Corporate Governance Books

Book Bites 2009: Bite sized excerpts and reviews from recent books. We welcome additional submissions and suggestions. 2004-2008 Bites, Older Bites.

Excellent Critique of Convergence on Anglo-American Model

European Corporate Governance: Readings & Perspectives, a new reader, edited by Thomas Clarke and Jean-Francois Chanlat offers up one of the first critiques of the subprime financial crisis within a framework that compares Anglo-American governance features with those of Europe.

At the heart of the collapse was the growth of the derivatives market that was supposed to hedge against losses. Settlements grew from $106 trillion in 2002 to $531 trillion by 2008. In the introduction, Clarke and Chanlat provide an excellent overview of how the crisis unfolded, both in the US and in Europe. They then turn to the contributions of the governance framework: re-regulation, ratings agencies, risk management, incentivization and to more specifics within the framework of financial institutions.

Convergence is in progress but there is tension between the parallel universes. The Anglo-American is characterized by liquid markets, high transparency and where the market for corporate control provides the major discipline... until markets fail. Europe and Asia are characterized by controlling shareowners, weak markets, less transparency and more monitoring by banks.

Many are now questioning convergence and what appears to be a basic philosophy behind the American model... growing inequality. "In the last few years alone, $400 billion of pretax income flowed from the bottom 95% of earners to the top 5%, a loss of $3,660 per household on average in the bottom 95%."

With the highest level of inequality and poverty among its peers, why follow the US? What about the rights of workers and citizens to a more sustainable system? Can the EU transform its economies so that they can sustainably continue to provide a high standard of living? Those are just a few of the topics addressed in the reader through an examination of various dimensions and examples.

Most of the essays are excellent. I especially enjoyed Robert Boyer's, "From Shareholder Value to CEO Power: The Paradox of the 1990s." Boyer looks at why CEO remuneration continues to skyrocket in an era of shareholder value. Labor long ago lost power in the US and managers have used the pressure of institutional investors to their own benefit.

Boyer reviews the rise of concern over CEO pay, various options that have been used and their limitations. A series of long-run transformations has occurred in the bargaining positions of workers, consumers, financial markets, the international economy and nation states. The 1960 were characterized by an alliance between workers and managers.

By the 1980s internationalization eroded worker power and by the 1990s we entered a period of hidden alliances between managers and financiers. Managers used the demands institutional investors to redesign their own compensation. Part of that alliance involved a shift away from defined benefit plans to 401(k) type plans and a huge inflow of savings into the stock market with workers at risk.

As support for a political hypothesis of increased managerial power, Boyer analyzes the micro-structure evidence concerning insider trading, diffusion of stock options, lower CEO pay sensitivity of large firms, surge in M&A activity, windfall profits, asymmetrical power on compensation committees, distortion of profit statements, innovation in hiding compensation and the financialization of CEO compensation in a corporate culture that has shifted from engineering to financial management.

He then looks at the larger political arena where economic power is converted into political power. Here he discusses the context of rising inequality and growth of the super-rich with evidence that concentration of wealth is enhanced by stock market bubbles and a tax system that tilts in favor of the rich.

How do we extricate ourselves from this situation? Boyer's analysis provides some hints. A shift towards a stakeholder conception "would reduce the probability of managerial greed and erroneous strategic decisions." More public control of accounting practices is needed "to prevent an alliance between CEOs and auditors, at the expense of rank-and-file shareholders." Last, we need to recognize that monetary policy has been "at the heart of erroneous business strategies and unjustified wealth from CEOs."

The volume should give readers pause concerning the desirability of convergence on an Anglo-American model and provides well-informed analysis of European models that may lead to a more sustainable path.

Fix the Boards - Fix the System

Money for Nothing: How the Failure of Corporate Boards Is Ruining American Business and Costing Us Trillions by John Gillespie and David Zweig begins with a story familiar to just about everyone on the globe -- corporate and economic collapse brought on by greedy CEOs. The authors look behind the headlines to reveal and document the systematic failure of corporate boards who are supposed to look out for shareowner interests but are still too often picked by the very ones they are supposed to advise and monitor... the CEOs.

They discuss how companies spend enormous sums of shareholder money to fight off reforms, either directly or through organizations like the US Chamber of Commerce or the Business Roundtable. According to the authors, "corporate boards remain the weakest link in our free enterprise system."

A brief overview is provided on how we got here and what it means for shareowners and society. Much of the book is given over to example after example of conflicts of interest, overlapping boards, and a world driven by the greed and status needs of CEOs. Studies have shown that 80% of acquisitions fail to deliver and many fail outright. Too often they are driven by incentives that reward empire building over the generation of profits.

Jennifer Lerner, the only psychologist on the faculty of Harvard's Kennedy School of Government, finds that "Americans tend to exhibit anger more readily than those in many other cultures, and the effects of being in power closely resemble those of being angry." CEOs and other executives, it turns out, have substantially larger appetites for risk and are more optimistic about outcomes. Changing the context can improve outcomes, especially where the environment demands "predecisional accountability to an audience with unknown views." In the case of corporations, that would be a diverse independent board, not predictable lapdogs of management.

Later chapters review "The Myth of Shareholders' Rights" and other issues, including proxy mechanics that allow moving shares to be voted multiple times based on the "day of record," when large blocks of stocks may be most likely to have several different owners. They document that not only do shareowners have little power, the gatekeepers and guardians paid to protect shareowner interests are almost always conflicted, leading to de facto control by management. At the same time, laws like the "business judgment rule" make it nearly impossible to hold fiduciaries accountable. Pension assets that are turned over to plan managers who provide kickbacks back to corporations earned 29% lower returns, according to a cited 2009 GAO report. The failures documented by Gillespie and Zweig cost investors and the public trillions, bringing the world economy to its knees.

It is time boards stopped being the CEOs friend and instead took on the role of the CEO's boss. After a thorough examination of the issues, documented with an abundance of real-life examples, Gillespie and Zweig close with a list of recommendations that could go far in changing the culture of the boardroom, strengthening accountability, reducing conflicts of interest, and getting shareowners involved. In a very abbreviated form:

Create a new class of public directors and a training consortium
Insist of gender, ethnic, and perceptual diversity
Limit directors to three or fewer boards and require substantial "skin in the game"
Initiate more communication between directors and shareowners
Split chair/CEO roles & learn lessons from nonprofits
Allow 10% of shareowners to call an extraordinary general meeting
Add clout to say-on-pay, reform executive compensation, and shareholder approval of golden parachutes
Ban staggered boards and require majority votes elections
Proxy access for shareowners, daylight nominating & election processes, & require real board evaluations
Require board risk committees & empower boards to gather independent information
End conflict of interest in mutual fund voting by allowing third party voters per Investor Suffrage Movement
Reform voting mechanics to end manipulation by management
Reform auditor business model & Fix "up the ladder" provision of SOX
Reform rating agency model, fully disclose lobbyist expenses, provide real funding for SEC enforcement
Federalize corporate law
Better coverage of governance issues by the financial media
Better financial education, including how corporate governance works

Gillespie and Zweig hit all the bases for a solid home run. They tell us how the game is fixed and how the rules can be changed to play fair. After all, shareowners own the "ball" and all the other equipment. Will we listen? Even more importantly, will we act?

Global Perspectives on Corporate Governance and CSR

Edited by Güler Aras and David Crowther, Global Perspectives on Corporate Governance and CSR is a vital exploration of issues around the possibility of developing theories and practice aimed at good corporate governance and good corporate behavior.

In the opening essays, the editors slice and dice the topics several different ways. They look at governance from the perspective of top down, consensusual, networks and markets. Eight principles are reviewed: transparency, rule of law, participation, responsiveness, equity, efficiency and effectiveness, sustainability, and accountability. Systems analyzed include Anglo-Saxon, Latin, and Ottoman models. Then they discuss the overlap with corporate social responsibility of concepts such as transparency, accountability, responsibility and fairness. The rules versus principles debate, the divorce between owners and managers, risk and rewards are weighed.

Moving on to CSR, they discuss roots in Robert Owen, stakeholder theory, the ever changing semiotic nature of assumed understanding, especially with regard to terms like sustainability. A typology is proposed, moving from window dressing to cost containment, stakeholder engagement, measurement/reporting, sustainability, transparency and finally to accountability, reflecting increased maturity not unlike Maslow's hierarchy of needs.

These variables, concerns and framework are then again parsed by country and culture, as understood in an increasingly global environment. Sustainability is discussed as a moving target. No longer merely concerned with the financial resources of the firm but all the physical resources of the planet. Good financial and environmental performance in the present is an investment in the future of the company. There is no dichotomy, since the concepts conflate into one concern. A global framework is in the making and diverse cultures each have something to offer.

The bulk of the book is then broken down into three parts, representing regional, local and then theoretical perspectives. We more from Europe to Japan, Latin America to Africa -- then on to evolution in developing countries, state enterprises, family firms and the use of technology in advancing corporate governance. One finding is similar reform efforts being undertaken in many countries aimed at increased investor protection, transparency, accountability and professional board work. Convergence is also seen in Japan, where the traditional stakeholder model may be evolving to more North American models. Similarly in Africa, a hybrid approach is developing that integrates western style models with pragmatic developmental needs, contributing to an economic democracy that may some day direct and control corporations for the common good.

The book concludes with chapters which attempt to integrate current knowledge into theory. Kurt Strasser looks at problems associated with layers of legally separate corporations, subsidiaries, and calls for a more holistic "enterprise" analysis to get around current legal formalities. Thomas Clarke and Alice Klettner support Robert Hinkley's 28 Words to Redefine Corporate Duties. Directors are to act in the best interests of the company.. "but not at the expense of the environment, human rights, the public health or safety, the communities in which the corporation operates or the dignity of its employees." Clarke and Klettner remind us:

The problem of material production has essentially been solved. The primary remaining global dilemmas are that overproduction and massive surpluses still coexist with desperate poverty and need, and that the resource base for industry is rapidly depleting and damaging, potentially irreparably, the eco-system. It is possible that confronting these dilemmas will force the rethinking of corporate objectives, structures, and activities that is necessary.

The editors wrap up the text nicely, expressing concern with the trajectory of accounting, where profit is brought forward before it is earned and liabilities can be ignored if they reduce current profitability. They reject Locke's notion that the whole purpose of society is to safeguard the rights of individuals. Instead, they embrace Tocqueville's argument that government should regulate individual transactions to safeguard against circumstances where the welfare of some is advanced at the expense of others. We are left to confront the central problem with Liberalism; "the mediation of rights between different individuals only works satisfactorily when the power of individuals is roughly equal."

As to corporate reporting, Aras and Crowther see it no longer focused on past accomplishments but on benefits to be accrued, not as a communication medium "but rather a mechanism for self promotion." GRI and AA1000 are discussed as important integrative reporting initiatives but critics would say "it is only under the Anglo-Saxon model of governance that there could ever be a need for CSR." The Cartesian dichotomy doesn't arise in Latin or Islamic models. Of course, the Anglo-Saxon model appears to be dominant, so integrative efforts are needed. The editors conclude that any such developing standard must be sufficiently flexible to "allow for the full extent of cultural variation throughout the world."

Given the state of inequality between not only individuals but countries, it is hard to see how such standards will be mediated. although this volume sets a high standard in the necessary task of exploring the issues needing resolution before corporate governance and CSR can be fully integrated.

How to Govern Corporations So They Serve the Public Good: Wrong Title, Right Book

William Sun's excellent book is less on how to govern corporations to serve the public good than it is an analysis of corporate governance from the perspective of ontology, epistemology, and sociology of knowledge. Sun does an absolutely fascinating job of tracing the development of two pre-Socratic cosmologies that continue to shape modern thought. Heraclitus emphasized the primacy of a fluxing, changeable and emergent or processual world. Parmenides insisted on the permanent and unchangeable nature of reality... a homeostatic and entitative conception of reality.

Sun favors a processual perspective, since it allows us to understand corporate governance as is is socially constructed. By stripping away the semiotic mask, he reveals how much of what is known in shareowner and stakeholder models of corporate governance is based on political power.

Reading his book was a personal joy to me, since my mind was transported back to graduate school days as a student of Peter Berger during his all too brief tenure at Boston College. I found Berger and Luchmann's The Social Construction of Reality a liberating work, since it implied that reality could be reconstructed to diminish coercion and domination.

However, Berger and Luchmann excluded from their treatise on the sociology of knowledge epistemological problems which they felt "belong" to the discipline of philosophy. "The sociology of knowledge must first of all concern itself with what people 'know' as 'reality' in their everyday, non- or pre-theoretical lives..." In other words, they didn't seek to explore the possibility of obtaining a better approximation of the "truth," but rather a better explanation as to how commonsense knowledge is externalized, internalized and institutionalized.

The failure of Berger and Luchmann to weigh historical factors and their abandonment of ultimate concerns left no grounding or basis for analyzing coercion, long-term trends or future possibilities. Instead, through his body of work we are largely provided a description of how social reality constructed in the past is maintained in the present. The resulting static relativism limited Berger's emancipatory potential, since a critical theory must evaluate whether the naive realism of everyday life is a necessity due to biosocial needs or a mere justification of false consciousness, necessary to maintain the status quo.

Berger lays blame for society's ills largely on the state, which he sees as "devoid of personal meaning." One of his most liberating works, To Empower People, stresses the need for increasing the individual's political efficacy through the mediating structures of neighborhood, family, church and voluntary associations. The only institutions not viewed by Berger as political are businesses. Failure to include that sphere may serve Berger from the "trap of politicizing all of life" but it largely dooms his efforts to empower people to failure.

William Sun's offering suffers no such limitations. While the book speaks only indirectly to how corporations can be governed to better "serve the public good," implicit is that such positive changes will follow once people realize how the corporate governance we know as "real" was socially constructed and once we employ a processual framework of time, space and context, leading to reflexive dialogue.

Sun is under no delusions. He writes, "living in a processual reality, we cannot 'mirror' corporate governance practices accurately, and cannot construct corporate governance ideally." "To improve corporate governance we should not force-fit corporate reality into the established abstract templates... we need to turn away from the current dichotomized, entative and static way of theorising... We need to dive into the underlying living experiences and processes that comprise corporate practices to understand the internal impetuses and environmental dynamics that drive the processes and changes of corporate reality."

After leading the reader through an exceptional deconstruction of Cartesian dualism, Locke's empiricism, Kant's objective idealism, the fallacy of representationalism, the realities of shareholder and stakeholder perspectives, the myth of market and economic efficiency, and much more, Sun focuses on the value of a processual view of knowledge, borrowing from a bevy of resources, including Richard Rorty.

Rorty aimed for a "philosophy without mirrors," believing that what we need "is the ability to think about science in such a way that its being a 'value-based enterprise' occasions no surprise. All that hinders us from doing so is the ingrained notion that 'values' are 'inner' whereas 'facts' are 'outer.'" In his seminal work, Philosophy and the Mirror of Nature, Rorty wrote that "Hermeneutics is not 'another way of knowing' - 'understanding' as opposed to (predictive) 'explanation.' It is better seen as another way of coping."

If we see knowing not as having an essence, to be described by scientists or philosophers, but rather as a right, by current standards, to believe, then we are well on the way to seeing conversation and the ultimate context within which knowledge is to be understood. Out focus shifts from the relation between human beings and the objects of their inquiry to the relation between alternative standards of justification, and from there to the actual changes in those standards which make up intellectual history. (p. 389)

Likewise, Sun has a similar aim for what he terms the processual approach, which is "not a denial of substance; rather, it views substance as merely stabilized clusters or patterns of variable processes." "Processism tends to be ontologically realistic; yet, it is not a 'being' realism, but a 'becoming' realism." Those who rail against a "one-size fits all" approach to corporate governance will find a strong advocate for structures that contextually emerge, rather than are pre-designed.

The shareowner model may be waning, because as Sun notes, physical assets and financial resources used to be more important than human resources and social capital. In the stakeholder perspective public corporations must be aware of their social obligations, such as fairness, social justice and the protection of employees. Human-capital intensive firms are more like to move in the direction of the stakeholder model. Under a processual approach, political institutions, indeed all institutions, cannot take human nature as a given but must accept some responsibility for their involvement in its creation.

"Unlike the current theoretical models that rest their solutions on scientific measures and universal recipes, we suggest the explicit change of corporate governance to be initiated and triggered in the sense of collective construction and discourse formation." "The key factor in context-making is to find or create a more powerful 'attractor' to compete with the dominant 'attractor' and to shift the old one to the new one to create a new context." "Corporate governance and control must be realised through our collective representations - representations of our will, desire and sense-making, representation of a specific mode of thought and social convention, and the representation of social negotiation, selection endorsement and rationalism... in an ideal construction process, corporate governance is not seen as universally good, but as partial, selective and interested."

While Sun appears relatively certain that a processual approach will bring new insights and open dialogue, he is less certain about the criteria for judging governance, "all of which depend on the social construction of 'faith.'" Ultimately, he aims for "balanced and pluralistic thinking."

"Although the damage caused by corporate violations is far more serious than the individually perpetrated crime, it is regarded by the public as less of a crime." To get people to understand that requires a change in conciousness. Corporate governance is best understood in the context of capitalism, where Sun finds three dilemmas:

The conflict between self-interest and others' interest, or private interest and public interest. Capitalism presupposes the sacredness and inviolability of private property rights as its first principle. Other interests must be considered within that context.
The conflict between the economic interest and the social interest. All other possible principles and values such as justice, equity, humanity, and religion are subsumed to protecting capitalist interests. This rationality leads to its own contradiction and such notions as "the only responsibility of the corporation is to make profit."
The conflict between shareowner and manager interests. How capitalist interests are protected from management's manipulation is a serious concern of politicians, academics and corporate owners. Agency theory, will it hold back the coming pitchforks?

Perhaps Sun will shake up the world of corporate governance like Werner Karl Heisenberg shook up physics. But, as Robert Chia notes in the book's introduction, "despite the advent of quantum mechanics the assumption regarding the primacy of substance and entities over patterns and relationships remains pervasive and overwhelming." Our conceptions of reality take a long time to change. Unfortunately, time for central issues like corporate governance may be running out, given the moral and environmental challenges we face.

Handbook of Social Capital

When Tocqueville visited the United States in the 1830s, it was our propensity for civic association that impressed him as the key to making democracy work. "Americans of all ages, all stations in life, and all types of disposition:' he observed, "are forever forming associations. There are not only commercial and industrial associations in which all take part, but others of a thousand different types--religious, moral, serious, futile, very general and very limited, immensely large and very minute.... Nothing, in my view, deserves more attention than the intellectual and moral associations in America." Robert D. Putnam's famous 1995 essay, Bowling Alone, introduced many to the concept of social capital.

Gert Tinggaard Svendsen and Gunnar Lind Haase Svendsen have edited an informative and greatly expanded update. The "Handbook Of Social Capital: The Troika of Sociology, Political Science and Economics" examines how three disciplines work together in developing and shaping networks. Economics primarily focuses on transaction costs. Political science focuses on institutions and sociology focuses on the norms that regulate behavior.

Life is easier in communities with high social capital. Networks of civic engagement foster generalized reciprocity and trust. Communication and coordination amplify the growth of reputations, facilitating collective action. Well worn templates and success lead to future collaboration and broaden our sense of empowerment. I read the essay's mainly thinking of how these concepts might be applied to internet sites, such as the Investor Suffrage Movement, Proxy Democracy.org, Shareowners.org, TransparentDemocracy.org, MoxyVote.com, and VoterMedia.org.

One concept discussed by the editors was that of bridging vs. bonding. Bridging implies open networks across social cleavages, inclusion, and generalized trust. Bonding implies closed, inward looking networks based on particularized trust. Bridging seems more important for organizations attempting to facilitate shareowner action.

According to Elinor Ostrom and T.K. Ahn, "trust is the core link between social capital and collective action. Trust is enhanced when individuals are trustworthy, are networked with one another and are within institutions that reward honest behavior." One interesting study found that reciprocal agents using conditionally cooperative strategies have a higher chance to interact with one another and the surrounding population than agents who defect. "Information regarding a potential transaction partner's trustworthiness is crucial when trustworthy individuals try to initiate cooperation."

Reputation is everything. "Self-governing systems in any arena of social interaction tend to be more efficient and stable not because of any magical effects of grassroots participation itself but because of the social capital in the form of effective working rules those systems are more likely to develop and preserve, the networks that the participants have created and the norms they have adopted." For example in in development projects, even "primitive" irrigation systems developed with the involvement of farmers often outperform those using more modern concrete and steel headworks. Investment by participants makes the difference.

In other words, in project planning we need to focus as much on the incentives of participants as we do on the physical or virtual technical infrastructure. Simply agreeing on a set of rules put in place with by others may get something up and running but doesn't engender participation or long-term success.

Poulsen discusses research on cooperation, such as the "Prisoner's Dilemma." Cooperation often falls over time because reciprocally minded subjects give up contributing if they feel like they are the only ones doing so. Punishing or expelling nonparticipants can generate higher and more stable cooperation but only if group members have information about each other's contributions.

The chapter, "Corruption," by Uslaner found unequal distribution of resources in a society to be at the heart of the problem. Inequality leads to low generalized trust and high in-group trust, which leads to corruption, which leads to more inequality. Corruption thrives on particularized trust, where people only have faith in their own kind or small circle. "The policies that work best to reduce inequality and promote trust - universalistic social welfare policies - also depend upon honest governments to deliver the good and upon a social compact to provide benefits such as universal education and health care to the rich and poor alike."

Rothstein carries the theme forward by noting the services for the poor tend to become "poor services," whereas if all are included, middle and upper classes will demand higher quality. Popular movements of protest and self-help stand in contrast with charities dominated by middle and upper classes. "Needs testing and bureaucratic discretionary power are often more difficult to reconcile with principles of procedural justice, compared with universal public services. Since selective welfare institutions must test each case individually, they are to a greater extent subject to the suspicion of cheating, arbitrariness and discrimination, compared with universal public agencies."

That should give potential readers a rough idea of some key discussions. While the Handbook is geared toward an academic audience, especially those concerned with economic, political and social development, the more general reader will also find important insights in the cross-disciplinary approach.

Inside the Black Box

The Modern Firm, Corporate Governance and Investment (New Perspectives on the Modern Corporation), edited by Per-Olof Bjuggren and Dennis C. Mueller, explores developments in the theory of the firm, as well as how ownership structure and institutional frameworks impact performance. Below, I look at a small sample of the contributions contained in this stimulating reader.

As a demonstration of the book's timeliness, the author of chapter 2, Oliver Williamson, was awarded the Nobel prize in economics while I was reading the book... always nice when that happens. In the essay included in this volume, Williamson argues that contract/governance is an instructive way of opening the black box of the firm, especially with regard to antitrust matters. He examines the application of a contractual approach to various forms, such as lateral integration, pricing, scaling, horizontal mergers, and conglomerates.

Dennis Mueller reviews the development of the firm, focusing on constraints (or their lack) on managerial discretion, finding constraints weak but developing. I a 1993 study with Elizabeth Reardon he found agency costs high. "Cumulative over the 19-year period, the 699 companies have collectively destroyed roughly $1 trillion by investing in projects with returns less than their costs of capital." General Motors alone contributed $150 billion of the total. It would be interesting to see an update. The merger wave, growing competitive markets and the increased proportion of institutional investors increased constrains but the later weren't as effective as some think, since institutional investors also got swept up in the euphoria of the bull market.

Kristen Foss examines managerial authority in the knowledge economy and finds changes are likely to be as dramatic as many suppose. "Although knowledge workers may have more bargaining power... they too will be subject to authority, as long as productive activities are characterized by uncertainty and measurement costs which make complete contracting prohibitively costly."

Johan Eklund examines ownership concentration and dual-class equity structures in Scandinavia. He finds that dual-class shares drive a wedge between cash-flow rights and control rights. "Firms with only on equity class are, on average, investing efficiently, whereas firms with dual-class equity structure are over-investing... Vote-differentiation creates massive entrenchment and destroys large values." "On average, 'entrenched' firms have returns on investments that are approximately 30 percent below the cost of capital." "Separation of cash-flow rights from control appears to distort the incentive of the controlling owner by significantly reducing the incentive effect."

Deakin and Singh look at the market for corporate control and conclude that takeovers are a very expensive way of changing management because of huge transaction costs. Lack of a market for corporate control in Japan, Germany and France avoids these costs but has not imposed hardship on their economies because of other mechanisms to discipline managers. Additionally, many acquiring firms do not impose discipline, since they are motivated by empire-building or asset-stripping.

Daniel Wiberg examines the relationship between institutional ownership and dividends. He finds that institutional ownership has a positive effect on dividend payout policies and disciplines free cash flow to management. Control instruments, such as vote-differentiated share, "induce investors to demand higher levels of dividends as compensation for increased agency costs."

Does Corporate Governance Matter to Economic Development?

The editors of Corporate Governance and Development: Reform, Financial Systems and Legal Frameworks, Thankom Gopinath Arun and John Turner answer with a resounding yes. As they indicate in their introduction, "If finance matters for economic development, then corporate governance must also affect economic development for at least two reasons. First, corporate governance affects how and at what cost firms finance their real investments... Secondly, the quality and nature of corporate governance can affect the structure of the financial system." If shareowners are poorly protected, finance through bank loans will be more expensive.

This collection of essays provides a broad outline of recent scholarship around the world. Chisari and Ferro suggest that unintended consequences of reforms in Argentina could impinge on consumers. Based on experience in Botswana, Gustavson, Kimani and Ouma also argue reforms originating in Anglo-American models must tailored better when imported to other cultures. Goyer and Rocio also find that corporate governance is mediated by the larger institutional framework in their study of electricity sectors in Britain and Spain.

Other authors focus on corporate governance relative to the banking sector, finding a correlation between debt and poor performance, the need for prudent regulatory reforms for divestiture of government ownership and good governance practices, while two chapters on Bangladesh also argue for strong legal and regulatory institutions to protect minority shareholders, creditors and depositors.

Three additional chapters focus on legal frameworks in Ireland, UK and the EU, as well as more broadly. It is that broader focus of developing a "shareholder protection index," which I found most interesting. Building on prior work by La Porta and others, Priya P. Lele and Mathias M. Siems construct a much more elaborate index of shareowner rights based on a "leximetric" (quantative measurement of law), rather than econometric approach.

They endeavored to include the variables which best reflect shareowner protections developed in the UK, US, German, France and India over the last 35 years. Aggregate scales for each of these countries trend upward. Shareowner protections have increase, especially in the last five years. On a number of scales, the US comes out at or near the bottom but that doesn't mean the authors recommend redirecting capital from the US to France, for example. Other aspects, such as financial disclosure, the rule of law and socio-economic attitudes have not bee considered. Neither have factors such as blockholder control and other variables. They didn't examine whether a better score leads to better governance or economic development but will be examining these questions in the future.

Overall, the volume offers a good cross-section of essays reflecting current scholarship in field of growing importance.

Islamic Governance

An Islamic Perspective on Governance (New Horizons in Money and Finance) by Zafar Iqbal and Mervyn K. Lewis reads like a carefully constructed dissertation setting forth a theory of justice, taxation, government finance and accountability, governance and corruption grounded in Islam. Indeed, it originated as an academic piece and is unlikely to find the wide audience it deserves in this format.

The authors cover their topic frequently with comparisons to the Western perspective, so readers from either culture will not fail to broaden their horizons. Because of its grounding in theories of justice, the book should find appeal among those in the SRI community, since both focus on "human needs," rather than "wants," "what ought to be" rather than "what is."

I found interesting the observation that Christianity initially flourished among the politically disinherited. Jesus was a revolutionary but not primarily political, as in "give to Caesar what belongs to Caesar and to God what belongs to God." In contrast, Islam was born outside the two empires of its time and created its own. Islam was the blueprint and basis for legitimization. Thus there is no separation of religion and politics in the Islamic perspective.

These origins may help to explain why Western economics takes the market as the norm, with government intervention to regulate market failure and competitive equilibrium. Since there is no fundamental spit between government and religion in Islamic cultures, they may be less likely to address problems by creating new property rights (carbon emissions trading, water entitlements, etc.), instead, taking a more direct approach.

Much of the book lays out a program of economic reforms for Islamic countries, based on a blending of classical, Keynesian and Islamic views. For example:

Fiscal austerity in state financial management.
Tax system based on principles of equity with all current expenditures finance through taxes. (Islamic position is that governments cannot borrow on fixed interest, which shifts the burden to future taxpayers and generations.)
Government must institute preconditions for private investment (rule of law and clear property rights)and promote private savings.
Deficit spending for capital improvements must be restricted by "rules of fiscal responsibility."
Profit and loss sharing models are preferred over debt financing and internal debt preferred over external debt.
Deficit finance proposals ought to be accompanies by repayment schedules.
Infrastructure projects are best financed through profit and loss sharing models and zero rate loans.
Monetary scarcity ought not to be an excuse for inaction on infrastructure in developing countries.

In the area of corporate governance, the authors seek to outline an Islamic variant that is even more consultative than SRI, that incorporates more of an ethical dimension than simple stakeholder theory and that advocates something like a rigorous triple bottom line accountability that includes religious supervision by auditors not beholden to management. Of course, the author's recognize that any claims by an Islamic corporate governance to moral high ground "must be tempered by the practical reality of the poor record of many Muslim countries in terms of corruption and economic and public governance."

In contrast to Western researchers who view corruption at its core as a problem of bad governance requiring institutional reforms, Islamic scholars see it as fundamentally a moral problem. The basic need is a commitment to social justice and public interest. "What is then needed is to rediscover the faith, values, egalitarianism and transparency of the early Islamic state and the early Caliphate." Westerners look to restraining influences from outside. Islamic traditions find the source of such influences from within. The authors seek to blend both approaches.

Islam is the world's second largest religion after Christianity with 1.3-1.8 billion adherents, comprising 20-25% of the world population. With current clashes around the world between Christian/Jewish/secular countries and Islam, it is clear that increasing dialogue on the central issues of politics, economics and corporate governance is one of the critical tasks of our times. Zafar Iqbal and Mervyn Lewis have made an important and timely contribution to that effort.

Moving Beyond Cycles of Regulation, Deregulation & Reregulation

The endless cycle of government regulation is explored in a new book, Regulation, Deregulation and Reregulation: Institutional Perspectives (Advances in New Institutional Analysis Series) by Michel Ghertman and Claude Menard. Contributors bring an international perspective, touching on a myriad of industries. While not directly focused on developing a post-subprime regulatory framework in the financial industry, the book does reflect the latest thinking by a respected group of scholars for understanding theory and practice in regulatory approaches.

For example, the research of Andres, Guasch and Azumendi develops indexes of regulatory governance from cross-country data and shows that regulatory involvement improves results in utility performance. Another study by Delmas, Russo, Montes-Sancho and Tokat finds that deregulation has a negative impact on efficiency and a positive impact on the provision of renewable energy. ne way to create willingness to pay for public goods is to bundle them with private goods. Consumers are willing to pay a premium for non-toxic cleaners because they see the likelihood of direct impacts on their own health.

More on target for those concerned with reform of the financial industry, Romano discusses how SOX's use of a "one-size-fits-all" approach is oblivious to the microanalytic approach of firms matching governance structures and processes to specific organizational developments and requirements. Rulemaking expansions often occur after business crises galvanize public opinion and action by legislators around sometimes ill-conceived compromise solutions supported by powerful and vocal interest groups. In contrast, refinement of poorly conceived regulatory schemes generally takes many years and requires substantial research.

If nothing else, be sure to read the essay by Ghertman who outlines Stigler's 1971 article, the "Economic Theory of Regulation," which recognized that many rules are advocated by incumbent firms as barriers to entry. Stigler generally favored market-oriented deregulation... the road we took for decades. Ghertman goes on to discuss refinements offered by subsequent scholars that discuss variables such as group cohesion, political balance, and unintended incentives and transaction costs.

Explanations of movements away from and back toward a dominating policy paradigm (regulation or deregulation) benefit from the dynamic properties of political science for third order changes (the paradigm), the dynamic properties of transaction cost theory for second order changes (regulatory instruments), and the behavioral theory of the firm and the contractual design view for first-order changes (regulatory mechanisms).

Transaction cost economies are better grounded than a simple Stigler-based assertion that "regulation (or government) IS the problem" would warrant. Finding appropriate proxies to measure transaction attributes is problematic, especially across industries and jurisdictions, but is essential. We need to focus more on ex ante choices and less on ex post empirical tests if we are to move beyond the cycle of regulation, deregulation and reregulation.

A Primer for Boards

Cornelis A. de Kluyver, an academic and practitioner with global experience, has written A Primer on Corporate Governance published by Business Expert Press. While not nearly as extensive as recent textbooks by Bob Tricker or Monks and Minow, this is a quick read that provides most of the basics for future directors and those who work with them.

He very briefly reviews the history of corporations, rise of fiduciary capitalism, recent moves to federalize corporate governance, various conflicts of interest, and provides a thumbnail international sketch. However, his short explanations sometimes over simplify. For example, in reviewing director duties he states, "the primacy of shareholder value maximization wa affirmed in a ruling by the Michigan State Supreme Court in Dodge vs. Ford Motor Company.

Unfortunately, he's not alone in perpetuating this myth. In Why We Should Stop Teaching Dodge v. Ford (pdf, Virginia Law & Business Review, spring 2008), Lynn Stout argues more convincingly that credit for the concept that corporations exist only to make money for shareholders should go to law professors, not the courts. Dodge v. Ford is best viewed as a case that deals not with directors’ duties to maximize shareholder wealth, but with enforcing the fiduciary duty of controlling shareholders to minority shareholders. Because different shareowners have different investment time frames, tax concerns, attitudes toward risk, etc. it is impossible to discern a single, uniform measure of shareholder wealth to be maximized. Additionally:

Articles of incorporation typically don't say they are organized primarily to profit shareholders but, instead, for anything lawful.
Similarly, state corporation codes typically provide their purpose is "to conduct or promote any lawful business or purpose" and many authorize corporate boards to consider other stakeholders.
Judges routinely refuse to impose any legal obligation on directors to maximize shareowner wealth.

De Kluyver does explore stakeholder theory but concludes shareholder value maximization "will continue to dominate the U.S. approach to corporate law for the foreseeable future," with the courts giving boards increasing latitude.

Elsewhere, he discusses governance reforms and concludes, "There is real danger, however, that the rise in shareholder activism, the new regulatory environment, and related social factors are pushing boards towards micromanagement and meddling." Many of us wish there had been a lot more "meddling" by boards prior to the current financial crisis, but de Kluyver is writing for board members, not shareowners.

Although he appears to reject recent moves to require specific subsets of directors to be independent, he appears to agree they should be more allied with shareowners than with management and that separating the roles of chairman and CEO "gives boards a structural basis for acting independently."

In discussing stock options, de Kluyver notes, "Until recently, many U.S. companies were not very diligent in assessing the cost and value of options and treated options as being cost-free." He says nothing about the Business Roundtable's campaign to undermine the Financial Accounting Standards Board. An uninformed reader could be left with the impression that CEO's had no role in this effort to hide costs. Likewise, he says "most of the pressure on boards on the last 25 years has come from shareholders." Hasn't more pressure come from CEOs who are there providing direction at every board meeting? Even with recent steps empowering shareowners, CEOs still hold more sway over boards, including who is nominated.

In discussing shareowner proposals, de Kluyver says, "One of the most popular shareholder proposals today demands that shareholder be allowed to directly nominate and elected directors rather than work with the slate recommended by the board's nominating committee." Popular in what sense?

The SEC allowed such proposals for many years until it looked like the proposals would obtain majority votes. Then the SEC, without changing the governing regulations, decided such resolutions violated the rules. That position stood for many years until challenged by AFSCME. When the underground regulations were overturned by the court only about three such proposals were introduced before the SEC, under Cox, banned them through new regulations. Now, under Schapiro, such proposals will again be legal, probably in 2010. To describe "proxy access" proposals in 2009 to be "the most popular shareholder proposals today," without much explanation, seems misleading.

In the book's epilogue de Kluyver revisits the issue of "proxy access." However, rather than clarifying the issue he informs readers that the SEC considered proposed rules to allow it, but rejected them. Of course this is true, but de Kluyver gives the impression the issue is dead, whereas everyone following this issue has known for years that "proxy access" would be back on the table under a new administration. It would be important to note that majority voting requirements, the end to "broker voting" and proxy access will require boards to cooperate more closely with shareowners.

The book is at its best in borrowing liberally from thought leaders and consensus shaping organizations by providing various lists of best practices: Succession Planning is an Ongoing Process; CEO Selection: Common Board Mistakes; Succession Planning: Best Practices; Red Flags in Management Culture, Strategies, and Practices; 10 Questions About Ethics and Compliance for the Board; Five Questions About Hedging; Enterprise Risk Management: The Board's New Tool; Executive Compensation: Best Practices, What Defines Best In-Class Boards?,; etc.

Regardless of my nitpicking, de Kluyver gets the big picture right. "The tug of war between individual freedom and institutional power is a continuing theme of history. Early on, the focus was on the church; more recently, it was on the civil state. Today, the debate is about making corporate power compatible with the needs of a democratic society." De Kluyver offers readers information that can help them to become better directors and better corporate citizens.

Corporate Governance: Principles, Policies and Practices

Bob Tricker helped introduce many of us to corporate governance as a field. His 1984 long out of print, Corporate Governance: Practices, Procedures and Powers in British Companies and their Boards of Directors was first to include the phrase "corporate governance" in the title. His definition of the term, even then, was spot-on: "The governance role is not concerned with the running of the company, per se, but with giving overall direction to the enterprise, with overseeing and controlling the executive actions of management and with satisfying legitimate expectations of accountability and regulation by interests beyond the corporate boundaries." Twenty-five years later, Tricker updates his opus.

Tricker notes in his introduction that, "Some teachers, particularly those working with students without a lot of business experience, might prefer to build their courses from theory to practice. This is quite feasible, not least since to date the theories of corporate governance, other than a broad concept of agency, have not contributed significantly to its development. The underlying paradigms have been derived from company law and the codes of good practice have emerged as responses to corporate catastrophe and collapse." Thus, readers can see at the outset, Tricker is a realist.

Anyone familiar with his work knows he has certainly tried to build the discipline. Corporate Governance: An International Review was his effort to publish cutting-edge research in comparative corporate governance in hopes of building theory and practice on rigorous science. Tricker has often proclaimed the 19th century the entrepreneur's, 20th century management's, and 21st that of governance. We certainly see focus swinging to questions of legitimacy and effectiveness in wielding power worldwide. By the time the 22nd century dawns, corporate power may actually be exercised "in a way that ensures both the effective performance and appropriate social accountability and responsibility... rooted in rigorous and replicable research," as Tricker envisions. If it happens, it will be in no small part due to Tricker's contribution. I was delighted to see my website, corpgov.net, listed as the first of many useful websites at the end of each chapter.

Tricker quickly outlines the history and issues of corporate governance. He covers all the usual topics in corporate governance but does so from a multitude of perspectives, as perhaps only he can. Included are a large number of graphics and case studies that simplify understanding of complex relationships and concepts. I even like the typesetting. If you want to know not only about corporate governance in the United States, but also internationally, especially current and former Commonwealth countries as well as China, Japan, Russia, etc., you will find the book an unequaled guide.

Tricker generally takes a very measured approach to his subject, providing the latest advice on principles, policies and practices, balancing all perspectives worth attention. However, when it comes to grounding praxis in the results of research, he is passionate. For example, in discussing the future of corporate governance reporting, he predicts, "The current box ticking approach to simple structural questions will be replaced by performance measures against corporate governance criteria. The reports will also provide independent and objective opinions on the caliber of directors and boards, and on the quality of corporate governance, in the same way that auditors now report on corporate finances." I hope he is right and I hope they are not as "independent and objective" as some recent reports on corporate finances but as good as they could be without current conflicts of interest.

Tricker calls for a "new paradigm," that reflects the interests of all principal stakeholders. "Instead of legal entities, corporate bodies could be seen as self-governance social institutions... defined by the ability of external parties to exercise power over the entity... governance arrangements may also have to be more participative, less secretive, and fare more transparent."

While Tricker sees globalization driving integration, a counter movement of nationalism and economic patriotism is also on the rise, especially with the latest economic crisis. "Ultimately, a class of directors of global companies may emerge who transcend national boundaries, economic interests, and political barriers."

He cautions that "greed seems to have replaced trust as capitalism's driving force. Indeed, the dominant paradigm of corporate governance, agency theory, is rooted in the belief that people are utility maximizers who need to be controlled because they cannot be trusted." "Above all, governing bodies need people who can be trusted, people who understand their fiduciary responsibilities, people who put the rights and needs of others ahead of their own." He then reminds us, "the best interests of people need not be solely power, personal aggrandizement, or greed." Integrity, treating employees and other stakeholder fairly and being reliable stewards for the others' interests must be elevated in importance.

Be sure to check out the blog Tricker writes with Chris Mallin, Founder and Director of the Centre for Corporate Governance Research, at the University of Birmingham, UK. Read more about both. As I write my review, Tricker is back in Hong Kong. He notes, the State-owned Assets Supervision and Administration Commission of the State Council (SASAC), the largest investment fund in the world, ensures that the State’s interests are represented in the activities of China’s listed companies, including removal of directors and top executives. Obama recently removed the head of General Motors and the British Government is currently involved in the appointment of directors to various British banks they have nationalized.

"Maybe convergence is a two-way street," he concludes. Undoubtedly. Although primarily aimed at graduate students, complete with projects, exercises and self-test questions, practitioners will also benefit. Corporate Governance: Principles, Policies and Practices reflects the author's worldwide experience and multi-faceted perspective on the critical subject he has been instrumental in naming and advancing.

Women on Corporate Boards of Directors

Women on Corporate Boards of Directors: International Research and Practice, edited by Susan Vinnicombe, Val Singh, Ronald J. Burke, Diana Bilimoria, and Morten Huse presents an excellent set of worldwide research on progress, strategies, results, and challenges.

Overall, progress seems to be glacial but more pronounced in European countries, such as Norway with legislated quotas. Women's representation appears associated with representation in senior management, smaller pay gaps, equity legislation, work-family initiatives, social/cultural support, quality of board deliberations, and increased profit. Of course, if the correlation with increased profit proves strong enough, we may see growing demand for the Pax World Women's Equity Fund and others that promote gender equity. So far, correlations seem too weak, although several public pension funds, including CalPERS and CalSTRS may help the cause.

One of the more interesting papers in this collection is that of Val Singh, who focuses on Jordan and Tunisia. I haven't seen much research on corporate governance in Arab countries, especially focused on women, and was surprised to learn 10% of Tunisian directors are women. It is difficult enough trying to get inside the "black box" of boardrooms anywhere. Creating benchmark studies in Arab countries must be even more difficult, given what at least appears to this outsider as a general reluctance to tackle gender issues.

Women do much better at state-run businesses. In the US, we seem to be more willing to experiment at companies that are broken, so the financial crisis may present an opportunity. However, several researchers warn of a "glass cliff." Apparently, women are invited onto more boards where companies are failing and are desperate. They are paid less at companies performing well and more at those doing poorly. Like directors elected by dissident shareowners, women directors are often isolated as outsiders and do better when they are not alone.

At the February 2009 "Women in Investments" conference in Sacramento, CalSTRS board member Carolyn Widener, drew a big laugh when she quoted Nicholas Kristof about speculation at Davos, Switzerland concerning "whether we would be in the same mess today if Lehman Brothers had been Lehman Sisters." Eventually, if resurrected, maybe we'll have Lehman Sisters and Brothers. This volume contains some of the best research to date from a wide variety of disciplines around the world that may just help to get us there.

Japan's Example

Will America experience a “lost decade” of economic stagnation like Japan in the 1990s? Will Obama’s strategy of “grow now, ask questions later” to jump-start consumption lead to a sustained uptick or a bigger bubble later? Corporate Governance in the 21st Century: Japan’s Gradual Transformation by Nottage, Wolff and Anderson doesn’t give direct answers, but it provides clues.

Christopher Pokarier argues that Japan is open to being closed. One wonders if Americans will follow the Japanese example and keep savings in cash, rather than mutual funds and stocks. In the 3rd quarter of 2007, capital investments were 11% of Japanese household assets vs. 31% in the US. Cash/savings accounted for 50% in Japan, 13% in the US. Class divisions are hardening and intergenerational transmission of status is increasing.

In the 1980s Japan’s corporate governance system seemed a creditable alternative to the Anglo-American model. Its emphasis on employee welfare, keiretsu interlocks, and bank monitoring provided evidence that independent outside boards weren’t necessarily better… until Japan slumped into a long recession. Massive reforms, many based on shareowner primacy, appear to have moved Japan in the direction of the US. However, the authors represented in this reader see the changes as a more gradual transformation that endures as a unique variety of capitalism. “Everything is changing gradually and in ambiguous directions.”

One example provided is “flexicurity,” a balance between flexibility of working practices (terminate at will) and security of tenure. Wolff concludes lifelong employment was never a Confucian-inspired preference but a tool to ensure the continuity of core employees to meet business needs. Wolff finds the influence of employee stakeholders has been exaggerated and what lifelong employment existed wasn’t progressive but was rooted in inequality and inequality is increasing.

Puchniak’s case study of Japanese banks lending trillions of yen to “zombie” firms at below market rates finds that, contrary to shrinking as the US savings and loan industry did after their period of “creative destruction,” bank influence increased. Banks replaced management and restructured underperforming companies. Primary reliance on banks for financing went from 28% of largest listed companies to 47%.

Matsui’s chapter on closely-held companies or SMEs should find a wide audience in countries where family companies continue to play a large role. He highlights important reforms to company law and judicial decisions aimed at protecting minority shareowners, while maintaining flexibility.

Corporate Rescue Law

With the growing number of bankruptcies in industries ranging from financial, manufacturing, to retail, what could be more timely than Corporate Rescue Law - an Anglo-American Perspective? Gerard McCormak's review of practices in the two countries concludes there is more convergence than is generally recognized. the us moving is in a UK direction with regard to disposal of profitable components, rather than carrying on through the bankrupt corporate entity.

Both shareowners and creditors generally come out ahead when debt is restructured privately, rather than through Chapter 11. Such private restructuring is more likely to succeed when commercial banks or other sophisticated investors are involved and is facilitated when debt is concentrated, as through trading by vulture funds who are advantaged by private settlement, rather than going to court, which tends to be a more costly and time-consuming process.

McCormak provides an overview of recent law and legal thought, explaining the fundamental features in both the US and UK, entry routes to changes in corporate control, moratoriums on creditor enforcement actions, mechanisms to address financing difficulties, the role of employees, and restructuring plans themselves.

The US debtor has more rights to formulate a reorganization plan, has more prescriptive rights with regard to dividing creditors into classes, has cram down capability in exceptional circumstances to force acceptance by creditors, and has traditionally focused on getting the corporate vehicle in working order.

However, McCormak finds that a growing number of bankruptcies, at least among larger companies, have been essentially pre-packaged deals involving going-concern sales of company components blessed by the court to ensure conduct that brings the highest price. in contrast, the UK approach largely leaves matters to creditors, respecting the values of “simplicity and economic self-determination.”

Economics Of Corporate Governance and Mergers

This is a wide-ranging reader, with theory and empirical studies, domestic and international well represented. For example, one paper casts doubt on the frequent assertion that common law countries have better shareowner protection than civil law countries. Another examines the role of directors and the question of emphasis (monitoring vs. participants in management). Central to corporate governance are issues of mergers and acquisitions. If internal governance mechanisms are ineffective, which I have argued for decades, hostile takeovers can act as the avenue of last resort to discipline managers, although this all too often comes at the expense of acquiring shareowners.

Stephen Martin looks at five waves of mergers and finds irrational exuberance often plays a crucial role, concluding that although reasons for such waves may vary, results do not generally benefit shareowners. Another paper by Mike Scherer provides evidence that mergers do not generally increase productivity, despite glowing predictions by management. As the editors note, the findings of accounting data contrast sharply with those of the finance literature, short-term stock market event studies. Rises in merger activity are likely attributable to empire building by managers.

Examining Japanese mergers, Hiroyuki Odagiri finds mergers generally hurt relative profitability. A UK study finds that acquisitions, after implementation of the Cadbury Code, experience better long-run returns but the driver remains CEO ownership. Gerhard Clemenz creates a theoretical model to study the impact of vertical mergers between producers and retailers, finding that integrated firms should be better able to monopolize markets and drive up retail prices. A study of 13 indicators on competition for 29 countries finds economic performance best predicted by the degree of competition.

Not all the authors take a shareholder maximization of value view of the firm. Branston, Cowling and Sugden, for example, explore redesign of company laws based on wider membership and creation of more democratic forms. In “Corporate Governance and the Public Interest,” they call for greater participation by the public in strategic decision-making, especially mergers in the financial, IT, and communication sectors. Here, I found convincing arguments that an educated and participatory democracy can only be obtained with a communication revolution, since advertizing revenue now allocates coverage and interest.

The editors conclude that “corporate governance systems that better align shareholders' and managers' interests lead to better corporate performance” and “there is an important relationship between corporate governance structures and the quality of firm decision making,” especially with regard to mergers and acquisitions. Since most are suboptimal for both shareowners and society, “the suspicion remains that corporate governance systems and mechanisms are not yet optimal.” Masters of understatement but the volume includes a good collection of important reading and commentary.

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Contact: jm@corpgov.net