members and dissemination of best practices. Some of the deficiencies still persist and a 2008 paper by Allen and Gourevitch notes that "ownership remains highly concentrated and there is little evidence of minority investors actively attempting to improve corporate governance" (p. 13). Furthermore, the paper finds that there is no market for control and that minority shareholder dissatisfaction is "substantial."

However, Chile has been taking initiatives to further improve its corporate governance practices. For instance, Chilean authorities are working towards the convergence of national accounting principles with the International Financial Reporting Standards (IFRSs) promulgated by the International Accounting Standards Board. According to the Deloitte IAS Plus website, by 2009, all major listed companies will be presenting financial statements in accordance with IFRSs. Furthermore, a 2005 Linneberg and Lefort report notes that in line with the World Bank recommendations, the Center for Corporate Governance (CGE) was founded in 2005 with the support of the Pontificia Universidad Catolica de Chile, the Sociedad de Fomento Fabril, the Pension Fund Managers Association, the Santiago Stock Exchange, the Santiago Chamber of Commerce and the American Chamber of Commerce. The main function of the CGE is to work towards the adoption of corporate governance best practices in Chile. The CGE board of directors is composed of nine members with wide experience as corporate directors representing controlling shareholders, minority shareholders both from pension funds and investment funds, the stock exchange, and the academic community. The CGE has also been interacting with government authorities for the improvement of legislation.

With regard to the legislative and regulatory framework, the World Bank notes that the Securities Market Law and the Corporations Law form the legal framework governing listed companies. These laws were passed in 1981 and have been amended frequently in the following years. Most significantly, in 2000, both these laws were amended under Law No. 19,705 known as the Corporate Governance Law. The main goal of the amendment was to protect minority shareholder rights in Chilean companies, especially during changes in corporate control, write Linneberg & Lefort in their 2005 Progress Report. The 2007 IMF Article IV consultation report mentions the enactment of the Capital Markets II Reform Law in June 2007. The Law introduces "key improvements to domestic capital markets in three broad areas: promoting access to venture capital and funding for SMEs [small and medium enterprises], strengthening financial market security, and promoting the development and deepening of financial markets" (IMF 2007, Statement by Javier Silva-Ruete, Executive Director for Chile and Alvaro Rojas, Advisor to Executive Director, p. 6). In anticipation of the law, Linneberg & Waitzer had explained in a 2004 report that under the law, there "would be electronic communication with shareholders and e-voting, regulation of auditor independence and board oversight, additional safeguards relating to related-party transactions, broader investigatory and prosecutorial authority over insider trading, and heightened standards for market participants and stock exchanges (which would be allowed to de-mutualize)" (p. 33).

Concerning supervision, the World Bank notes that three supervisory entities oversee the financial markets: the SVS, the Superintendence of Banks and Financial Institutions (SBIF) and the Superintendence of Pensions (SP). The SVS is the securities supervisor and it is "an autonomous corporate body affiliated with the Chilean Government through the Ministry of Finance," states the SVS website. The SVS supervises all activities and entities associated with the securities markets in Chile. The Chilean system of regulating issuers and sellers of securities "is a hybrid of a disclosure-based system with a merit-based system" (p. 41), notes the 2004 Financial System Stability Assessment (FSSA) conducted for Chile by the IMF. After registering with the SVS, the company has to apply to the Risk Rating Commission (CCR) - "a quasigovernmental Board...composed of senior government officials and private sector representatives" (p. 41) - if it wants to offer its securities to the mandatory private pension funds (AFPs). Since the privatization of the pension system in the 1980s, the AFPs have become by far the dominant institutional investors in the country, and, together with insurance companies, hold a substantial fraction of total bank deposits, public securities, corporate and mortgage bonds, and Chile's external assets. The FSSA noted that there is "room to enhance their impact on the domestic financial system by a judicious relaxation of their overly restrictive investment regime without undermining their fiduciary function" (p. 1). Currently, the CCR determines if the securities are fit to be invested into by the AFPs. According to the FSSA, this situation grants an unduly large power in the hands of the CCR to control access to the Chilean capital markets. The more desirable alternative, per the FSSA, is to allow the AFPs themselves to undergo an internal process of determining what investments are suitable for them.

According to a U.S. Commercial Service December 2005 Fact sheet on the Chilean capital market, as of 2005 there were 250 shares listed on national exchanges, with a total market capitalization of US$87.6 billion, with over 550,000 individual shareholders (4% of the population). In its 2008 Doing Business report, the World Bank rates investor protection in Chile as being above the regional and at par with the OECD averages. The Investor Protection Index is a subcomponent of the World Bank's 2008 Doing Business Indicators, and consists of three aspects of investor protection: transparency of transactions (Extent of Disclosure Index), liability for self-dealing (Extent of Director Liability Index) and shareholders' ability to sue officers and directors for misconduct (Ease of Shareholder Suits Index). The indices range between 0 and 10, with higher values indicating greater disclosure, greater liability of directors, greater powers of shareholders to challenge the transaction, and therefore, better investor protection. Chile scores 7.0 in the disclosure index, against a regional average of 4.2 and an OECD average of 6.4. It scores 6.0 in the Director Liability Index, against a regional average of 5.0 and an OECD average of 5.1; and it scores 5.0 in the Shareholder Suits Index, against a regional average of 6.0 and an OECD average of 6.5.

The Principles

Principle I: Ensuring the Basis for an Effective Corporate Governance Framework

II

According to the World Bank, the corporate governance framework is primarily governed by the Securities Market Law and the Corporations Law. These laws were passed in 1981 and have been amended frequently in the following years. Most significantly, in 2000, both these laws were amended under the Corporate Governance Law. The main goal of the amendment was to protect minority shareholder rights in Chilean companies, especially during changes in corporate control, write Linneberg & Lefort in their 2005 Progress Report. In another 2004 report by Linneberg & Waitzer, the authors explain that "under the new law, there would be electronic communication with shareholders and e-voting, regulation of auditor independence and board oversight, additional safeguards relating to related-party transactions, broader investigatory and prosecutorial authority over insider trading, and heightened standards for market participants and stock exchanges (which would be allowed to de-mutualize)" (p. 33).

Three supervisory entities oversee the financial markets: the SVS, the SBIF and the SP. The SVS is the securities supervisor and it is "an autonomous corporate body affiliated with the Chilean Government through the Ministry of Finance," states the SVS website. The SVS supervises all activities and entities associated with the securities markets in Chile. The 2005 Linneberg & Lefort report adds that the new regulatory framework started in the year 2001, and has been effective since 2004. In addition, the SVS has increased its supervisory powers and its capacity to fine offenders. The above information, however, does not directly address Chile's compliance with this principle.

Principle II: The Rights of Shareholders and Key Ownership Function

CP

The 2003 World Bank assessment rates Chile's observance with the sub-principles of Principle II as follows: "Rights to participate in fundamental decisions" was rated as "observed," indicating that all essential criteria are met without significant deficiencies. "Basic Shareholder rights," "The functioning of control arrangements," "Shareholder's Annual General Meeting rights," and "The requirements to weigh costs/benefits of exercising voting rights" were rated as "largely observed," indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term. "Disproportionate Control Disclosure" was rated as "partially observed," indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge.

The 2005 Linneberg & Lefort report notes that Chile has been rated highly by international entities with regard to shareholder protection, adding that "the Santander Central Hispano bank rated Chile first among the major Latin-American markets in shareholder protection and McKinsey & Company highlighted the low shareholder protection premium required for Chilean stocks, implying reduced ground for improvement" (p. 3). However, a 2008 paper by Allen and Gourevitch notes that "ownership remains highly concentrated and there is little evidence of minority investors actively attempting to improve corporate governance" (p. 13). Furthermore, the paper finds that there is no market for control and that minority shareholder dissatisfaction is "substantial."

Unlike other emerging economies, institutional investors have played a key role in advancing corporate governance in Chile. The pension reform of the early 1980s has led to private pension funds being a large and integral part of the Chilean capital markets. However, currently, the CCR determines if the securities are fit to be invested into by the AFPs. According to the FSSA, this situation grants an unduly large power in the hands of the CCR to control access to the Chilean capital markets. The more desirable alternative, per the FSSA, is to allow the AFPs themselves to undergo an internal process of determining what investments are suitable for them. This could potentially strengthen their role in strengthening corporate governance.

Principle III: The Equitable Treatment of Shareholders

CP

The 2003 World Bank assessment rates Chile's observance with the sub-principles of Principle III as follows: "All shareholders should be treated equally" and "Board/Management should disclose interest" were rated as "Largely Observed," indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term. "Prohibit Insider Trading," was rated as "Partially Observed," indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. The 2005 Linneberg & Lefort adds that "the Santander Central Hispano bank rated Chile first among the major Latin-American markets in shareholder protection and McKinsey & Company highlighted the low shareholder protection premium required for Chilean stocks, implying reduced ground for improvement" (p. 3). However, the report points out that a major hindrance to the effective exercise of minority voting rights is due to the ownership structure or Chilean companies.

The main goal of the amendments of the Corporations Law and the Securities Market Law by the Corporate Governance Law was the protection of minority shareholder rights in Chilean companies, especially during changes in corporate control, write Linneberg & Lefort. More recently, the 2008 paper by Allen and Gourevitch notes that minority shareholder dissatisfaction is "substantial" in Chile. With regard to insider trading, the World Bank notes that under the Chilean law, insider trading is a criminal offense and if an investor is hurt by such an activity they have the right to sue the insider.

Principle IV: The Role of Stakeholders in Corporate Governance

EN

The 2003 World Bank assessment rates Chile's observance with sub-principles of Principle IV as follows: "Access to relevant information" is rated as "Observed" while sub-principles "performance-enhancing mechanisms" and "role of stakeholders in corporate governance" were rated as "Largely Observed," indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term. Finally, the OECD subprinciple "The redress for violation rights" was rated as "Partially Observed," indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. In general, the World Bank notes that "although the legal framework protecting stakeholders is fairly well developed, Chilean corporations still too often relate to their stakeholders in a confrontational manner, perpetrating the idea that entrepreneurs and stakeholders are rent-seeking rivals" (p. 9).

Principle V: Disclosure and Transparency

EN

The 2003 World Bank assessment rates Chile's observance with the sub-principles of Principle V as follows: "Independent audit annually," "disclosure standards" and "standards of accounting and auditing" were rated as "Partially Observed," indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. OECD sub-principle "fair and timely dissemination of information" was rated "Largely Observed," indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term.

The Corporations Law requires that all companies prepare annual financial statements in accordance with Chilean GAAP. However, Chilean authorities are working towards the convergence of national accounting principles with the International Financial Reporting Standards (IFRSs) promulgated by the International Accounting Standards Board. According to the Deloitte IAS Plus website, by 2009, all major listed companies will be presenting financial statements in accordance with IFRSs. The introduction of the Corporate Governance Law also brought about a few changes. The 2007 IMF Article IV consultation report mentions the enactment of the Capital Markets II Reform Law in June 2007. The Law introduces key improvements to domestic capital markets. In anticipation of the law, Linneberg & Waitzer had explained in a 2004 report that under the law, there "would be electronic communication with shareholders and e-voting, regulation of auditor independence and board oversight, additional safeguards relating to related-party transactions, broader investigatory and prosecutorial authority over insider trading, and heightened standards for market participants and stock exchanges (which would be allowed to de-mutualize)" (p. 33).

Principle VI: The Responsibilities of the Board

EN

In its 2003 ROSC, the World Bank rated the OECD sub principles "access to accurate, relevant, and timely information" and "ensuring compliance with law" as "Largely Observed," indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term. Further, the OECD sub-principles "duty to act with due diligence," "fair treatment of each class of shareholders," "board's ability to exercise objective judgment," and "fulfillment of key functions" were rated as "Partially Observed," indicating that although the legal and regulatory framework complies with the OECD principles, practices and enforcement differ.

The Corporations Law establishes the board as the company's governing body. Company statutes specify the number of board seats and directors can serve for a maximum of three years. The directors are accountable and liable to shareholders. In addition, the board must sign the audited financial statements and report to shareholders on the firm's condition. According to the 2004 Accounting and Auditing ROSC under the Capital Market Law of 2001 open corporations of certain size are required to have directors' committees with oversight on issue including financial reporting and reviewing compensation of high-ranking executives. The 2003 World Bank report adds, however, that "there is market concern that directors in small to mid-sized firms do not always fully grasp their duties and obligations. A survey of listed firm directors found that 12 percent have no college degree" (p. 12). The 2005 Linneberg & Lefort report also notes that the Chilean boards of directors have little presence of independent directors and also tend to have few committees. However, the report clarifies that with the establishment of the Center for Corporate Governance, corporate governance practices are likely to improve. The CGE promotes the adoption of corporate governance best practices in Chile and serves as a point of encounter for directors, businessmen, academics and any body interested in understanding and promoting good corporate governance in Chile.