Archive for the ‘agency theory’ Tag

Rethinking the Exercise of Power over Corporate Entities

Society, acting through their legislative processes, provides for the incorporation of corporate entities in their midst, and permits companies to limit the liability of their shareholders for the debts of those companies.   But over time, the accountability of those companies to society, and the way that power is exercised over them has slipped for society to shareholders, and from shareholders to incumbent management.

We need to re-think the way that power is exercised over companies for the good of all affected by their activities. But before such ideas can evolve, some fundamental dilemmas have to be resolved.  We lack a coherent unifying theory of corporate governance.  The most widely used research tool, agency theory, is proving to be a straight jacket: useful in context but inevitably constraining. We need some new theoretical insights that will take us beyond agency theory or the perspectives of jurisprudence.

The corporate governance principles published by the Organisation for Economic Co-operation and Development (OECD) were designed to assist countries develop their own corporate governance codes.  They reflected what was considered best practice in the UK and USA.  This so-called Anglo-Saxon model of corporate governance required listed companies to have unitary boards, independent outside directors, and board committees.  The principles focused on enhancing shareholder value, and in the process richly rewarded top executives. In this model shareholders are widely dispersed, in markets that are liquid, with the discipline of hostile bids.

This so-called ‘Anglo-American approach’ to corporate governance, became the basis for governance codes around the world.  Indeed, in the United States it was widely assumed that the rest of the world would eventually converge with American corporate governance norms and reporting requirements, simply because it was thought the rest of the world needed access to American capital.

But a schism has emerged in the ‘Anglo-American approach’.  In the United States, Sarbanes Oxley mandated conformance with corporate governance by law.  Whilst in the United Kingdom and those other jurisdictions whose company law has been influenced over the years by UK common law, including Australia, Hong Kong, India, Singapore and South Africa, compliance is based on a voluntary ‘comply or explain’ philosophy.  Companies report compliance with the corporate governance code or explain why they have not.  This ‘rules versus principles’ dilemma seems to have been amplified by the ongoing global financial crisis.  It needs resolving.

But the Anglo-Saxon system is not the only governance model and some are questioning whether it is necessarily the best. Corporate governance is concerned with the way power is exercised over corporate entities.  In other parts of the world, alternative insider-relationship systems exercise power through corporate groups in chains, pyramids or power networks, by dominant families, or by states.  These markets are less likely to be liquid, the market for control poor, and the interests of employees, and other stakeholders more important.

In Japan, keiretsu organizational networks spread power around a group of inter-connected companies in ways that might provide insights for complex western groups.  The view that business involves relationships with all those involved – employees, customers, suppliers, and society, as well as shareholders, has only recently been recognized in the West under the umbrella of ‘corporate social responsibility’.

The governance of Chinese family businesses throughout East Asia can provide some valuable insights: for example, the emphasis on top-level leadership, the view that the independence of outside directors is less important than their character and business ability, and the way that the Chinese family business sees business more as a succession of trades rather than the building of empires.

In China, the link between state, at the national, provincial and local levels, and companies relies on a network of relationships, and policies can be pursued in the interests of the people, seen as the Party.

Of course there are problems with Asian approaches: corruption, insider trading, unfair treatment of minority shareholders, and domination by company leaders, to name a few.  But these are not uniquely eastern attributes as case-studies of US and UK company failures show.

These diverse models reflect more concentrated ownership, different cultures, and varied company law jurisdictions. But they also show different perceptions about the way power should be exercised over corporate entities. The eastern experience suggests that board leadership and board-level culture, in other words people and the way they behave, are more important than board structures and strictures, rules and regulations.  New theoretical perspectives will need to embrace such diversity.

Bob Tricker


Fingers in the Corporate Governance Dyke

Developments in corporate governance thinking and practice have typically been responses to company collapses. The original UK Cadbury report (1992) followed unacceptable excesses in the Guinness and Maxwell companies.  The US Sarbanes Oxley Act (2002) was a response to the collapse of Enron, WorldCom and others, with the resulting loss of market confidence and the implosion of Andersen their auditors.

 Predictably, the 2007 (and ongoing) global financial crisis will lead to further changes to governance rules, regulations and reporting requirements. 

 In the UK, whilst the Financial Review Council found no evidence of serious failings in the governance of British business (outside the financial sector); it has proposed some changes to the UK code to improve governance in major companies. These changes are intended to enhance accountability to shareholders, to ensure that boards are well-balanced and challenging, to improve board’s performance and the awareness of its strengths and weaknesses, to improve risk management, and to emphasise that performance-related pay should be aligned with the long-term interests of the company and its policy on risk.

 The main proposals for change to the existing UK Combined Code are:

  • to re-name the code the UK Corporate Governance Code
  • the annual re-election of chairman or the whole board
  • new principles on the leadership of the chairman, and the roles, skills and independence of non-executive directors and their level of time commitment
  • board evaluation reviews to be externally facilitated at least every three years
  • the chairman to hold regular personal performance and development reviews with each director
  • new principles on the board’s responsibility for risk management
  • performance-related pay should be aligned to the long-term interests of the company and its policy on risk
  • companies to report on their business model and overall financial strategy


 In the United States, changes to regulatory procedures for listed companies being considered include obligatory (though non-binding) shareholder votes on top executive pay and payments on appointment and retirement, annual elections for directors, the creation of board-level committees to focus on enterprise risk exposure, and the separation of the roles of chief executive from board chairman which are called for in the corporate governance codes of most countries.  Rules that allow shareholders to nominate candidates for election to the board, delayed by the Securities and Exchange Commission, are now likely to be implemented, according to the Economist (12 December 2009).

 The OECD’s Steering Group on Corporate Governance re-examined the adequacy of their principles in the light of the global economic problems.  The real need, it felt, was to improve the practice of the existing principles, although further guidance and principles will be published in due course.  In two seminal papers four broad areas were identified as needing attention – board practices, risk management, top level remuneration, and shareholder rights.  (Grant Kirkpatrick, The Corporate Governance Lessons from the Financial Crisis, OECD February 2009 and Corporate Governance and the Financial Crisis: Key Findings and Main Messages, OECD June 2009 (see

 But though potentially useful, these are all piecemeal adjustments; no more than fingers in the corporate governance dyke.  To date, corporate governance codes and rules have been based on perceived best practice, not relevant concepts, accepted theory, or rigorous research. The classical agency theory, adopted in so much corporate governance research so far, is proving to be a straight jacket to thinking on the reality of power. The time is ripe to rethink the way power is, or should be, exercised over corporate entities.

 Bob Tricker